January 29, 2020
A question I’ve been getting about the Virtual Currency Tax Fairness Act is whether it provides cryptocurrency with favorable tax treatment relative to foreign currency. If the bill passed, crypto transactions would get the same kind of de minimis exemption as foreign currency transactions, but would otherwise be treated as property, which some view as potentially more favorable treatment than foreign currency.
That’s a good question, but I don’t think there’s any contradiction. It’s easy to fixate on the differences between “property” and “foreign currency,” but I think it’s more fruitful to focus on the similarity of the problem Congress is seeking to fix here and the one it fixed in foreign currency.
In the case of foreign currencies, before the exemption was enacted, you had a situation in which large numbers average citizens were frequently engaging in small, personal foreign currency transactions (such as when they went on vacation abroad) but they where not reporting these, and indeed maybe didn’t even know they had to. Of course, this was an unintended consequence of the law, and Congress properly sought to give relief to otherwise law-abiding taxpayers who paid for stuff with foreign currency. It did so by giving them an exemption if those transactions were small and personal in nature.
The case with crypto is exactly the same. Otherwise law-abiding citizens are using crypto in small, personal transactions and they’re facing the exact same unintended consequence as foreign currency users did. Therefore, cryptocurrency users today aren’t asking for special treatment relative to foreign currency, they are just asking for the same kind of reasonable, limited relief that Congress saw proper to give foreign currency users when they were in the same situation.
If Congress wanted to be completely consistent, it could classify cryptocurrency as foreign currency. But since that is likely not in the cards, there’s nothing inconsistent or preferential about giving crypto transactions the same de minis exemption it gave foreign currency transactions.
January 28, 2020
The inimitable and estimable Peter McCormack had me and Peter on his podcast to discuss the basics of how law and regulation applies to Bitcoin. It’s part of his Bitcoin Beginner’s Guide, which is aimed at folks just getting up to speed on the tech and ecosystem. It was great fun doing it and I hope you will enjoy listening to it.
January 27, 2020
On Friday Foreign Policy published two articles that caught my eye. The first one, Iran Has a Bitcoin Strategy to Beat Trump, points out that Iran’s regime (like many others) is exploring how digital currencies could help it evade U.S. sanctions. But notice how the author couches the threat (emphasis added):
The Iranian government has long had an interest in using cryptocurrencies to support international trade outside of the traditional banking system. In July 2018, President Hassan Rouhani’s administration declared its intention of launching a national cryptocurrency; one month later, a news agency affiliated with the Central Bank of Iran outlined multiple features of the national cryptocurrency, stating that it would be backed by the rial—Iran’s national currency.
The second article, The Greenback Needs a Digital Makeover by Tim Morrison, sounds the same alarm but focused on China (emphasis added):
Almost immediately after [Xi’s] statement, the National People’s Congress dutifully enacted a new cryptocurrency law to establish the framework for a regulatory regime for a Chinese national digital currency. This Chinese digital currency, a so-called “digital yuan,” is now ready for trial, according to the People’s Bank of China. While Washington focuses on whether to allow digital currency in the U.S. financial system, in other words, China is moving ahead in earnest. The prospect of the Chinese Communist Party (CCP) dominating this emerging financial technology should be alarming.
The upshot of Morrison’s article is that, given the interest in digital currency by adversary nations, the U.S. should embrace rather than stifle digital currencies. That’s great, but as the article’s title implies, national security thinking about digital currency seems to be stuck in a state-focused box—on both sides.
On the side of the dollar-competitors, digitizing one’s existing currency will do little if anything to create more global demand for it. I’ve explained this at length about the digital yuan, and it’s evident in Venezuela’s issuance of the Petro. Sure, Venezuela can issue a “national digital currency,” but it’s digitalness does nothing about the fact that there is no demand for currency backed by the Maduro regime. I suspect the same will be the case of a digital rial.
So if digitizing one’s national currency won’t do much to challenge the dollar’s global reserve status, will it nonetheless facilitate evading sanctions? I don’t see why it would do so any better than existing alternatives. We already have cryptocurrency networks that anyone can use for permissionless transfers of value. If exchange rate risk is the issue, then a dollar-backed stablecoin would be a better design for sanctions evaders to pursue.
On the U.S. side, I’m afraid Americans concerned about national security seem to be making the same mistake as adversary regimes by seemingly ignoring or rejecting the inherent stateless quality of cryptocurrencies. Rep. Mike Gallagher, one of the smarter members of Congress, tweeted out Morrison’s article and here’s the lesson he took from it:
Just like we cannot let the CCP build the world's telecommunications networks, we cannot let the CCP build the digital currency of the future either. We need all hands on deck to ensure American cryptocurrencies become the global standard. https://t.co/6XLaKVg3yK— Rep. Mike Gallagher (@RepGallagher) January 24, 2020
What the heck is an American cryptocurrency?
Both Gallagher and Morrison have the right instinct: the U.S. should welcome innovation and open its financial sector to cryptocurrencies. But the way the U.S. wins is not by imitating its state-focused adversaries like China, Venezula, and Iran, but by running its own tried-and-true playbook: embracing open and permissionless networks, just like it did with the Internet. Given its culture, political system, and legal tradition, there is no country better positioned to benefit from an “Internet of value” just as it did from an open data network. Such open systems are a threat not to liberal open societies, but to authoritarian regimes.
January 23, 2020
Bloomberg today has a story about the growing use of stablecoins in global trade.
Businesses such as importers and exporters of goods ranging from baby products to furniture in Asia and Europe are using so-called stablecoins including Tether and USD Coin, according to payment processors and over-the-counter trading desks.
Transactions with suppliers and vendors already reach up to $10 million a day at Singapore-based QCP Capital, which caters to such clients. At payment-services provider B2BinPay, transactions already account for millions of dollars a month, and are increasing daily, said the Moscow-based company.
Makes total sense, especially for gray market businesses with tenuous connections to the dollar financial system. Given that most trade is denominated in dollars, cryptocurrencies like Bitcoin may not have previously caught on because of the currency risk, but USD stablecoins fit. Tether makes up most of the market, but
In other nations such as Indonesia, businesses often prefer more regulated stablecoins, such as USD Coin, which are issued by U.S.-regulated financial institutions and audited every month, Sit said.
I imagine that Centre and USDC issuers welcome this growing use. I wonder, though, if this catches on, what their reaction might be if there’s an explosion in growth driven by active avoidance of the US-dominated financial system, and not just small firms seeking efficiencies.
Somewhat related, adult entertainment website Pornhub has added Tether to the payment options available to performers after PayPal cut off the site. Again, makes sense. These performers want to avoid the payments networks that will derisk them, but they’re not interested in the currency risk of accepting Bitcoin. I’m sure they’d also welcome the additional safety that would come from regulatory oversight of stablecoin issuers as long as their use remains permissionless.
Again, I wonder what issuer reaction will be if this kind of gray market use really takes off. I can imagine that if stablecoins like USDC had been around when Backpage lost its payments options whether it wouldn’t have turned to it rather than Bitcoin. If it had, there’s no doubt the issuers would have gotten the same treatment from politicians as did the payments services that ultimately dropped Backpage. The key difference is that as (typically) ERC-20 tokens, it’s not clear to me issuers can do much to single out and prohibit use by particular parties.
January 22, 2020
I recently turned on my colleague Peter on to Cal Newport’s great book Deep Work: Rules for Focused Success in a Distracted World, and Peter really took to it. Among other things, Newport identifies four different styles of work that are conducive getting deep work done: monastic, bimodal, rhythmic, and journalist.
Peter gravitates to the monastic, which means that he needs to seclude himself and shut off all distractions for extended periods of time so he can fully concentrate on research and writing. I have found the rhythmic strategy to work best for me. I wake up every day at 4 a.m., do a quick workout, and then focus on reading and writing for three hours. If I do that, it doesn’t matter too much if the rest of the day is consumed by shallow work like email and meetings that are beyond my control.
Aside from getting my deep work done and done first thing, I also have the most energy in the morning. By the afternoon my tank is out of gas. This morning I told myself I would write a blog post later in the day and that was a mistake. Writing this would probably be better and a lot more fun if I had done it this morning. That’s the other key to a rhythmic strategy: you have to be consistent or else you’ll soon find the shallows creeping in.
January 21, 2020
Nicholas Weaver has a good piece at Lawfare explaining the difference between DoJ’s request for Apple’s help in the Bernardino case (where it could have written software to break the iPhone’s security) and the recent request in the Pensacola case (where it seems they can’t help even if they wanted to). He concludes:
With this in mind, the FBI’s request for Apple’s help is puzzling. If the government takes Apple to court, as it did in the San Bernardino case, the judiciary can’t compel Apple to provide any meaningful assistance—because there is no more meaningful assistance Apple can provide. San Bernardino was about Apple not wanting to assist the FBI. This is about Apple being incapable of assisting the FBI.
So even if the case winds up in court, real help from Apple is not going to come out of a judicial battle. The meaningful fight is in the court of public opinion.
In my recent post on this, I also noted the curious difference that while DoJ was sought a court order in the San Bernardino case, they weren’t now. I mused that Apple’s compelled speech First Amendment defense had put off DOJ from seeking such orders. I concluded, “That’s a fight that the DOJ doesn’t seem inclined to pick again, so they seem to now be limiting themselves to trying to influence public opinion; not go to court.”
One way to figure out what DoJ is up to is to add in that, as I wrote yesterday, it seems Stefan Savage’s key escrow paper has been making the rounds on Capitol Hill. DoJ and the president’s behavior makes more sense if what they are agitating for is legislation creating a requirement for device manufacturers to be able to decrypt user data for law enforcement. I’m not aware of any such legislation being seriously considered in Congress, though there is certainly a lot of talk. Not a prediction, but I will note that the State of the Union address will take place in two weeks. I’ll be watching closely.
January 20, 2020
It seems that this paper by renowned computer scientist Stefan Savage has been recently circulating on Capitol Hill. It proposes a system for allowing court-sanctioned access to encrypted devices by having manufacturers maintain a key escrow system. It’s similar to other proposals like Ray Ozzie’s “Clear” scheme.
Forgive me for being cynical, but I suspect that the argument that accompanies circulation of such a paper is, “See, despite what tech companies and cryptographers say, it is possible to design an encryption system that allows law enforcement to decrypt a device with a court order.” The problem with that argument is that it’s a straw man. As far as I can tell technologists don’t claim that it can’t be done, only that it can’t be done without compromising collective security.
Here is Facebook in 2018: “We have yet to hear of a technical solution to this challenge that would not risk weakening security for all users.” And here’s Apple:
Proposals that involve giving the keys to customers’ device data to anyone but the customer inject new and dangerous weaknesses into product security. Weakening security makes no sense when you consider that customers rely on our products to keep their personal information safe, run their businesses or even manage vital infrastructure like power grids and transportation systems.
“You can do it, sure, but it would create an unacceptable risk for users,” technologists say. And then I think they engage in a little strawmaning themselves sometimes by adding that the government claims there is no trade-off. I’ve read a bunch of official statements and speeches on the topic recently and I haven’t seen any that deny a trade-off outright, though they do come close. Whatever the case, Attorney General Barr addressed the issue of a trade-off head on in his speech last year on encryption:
Some [claim] that it is technologically impossible to provide lawful access without weakening security against unlawful access. But, in the world of cybersecurity, we do not deal in absolute guarantees but in relative risks. All systems fall short of optimality and have some residual risk of vulnerability a point which the tech community acknowledges when they propose that law enforcement can satisfy its requirements by exploiting vulnerabilities in their products. The real question is whether the residual risk of vulnerability resulting from incorporating a lawful access mechanism is materially greater than those already in the unmodified product. The Department does not believe this can be demonstrated.
Moreover, even if there was, in theory, a slight risk differential, its significance should not be judged solely by the extent to which it falls short of theoretical optimality. Particularly with respect to encryption marketed to consumers, the significance of the risk should be assessed based on its practical effect on consumer cybersecurity, as well as its relation to the net risks that offering the product poses for society. After all, we are not talking about protecting the Nation’s nuclear launch codes. Nor are we necessarily talking about the customized encryption used by large business enterprises to protect their operations. We are talking about consumer products and services such as messaging, smart phones, e-mail, and voice and data applications.
That’s a pretty condescending way to talk about citizens’ intimate private information, but at least he’s acknowledging the trade off. Key escrow can be done, sure, but doing it necessarily introduces some amount of risk to all users of a technology. If we can all agree on that proposition, then the relevant questions become:
The first question is mostly a technical one. Is there really just “a slight risk differential” as Barr suggests? I’m not a cryptographer, so on that score I’d recommend Matthew Green’s critique of key escrow systems like Clear and the one outlined in Savage’s paper, as well as Robert Graham’s take.
The second question is about what policy maximizes social welfare. Do benefits outweigh costs? To my mind there is one big item on the cost side of the ledger that will be hard to overcome: If device manufacturers set up such a system to comply with lawful orders from Western liberal states, they will end up complying if orders from illiberal states as well. As Apple and other tech firms are fond of saying, they comply with the law of the jurisdictions in which they operate. That means China and Russia and certainly our friendly NATO ally Turkey.
People around the world rely on encryption for their safety and freedom. Journalists, activists, persecuted minorities, and average citizens have legitimate reasons to keep secrets from their governments. The costs that one considers in evaluating a key-escrow program has to encompass the inevitable abuse by governments that rule over billions of people.
Another question is, How should we decide if the benefits outweigh the costs? Here’s Alan Z. Rozenshtein at Lawfare:
Even more importantly, this question implicates policy tradeoffs and value judgments that neither technology companies nor the information-security community have the necessary democratic legitimacy to make on their own. It’s neither up to Apple nor the Electronic Frontier Foundation (nor, for that matter, the FBI) to unilaterally decide how much information security is worth sacrificing to save a life or stop a crime; that’s a decision for the public, acting through its elected government, to make for itself. (Hence the ultimate need for a legislative solution to settle this debate one way or another.)
I agree, this is a question that should be answered by “the public,” but I don’t see why representative democracy is the only way it can speak. Indeed, it seems the public has been speaking pretty clearly on how it feels about encryption. From former Deputy Attorney General Rod Rosenstein’s big speech on encryption:
Technology companies operate in a highly competitive environment. Even companies that really want to help must consider the consequences. Competitors will always try to attract customers by promising stronger encryption.
That explains why the government’s efforts to engage with technology giants on encryption generally do not bear fruit. Company leaders may be willing to meet, but often they respond by criticizing the government and promising stronger encryption.
Of course they do. They are in the business of selling products and making money. …
Technology companies almost certainly will not develop responsible encryption if left to their own devices. Competition will fuel a mindset that leads them to produce products that are more and more impregnable.
He means all that to be an indictment, but it’s quite the opposite. He’s explaining that the public demands strong encryption and device manufacturers have every incentive to meet it.
This all betrays a gap between elites and the public. The public clearly wants unalloyed encryption, yet the elite response seems to be, “We know better and we’ll get to the right outcome with ‘democratic legitimacy’ even if we have to propose the same plan a dozen times. After all, we’re not talking about ‘the customized encryption used by large business enterprises to protect their operations,’ we’re merely talking about ‘consumer products and services.’”
January 17, 2020
Yesterday my friend Dan Gorfine, along with former CFTC Chairman Chris Giancarlo, announced the formation of the Digital Dollar Project to “encourage research and public discussion on the potential advantages of a digital dollar,” by which they mean a Fed-issued tokenized dollar. I’m glad they’re launching this conversation. If nothing else, the Fed should have a deep enough understanding of the option, even if it doesn’t see any immediate need to exercise it.
That said, I think advocates for a digital dollar have a steep hill to climb because the Fed seems distinctly disinclined to pursue the idea. You can get a sense of what the Fed is thinking through speeches by its officials, and here are some of the remarks they’ve made on the idea of issuing a central bank digital currency.
Speech by Vice Chairman for Supervision Quarles on November 30, 2017:
As a practical matter, I believe that consideration of a central-bank-issued digital currency to the general public would require extensive reviews and consultations about legal issues, as well as a long list of risk issues, including the potential deployment of unproven technology, money laundering, cybersecurity, and privacy to name a few. I am particularly concerned that a central-bank-issued digital currency that’s held widely around the globe could be the subject of serious cyberattacks and could be widely used in money laundering and terrorist financing. The effect of all this would significantly divert our focus from work to improve or establish new private-sector retail payment systems based on existing institutions. The prospect of a government-sponsored digital currency might even derail private-sector plans to enhance the payment services provided to their customers, thereby significantly disrupting the financial networks that exist today in ways that could create instability. For example, if payment activity radically shifted from using deposits at financial institutions to using central-bank-issued digital currency, deposits could significantly shrink and potentially disrupt financial institutions’ ability to make loans that spur economic activity.
Speech by Governor Brainard on May 15, 2018
[T]here are serious technical and operational challenges that would need to be overcome, such as the risk of creating a global target for cyberattacks or a ready means of money laundering. For starters, with regard to money laundering risks, unless there is the technological capability for effective identity authentication, a central bank digital currency would provide no improvement over physical notes and could be worse than current noncash funds transfer systems, especially for a digital currency that could circulate worldwide. In addition, putting a central bank currency in digital form could make it a very attractive target for cyberattacks by giving threat actors a prominent platform on which to focus their efforts. Any implementation would need to adequately deal with a variety of cyber threats—especially for a reserve currency like the U.S. dollar. …
If a successful central bank digital currency were to become widely used, it could become a substitute for retail banking deposits. This could restrict banks’ ability to make loans for productive economic activities and have broader macroeconomic consequences. Moreover, the parallel coexistence of central bank digital currency with retail banking deposits could raise the risk of runs on the banking system in times of stress and so have adverse implications for financial stability.
Finally, there is no compelling demonstrated need for a Fed-issued digital currency. Most consumers and businesses in the U.S. already make retail payments electronically using debit and credit cards, payment applications, and the automated clearinghouse network. … As such, it is not obvious what additional value a Fed-issued digital currency would provide over and above these options.
Speech by Governor Brainard on October 16,2019:
In the United States, there are compelling advantages to the current system. First, physical cash in circulation for the U.S. dollar continues to rise, suggesting robust demand. Second, the dollar is an important reserve currency globally, and maintaining public trust in the sovereign currency is paramount. Third, we have a robust banking system that meets the needs of consumers: our banks are many in number, diverse in size, and geographically dispersed. Finally, we have a widely available and expanding variety of digital payment options that build on the existing institutional framework and the applicable safeguards.
Financial stability considerations are also important. The ability to convert commercial bank deposits into central bank digital currency with a simple swipe surely has the potential to be a run accelerant. Here, too, the role of banks in providing financial intermediation services could be fundamentally altered.
Seems to me that all boils down to:
Those are the questions any effort to digitize the dollar will have to answer, and it’s the last question that most concerns me. In my view, a digital dollar that is meant to be a digital version of physical cash must have all the attributes of cash, which, as I have explained in much detail, includes censorship resistance and anonymity. To the extent such a design is not an option for the Fed, what’s the alternative? Governor Brainard addressed that in her October 2019 speech:
If it is designed to be financially transparent and provide safeguards against illicit activity, a central bank digital currency for consumer use could conceivably require the central bank to keep a running record of all payment data using the digital currency—a stark difference from cash, for instance. A system in which individual payments information would be recorded by a government entity would mark a dramatic shift.
It sure would. Centralized surveillance of that kind is not compatible with American values.
That’s all to say I look forward to the conversation but remain a little skeptical given little if any public demand, little threat from competing currencies, and, depending on the particular design, potential opposition from banks and civil liberties advocates. It’s going to be a tough row to hoe.
January 16, 2020
Today the Virtual Currency Tax Fairness Act was reintroduced in Congress. This is a bill that we helped draft and get introduced last Congress, and I’m glad that after much work it’s back, it’s improved, and it has bipartisan support.
The bill would create a de minimis exemption for personal cryptocurrency transactions that result in gains under $200. This would match how we treat foreign currencies.
The way the problem for crypto is typically framed is that if last week you bought a bitcoin for $8,000 and today, when bitcoin is trading for around $8,800, you used some of it to buy an $3 cup of coffee, then you have experienced about 25¢ of capital gains and you are technically on the hook for keeping a record of that, reporting it to the IRS, and paying tax on it.
That much pointless friction, the story goes, would render crypto not very useful for retail payments, or create a vast class of technically non-compliant taxpayers. That’s absolutely true, but there’s another reason why I think it’s so important to fix this nonsense corner-case of the law.
Continuous disposition of very small amounts of crypto is integral to crypto itself. I’m of course talking about transaction fees or gas. Every time you move some crypto, or run a smart contract, you are probably spending a few pennies on fees to validators, and technically those are all taxable events subject to capital gains tax.
People may not be buying coffee with bitcoin today, but they sure are buying space in blocks with it.
For crypto users, it’s like the world before Congress created the foreign currency exemption: almost everyone who used foreign currency on vacation was technically noncompliant. Having laws on the books that no one follows does not inspire much respect for the law. It also creates a pretext for enforcement that applies to an entire class of people—in this case crypto users. Congress fixed it for foreign currencies in 1997 and it should do the same thing for crypto today.
January 15, 2020
I wrote a post this morning about a bill that was going to be introduced in Congress today, but it got bumped back by (hopefully just) a day. So you’ll have to wait for that. In the meantime, though, since my resolution is to write every weekday, you get this post in which I’ll share with you the Kickstarter video for the Blockchain Router that got a little press coming out of CES. I find it entrancing and I wish I could back these guys to make more videos rather than their product.
January 14, 2020
Last week we had our team offsite retreat to plan for the coming year. One thing that came out of it was that we’re going to start a process to consider expanding the scope of the our policy work to include work on technologies adjacent to cryptocurrency.
A good example of that are the policy questions around encryption and encrypted messaging. Because cryptocurrency uses encryption, it bears pretty directly on it obviously. But it’s more than that. If law enforcement get what they want, which is the ability to legally-mandate backdoors into encrypted systems, that would easily include not just backdoors for private cryptocurrencies, but also perhaps the ability to stop or reverse transactions.
It seems that we’re on the right track, unfortunately. Lo and behold yesterday the Department of Justice called on Apple to help it break into an iPhone that belonged to the Pensacola Air Station shooter. Here’s the relevant part of Attorney General Barr’s statement yesterday:
The shooter possessed two Apple iPhones, seen on posters here.
Within one day of the shooting, the FBI sought and received court authorization based on probable cause to search both phones in an effort to run down all leads and figure out with whom the shooter was communicating. …
However, both phones are engineered to make it virtually impossible to unlock them without the password. It is very important to know with whom and about what the shooter was communicating before he died.
We have asked Apple for their help in unlocking the shooter’s iPhones. So far Apple has not given us any substantive assistance. This situation perfectly illustrates why it is critical that investigators be able to get access to digital evidence once they have obtained a court order based on probable cause. We call on Apple and other technology companies to help us find a solution so that we can better protect the lives of Americans and prevent future attacks.
The media has noted the similarities between this and the dispute between Apple and the FBI over the San Bernardino shooters’ iPhones. But what I find interesting here is the difference.
In the San Bernardino case, Apple was served with a court order directing it to write software to break its own phones:
As a result, the FBI asked Apple Inc. to create a new version of the phone’s iOS operating system that could be installed and run in the phone’s random access memory to disable certain security features that Apple refers to as “GovtOS”. Apple declined due to its policy which required it to never undermine the security features of its products. The FBI responded by successfully applying to a United States magistrate judge, Sheri Pym, to issue a court order, mandating Apple to create and provide the requested software.
Apple defied the court order and refused to write the software. Eventually the FBI backed down and the conventional narrative is that it did so because it found a security firm that helped it circumvent the phone’s security. This is how the New York Times characterized it just yesterday:
The San Bernardino dispute was resolved when the F.B.I. found a private company to bypass the iPhone’s encryption. Tensions between the two sides, however, remained, and Apple worked to ensure that neither the government nor private contractors could open its phones.
I think there was more to the FBI/DOJ’s decision than that. It is that shortly before they backed down Apple made it clear that if they went to court they would be employing a First Amendment defense:
A famous encryption case known as Bernstein v. US Department of Justice established long ago that code is speech and is protected by the First Amendment. Compelling Apple to write code would be the equivalent of the government compelling Apple’s speech. But that’s not the most important argument in this case. Instead, it’s the digital signature that Apple would use to sign that code that is the key to Apple’s First Amendment argument, say legal experts who spoke with WIRED.
“The human equivalent of the company signing code is basically saying, ‘We believe that this code is safe for you to run,’” says Jennifer Granick, director of civil liberties for the Center for Internet and Society at Stanford Law School. “So I think that when you force Apple to cryptographically sign the software, it has a communicative aspect to it that I think is compelled speech to force them to do it.”
That’s a fight that the DOJ doesn’t seem inclined to pick again, so they seem to now be limiting themselves to trying to influence public opinion; not go to court. But it’s a fight we have to be prepared to fight in court. If a developer can be forced to write code they don’t want to write (i.e. can be compelled to speak things they don’t want to speak), then it’s only a matter of time before cryptocurrency devs get court orders to build in backdoors. I think we probably have the upper hand at the moment, but we have to be prepared to make the case not just for privacy, but perhaps more importantly for free speech.
January 13, 2020
China’s launch of a central bank digital currency seems to be drawing near. That the world’s second largest economy is about to launch a blockchain-based digital currency is certainly momentous. I’m very curious to learn its technical design, especially to understand how it accomplishes offline payments and “controllable anonymity.” My guess is that it will be a digicash-like design. That said, I keep hearing in the media, in official pronouncements, and in conversation that China’s digital yuan will pose a threat to the dollar. On that score I am not convinced.
So what’s the threat? Last year two members of Congress wrote to Fed Chair Jay Powell, “We are concerned that the primacy of the U.S. Dollar could be in long-term jeopardy from wide adoption of digital fiat currencies,” namely China’s. In a Wall Street Journal oped, former CFTC Chair Christopher Giancarlo and Dan Gorfine wrote that like the Soviets launching into space threatened U.S. technological dominance, “recent developments in digital currencies similarly threaten the dollar’s dominance” and that “a network of Beijing-dependent states trading a digital yuan … could end the delicate world economic order Americans have long taken for granted.”
Maybe I’m not clear on what threat exactly folks see from the digitization of the yuan, but it certainly isn’t going to affect the dollar’s status as the dominant global reserve currency. That’s because the yuan’s fundamentals make it unsuited to be a major global reserve currency. Indeed it accounts for less than 2 percent of global reserves, compared to the dollar’s 60 percent. If central banks wanted to hold the yuan today, they would, but they don’t. That it will soon have a digital version available won’t change its fundamentals or central bank demand for it. It will still be the yuan.
Global reserve currencies like the dollar, euro, yen, and pound sterling have certain essential characteristics that the yuan lacks. There are many, but just a couple of important ones are a freely floating exchange rate, as well as backing by a country with macroeconomic stability, a good regulatory regime, a commitment to the rule of law, and deep, liquid, and transparent markets. China and the yuan score poorly on these counts. George Magnus summarizes it succinctly in Red Flags: Why Xi’s China Is in Jeopardy:
”First, and foremost, there is only one way to have a significant global currency, which is to allow foreigners to acquire and accumulate claims on you. In other words, just as the US has allowed foreigners to build up holdings of US bonds and other US assets (which are America’s liabilities), so China would have to as well. There are, though, only two ways this can happen. One is by running current account deficits, so that foreigners receive more of your currency than they pay for goods and services. The other is by having an open capital account, so that capital flows freely abroad. China runs a current account surplus, smaller than it used to be, but structurally entrenched for the time being. To balance this surplus, capital has to flow out but it is subject to controls that keep it locked up at home. The likelihood of China running current account deficits or allowing a meaningful liberalisation of capital account transactions any time soon is negligible. If anything, the surplus is likely to increase again as growth slows in the future. Consequently, the Renminbi is strongly handicapped when it comes to becoming a more serious global reserve currency. It is still possible for businesses and commercial organisations to use the Renminbi more for transactions in the future but that is quite different from becoming a more important global reserve currency.
And that doesn’t even mention China’s weak institutions, the state’s track record of intervening in markets, and most importantly “the fragility of the Chinese economy and especially the tremendous systemic risk, bad debt and other problems that plague China’s financial sector.” On that I recommend China’s Great Wall of Debt: Shadow Banks, Ghost Cities, Massive Loans, and the End of the Chinese Miracle by Dinny McMahon.
Given all this, it’s clear the yuan is at the very least decades away from challenging the dollar as a global currency, and again, a digital yuan is still the yuan. (Of course, like the pound sterling before it, the U.S. dollar could decline for its own reasons and open itself to challenge from the yuan and other currencies, but that’s separate from what China can do today proactively to challenge the dollar.)
So if the digital yuan is not a threat to the dollar’s global reserve currency status, could it instead threaten the dollar’s dominance in international payments and replace SWIFT? Perhaps marginally the yuan’s digitization would make it easier to use in global trade, but such use is still tied to reserve currency status. China’s efforts to internationalize the yuan, including launching its own Cross-Border Interbank Payment System in 2015 as an alternative to SWIFT, have so far borne little fruit.
When I make this point I’m often told that China, especially through its Belt and Road Initiative, has power over many emerging economies in Africa, Asia, and Latin America, and it could essentially require them to adopt the yuan. But as the FT points out, that’s just not the case:
When China first unveiled its plans to connect more than 65 countries along a modern Silk Road in 2013, the project was met with great fanfare. The Belt and Road Initiative (BRI), as it was later renamed, was initially hailed as “the most ambitious economic and diplomatic program since the founding of the People’s Republic”. Beyond the pledge that it would help to turn China into a high-income economic powerhouse, Chinese officials also touted the BRI as a vehicle for transforming the country’s currency into a global one.
Five years on, the renminbi hasn’t made much headway as an internationally-recognised unit of account, medium of exchange or store of value — the three functions a global currency must fulfill. In fact, the majority of BRI projects are not even funded this way. Like most global transactions, the dollar dominates, putting a natural cap on just how revolutionary the BRI can be. …
In August 2015, the renminbi stood as the world’s fifth most-active currency for domestic and international payments, with a 2.8 per cent share according to SWIFT. By 2016, it had slipped a slot to 1.67 per cent. As of October, it remains in sixth place, with a 1.70 per cent share. The dollar, on the other hand, has maintained its commanding share of domestic and international payments at roughly 40 per cent: Even in China, the use of the renminbi to settle trade has declined. Today, just 13 per cent is renminbi-denominated. Three years ago, it was about double that.
So if the digitization of the yuan will likely have only a small marginal effect on its internationalization, why is the Chinese government doing it? As naive as it might seem, one place to start in answering this question is to listen to what China says is its motivation.
Here is Mu Changchun, the head of the People’s Bank of China’s digital currency initiative quoted in September: “Why is the central bank still doing such a digital currency today when electronic payment methods are so developed? It is to protect our monetary sovereignty and legal currency status. We need to plan ahead for a rainy day.” What rainy day? Here is Mu quoted in October: “If Libra is accepted by everyone and becomes a widely used payment tool, then after some time, it is entirely possible that it will develop into a global, super-sovereign currency. We need to plan ahead to protect our monetary sovereignty.”
So in reality, the digital yuan may be a mostly defensive, and not offensive, move. (And I don’t mean about Libra specifically, but about monetary sovereignty generally.)
Of course, there are other reasons why the initiative would be attractive to the state. For one thing, it fits in with China’s continuing efforts to limit the use of physical cash. As described by officials, the digital yuan will only replace cash (M0) not bank deposits (M1 or M2). That in turn will allow the government to stop counterfeiting (a big problem in China) and better surveil and have control over financial transactions. Again, I look forward to seeing how the “controllable anonymity” planned for the digital yuan will work technically.
Finally, for what it’s worth, Kenneth Rogoff thinks that while the digital yuan won’t supplant the dollar, it could compete in the market for illicit transactions:
Control over the underground economy, however, is another matter entirely. The global underground economy, consisting mainly of tax evasion and criminal activities, but also terrorism, is much smaller than the legal economy (perhaps one-fifth the size), but it is still highly consequential. The issue here is not so much whose currency is dominant, but how to minimize adverse effects. And a widely used, state-backed Chinese digital currency could certainly have an impact, especially in areas where China’s interests do not coincide with those of the West.
A US-regulated digital currency could in principle be required to be traceable by US authorities, so that if North Korea were to use it to hire Russian nuclear scientists, or Iran were to use it to finance terrorist activity, they would run a high risk of being caught, and potentially even blocked. If, however, the digital currency were run out of China, the US would have far fewer levers to pull. Western regulators could ultimately ban the use of China’s digital currency, but that wouldn’t stop it from being used in large parts of Africa, Latin America, and Asia, which in turn could engender some underground demand even in the US and Europe.
While China’s new digital currency doesn’t really pose a threat to the dollar, it’s not going to be boring either. I look forward to its launch.
January 10, 2020
Instant run-off voting is an alternative voting system used in about two dozen city elections, including San Francisco and New York City. Instead of simply voting for one candidate, voters rank the candidates in order of preference. When the votes are counted, if a candidate gets more than half of all votes, he wins. If no one gets a majority, then the candidate with the fewest first-choice votes is eliminated. The votes that went to the eliminated candidate are redistributed to the second-choice candidates on those affected ballots. This keeps going until a candidate has more than half the votes and wins.
This is supposed to avoid results where most voters don’t like the winning candidate. Usually this happens when two or more ideologically similar candidates split the vote. For example:
In an IRV system, Al Gore could have won Florida (and with it, the presidential election) in 2000 when Ralph Nader voters might have picked Gore over George W. Bush as their second choice[.]
That’s from this interesting article from City Journal delving into IRV and how it helped the radical Chesa Boudin win the San Francisco DA election. But here’s what I learned that’s really interesting:
[I]n 2016, Donald Trump would have won the popular vote (and a few states that he barely lost, like Minnesota) when Gary Johnson and Evan McMullin voters could have chosen him as their second choice over Hillary Clinton.
It’s a little too subtle or he would have already banged on about this.
Here’s something else that amused me. According to this provocatively titled article, global AML harmonization—vital for the U.S.’s sanctions regime today—has a sneaky origin. Essentially,the industrialized powers “bypassed” having to reach global consensus through a multilateral treaty process. How? In 1989 the G7 simply created a“task force” to address drug trafficking, and it later expanded its remit to include money laundering. You may have heard of it; it’s called the Financial Action Task Force (FATF).
After a sluggish start, with few nations signing up to its compliance model, FATF made an offer governments couldn’t refuse … FATF rated countries’ anti-money laundering regimes and issued “black lists” and “grey lists” publicly naming those not meeting its “recommendations”. Banks did the rest. Treating the ratings and lists as a proxy for risk, access to the financial system became difficult for many countries. FATF’s intention (in its own words) was to “pressure” countries to comply, “to maintain their position in the global economy”.
Risking exclusion from financial markets, 205 countries and jurisdictions “voluntarily” joined the anti-money laundering movement.
The FATF’s legitimacy is solid, though. Democracy and sovereignty are, of course, secondary to fighting money laundering.
January 9, 2020
Friends in the crypto community have been asking me about something called the “Crypto-Currency Act of 2020” that would, among other things, create a “Federal Digital Asset Regulator.” Here is a discussion draft that’s been floating around. Folks want to know if it’s something to be concerned about and whether it has any legs.
In the wider crypto community and the crypto press, there’s a tendency to treat all bills and all members of Congress as equivalent. They’re not. It’s one thing if the chairman of the Senate Banking Committee introduced a bill co-sponsored by the ranking member of that committee, and it’s another thing if it’s a freshman minority House member on the Veterans’ Affairs and Small Business committees who introduces a bill. So how do you know what’s high priority and what’s not? There’s not a single formula, but here’s the quick analysis I’d do on this particular bill.
First, has this bill been introduced? Or is it just an idea that may never be? Although the crypto press has reported that this bill has been introduced, it has not. A simple search of congress.gov will tell you that.
Then we look at who is the sponsor of the bill. In this case it seems to be Rep. Paul Gosar. We ask, is he on any of the committees to which this bill would be referred? I.e. House Financial Services Committee and the Committee on Agriculture (which oversees the CFTC)? The answer is no; he serves on the Natural Resources Committee and the Committee on Oversight and Reform. It’s difficult for a member to move a bill in a committee of which he’s not a member, doubly so if he’s in the minority as is Gosar. Here’s a pretty good summary of the process.
Last, you might ask, who is the member? Is he especially senior in some other way that might make one pay special attention to the bill? In this case I am familiar with Rep. Gosar, but not because of any seniority. Here’s a New York Times article about him from this week, one from his last election, and one that gives a sense of how his colleagues might perceive him. Here’s a bonus one. By this point I’m not putting too much stock in the bill, even before I look at the text, which is a whole other analysis.
So why is Rep. Gosar working on this? I don’t know, but oftentimes members come to work on crypto driven by their staff’s interest, which by looking at Twitter seems to be the case here. Who is he relying on for advice? I don’t know, but I’ll note that he sponsored a panel discussion with “teenage Bitcoin millionaire” Erik Finman last year. As I said in yesterday’s post, a definite relevant trend in our work is the increasing number of voices in DC lobbying on crypto issues.
January 8, 2020
In yesterday’s post I listed five trends related to crypto that I came up with for a brainstorming exercise with the team ahead of our offsite retreat. The rest of the team came with their own awesome lists of trends and I thought I’d share some of them here:
Again, some of these deserve blog posts of their own, so stay tuned.
January 7, 2020
At work this week we’re having an offsite retreat to plan our direction for the year. We’re working with a facilitator who will guide us in a strategic foresight exercise and has asked everyone on the team to come prepared with a list of trends that they are observing in the world relevant to our work. Here are some of the trends that I think are important:
In writing down this list I had to resist the temptation to write a blog post about each item, so maybe I will. I’m looking forward to seeing what other trends the team has flagged and what ideas will spring forth from putting them together.
January 6, 2020
I was aimlessly surfing Pinboard when I chanced upon a post at Nieman Lab on the return of blogs in 2020 by my old friend Joanne McNeil. (It had escaped me that she’s got a new book on the history of the Internet from the user perspective coming out next month. Pre-ordered!) She writes that in many ways newsletters are the new blogs.
The web interface of any given public Substack is basically that of a blog. You can even set up comments. And there are subscription apps like Stoop that organize newsletters’ content as RSS readers did for blogs.
I hadn’t heard of Stoop, but I use a similar feature inside the wonderful RSS reader Feedbin. The service assigns you an email address that you can use to subscribe to newsletters and issues will appear in your feed. So I also basically treat newsletters as blogs.
But they aren’t the same. From a writer’s perspective I think newsletters feel more formal given their push nature. Because when you hit publish you’re about to insert yourself into the inboxes of maybe hundreds or thousands of people, it better be good. That has certain virtues, like imposing discipline on the writer, which as a reader I appreciate. But the flip side is, of course, that you lose the informality and frequency that made blogs so conducive to free-thinking and experimentation. Joanne goes on:
It’s been long enough now that people look back on blogging fondly, but the next generation of blogs will be shaped around the habits and conventions of today’s internet. Internet users are savvier about things like context collapse and control (or lack thereof) over who gets to view their shared content. Decentralization and privacy are other factors. At this moment, while so much communication takes place backstage, in group chats and on Slack, I’d expect new blogs to step in the same ambiguous territory as newsletters have — a venue for material where not everyone is looking, but privacy is neither airtight nor expected.
I think we will see something of a blog renaissance as a reaction to the current state of social media, which Saku Panditharatnerecently and aptly described this way:
Twitter has been a mix of both [decline in relevance and quality], riding the technology wave for the first half of the decade, but by 2019 the /#discourse became not only, as they say, toxic, but intellectually bankrupt as well. Overrun with shallow moralizing and self-help gurus, there really isn’t much left on Twitter outside of the snark, but we’re all stuck there because it’s such a great networking tool.
I have a hunch that people who want to have more serious conversations will turn away from social media and toward slower and longer form media like blogs and podcasts. This blog is certainly an example of that. After more than one bad experience on Twitter last year I’ve more or less given it up and I can certainly say my mental health is better for it. As Saku says, though, the network effects are too good to pass up.
Something I do to try to have my cake and eat it too: I use another feature of Feedbin that lets me subscribe to individual Twitter feeds and, again, see updates in my feed along with blog and newsletter posts. I don’t see any replies, etc., and if there’s a linked article in a tweet it gets expanded so I see the full text. At the moment I have subscribed to only five people whose updates I find interesting and high signal to noise and I intend to keep that set pretty small. We’ll see if I dip my toe back in and tweet again this new year, but if I do I suspect it will be to broadcast new posts here and and engage with thoughtful commenters.
January 3, 2020
Alex Danco predicts that at some point in the 2020s, the following headline will get printed: “Crypto Finds its Killer App: Guns”. He observes that the broad crypto space is in disarray since it has very little to show for itself, but that Bitcoin has continued to hold up and a retrenchment is in the offing:
The crypto scene we’ve come to know over the last few years has been a bit all over the place, but the theme in common to most of it has been “new finance” / “stack sats, get rich”. Over the next ten years, after our current hangover gets truly washed out, a new one is going to emerge that’s a lot stronger, a lot darker, and a lot more true to the original vision than many people would like to admit: crypto as a part of “Dissident Tech”.
Expect the crypto community to retrench and double down on a core value proposition: crypto as a tool for political and societal dissenters. This means people who don’t really care what the price of Bitcoin is; they actually care about it being uncensorable. That means people who are doing illegal things, it means people on the wrong side of governments, or it could simply mean freedom-oriented people. But the narrative will turn really sharply once the core value proposition embraced genuinely becomes “be un-censorable”, as opposed to “get rich”.
Expect to see Bitcoin, and cryptocurrency generally, start to show up in a lot of thematically adjacent products, businesses and brands. Guns are going to be one of them. As more countries crack down on gun ownership, and as flashpoints like Hong Kong become internet-fluent conflicts, guns and crypto will get a lot closer together, as will efforts to crack down on both.
I don’t know if guns in particular will be the killer dissident app, but it’s clear that Bitcoin’s and cryptocurrency’s core value proposition is permissionlessness, so yes future probably lies in dissidence. As Danco implies this is a return to form, or simply folks paying attention again. Indeed Bitcoin has already had its first killer app: Silk Road.
This trend will be hastened by another one articulated by Matthew Da Silva in his predictions for 2020:
The quiet collapse of the blockchain industry hasn’t made headlines. But projects are absolutely running out of money—and patience. How long are programmers and community managers willing to work on something that doesn’t ship? Or just doesn’t make sense?
In 2020, I think lots of blockchain developers—and especially researchers—will return to academia. Likewise, the hangers-on in the marketing machine will move on to the next hot thing. Perhaps cannabis or 5G?
The “crypto” community that will remain, one imagines, will be the cypherpunk core that has been working on essentially the same project since the 1990s.
January 2, 2020
The Real Class War by Julius Krein is one of the best essays I’ve read in a long time. While I don’t agree with every word, it is brilliant. Its general thesis:
The socioeconomic divide that will determine the future of politics, particularly in the United States, is not between the top 30 percent or 10 percent and the rest, nor even between the 1 percent and the 99 percent. The real class war is between the 0.1 percent and (at most) the 10 percent—or, more precisely, between elites primarily dependent on capital gains and those primarily dependent on professional labor.
Looked at through this lens, broad elite sentiment starts to make a lot more sense. For example, it offers a credible answer to a question that’s long bugged me: Why is it that Elizabeth Warren and Bernie Sanders receive “the highest number of donations out of all presidential candidates from Google employees” and similar tech firms?
While the “billionaire class” (Pop. 607) might not support Warren or Sanders, consider the reality of your average SF tech worker:
A study by the Brookings Institution showed that the median income rose by 26 percent in San Francisco from 2008 to 2016, but rents more than doubled during the same period. Because of rising real estate costs, households earning in the top 25 percent nationally are actually classified as “low income” in San Francisco. The household “low income” threshold in the Golden Gate City is now approximately $117,000. By comparison, a household needs to earn about $100,000 to make it into the top 31 percent nationally; the national top 10 percent household income threshold is approximately $178,000.
Being in the elite is not all it’s cracked up to be, as Krein details in the piece, and it’s certainly not all that the elite expected. This is leading to severe status anxiety relative to, and resentment against, the elite’s peers at the very very top. There’s clearly way more status anxiety and resentment among this cohort than the working class, most of whom it seems would support Joe Biden or Donald Trump. So of course…
Many of the most aggressive proposals associated with the Left—such as student loan forgiveness and “free college”—are targeted at the top 30 percent, if not higher. Even Medicare for All could potentially benefit households earning between $100,000 and $200,000 the most; cohorts below that are already subsidized.
Where does this trend lead? One possible outcome is the collapse of center-left parties as we have seen in Europe, most recently in the UK where an unprecedented working class exodus to the Tories left Labour to the “top 30%” urbanite cosmopolitans. In Germany the working class is exiting for AfD and leaving the Social Democrats to “white-collar workers and pensioners.” What about the U.S.? I don’t understand how candidates like Elizabeth Warren and Bernie Sanders who have promised to ban fracking can win the working class vote in, say, Pennsylvania. If the democratic nominee is Warren, I wonder what effect that would have on the black vote.
January 1, 2020
Tony Finch’s link log is one of the inspirations for this site. That and that it’s New Year’s Day and I’m resolving to write every day, even if it’s in an unstructured way like this. I considered writing a newsletter again, as well as other formats, but I think the simplicity of blogging will increase the likelihood that I live up to my resolution. I’ve long admired the discipline of people like Tyler Cowen and Fred Wilson who blog every single day of the year, and if they can do it, why can’t I?
Blogging is also my way of quietly rejecting social media and its pernicious incentive structure. Here is the first sentence of a recent article that rang very true to me:
I remember the exact moment when the internet turned sour for me. It was July 1, 2013: the day Google Reader was put down by its corporate masters. The death of an RSS reader might not seem like the greatest tragedy to befall the internet over the past decade—it wasn’t—but it had a profound impact on my professional, and thus intellectual, life.
The article is full of inferences that are plain wrong, but the yielding of blogging in the face of social media is real and it can be traced pretty directly back to the death of Reader as much as any other moment. As much as readers, indie writers depended on it to be aggregated and consumed in a (yes) personalized news feed. There were also community feeds like Digg, Hacker News, Slashdot, and Metafilter that are shadows of their former selves. They were “entry points to the network” and it was a network of independents writing on their own homesteads. Today the networks to which Twitter, Facebook, and Instagram are entrypoints are proprietary, standardized, and gamified, and we are at best renting our little plots and at worst we’re serfs.
Before I get mail, let me say that I grok all the virtues of these platforms. Indeed I was an early evangelist. But I’m still allowed to be nostalgic for what’s been lost. Perhaps as more people grow disenchanted with the new medium’s limitations, at least some will try to go back to indie and make social media work as an entrypoint for better or worse. Again, if Tyler and Fred can do it, why can’t I?
A final and related inspiration is This Page is Designed to Last: A Manifesto for Preserving Content on the Web by Jeff Huang who laments the scurge of link rot. As he puts it, “the increasing complexity of keeping alive indie content on the web, leading to a reliance on platforms” and he admits he’s as guilty as anyone:
I’ve recommended my students to push websites to Heroku, and publish portfolios on Wix. Yet every platform with irreplaceable content dies off some day. Geocities, LiveJournal, what.cd, now Yahoo Groups. One day, Medium, Twitter, and even hosting services like GitHub Pages will be plundered then discarded when they can no longer grow or cannot find a working business model.
To counteract this he’s developed a list of rules for indie web development, many of which I’m adopting here. Again, following Tony Finch, this one really speaks to me:
Prefer one page over several – several pages are hard to maintain. You can lose track of which pages link to what, and it also leads to some system of page templates to reduce redundancy. How many pages can one person really maintain? Having one file, probably just an index.html, is simple and unforgettable. Make use of that infinite vertical scroll. You never have to dig around your files or grep to see where some content lies.
So I’ve built this little site as one big page. It is actually made of individual Markdown files, one for each day, but there’s onely one index.php. I hope you like it.
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