Bits 26 February, 2017

for number geeks - by Emmanuelle Moureaux, via Colossal
for number geeks, totally breathtaking – by French architect Emmanuelle Moureaux, via Colossal

So I’m back from a two-week break (travelling, teaching a seminar and struggling to keep up with the day job) during which stuff happened.

The most notable is the new bitcoin all-time high – the price briefly broke through $1,200 before settling down just above $1,100. This changes things. It’s not just the bitcoin economics – mining becomes more profitable => more miners => will the politics of the scaling debate change? It’s also the perception.

After the last price surge earlier this year, the central bank of China knocked on the door of the leading bitcoin exchanges and said that they wanted to talk. Understandably, that sent tremors through the bitcoin market (leading to a price mini-crash) and ended up in a realignment of trading clout. Could the People’s Bank of China have more ideas up their sleeves, perhaps this time focusing on the miners?

And, a few friends have gotten in touch to ask me if they should buy bitcoin now. What can you say to that? If I make a recommendation and get it wrong, it’s a mark on the friendship. On the other hand, refusing to comment comes across as unhelpful. I’m going with unhelpful.

This level of interest is, of course, what bitcoin needs to bring it out of the murky shadows of radical libertarian ideas and into the mainstream. But what impact will that have on the price? More demand should push the price up. But market analysts will tell you that the time to sell any asset is when “the man on the street”* starts looking into it.

(*I hate this phrase. Why a man? Why does he have to be on the street? What street? Not all streets are equal. Anyway, if you know of a better phrase to represent “the average investor” – I also hate “average” – do please let me know.)

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The other news that got me excited is that over the past week two new live blockchain platforms were unveiled. Not trials nor proof of concepts (plenty of those going on as well). These were live.

One was Northern Trust’s blockchain service for private equity funds. It’s been working for a while, albeit with only one client, a private equity fund in Switzerland. Unlike other projects that go for high-throughput sectors, this one is aimed at a business that has relatively few transactions. Each one, however, is manually intensive and involves several counterparties, so the opportunity to streamline is tempting. (I’ll be writing more about this soon, there’s much more to look at here.)

The other was a blockchain developed by ING and Société Générale to facilitate oil trades. This isn’t finance or speculation, we’re talking about moving actual barrels of the stuff. The transaction was executed by global commodity trader Mercuria, and involved a shipment from Africa to China, three different sales and a long list of participants, all of whom fulfilled their roles directly on the platform. (My comment in the CoinDesk Weekly Newsletter which comes out later today is about this.)

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Top reads from the past week:

· An excellent response by Elaine Ou in Bloomberg to those that fret that China might ban bitcoin (a concern generally shared by those that don’t get the concept):

“Even if a government shuts down every bitcoin node in its country, a bitcoin user can still transact as long as a single node is accessible overseas.

This puts regulators in a tough spot. It’s hard to control something that exists nowhere and everywhere at the same time.”

She concludes with a suggestion to regulators everywhere:

“When regulations create barriers that prevent legitimate businesses from serving certain customers, less-legitimate businesses rise to meet the demand outside the regulatory system.

Markets can’t be regulated out of existence. The next best thing might be to let them operate in the open.”

· Sebastien Meunier wrote an article, published on CoinDesk, that pokes fun at the lack of realism and genuine understanding of what the blockchain technology can do.

· Tim Swanson coined a term that politely labels the hype surrounding blockchain projects: chainwashing. When you want to sell a service to enterprises, tell them it’s blockchain based. They’ll love it. Tim goes on to offer a useful list of questions that help to filter out the “real deal” from vendors that are selling pointless applications.

I loved this response:

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Some other great tweets:

And then there’s this thread:

Bitcoin futures contracts – reading the tea leaves

Let’s talk about bitcoin derivatives. I’m not an expert, and need to do more research on the actual figures, but my main worry has been this:

PoW supporters talk about the consensus working because “breaking” the bitcoin network would make participants’ holdings worthless. Miners won’t collude because they would lose not only the value of their bitcoin holdings but also the investment in the mining equipment (which is considerable). So, bitcoin is safe.

But what about short positions? A big enough short position could produce enough of a profit to make colluding to “break” bitcoin worthwhile.

My worry has been that bitcoin derivatives weaken the consensus incentives.

Now, I need to check into the volumes required, and the mechanism (can you even short that much, or are there limits?). So this is the beginning of a thought exercise rather than the sounding of an alarm.

My concern has (so far) been largely offset by a fascination for what bitcoin derivatives can tell us about sentiment. I thought that open positions could point to where the price was heading. Until I read this, that is, from Christopher Langner’s article on Bloomberg Gladfly, “Is Bitcoin Growing Up?”:

“The quarterly contract sold at Bitmex entered backwardation — the future price fell below the spot price — in January, shortly after the PBOC started cracking down on the exchanges. In a market with limited supply, the fact that most of the big traders are betting prices will go down must be bad news. So it proved, but this time hedging may have limited the downside.”

Let’s go beyond downside limitation. What if derivative positions were mainly used as a hedge, rather than as speculation in their own right? Backwardation could simply be an offsetting hedge on a large long position. The bearish signal would be false.

In other words, the derivatives traders are not necessarily betting that prices will go down – they could have a big long position (which means they think prices will go up), and the futures contract is a way to protect their downside if it turns out they’re wrong.

A smart trading strategy (assuming the premiums are not too steep – I need to look into that part some more). It does, however, make reading the tea leaves of futures contracts not much more than an entertaining pastime.

Bits – 12 February 2017

It was an epic week in terms of posts from some prominent figures in the bitcoin/blockchain space. Summaries and links below.

And I gave a talk on blockchain business models a few days ago, so there’ll be more meandering thoughts on that slippery subject over the coming days.

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First, though, take a look at these stunningly haunting photographs of Hong Kong at night, by Marylin Mugot (via MyModernMet). I could look at them for hours…

by Marilyn Mugot, via MyModernMet
by Marilyn Mugot, via MyModernMet
by Marilyn Mugot, via MyModernMet
by Marilyn Mugot, via MyModernMet

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Back to cryptocurrencies: Vitalik Buterin, the founder of Ethereum, wrote about the philosophy of decentralization, and the different ways to achieve it.

Blockchains are “logically centralized” – there’s one way they can work. Languages (such as English) are “logically decentralized”, with changing rules and hundreds of versions accepted around the world. Democracy is politically decentralized, but architecturally centralized – one structure, several competing ideas.

Why do we want decentralization? For its resistance to attacks, collusion and technical faults. However, blockchains are not as resistant as we think. And each “fix” gives rise to new risks. We need to stop talking about absolutes, and focus on choosing which risks are bearable and putting in counter-incentives.

“Many communities, including Ethereum’s, are often praised for having a strong community spirit and being able to coordinate quickly on implementing, releasing and activating a hard fork to fix denial-of-service issues in the protocol within six days. But how can we foster and improve this good kind of coordination, but at the same time prevent “bad coordination” that consists of miners trying to screw everyone else over by repeatedly coordinating 51% attacks?”

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Nick Szabo, one of the most respected thinkers in the cryptocurrency sector, made me realize how much we take for granted.

This week he published a mega-post that went deep on “social scalability”, and on the tools that we use to eliminate the need to trust strangers. Examples are alphabets, symbols, traffic lights, matchmaking, money and, of course, bitcoin.

“The secret to Bitcoin’s success is that its prolific resource consumption and poor computational scalability is buying something even more valuable: social scalability. Social scalability is the ability of an institution … to overcome shortcomings in human minds and in the motivating or constraining aspects of said institution that limit who or how many can successfully participate.”

Social scalability is about human limitations, not technological ones. We simply can’t handle many relationships simultaneously, so we construct aids to eliminate certain steps, such as the time needed to get to know someone, verify details, etc.

“One way to estimate the social scalability of an institutional technology is by the number of people who can beneficially participate in the institution. …  The cultural and jurisdictional diversity of people who can beneficially participate in an institution is also often important, especially in the global Internet context. The more an institution depends on local laws, customs, or language, the less socially scalable it is.”

He gives a great Alfred North Whitehead quote:

“Civilization advances by extending the number of important operations which we can perform without thinking about them.”

This highlights the need to keep up the trend of facilitating transactions (new payment methods, marketplace platforms, etc.)

“When we can secure the most important functionality of a financial network by computer science rather than by the traditional accountants, regulators, investigators, police, and lawyers, we go from a system that is manual, local, and of inconsistent security to one that is automated, global, and much more secure.”

This comes with tradeoffs – with its current structure and consensus method, bitcoin is not scalable. But that doesn’t matter:

“Bitcoin supports a lower rate of transactions than Visa or PayPal, but due to its stronger automated security these can be much more important transactions. …  Lower value transactions with lower fees will need to be implemented on peripheral bitcoin networks.”

So, it seems that technological progress and limitations are not the only thing we need to look at when it comes to introducing structural changes. We also need to consider human progress and human limitations.

“Due to the massive improvements in information technology over recent decades, the number and variety of people who can successfully participate in an online institution is far less often restricted by the objective limits of computers and networks than it is by limitations of mind and institution that have usually have not yet been sufficiently redesigned or further evolved to take advantage of those technological improvements.”

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Eric Voorhees, bitcoin luminary and founder of Shapeshift, wrote about the lack of transparency surrounding bitcoin transaction fees, and how it’s hurting the network. It’s not just the fee that costs… it’s the time spent waiting for a transaction to be confirmed, which can be days if the fee paid was not high enough.

Even worse, the realization that fiat is probably more convenient probably does the most damage.

“The community needs to take at- or near-capacity blocks seriously, and yet many have dismissed the issue, saying silly things like “well when fees rise it’s just the free market at work.”  Sure it is, and when users leave Bitcoin, or never bother a second transaction because their first was obnoxious and unreliable, their preference of alternatives will also “just be the free market at work.””

Nor is Voorhees going to let us affix a label to the system just so that it can better fit into a convenient paradigm that confirms the current state of the network.

“And let’s end this silly false dichotomy of Bitcoin as a “payment system” vs a “settlement system.” Such distinction is a relic of fiat banking networks and has no place with blockchain-based assets. The reality is this: every payment on a blockchain network is a settlement, and the cheaper these transactions, the more widespread uses the platform will find”

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Meltem Demirors of Digital Currency Group (DCG) published a compilation of reactions from DCG’s portfolio companies on the scaling issue, most of which supported Voorhees’ take.

Here are some of the quotes that I found most interesting:

  • “Bitcoin is starting to make SWIFT look attractive.”
  • “We don’t want to be anti-SegWit or pro-SegWit, just pro-pragmatism. There seems to be a disconnect between what the devs are developing, and what business actually need and want, which is a bigger problem about how resources are directed.”
  • “Some people apparently think that if they don’t get their way then Bitcoin is over, and it’s the end of the world, and they might as well go find a different industry or meaning in life or whatever. That feeling probably makes negotiated compromise impossible.”

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Jon Evans wrote a characteristically excellent piece for TechCrunch, called “Technofascism and the three percent”. The sobering message seemed to be that technology encourages the intransigence of minorities through the filter bubble, and that there is no easy solution if we are to continue to tolerate intolerance. A vicious circle, a moral dilemma, and a high price to pay if we get it wrong.

“So what is to be done, in this brave new political world of multiple intransigent subgroups, multiple staunchly believed claims of fascism, and the ignoble failure of the anti-fascist tactics of the past? …I don’t pretend to know, but I suspect that, as is so often the case, technology can provide the solution to the problem it provoked. Regardless, it’s important to recognize that such is the world in which we now live.”

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Art + electricity + long nights + a city that I love = Toronto’s Light Festival. (Via Colossal.)

via Colossal
via Colossal

 

via Colossal
via Colossal

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I’m travelling next weekend, so will have to skip Bits. I will, however, be collecting cool stuff for the following week! Have a good one…

Blockchain and geo-economic shifts

abu-dhabi-marina-getty

Yesterday, CoinDesk published an article I wrote on the blockchain policy of the United Arab Emirates (UAE). The main point was that the new technology can not only bring additional efficiencies and cost savings to bank operations, but also future-proof sectors against shifting geo-economic conditions. The blockchain can help entire regions maintain their global relevance.

What triggered that thought process was the news that the National Bank of Abu Dhabi (NBAD) had implemented a blockchain-based cross-border payments service. Note that the report did not say “was testing”. The project is now live.

What I couldn’t cover in the article (it wasn’t central to my point) was the following tangent: The NBAD – the second largest lender in the region – is merging with First Gulf Bank, the third largest bank by assets in the UAE.

The regulators have yet to weigh in, although the market does not expect them to block the deal. Assuming the proposal goes ahead, it will create the largest bank in the region in terms of lending, and for comparison, it will have a larger market cap than Deutsche Bank (which admittedly is a lot lower than it was, but that’s a different topic).

This puts even more power behind the blockchain project.

What’s more, the new entity will have branches and/or subsidiaries in 19 different countries.

Considering that 90% of the UAE’s population are expats, this gives the bank’s geographical expansion a new twist. The vast majority of the region’s residents are from somewhere else… which probably has a NBAD branch or subsidiary. That’s a lot of captive business, and a lot of cross-border payments.

Where do they go to?

A report in Gulf News today reveals that the largest receiver of remittances from the UAE in 2016 was India (again), and that, in spite of an economic slowdown, the amount went up by 10%.

This jump apparently is in part attributed to the Indian government’s recall of 80% of the notes in circulation – the ensuing economic disruption and loss due to inability to exchange notes increased the need for money from family members working abroad. In addition, the rupee declined significantly against the US$ – since the UAE dirham is pegged to the US$, the value of remittances went up.

Even if the bump is temporary, it does highlight the impact that blockchain technology can have on an important part of the region’s financial landscape. (It is important to note, as I pointed out in the CoinDesk article, that not all of the bank’s remittance services will be on the blockchain. The bank is incorporating this new process into its current offerings. But it’s a start, and it has potential.)

The increase also points to the growing prominence of financial services in the UAE economy, potentially replacing oil revenues as the motor for growth. With blockchain services adding momentum, the region could be well on the way to consolidating is position as a financial and technology hub. Throw in the fortuitous time zone in between Europe and Asia, and easy access to and from just about anywhere in the world, and we could soon witness a fundamental shift in centres of economic power.

Bits – 5 February 2017

I’m thoroughly enjoying Netflix’s “Unfortunate Series of Events”. No, it’s not just for kids (although I confess I also enjoyed the books – very, very original and clever). Well done, brilliantly executed, with an impressive cast and excellent photography… it’s also really funny, in a subtle, deadpan way.

unfortunate series of events

In the episode I watched with my family today, 14-year old Violet Baudelaire quotes Huraki Murakami:

“And once the storm is over, you won’t remember how you made it through, how you managed to survive. You won’t even be sure, whether the storm is really over. But one thing is certain. When you come out of the storm, you won’t be the same person who walked in.”

I’ll leave it at that…

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Quartz had a delightfully refreshing suggestion: that instead of going football-crazy today, we watch the superb owl.

Yes, there is such a thing as The Owl Channel, with live feeds of nests. Watch that for a while, and you begin to think that the world is ok after all. (The Great Horned Owl has just gone to sleep. Awwww.)

owl gif

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A somewhat chilling but nonetheless insightful article on Medium by Ernest Oppetit on privacy and technology. Yawn, you might think, read lots of those. Not like this one, you haven’t.

Bitcoin is not mentioned once, but payments and online data are not the point of the article. The article focuses on the impact of video on our right to privacy, and on how it’s virtually impossible to escape its encroachment.

I was not aware that privacy was such a new concept, only about 150 years old. The first privacy-oriented law in the US was the 1710 Post Office Act, which prohibited post office employees from going through people’s mail.

“Nonetheless, privacy has always remained a secondary concern to convenience and cost. This explains the consistent, broad adoption of new technologies which encroach on our privacy but are deemed worth it.”

The article zooms in on the effect automated vehicles (= driverless cars) will have on our privacy. The tough legal issues surrounding value-based decisions (if crashing into someone is inevitable, who should the car choose?) are joined by legal issues surrounding privacy (what if I don’t want to have my route recorded?).

“Autonomous Vehicles may bring about a step change in public tracking and surveillance — everything, everywhere continuously recorded, this time with no way to opt out. I’d love to be proved wrong, but it seems that privacy is a complete afterthought in the push towards our driverless future.”

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Now if this doesn’t totally blow your mind…

image via NASA
image via NASA

The rings of Saturn, photographed by the Cassini spacecraft. Get this, the blips and blemishes are not scratches on the film! They are effects created by cosmic rays and charged particle radiation. I’m geeking out here…

I mean, think about it, we are out there photographing Saturn!! And yes, there’s a lot of stuff to fix here on earth still. But frontier busting is part of what being human is all about. Taking a step forward, because we can.

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An excellent article from Ben Thompson at Stratechery, on how media is shaping politics – not a new subject, but definitely an original take:

“the media industry has, thanks to the Internet, been completely stripped of its gatekeeper role when it comes to the spread of information. Instead of scarce newspapers or TV stations there is an abundance of information providers, which means the real power has shifted from distribution to discovery… Thus, by extension, the real power in politics has shifted from parties to the people.” (my emphasis)

Which totally changes not only the way the message is delivered, but the message itself.

“…the dominant force in discovery is Facebook; whereas Google gave answers, Facebook doesn’t even require you to ask a question.”

Facebook doesn’t wait for users to pull information, like Google does. Facebook pushes information, based on engagement statistics. What drives engagement? Passion and rhetoric. Common sense and sound policy is so, well, boring.

“There is little to be gained from “layering on” a digital strategy to a broadly acceptable mass market offering; to succeed on the Internet the pursuit of passion must be the goal from the beginning.”

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Some great tweets from the past week:

Fraud and the jitters

by Jean-Pierre Brungs for Unsplash
by Jean-Pierre Brungs for Unsplash

All is far from well in the Chinese bond market. And the implications for blockchain technology are deep.

December was not a good month for bond traders. As if the deep slump in bond prices after the US Fed raised rates wasn’t enough, the market was also shaken by two major incidents of fraud.

In one case, the forgery involved papers in which a bank guaranteed a bond that subsequently defaulted. The bank said “not my problem” and refused to honor that guarantee.

In another case, it emerged that two rogue employees of a trading house called Sealand Securities had used a forged company seal to purchase, on behalf of other financial institutions, over 16 billion RMB (almost $2.4bn) worth of bonds. You read that right, “billion”. The bond prices fell, and someone had to make up the loss. Sealand said “not my problem”, the blame lay with the perpetrators, and why not, also with the correspondent financial institutions who “should have checked”.

In the end, Sealand agreed to honour the bond contracts, but the fright did not help market jitters. At least 29 bonds defaulted in 2016, up from 7 the year before. Over 117 billion RMB of sales were canceled or postponed in December, almost four times the amount in November. A government bond index fell 1.7% in December, the steepest monthly decline since October 2013. And with interest rates heading higher and economic difficulties ahead as leverage is reigned in and global trade becomes more, um, complicated, it looks like defaults will continue to increase in 2017.

Tighter regulation and controls could help to calm fears that fraud is making the system more vulnerable. Local media has reported that the government is contemplating the creation of a regulatory body just to focus on systemic risks.

Or, financial institutions could step up their investigations of blockchain technology applications.

On the blockchain, transactions cannot be tampered with, and fraudulent use of signing keys is instantly visible to network participants. An unalterable ledger of events would make accountability more transparent, authorizations can be more tightly controlled, and the falsification of ownership documents ceases to be an issue.

In other words, with financial settlement supported by blockchain technology, fraud would be much more complicated. The incentive would not just be for corporations. With enhanced transparency, government officials would be under greater pressure to clamp down on irregularities, especially given President Xi Jinping’s anti-corruption drive.

China’s financial institutions, tech enterprises, universities and startup community are active in blockchain innovation. The central bank recently announced that it was testing a blockchain-backed digital currency, with a view to using the platform for bank bill transactions.

The government, perhaps aware of the need for speed, is encouraging blockchain research and adoption. In October, the Ministry of Industry and Information released a white paper that explored blockchain applications, particularly in finance, and encouraged businesses to be more active in global experimentation. The same month, the government hosted a forum aimed at fostering cooperation in blockchain development.

Given the obvious need for a lasting solution, we can expect these efforts to intensify over the next few months. But will it be fast enough?

While blockchain-based solutions could restore confidence in the integrity of the bond market and open up channels of financing to a broader range of businesses, it is unlikely that any would be ready for the market in the short term.

The situation is verging on urgent, though, as a rapid build-up of leverage has made firms increasingly vulnerable to an economic downturn or even to a change in market sentiment. A looming trade war with the US, or even military conflict in the South China Seas, could be enough to trigger a string of defaults, which are likely to uncover even more fraud and misappropriated leverage.

The damage could be harsh, in an environment that would already be suffering from economic and geopolitical factors.