This article is intended as a final conclusion for our series on the absolute valuation approach for cryptocurrencies. In doing so, we will also address the criticism of the equation of exchange model and compare the on- and off-chain speed of different cryptocurrencies.
The theory of velocity presented in the equation of exchange model that is commonly applied to crypto assets would question the business model of utility coins and payment coins that have no incentives to hoard via staking and are expected to have a high velocity as people spend the coins frequently. In support of this theory and Buterin and Samani’s analysis, Coin Metrics’ State of the Network #37 showed how Bitcoin’s on-chain velocity has been steadily decreasing and the price has been going up.
However, we also calculated Bitcoin’s off-chain transaction velocity and found the opposite pattern. We found that Bitcoin’s price and Bitcoin’s exchange activity both went up at the same time over the past few years. On-chain velocity is the velocity generated solely by transactions on the blockchain, whereas off-chain velocity is the velocity generated by trading activities on cryptocurrency exchanges.
Figure 1: Bitcoin’s Off-Chain Velocity is Positively Correlated with Bitcoin Price
We wanted to check these results with other coins, so we calculated on-chain and off-chain velocity for Ethereum, Bitcoin Cash, Litecoin, and Stellar in order to see if coins were trading hands more frequently on-chain (inter-exchange and off-exchange) or off-chain (intra-exchange).
Figure 2: 90-Day Moving Average Bitcoin On-Chain and Off-Chain Velocity
We found that for almost all coins, on-chain velocity is decreasing, while off-chain velocity is increasing. We interpret this to mean that growth in the number of speculative transactions on exchanges is faster than growth of utility transactions to buy goods and services.
Figure 3: 90-Day Moving Average Ethereum On-Chain and Off-Chain Velocity
It is interesting to observe similar trends in velocity among almost all of the cryptocurrencies. Higher velocities before the cryptocurrency matures and more stable and lower velocities later on. Stellar seems to be an exception to this rule (mainly looking at the huge jump in velocity late 2019), but as we know, Stellar’s Coinbase is heavily centralized and it is likely that this is a foundation transaction distorting the numbers.
It is also worth noting the huge jump in off-chain velocities among all cryptocurrencies in 2019-2020 coinciding with the drop in on-chain velocity. This suggests that traders who operate exclusively on exchanges and trade with high volumes are becoming the dominant force in the crypto asset market instead of long-term holders.
The results that we found do contradict Buterin and Samani’s theory because we found that velocity is increasing and the price is going up, even though their model says the price should be going down. Scott Locklin’s critic of their work may hold the answer. As Locklin points out, applying Fisher’s MV = PT equation of exchange directly to crypto assets doesn’t work because of two main reasons:
“The inverse of (average) token velocity is not average holding time. For example, let us postulate a money supply of 10 tokens in an economy with a velocity of 10 times per day. If 9 of the tokens are traded once every 1000 days, and one of the tokens 99.991 times a day, this gives mean token velocity 10 times per day. However, the average holding time for a coin in this ecosystem is 900.001 days, not 1/10 day per transaction.”
“Similarly, while Fisher’s equation of exchange is an equilibrium model (which I suppose could be called “steady state”), it does not depend on the number of users.”
Locklin does a few transformations to the equation and argues that user adoption really does matter for the price of a coin. As more people come to the network and demand the coin, the price goes up. Locklin’s critique is straight forward. If more people demand Bitcoin and Ethereum for buying coffees or for speculating, the result is similar. Either way, people are trading economic resources for cryptocurrencies and bidding up their prices. In defense of Buterin and Samani, speculation on financial assets is normally left out of GDP metrics. Foreign exchange volume isn’t included in GDP, for example, and therefore, analyzing the velocity of crypto asset speculation may not be appropriate.
Final Word
Vitalik’s token economic concepts of velocity and velocity sinks that encourage hoarding are important; however, the analysis is static and doesn’t consider new user adoption and growing demand. If cryptocurrencies gain adoption for long-term hoarding purposes or for short-term spending on speculation or coffees, the price of crypto assets will go up. High velocity on-chain and low velocity off-chain suggests that crypto assets are becoming increasingly used for speculation and not for store of value.
The list of addressable target markets for cryptocurrencies is very long, but what is the current adoption level and what growth can we expect in the coming years? Although this question cannot be answered unambiguously, there is a certain spectrum of realistic possibilities, defined by pessimistic and optimistic limits.
Once the M, V, P, and Q are estimated, the penetration rate of each TAM by each cryptocurrency is calculated. This is called the adoption rate, and this is based on an assumption regarding future use of the currency for each use case. To estimate adoption, there are two mains methods: first, estimating the growth in the number of people owning crypto per year and, second, fitting a curve to the historical growth in active wallet addresses.
Forecasting Adoption with Historical Data on the Growth in the Number of People Using Crypto Worldwide
Approximately 40+ million cryptocurrency users exist globally according to our research. The number of registered accounts on the biggest crypto exchanges serve as a usable proxy. Coinbase for example has more than 30 million users (CoinTelegraph). Binance founder Changpeng Zhao (CZ) recently said in an interview that they have about 12 to 15 million registered users and about 0.5 to 2 million daily active users. There are several other similarly big exchanges, like Kraken, Bitstamp, Bitfinex, Bittrex, Huobi, and OKEx. Assuming that Coinbase has the most users, there must be at least 30 million cryptocurrency users. Binance and Coinbase together have about 45 million users. This averages to 22.5 million users per exchange. For the eight biggest exchanges, a number of 180 million (22.5 x 8) users would come up. Adding the assumption that most users are registered on several exchanges, this number seems to be too big. The correct answer probably lies between 35 to 70 million users.
Having a look at different surveys, about 5–8% of US-American adults own cryptocurrencies (Statista Global Consumer Survey, Finder.com). There are countries like Turkey which have more users and countries like Japan that have fewer. Also, according to the survey, Spain has a higher level of cryptocurrency users when compared to other western European countries. In Spain, 10% of adults own cryptocurrencies.
A final estimate of the total number of users could be done with the following experiment. There are about 4.3 billion people with access to internet, therefore being possible crypto owners. Let’s subtract 1.5 billion because of legislative restriction (i. e. China, Pakistan, and others). The following table shows the number of potential cryptocurrency users depending on the world’s population.
Table 1: Estimating the World’s Population of Crypto Users
According to the CEO of Binance, CZ, the number of accounts from a country on Binance correlates positively with the GDP per capita (high GDP – more accounts).
Figure 1: Percentage of Cryptocurrency Users per Country
Forecasting Adoption with Historical Data on the Growth in the Active Addresses
Another approach is to count the number of wallets. According to BitInfoCharts, there are currently more than 43 million Bitcoin addresses. If we use this as a proxy and take Bitcoin dominance into consideration, which is currently at 67 % (CoinMarketCap), we can assume that there must be about 64 million addresses 43 / 0.67) for Bitcoin and all Altcoins. Some users may have both, bitcoins and altcoins; therefore, there may be roughly about 37 to 52 million cryptocurrency users.
Most studies adopt an S-curve beginning on when the network is launched. There are several different possible curves for cryptocurrency adoption, such as S-curve and linear. Other curve options include exponential and log. All of the following curve assumptions can be seen on the following graph.
After fitting the daily data of wallet use with a non-zero balance, use of Bitcoin as a medium of exchange appears to be following a linear curve or an S-curve and currently has approximately 600,000 active users per day.
Figure 3: Bitcoin’s Adoption Curve is Assumed to be an S-Curve
From behavioral economics, many variables impact adoption, such as path dependency, network effects, superior technology, market salience, and ambiguity aversion held by investors and users. Adoption is difficult to measure because once a metric becomes standardized, cryptocurrency developers and investors try to game that metric or trick that metric in order to manipulate the market.
Scenarios
To improve the robustness of the adoption rate analysis, several scenarios can be calculated for the adoption rate of each cryptocurrency for their respective TAMs. This report assumes three different scenarios:
Bearish
a. Cryptocurrency will only takeover 1 % of the entire target addressable market.
b. The cryptocurrency will take two years to achieve 10 % of the 1 % adoption.
c. The number of years that the cryptocurrency will take to achieve 90 % of the 1 % adoption will be seven.
Modest
a. Cryptocurrency will only takeover 10 % of the entire target addressable market.
b. The cryptocurrency will take two years to achieve 10 % of the 1 % adoption.
c. The number of years that the cryptocurrency will take to achieve 90 % of the 1 % adoption will be five.
Bullish
a. Cryptocurrency will only takeover 20 % of the entire target addressable market.
b. The cryptocurrency will take two years to achieve 20 % of the 1 % adoption.
c. The number of years that the cryptocurrency will take to achieve 90 % of the 1 % adoption will be five.
Discount Rate
A dollar today is worth more than a dollar a year from now. Stock valuation models, such as the discounted cash flow model, can use discounts rates of 10–50% per year based on the risk of the industry and the company. Take the future current value and discount it back to the present. Taking the value of $7.45 and discounting it back 10 years at a rate of 40% yields a rational market value of $0.26. The calculation is $7.45 / (1.40¹⁰). An alternative approach is to discount each period utility value and use the weighted average by applying larger weights to periods that are closer. The Satis Report argues that discounting isn’t required for the TAM analysis; however, most reports incorporate a discount rate. Chris Burniske uses rates between 30% and 40%. The 2015 Wedbush Securities report uses a discount rate of 40%. In this report, we apply 30%; however, additional research on the property discount rate of each coin to reflect distinct risk profiles is needed.
Winner Takes All
Since this analysis is investigating five coins instead of just one, an additional assumption is required.
Many of the coins in the top five are competing with each other to become global ledgers for storing and trading digital assets. Therefore, one assumption to make is whether or not there will be a winner take all or an oligopoly of cryptoassets for each main use case. Several studies assume each protocol is an isolated economy to simplify calculations. However, the cryptocurrency market is one of the most competitive markets in the world. The cryptocurrency market has less regulatory barriers to entry and switching costs between cryptocurrencies are low. This assumption is relevant for adoption rate, scenario probability, and discount rate.
One could argue that the winning protocols of these digital resources will become global standards, and global standards are typically “winner takes most” scenarios. Therefore, this report makes the following assumptions:
Bitcoin will beat Ethereum, Bitcoin Cash, and Litecoin in the currency coin group.
This is reflected in the “discount rate”. Bitcoin is assumed to have a discount rate of 30%, while Bitcoin Cash and Litecoin are assumed to have a discount rate of 50%.
Ethereum will beat Stellar in the utility coin group.
This is reflected in the “discount rate.” Ethereum is assumed to have a discount rate of 30%. Stellar is assumed to have a discount rate of 50%.
These assumptions are based on current technology and regulatory strengths that Bitcoin and Ethereum have. The hash rate dedicated to Bitcoin is magnitudes larger than any other cryptocurrency. Finally, Bitcoin’s decentralized nature has prompted SEC officials to unofficially consider Bitcoin to not be a security. This provides some regulatory protection for Bitcoin that may hinder new blockchain start-ups. However, Bitcoin Cash and Litecoin also have advantages. Both coins offer faster confirmation times and lower transaction fees compared to Bitcoin, and they are sufficiently decentralized with large networks of investors and Bitcoin Cash has many developers working on protocol upgrades. Instead of a winner-takes-all during the next ten years, an oligopoly of payment coins is likely to remain in place. Plus, several investors use naïve 1/n strategies to invest in cryptocurrencies and, therefore, invest equally in the top currency coins in order to reduce risk and capture the market.
Valuation Results
Looking into all the variables and addressable markets, we have come up with a utility price estimate for each of the examined cryptocurrencies. It is worth nothing that each of those estimates is done on a non-discounted basis and with either bearish or moderate market penetration assumptions.
Table 2: Equation of Exchange Forecast of Crypto Asset Prices
It is worth noting that, as of the time of writing this report, the total crypto market cap (all currencies, not just the 5 listed above) sits at $256 billion. In the meantime, the TAM of all the potential markets as discussed above, is in excess of $188 trillion, which makes the current crypto penetration across those markets 0.136%.
As seen by the charts above, we believe that Bitcoin is still at the very start of its adoption curve. The price of $7,200 at the end of 2019 suggests that Bitcoin has penetrated less than 0.44% of its total addressable markets. If this penetration manages to reach 10%, its non-discounted utility price should reach nearly $400,000.
After we have now analysed and defined the most important variables and terms related to the absolute valuation approach, we are able to make a final conclusion in next week’s article. There we will also discuss whether the approach provides a sufficient explanation for the price development in recent years, or whether Buterin and Samani were right after all.
Cryptocurrencies are geared towards one or more addressable target markets. Taking a closer look at these target markets is of great importance when it comes to evaluating cryptocurrencies and analyzing their price. In this article we will take a closer look at the size of the different target markets and how widespread cryptocurrencies are already in these markets. These target markets will include reserve currencies, offshore accounts and online payments.
Medium of Exchange and Unit of Account
A medium of exchange is an intermediary instrument or system used to facilitate the sale, purchase, or trade of goods between parties. For a system to function as a medium of exchange, it must represent a standard of value. Using a medium of exchange allows for greater efficiency in an economy and stimulates an increase in overall trading activity. In a traditional barter system, trade between two parties can only happen if one party has a commodity that another party desires, and vice versa. The chance of this happening simultaneously as a cross occurrence–where each party desires something that the other party has–is improbable. Thankfully, with a medium of exchange, such as gold, if one party had a cow and happened to be in the market for a lawnmower, the cow owner could sell his animal for gold coins, which he may, in turn, use to purchase the lawnmower.
The unit of account and medium of exchange markets are currently estimated to be around $126.8 trillion USD. We could argue that all crypto is technically a medium of exchange; however, none more so than Bitcoin being the primer cryptocurrency. If we consider all of BTC currently being used for this purpose, this gives us a current market penetration of 0.13 %.
Figure 1: Federal Reserve Assets Almost Double and Dollar Index Stays Flat
Despite unprecedented quantitative easing, trillions of short-term credits to the repurchase agreement market, and lowering interest rates to zero, the US dollar index (DXY) barely moved. This means that the dollar can take a lot more abuse from the printing machines, before it starts to devalue against other fiat currencies. Also, the 5-year forward inflation expectation for the US dollar is sitting at a low 1.43 %. This means that despite massive debasement of the US dollar, markets expect inflation to be below the Federal Reserve’s target 2 %. Fed Chairman Powell understands that he can print more, and most likely he will.
Fortunately, the blockchain technology has reduced the cost of switching between currencies. Phone applications, such as Crypto.com, already allow people to earn interest on several different types of cryptocurrencies and stablecoins that represent different fiat currencies. In the future, people will be able to hold portfolios of tokenized currencies in their bank account and on their phone, and they will easily be able to exchange currencies by pressing a few buttons. When the Turkish lira is losing value, they will be able to switch into a safe haven stablecoin like a tokenized Swiss franc. When Turkish banks offer high interest rates to attract capital, people will be able to easily switch back to the Turkish lira in order to earn higher interest rates on their deposits. This is already possible due to the dollarization of public blockchains discussed later in this report in Tether or Not to Tether by Pascal Hügli.
Offshore Accounts
The Tax Justice Network estimates that governments lose $189 billion a year from $21–32 trillion in offshore accounts of private wealth. The International Monetary Fund estimates tax evasion to be approximately $12 trillion a year globally. The Satis report analyzed the target addressable markets for the entire cryptoasset market and found that the total implied market cap to be $3.6 trillion by 2028 using the a similar equation of exchange model to the one developed in this research report. According to the Satis report, the major application of cryptocurrencies is offshore deposits. They estimate cryptocurrencies will penetrate approximately 91 % of the offshore deposits market during the next decade. They also estimate the offshore deposit market to grow because of capital controls, national debt, unpopular fiscal policy, and debasement of national fiat currencies.
Figure 2: Cryptocurrencies Will Absorb Part of Global Offshore Wealth Market
Although the Satis report uses “offshore accounts” and “tax evasion” synonymously, offshore accounts can also be used for non-illicit purposes such as opening up a business abroad and earning income. Also, many multinational companies have reserves abroad in case of a banking crisis in their domestic currency. In a bid to protect their assets from financial calamity, institutional investors are embracing the use of offshore crypto deposit accounts. According to several estimates, offshore tax havens account for 10 % of global GDP. Ten percent of global GDP provides the offshore account estimates in the Excel spreadsheet. A 3.6 compound annual growth rate is assumed in order to forecast the future GDP and growth in demand for offshore deposits.
Reserve Currency
Reserve currencies are foreign currencies held by central banks. When a country acquires reserves, it doesn’t place the currency in general circulation. Instead, it parks the reserves in the central bank. The reserves are acquired through trade, with the acquiring country selling goods in exchange for currency.
Reserve currencies thus grease the wheels of international commerce by helping countries and businesses conduct transactions using the same currency, a much simpler task than settling transactions involving different currencies. Their popularity is easy to see: Between 1995 and 2011, the amount of currency held in reserve increased by over 730 %, from around $1.4 trillion to $10.2 trillion.
Reserve currencies are typically issued by developed, stable countries. The currency most commonly held as a foreign exchange reserve is the US dollar, which, according to the International Monetary Fund (IMF), comprised nearly 62 % of allocated reserves as of late 2012. Other currencies held in reserve include the euro, Japanese yen, Swiss franc and pound sterling. The dollar, while still the most widely held reserve currency, has seen increased competition from the euro. The euro has grown from slightly less than an 18 % share of allocated reserves when it was introduced into the financial markets in 1999 to 24 % at the end of 2011.
Many central banks are rumored to have already bought cryptocurrencies. The rumors say they just aren’t admitting this to the public. Source: Twitter
The IMF reports both allocated reserves, meaning that a country has identified the currencies held in reserve, and total foreign exchange holdings. The overall percentage of total holdings that are allocated reserves has fallen steadily over the years, from 74 % in 1995 to 55 % in 2011. Much of this shift can be explained by changing foreign exchange holdings in emerging and developing countries. In 1995, advanced economies held around 67 % of total foreign exchange reserves, with 82 % of these being allocated reserves. By 2011, the picture had been flipped on its head: Emerging and developing countries held 67 % of total reserves, with less than 39 % allocated. Emerging countries now hold roughly $6.8 trillion in reserve currency.
Currently, reserve currencies sit at around 11.7 trillion and no central bank has officially admitted to holding any cryptocurrency in its reserves.
Store of Value
As shown in Table 2, the target addressable market for stores of value is over $7 trillion. This figure mostly comes from the global market capitalization of gold. However, people also store value in fiat currency. The US dollar alone has a market capitalization of $3.8 trillion, which is 20 times larger than Bitcoin’s market capitalization. People also store their wealth in stocks and bonds and real estate, so $7.07 trillion is a lower-bound on the largest target addressable market for cryptocurrencies. When it comes to store of value, the go-to cryptocurrency seems to be Bitcoin. If we consider that store-of-value seekers don’t move their bitcoin often, we can see that around 11 million BTC have not moved in nearly a year. It is worth nothing that this amount inevitably includes some lost keys. As of the time of writing this report, this accounts to around $98.6 billion or a 1.4 % penetration.
Figure 3: Bitcoin’s Target Addressable Market is Worth $1247 Trillion
Some critics of cryptocurrencies argue that cryptocurrencies aren’t used as a store of value. They argue that cryptocurrencies are only used for day trading and speculation. A good measure of whether coins are used as a store of value or for short term speculation is the “age” of each coin. The average age of 20 % of all of the bitcoin in existence have been held for over 5 years. We assume that these coins are being used as a store of value. The majority of bitcoins have been held for more than 6 months, which provides evidence that bitcoin holders aren’t using bitcoin for day trading but are rather holding for long-term appreciation. Factors promoting crypto use and adoption as a store of value include scarcity, transparency, global availability, pseudonymity, and immutability.
One of the factors contributing to a rise in popularity is the fact that most digital currencies have a finite supply, resulting in scarcity. Currencies controlled by central authorities are often subject to arbitrary inflation, especially in emerging economies (Folkinshteyn & Lennon 2016). Paul Tudor Jones, who runs the Tudor BVI fund, holds a low single-digit percentage of its assets in Bitcoin futures, because of the massive fiscal spending and bond-buying by central banks to combat the coronavirus pandemic. By his calculation, $3.9 trillion of money, the equivalent of 6.6 % of global economic output, have been printed since February 2020.
Online Transactions
According to a report on the digital payment market by Mordor Intelligence and data from Statista, online transactions account for between $4.4 trillion and $3.4 trillion per year. The research firm Chainalysis estimates that cryptocurrency commerce transactions account for $6 million daily. This means that cryptocurrency payments have not even penetrated 1 % of online transactions. However, according to the same report by Chainalysis, the amount of digital money sent to 16 merchant service providers, such as BitPay, rose 65 % between January and July of 2019. This is because cryptocurrency transactions are comparatively faster, taking a few seconds optimally or about an hour when networks are congested. There are also no chargebacks with cryptocurrencies, which stops a lot of online fraud.
Transaction platforms like BitPay recorded consistent annual growth in transaction rates (DeVries, 2016). According to a BitPay annual report in 2017, the platform recorded a payments dollar volume increment of 328 % year-on-year from 2016. During that period, merchants using the platform were getting more than $1 million every month in bitcoin payments. Overall, the service provider was on track to process over $1 billion annually through bitcoin payment acceptance and payouts during 2017 and 2018. BitPay’s B2B business grew 255 % between 2017 and 2018 because law firms, data center providers, and IT vendors signed up to accept Bitcoin. BitPay also hired Rolf Haag, Former Western Union and PayPal executive as Head of Industry Solutions responsible for the B2B business.
The Copay wallet, BitPay wallet, and other wallets using BitPay’s Bitcore Wallet Service (BWS) have over 1.5 million unique wallets. In the past year, the BitPay wallet added integrations with major gift card brands, enabling users to buy gift cards in-app for travel, food, and shopping with Bitcoin and Bitcoin Cash.
Famous merchants such as Microsoft, CheapAir (Flights), Travala (hotel bookings)14, and the Dallas Mavericks basketball team accept cryptocurrency payments in order to reach out to niche markets of cryptocurrency holders. Local governments are also accepting cryptocurrency payments, such as Ticino and Zug in Switzerland and Seminole County, Florida in the US to name a few.
Brick and mortar commerce, online e-commerce, casinos, and tax collectors all need a payment processor to handle the currency risk of accepting cryptocurrencies. For this reason, software and hardware point-of-sale (PoS) systems are an interesting business model that has increasing demand. The Crypto Research Report recently covered how Worldline and Ingenico are both rolling out PoS systems in Europe during the summer of 2020. Additional payment processors companies that settle cryptocurrency payments include Salamantex, AnyPay, CryptoBuyer, GoCoin, Coinpayments, Coingate. These companies offer hardware and software solutions for merchants. For example, Salamantex has a hardware that merchants can add to their existing hardware point of sale system. Gocoin, Coinpayments, and Coingate all offer plugins for e-commerce websites like Woocommerce, Shopify, and WordPress.
The largest start-up in this space is Spedn, which is owned by Flexa which the Winklevoss Twins invested in. They will enable all Starbucks coffee shops in the USA to accept cryptocurrency payments beginning in 2020. Coinbase also offers the service of payment processing. One of the most recent newcomers to this space is Crypto.com, but they are expected to make a big splash.
Although cryptocurrencies were originally designed to be digital cash, online transactions with cryptocurrencies have not really picked up traction. In a recent peer-reviewed journal paper, Nicole Jonker found that crypto acceptance from online retailers is a modest 2 % of all online stores. This is mostly because most cryptocurrencies are deflationary, and investors don’t want to spend them. Most merchants convert crypto payments to fiat to avoid volatility issues. However, online transactions may gain adoption with stablecoins since they aren’t deflationary. For example, BitPay added settlement support for US dollar stablecoins from Circle, Gemini, and Paxos in 2018. In addition to be used in brick and mortar stores and for online shopping, cryptocurrencies are also spent online on illegal goods and services. According to Chainalysis, darknet trading volume was estimated to be as high as $700 million in 2017 and $600 million in 2018.
In 2018, migrants in various parts of the globe sent upwards of $613 billion to their home countries. However, the use of traditional banking services means high transaction fees and slow processing. The Philippines, which is one of the world’s top remittance markets, already has solutions like Coins.ph that use crypto and blockchain technology that allow individuals to send money home with lower fees.
Figure 5: Remittance Market is Annually Increasing
Source: World Bank, CryptoResearch.Report
Many remittances are being conducted via Bitcoin ATMs that have remittance features enabled. This feature allows an individual to put British pounds into an ATM in London and to receive a code. They can send that code to a relative or friend in New York. Their friend can go to a Bitcoin ATM in New York and put the code in and then receive US dollars. This feature is currently working for over 100 countries and 35 different currencies.
Figure 6: The Number of Bitcoin ATMs Installed Across the Globe
Source: Coinatmradar.com, CryptoResearch.Report
Statistical data on the number of Bitcoin ATMs globally reveals a consistent rise over the years. In January 2016, Coinatmradar shows that there were only 501 of them worldwide but by January 2017, the number had grown to 965. In January 2018, they had more than doubled to 2,073, almost doubling again by January 2019 to 4,112. However, the average Bitcoin ATM fee is 10 %. There are 84 Bitcoin ATMs in Switzerland, 296 in DACH, not including SBB and kiosk ATMs.
Figure 7: Average Fee on Bitcoin ATMs is 10%.
Source: Coinatmradar.com, CryptoResearch.Report
Tax Evasion
The original ethos of crypto was libertarian, and that attitude still prevails in the industry. It’s no surprise that some cryptocurrency users aren’t fully reporting their gains, and that some tax evaders adopt cryptocurrencies for this purpose. Each country has a unique level of tax evasion, and that level is dynamic over time and depending on variables such as tax rates, public debt amount, history of nationalization of industries, culture, etc. Cryptocurrencies offer tax evaders a new way to hide assets, and they will be used in this way. Even if KYC/ AML is implemented on every exchange via the Travel Rule, money can still be laundered and hidden with cryptocurrencies by mining newly minted coins. One way to ensure access to untracked or “dirty” Bitcoin and other cryptocurrencies is to become a cryptocurrency miner. Cryptocurrency miners can simply buy graphics cards and electricity and turn this into untracked assets. There is evidence that miners in Asia are entering the mining industry in order to get capital out of China and India without tax authorities knowing. Another way is to buy coins with cash; however, the war on cash (demonetization of large denominations) and inflation has reduced the ability to transact with large quantities of cash. Therefore, a large portion of tax evasion and money laundering in this space will focus on mining. This is a form of tax evasion for high net worth individuals (HNWI) and corporations.
Figure 8: Size of the Untaxed “Shadow” Economy in Selected Countries 2010, as a Share of GDP
Due to the difficulty of estimating the amount of tax evasion globally, and the difficulty in forecasting this variable into the future, this paper uses the S&P 500 growth rate and assumes the percentage of tax evasion in the economy is constant over time. This paper estimates the tax evasion market to be $600 billion based on estimates provided by the United Nations University. Tax evasion by institutions and HNWIs will be more likely to target privacy coins and low-volatility coins such as stablecoins and Bitcoin rather than physical fiat cash because of the sums involved. However, this is also a large portion of tax evasion through “black economies” where lower and middle classes don’t report earnings. Physical fiat cash may be better for black market tax evasion by middle class and lower-class workers because there is no record and there is limited volatility. However, black markets in countries where this is heavy inflation in the domestic currency are more likely to switch to cryptoassets.
In this regard, the closest proxy which we can come for this in the crypto world are privacy coins. It stands to reason that anyone using crypto for tax evasion would focus primarily on fully untraceable coins. Looking at the two biggest ones, Monero and Dash have a combined market cap of $1.8 billion. Even if all of them are used solely for this purpose, this still gives us a penetration of less than 0.3 %.
Smaller Target Markets and Use Cases
Micropayments and Unbanked
Cryptocurrencies that are stable and have low transaction fees are well-suited for micropayments because they eliminate the inconvenience and security risk of submitting credit card data for every minor transaction (Spilka, 2018). In certain cases, merchants have been put off by the high fees associated with low-cost transactions on traditional systems. With lower fees, higher security and fast transaction processing, more businesses could adopt micro-transactions using crypto (Spilka, 2018). This could enable new business models such as a browser that pays online news websites to block advertisements. According to Business Insider, micropayments help solve a problem for online content providers, such as digital music and app purchases.
Close to 2 billion people remain unbanked globally, a third of whom live in Sub-Saharan Africa (Bank4YOU, 2018). In some of the countries within this region, smartphone proliferation is quite high (“Banking is Only the Beginning,” 2018). With an internet connection, they can access crypto services and get funding and remittance services among other opportunities with ease.
ICO and STO Funding and Crypto Trading
Ethereum has led to the rise of an alternative fund-raising model. Though these are often associated with fraud and poor investor protection, they have created new capital flow pathways with broader investor access. Creating digital representations of assets can reduce the costs and level of friction associated with management, transfer and issuance of traditional assets. They have therefore helped to enhance liquidity and transparency in the life cycle of such assets (Nagaraj, Hunter & Captain, 2018). These practical applications of the technology are highly likely to remain relevant and foster adoption.
ICO funding has also fostered the adoption of crypto in spite of the bad press that has resulted from scams in the sector. By lowering the entry barrier to obtain funding for and making investments in start-ups, start-ups are now able to bypass early seed investment or use crowdfunding in addition to early seed investment (Davis, 2018). Interestingly, ICOs have not eliminated traditional venture capital but has made them adapt and evolve (Town, 2018). Start-ups raised $ 5.5 billion worldwide in 2017 by issuing tokens in the framework of ICOs – and this year the total amount has already swelled to $ 14.3 billion.
It goes without saying that crypto has already a full penetration of this market, as token sales which accept only fiat currencies are practically non-existent.
Gambling and Gaming
In addition to online e-commerce, online gambling is also an important market for cryptocurrencies. In a few short years, Ethereum has become home to over 400 decentralized gambling applications, with gameplay ranging from traditional casino slots to gamified options trading and prediction markets. There are several online casinos, which offer payment in cryptocurrencies. Casinoanbieter.com states that their clients’ demand for crypto gambling is increasing.
Figure 9: Top 10 Decentralized Gambling Applications Have Over $1 Million in Total Daily Volume
Source: DappRadar, CryptoResearch.Report
Though the online gambling industry has been on an uptrend (“Banking is only the beginning,” 2018), its core issues related to transparency have yet to find solutions. The use of crypto has however made it possible to reestablish trust, transparency and fairness. It curbs the vice of record manipulation, ruling out the “house always wins” mantra.
The global gaming industry which is expected to grow to $143 billion by 2020 (Wolfson, 2018) is yet another ripe market for virtual currency adoption. Virtual money is in fact not new to the sector since digital gold has for over a decade been used for in-game purchases. With the advent of crypto, however, players can now trade virtual gaming items more easily with each other (Wolfson, 2018). It has also solved the problem of in-game asset ownership through tokenization. Under this model, gamers will retain ownership of their acquired assets within a digital wallet till they decide to trade or sell them.
According to the following report22, the crypto-specific gambling scene sees volumes close to $2.5 billion annually on its top gambling apps. Compared to an estimated $59 billion for the industry as a whole, this makes it one of the most penetrated markets by crypto at 4.2%.
Now that we have taken a close look at the target markets, we must include potential growth in the analysis. There are various approaches to this, which define an area with positive and negative upper and lower limits. In addition, the relationship between the cryptocurrencies is characterized by considerable uncertainty, which means that not every single coin has to experience the same growth effect. These factors will be the subject of next week’s article.
In last weeks article we took a first look at the absolute valuation approach for crypto assets. The core question is whether a high off-chain speed endangers the stability of the market, as claimed by Vitalik Buterin, for example. In order to get closer to an answer, we will explore the topic by taking a closer look at the central concepts of money supply, velocity and the addressable target market.
Monetary Supply
The (M) in MV = PQ is measured by the supply in circulation of a crypto asset. (M) is the monetary base necessary to support an economy. The supply of some cryptocurrencies is easy to estimate if their supply follows predetermined processes (Bitcoin and Poisson, etc.). Supply is coming from two main areas: new coins released into circulation either through mining, staking, or reserve sales and coins being sold on the market from wallets. The goal of “M” is to estimate the amount of coins that are in each year’s circulation and will be available on the market. Often referred to as the float. The float is comprised of two parts: flow and stock. The flow is the amount of the cryptoasset that will be issued each year, and the stock is how much has already been issued.
This report assumes a stable supply of each cryptoasset for each year and forecasts the supply over the decade based on each cryptoasset’s programmed supply schedule in its protocol. However, a more in-depth analysis would try to forecast future circulating supply by calculating the float or circulating supply of each cryptocurrency. To calculate the float, “hodled” assets or assets that are hoarded must be subtracted. For example, if 100 million coins are issued and 60 % are hoarded in wallets that never move, M is equal to 40 million coins. This applied to Coinbase users who purchased Bitcoin in 2016. 57 % of Coinbase users held their bitcoin in 2016 as a store of value and speculative asset instead of using it as a medium of exchange.
Velocity
(V) is the velocity of each unit of money in the monetary base. If Alice passes a bitcoin to Bob once a year, that’s an annual velocity of 1. If Bob passes on that same bitcoin to Eve, that’s an annual velocity of 2. The value of a coin is inversely proportional to the total discounted supply and inversely proportional to velocity. Thus, a currency which increases its velocity will lose value with respect to any other currency whose velocity doesn’t increase that much.
Velocity is a key variable where many reports diverge. Vision &’s estimate of velocity was 10. To put this into perspective, the US M1 money supply has a velocity of approximately 5. What pulls down velocity is friction. Since cryptoassets are natively digital, their friction will be lower than physical cash, which will place an upward pressure on velocity compared to physical currencies. On the other hand, physical fiat currencies have high inflation rates, which promote high velocity. Cryptocurrencies with low inflation rates and purchasing power appreciation will have a downward pressure on velocity.
This report assumes a stable velocity of each coin over the next decade. The velocity figure is calculated based on the 2019 on-chain velocity of each coin. Velocity is calculated by dividing the annual trading volume in dollars by the network’s on chain transaction volume and then taking an annual average for 2019. A more in-depth analysis would try to forecast the average amount of hoarded assets each coin will have each year. Hoarded cryptoassets pull down each coin’s average yearly velocity because they have a velocity of zero. As previously mentioned, the 57% of Coinbase users who held their Bitcoin in 2016 had a velocity of zero. Coins that incorporate staking such as Dash also need to have their velocity adjusted because staked coins have a velocity of zero.
Target Addressable Market
(P) is the average price of goods in the economy. With regards to currency, utility, and stable coins, the price is the cost of the good or service being provisioned.
(Q) is the quantity of goods in the economy.
The total global demand for cryptoassets, (PQ), is calculated by determining the size of each target addressable market (TAM) for each coin for each year and what percentage of the TAM will be penetrated by the coin each year.
However, not all use cases can be served by all coins. So, first we have to distinguish between four types of coins:
A store of value coin is defined as a distributed ledger technology that can be used to securely store value over time. Currency coins often don’t have Turing-complete protocols that enable sophisticated smart contracts on the first layer of their distributed network. This include first generation cryptocurrencies, such as Bitcoin, Litecoin, and Bitcoin Cash.
Utility coins and tokens that enable smart contracts are considered second generation cryptocurrencies. Smart contracts are automated contractual agreements that are stored by a group of different computers controlled by often conflicting parties and strangers. This group includes coins such as Ethereum, EOS, and Stellar.
The third generation of cryptocurrencies are stablecoins. Stablecoins are normally ERC-20 tokens built on top of Ethereum’s blockchain that maintain relatively stable purchasing power over time in terms of real goods and services in the economy. Stablecoins include Tether, USDC, and also stablecoins issued on public and permissionless distributed network like MakerDao Sai.
Privacy coins are an offshoot of the first-generation cryptocurrencies. They are often volatile in price and have additional features that obfuscate information about each transaction including the wallet addresses of the sender and receiver and the transaction amount. This includes coins such as Dash, Monero, Zcash, Beam, Grin, and MimbleWimbleCoin.
Once we know which coins are demanded for which use cases, we need to calculate the demand for each use case. The values for each target market can be additive or cannibalistic; meaning there can be either dual demands on a single supply or the demands are mutually exclusive and should not be added. Table 2 presents the assumed TAMs for cryptocurrencies including remittance, tax evasion, offshore accounts, store of value, online transactions, micropayments, STO and ICO funding, crypto trading, gaming, online gambling, unbanked, consumer loans, unit of account and medium of exchange, and reserve currency.
To project the TAM of future years, a reasonable assumption about the growth of this market going forward is required. This paper assumes a compound annual growth rate for each TAM. Some of the categories listed above lack reliable CAGR data. For those, we have assumed an estimate based on the CAGR of the S&P 500 index over the period from 2000 to 2018 because a reasonable assumption of the growth rate could be the long-term growth of the world economy. Furthermore, we believe that some of the CAGR values for the other categories might be inflated due to the long bull run over the last 10 years. A well overdue market correction is likely to drive them down at least by 20–30 %. The Corona virus’ V-shaped recovery is obviously sustained by devaluing fiat currencies, which itself isn’t sustainable. Therefore, the market capitalization for each TAM is most likely an upper bound.
(PQ) is normally measured as gross domestic product (GDP) in traditional economic models. However, speculation on financial assets is normally left out of GDP metrics. Foreign exchange volume isn’t included in GDP for example. Estimates that approximately 30 % of a cryptoasset’s on-chain transaction volume comes from investor speculation as they transfer cryptocurrencies between exchanges. Therefore, calculating PxQ by on-chain transaction volume is a noisy signal. Also, forecasting PxQ in the future by transaction volume today has a large estimation error. Instead, focusing on the target addressable markets and the growth in those markets is a better estimate.
Given the wide variety of TAMs listed in this table, a detailed look at individual, particularly important, use cases seems necessary. We will therefore continue at this point in the next week. We will take a look at offshore accounts, reserve currencies and store of value, among other things, in order to create a comprehensive picture of the usability of cryptocurrencies, which is so important for their stability.
Trading Bitcoin and other crypto assets off the network has never been as fast as it is today. Within the traditional financial sector, a willingness to sell a currency swiftly is seen as a bad sign for its stability. Whether this concept can be applied 1:1 to the crypto-market, however, will require detailed investigation.
One of the most common ways to estimate the price of a cryptocurrency is with the “equation of exchange”. This model comes from the 20th century economist Irving Fisher. One of the main insights of this model is that the more often a currency changes hands, the less value the currency has. Money changes hands more frequently when people believe the money will lose value. For example, if there is high inflation, people will hold on to the money for the shortest amount of time possible before tossing the hot potato to someone else.
For the past few years, Bitcoin’s off-chain velocity has been increasing. But what does this mean? Vitalik Buterin famously applied this model to crypto assets in 2017 in order to argue that coins need velocity sinks that encourage hoarding. Partner of Multicoin Capital, Kyle Samani, wrote an article in agreement with Vitalk’s understanding of velocity. He wrote,
“As I noted in Understanding Token Velocity, the V in the equation of exchange is a huge problem for basically all proprietary payment currencies. Proprietary payment currencies are, generally speaking, susceptible to the velocity problem, which will exert perpetual downwards price pressure. Due to this effect, I expect to see utility tokens that are just proprietary payment currencies exceed a velocity of 100. Velocities of 1,000 are even possible.”
However, Scott Locklin, an engineer for Brave Attention Token explains in a recent papr that both Buterin and Samani are wrong. This article models Bitcoin’s price with the equation of exchange model and discusses why the relationship may not be as straight-forward as Buterin and Samani surmised.
Introduction to the Equation of Model
Each distributed ledger network offers a specific range of abilities to their cryptocurrency users. The fundamental value of a coin can be defined as the aggregate summation of each individual user’s valuation of the network. The short-term prices of cryptocurrencies are determined by supply and demand and may not reflect their fundamental values. However, price can be a noisy signal of a cryptocurrency’s fundamental value over the long-term. Long-term refers to multiple periods of macroeconomic cycles including expansions and recessions, which the cryptocurrency market has still not completed.
Several papers have used the equation of exchange model to estimate Bitcoin’s price in 5 years, 10 years, and even on longer time horizons. For example, Kraken and the Economist estimate Bitcoin’s price to be $1.91 million by 20221, Satis estimate $96,000 by 20232, and Vision & $65,000 by 2028.3 The main reason each report has different prices is that estimating future demand for Bitcoin and other coins is based on assumptions. The equation of exchange model is an absolute approach to valuing crypto assets. This means that the model gives a target price that crypto assets should be priced at based on assumptions regarding changes in supply and demand.
The equation of exchange model relies on the theory that the value of each cryptocurrency should be directly correlated with the dollar volume of the economy it supports. A cryptoasset economy that has $1,000 in trading volume each year and has 10 coins in circulation will have a fair coin value of $100 if each coin is traded once during that year. The value of each cryptoasset is inversely related to its supply, i. e. the number of coins that are in circulation and its velocity, i. e. the number of times each coin is traded per year. The growth in GDP of each coin or the cryptoasset economy will be determined by product-market fit. The likelihood of future market adoption is what drives speculative today.
The absolute valuation approach is inspired by Mill’s equation of exchange later formulated by Irving Fisher.4 In this model, the percentage of the total addressable market (TAM) can be used to estimate a cryptoasset’s implied future price. The traditional equation, MV = PQ, was first applied to Bitcoin by Chris Burniske in his original 2016 report for Coinbase.5 The equation of exchange, MV = PQ describes the balance between money in the economy and demand for that money for purchases of goods and services. To estimate the size of the economy supported by cryptoassets, the following steps are taken:
The economic size of all relevant use cases for a crypto asset are summed. This is referred to as the target addressable market (TAM). This involves three assumptions:
Which use cases are applicable for cryptocurrencies?
What is the total market capitalization in US dollars of each use case? (PQ)
What is the growth in the total market capitalization in US dollars of each use case over the next decade?
An estimate of the percentage of each target addressable market that is penetrated by cryptoassets over a ten-year horizon is calculated. This involves two assumptions:
How much of each use case will be penetrated by cryptocurrencies?
What is the growth rate of penetration for cryptocurrencies over the next decade? This involves an assumption:
To estimate the growth rate of penetration for cryptocurrencies over the next decade, an assumed adoption rate of cryptocurrencies can follow an S-curve, a linear curve, an exponential curve, a mean-reversion curve, a log curve. This paper assumes an S-curve for all cryptocurrencies.
Each annual addressable market is divided by each coin’s velocity to determine the coin’s market capitalization. This involves three assumptions:
What is the supply (M) of each cryptocurrency over the next decade?
Some cryptocurrencies follow supply schedules, such as Bitcoin that follows a Poisson distribution.
Other coins have supplies that depend on a voting mechanism, such as EOS.
Therefore, the former will have a lower forecast error than the latter. In this analysis, the supply of each cryptocurrency is assumed to be the average size of the crypto asset base through the year, which is necessary due to the inflationary nature of most crypto assets protocols, including Bitcoin.
What is the velocity (V) for each cryptocurrency?
What is the growth in velocity for each cryptocurrency over time?
To determine the price per coin, the total addressable market multiplied by the penetration rate is divided by its circulating supply.
Once the price per coin is forecasted for each year over the next decade, the discount rate must be applied in order to calculate the net present value of the price of each coin for each year. This involves the following assumption:
The discount rate should reflect each coin’s risk and the nominal inflation rate. This report assumes a standard discount rate of 30% for each coin.
We now have to fill these general assumptions with details and numbers so that they can be applied to the current situation. Are the numbers supporting Locklin’s statement or were Buterin and Samani correct after all? Is a high off-chain speed getting in the way of stabilization or not? The follow-up will be released in the coming week.
One of the main criticisms of cryptocurrencies is their volatility, which makes them difficult to use in everyday life. However, fiat currencies such as the Swiss franc suffer from a long-term problem that harms the national economies in various ways and would make the currency non-viable in a free market. This article takes a closer look at the behavior of the Swiss central bank in recent decades in regard to this topic.
Historically, the Swiss franc was a safe haven currency, but not anymore. Now, they are barely better than euros and U.S. dollars. Central banks, including the SNB, are mandated by the laws of their countries to keep the value of their currency “stable”. This is because currencies that are volatile are not good units of account. Countries that rely on unstable currencies have lower economic growth, and eventually, companies and individuals switch to other currencies, because people lose trust in the currency.
A financial crisis of trust or confidence occurs when people lose trust in a currency’s purchasing power. When people stop demanding a currency and switch to another currency, the currency’s purchasing power depreciates. If central banks continue to print during this time, a hyperinflation can occur.
As Philipp Bagus and David Howden pointed out in the paper, “Central Bank Balance Sheet Analysis”, the two main factors that contribute to people’s perceptions of a currency’s purchasing power are the quantity and quality of the reserves backing the asset. Like any bank, the SNB has a balance sheet. The SNB balance sheet has two sides: assets and liabilities.
Assets are what the SNB buys including foreign currency and gold for its reserves, and the debt of commercial and state-owned banks.
Liabilities are what the SNB uses to pay for the assets including notes and coins in circulation that it can “issue” or “print”, money that commercial and state-owned banks are required to keep on deposits at the central bank, money that government entities hold at the central bank, money that international organizations like the IMF hold there, debt obligations like certificates of deposits and so forth.
The stability of the currency is measured by domestic price inflation. A national currency is considered stable when there is less than 2% inflation per year. However, real stability is when and the real price (not nominal) of goods and services is stable over time. A national currency is considered unstable when the real price of goods and services is always changing. Another indicator of currency stability is its exchange rate against a major currency, for example, the US dollar or Euro. However, this indicator is not trustworthy when there is not a free market in central banking. Central banks around the world have been heavily devaluing their currencies in unison for the past fifty years. Therefore, exchange rates have been substantially more stable than they would have been otherwise despite enormous increases in the costs of goods and services in real terms. In 2000, the high of the USD and CHF exchange rate was at 1.8 CHF per USD. The dollar lost almost half of its value against the Swiss Franc in the past twenty years.
If the central bank buys securities from UBS, they create money out of thin air and credit UBS account that is held at the central bank. The newly created money shows up as a liability on the SNB’s balance sheet and it is offset with the securities they purchased from UBS.
If the central bank deposits low quality assets as backing for the newly issued money, then traders expect that currency’s exchange rate will decrease. This means that that the currency will depreciate or trade at a discount to other currencies with better quality reserves.
Every year, the SNB publishes its annual report in which it discloses its assets and liabilities. The SNB balance sheet for the last 13 years – compiled from its annual reports and scaled by the country’s nominal GDP as calculated by the Swiss Federal Statistical Office – is summarized in the chart below. For illustrative purposes, assets are presented as positive numbers (a “purchase”) and liabilities as negative numbers (a “payment”).
Figure 1: SNB Assets and Liabilities as a Percentage of Swiss GDP (2007 – 2019)
From the chart, we can see that the assets and liabilities of the SNB expanded in response to the crisis beyond Switzerland’s annual GDP. Prior to the crisis, the SNB’s balance sheet was the same size as 20% of Switzerland’s annual production. The balance sheet has swelled by a multiple of six and is now greater that Switzerland’s total annual production. Although the balance sheet’s assets have increased, looks can be deceiving. The quality of the assets on the balance sheet have decreased. Instead of relying on AAA-rated bonds, the central bank has increasingly purchased risky AA-rated bonds, A-rated bonds, and overpriced equities.
Figure 2: SNB Assets and Liabilities as a Percentage of Swiss GDP (2007 – 2019)
Source: SNB, CryptoResearch.Report
Although a central bank is mandated to keep inflation low and steady, the central bank is also supposed to support economic growth. Although, central banks are supposedly independent from politicians, they often succumb to political pressure to inject money into the economy in order to keep people optimistic and happy with the politicians in office. As Former Chief Economist of the U.S. Commodities Futures Trading Commission so succinctly puts it, central banks are tasked with squaring a circle,
“On the one hand, a central bank needs to create more money, channel it to the commercial banks, and “encourage” the banks to lend it to companies. But companies need to earn enough to pay interest and taxes, so they have to raise prices at least somewhat, which will show up as inflation and make the central bank reduce the amount of money that goes to the banks and so on.”1
Figure 3: Growth of SNB Foreign Currency Investments 2010 through 2019
Source: SNB, RealUnit AG Schweiz
The SNB’s balance sheet consists of currencies that are issued by highly indebted countries that are systematically losing value each year due to inflation, and the SNB has been heavily printing money since the 2008 banking crisis in order to keep the economy humming along. However, this is not sustainable. The stock, debt, and housing markets have absorbed large portions of the newly printed cash increasing the inequality gap between capital holders and non-capital laborers.
The problems that the Swiss franc is facing are not a peculiarity of the franc, but something that can be observed with all other major national currencies. It can therefore be said that although the Swiss franc would probably not survive in a free market, he wouldn’t be alone in this.
On June 23th, the newest edition of the quarterly “Crypto Research Report” was published. Endorsed by Bitpanda and Coinfinity, the tenth report includes an in-depth analysis of Irving Fisher’s Equation of Exchange model, Tether’s risk to Bitcoin’s price, and an Exclusive interview with the team behind MimbleWimbleCoin. Since the last edition of the Crypto Research Report published on February 10th, Gold is up 10.6% and Bitcoin is down 5.91%.
The Crypto Research Report can be downloaded from the following links:
In three chapters and more than 60 pages, the authors provide a critical and academic perspective on the legal, technical, and economic aspects of cryptoassets. Key topics covered in the report:
• Modeling Bitcoin’s Price with the Equation of Exchange. The target addressable market for crypto assets is approximately $212 trillion. The largest use cases include medium of exchange, which includes all global fiat currencies worth $126 trillion, and consumer loans with a global value of $42 trillion. If Bitcoin penetrated 10% of this market over the next ten years, each Bitcoin would be worth $397,000 by the end of 2030. • Is Tether a Catastrophic Risk for Bitcoin? This guest article by Schlossberg&Co’s Pascal Hügli investigates if Tether is really being used to manipulate the price of Bitcoin or not. Since the beginning of this year, $5 billion worth of Tether USDT has been issued. If the new Tether is not fully backed, and if Tether eventually collapses, this will most likely bring down at least one exchange and wreak havoc on the price of Bitcoin. • Exclusive Interview with the Team behind MimbleWimbleCoin. MimbleWimbleCoin is a new privacy-based coin that was airdropped to Bitcoin holders for free in December. Since December, the price has soared 6000%, and the authors argue that their token economics are superior to the privacy coin Grin, and that they are more scalable than Monero.
Figure 1: Federal Reserve Assets Almost Double and Dollar Index Stays Flat
Source: St. Louis Federal Reserve FRED, Yahoo Finance, CryptoResearch.Report
For the first time in Bitcoin’s young life, the global economy briefly plunged into recession. Covid-19 resulted in 40 million Americans unemployed representing an unemployment rate of 15%. In Austria, there are 571,477 unemployed (12%). In Germany, 2.639 million (5.8%).
Despite having an entire quarter’s GDP erased from 2020, hedge fund managers are all singing the slogan, “All Time High by the Fourth of July”. What this slogan means is that the S&P 500 is expected to hit a new all-time high by July. Although, this sounds unbelievable, central banks around the world have the power to make this happen, and so far, they seem to be doing everything they can to weaken their currencies and artificially prop up asset prices.
Despite unprecedented quantitative easing, trillions of short-term credits to the repurchase agreement market, and lowering interest rates to zero, the US dollar index (DXY) barely moved. This means that the dollar can take a lot more abuse from the printing machines before it starts to devalue against other fiat currencies. Also, the 5-year forward inflation expectation for the US dollar is sitting at a low 1.43%.
Traditional markets are no longer reflecting the state of the economy. Instead, they are reflecting the central bank’s effort to keep the pension system alive and to get Trump reelected. Unfortunately, there is no turning back now. Every hiccup in the economy needs to be met with even greater inflation, leading to an even wider gap between reality and finance.
And where was Bitcoin during all of this? From $3,600 in March to $10,000 in May and then back down again to $9K, the ride on the Bitcoin rollercoaster has made some nauseous and some rich. Many cryptocurrency companies are in dire shape due to the shut-down and lack of customers, but Bitcoin hodlers just keep holding on in hopes of a post-halvening bull market. So far, the halvening has been a non-event. Bitcoiners around the world joined in on Zoom webinars to celebrate Bitcoin’s special day, but the Bitcoin price hardly budged. The uncertainty surrounding the economy has definitely put a damper on the crypto market. However, there is still hope yet. As governments around the world wage currency wars to protect their export markets and inflate away their burdensome debt, some households may turn to Plan B.
We are happy to announce that the Crypto Research Report has struck a strategic partnership with CoinTelegraph, the largest crypto news company in the world. The September edition of the Crypto Research Report will be distributed by CoinTelegraph on their website, which gets 6 million views a month. The goal of the joint effort is to publish the results of a landmark study on institutional demand for crypto assets in the German-speaking countries. This study is being conducted by Professor Dr. Philipp Sandner from the Frankfurt School of Finance and Management, Professor Dr. Alfred Taudes from the Vienna University of Economics and Business (WU), and the editor of the Crypto Research Report, Demelza Hays.
This edition of the Crypto Research Report is especially thankful to the Crypto Research Report’s Premium Partners, Coinfinity in Graz and Bitpanda Pro. Coinfinity is a broker in Austria that is famous for creating an easy to use Bitcoin cold wallet called The Card Wallet. Coinfinity also enabled Bitcoin purchases at 4.000 retail outlets across Austria via the Bitcoinbon program. In addition to Coinfinity, we are exuberant that Bitpanda has joined as a Premium Partner of the Crypto Research Report! Bitpanda is a fully licensed exchange based in Austria. They have recently added Bitpanda Pro, which offers more liquidity and lower fees. We are personally excited about Bitpanda Metals, which allows investors to diversify their portfolio with physically backed and 100% insured precious metals.
Bitcoin, the most valuable and widely-used cryptocurrency, has catalyzed an explosion of innovation, disrupting a broad spectrum of markets across hundreds of different industries around the world. The king of crypto, however is not without flaws — issues that many alternative cryptocurrencies attempt to address, the most visible of which is Bitcoin Cash.
What is the difference between Bitcoin and Bitcoin Cash, though, and why does it matter?
In this post, We’ll break down the fundamental differences between BTC and BCH.
How Bitcoin Works
In order to understand the difference between Bitcoin and Bitcoin Cash, it’s necessary to first develop an understanding of Bitcoin and how it works.
The release of the Bitcoin white paper on 31 October 2008 by Satoshi Nakamoto was a game-changer for the world of digital currency. The idea of digital currencies can be traced back to as early as David Chaum’s ideation of “eCash” in 1983, which was first implemented in 1995 as “Digicash.” Several other digital currencies were launched before the release of Nakamoto’s white paper, but all of them suffered from the same problem — double spending.
The Double Spend Problem
The “double spend problem” relates to the digital nature of digital currencies — at a fundamental level, these currencies are just digital files. In order to ensure a digital currency has value, the system upon which it operates must ensure that the files that the currencies consist of cannot be copied in the same way a regular file on any given computer can be copied.
The solution to the double spend problem was first published by Nakamoto in the “Bitcoin: A Peer-to-Peer Electronic Cash System” white paper. The Bitcoin system uses a distributed encrypted ledger spread across all network participants, leveraging a Proof of Work system first ideated in 1999 by Markus Jakobsson and Ari Juels.
Nakamoto’s’ solution to the double spend problem draws from previous digital currency research much in the same way that Albert Einstein drew upon the works of Lorentz and Poincaré in the composition of his theories of special relativity and general relativity, but is the first solution to wholly solve the double spend problem.
The Importance of Blocks
A key feature of Satoshi Nakamoto’s Bitcoin solution is the implementation of the blockchain — the Bitcoin network uses Proof of Work to keep network participants honest, and writes transactions to an ongoing chain of encrypted blocks. These blocks ensure that the ledger which keeps track of all balances cannot be changed retroactively — transactions from a given period are encoded into an immutable block, with the encryption process incorporating the output of the previous block in order to make retroactive artificial block creation functionally impossible.
This architecture solves the double spending problem, but presents an important question, one that catalyzed the creation of Bitcoin Cash — how big should blocks be?
The Block Size Debate
Each transaction that occurs on the Bitcoin network takes up a specific amount of size. Depending on the complexity of the transaction, the size of an individual Bitcoin transaction can typically range between 250 and 600 bytes of data.
In the early days before the launch of the Bitcoin network, there was no limit to the size of a block. In 2010, however, Nakamoto — who was still actively interacting with the Bitcoin community and publicly contributing to Bitcoin code — implemented a 1 MB block size restriction, hardcoding it into the architecture of the Bitcoin network.
This hardcoded limit was implemented for a number of reasons. Early Bitcoin developers cited the unforeseen development of pool mining, the creation of dedicated mining hardware, and an evolving fee market as reasons for the implementation. Satoshi, apparently realizing that there would need to be a maximum block size in order to prevent the creation of blocks larger than miners would accept, implemented the 1 MB Bitcoin block size limit in late 2010.
The Impact of Block Size Limits
The Bitcoin network collects transactions into batches that are encrypted into blocks every ten minutes. Limiting block size therefore limits the total amount of transactions that can be processed in that time period — at an average of roughly 500 bytes per transaction, the Bitcoin network can process a little over 2,000 transactions per block.
This restriction limits the Bitcoin network to a transaction throughput speed of around 7 transactions per second, which is not sufficient for large scale payment networks — the VISA network, for example, is capable of processing 24,000 transactions per second.
With Bitcoin increasing in popularity and value, the impact of block size restrictions on transaction throughput sparked a debate in the cryptocurrency community, with many community members calling for an increase in block size limits in order to expand the transaction throughput capacity of the network.
The core problem with block size expansion highlighted by opponents of the size increase is the inflation of block size — the larger the block, the more complex the process of encryption is, eliminating smaller network participants with access to fewer resources from participation. A Bitcoin network with a larger block size could potentially lead to the centralization of computing power directed at maintaining the Bitcoin network, which is antithetical to the core decentralization ethos of the Bitcoin project.
The Origin of Bitcoin Cash
Bitcoin Cash was created as a direct solution to the issues created by block size restrictions. Removing the block size limit, however, required a “fork” in the Bitcoin blockchain — creating a new, altered implementation of the Bitcoin code that would create a new blockchain.
On August 1st, 2017, block size increase proponents forked the Bitcoin blockchain to create Bitcoin Cash, a new implementation of Bitcoin code that increased the block size limit to 8 MB. This new block size allowed for far more efficient transaction throughput, and created a new chain that provided everybody with Bitcoin in their Bitcoin wallets at block 478558 with an equivalent amount of Bitcoin Cash on the new Bitcoin Cash blockchain — free money!
Bitcoin & Bitcoin Cash Compared
Bitcoin and Bitcoin Cash have divided the cryptocurrency community, with proponents of each arguing for the supremacy of their chosen side. Here are the basic differences between the two:
Transaction Speed:
Bitcoin: As of Q3 2018, the speed at which the Bitcoin network is able to process transactions ranges between 10 and 20 minutes, with occasional spikes in network traffic causing transaction confirmation times to surge beyond one hour.
While second-layer scaling solutions such as the Lightning Network promise to reduce transaction confirmation times to less than one minute, Bitcoin transactions are still not fast enough to facilitate instant purchases.
Bitcoin Cash: The relatively small load on the Bitcoin Cash network compared to the Bitcoin Network, roughly 10% in size, currently allows the Bitcoin Cash network to confirm transactions at a far higher rate. Bitcoin Cash transactions are typically confirmed within ten minutes, but are often almost instantaneous.
Centralization
Centralization is a key issue in the BTC vs BCH debate. The development of dedicated mining hardware and the forming of mining pools, in which miners rent hardware located on massive server farms, has led to the centralization of both Bitcoin and Bitcoin cash.
Bitcoin: Mining pool juggernaut Bitmain currently operates a large portion of the hardware dedicated toward Bitcoin hash power. Data from Blockchain.com demonstrates that BTC.com and Antpool, both operated by Bitmain, contribute roughly 32% of all Bitcoin hashpower.
Bitcoin Cash: Data published in July 2018 demonstrates that almost 50% of all Bitcoin Cash hashpower is located on server farms operated by Alibaba and Amazon. More recent data shows a split between CoinGeek at 25%, BTC.top at 14%, and BMG Pool at 14% as the largest players in the Bitcoin Cash mining industry.
While both networks are actively mined by different mining pools, the hardware that is performing the mining is largely centralized in server farms, presenting centralization concerns for both Bitcoin Cash and Bitcoin.
Bitcoin Vs Bitcoin Cash
Bitcoin Cash and Bitcoin are fundamentally similar, with the only difference consisting of block size. While the Bitcoin Cash block size increase does solve the transaction throughput issue for the short and medium term, it’s entirely possible that block size would need to be increased again, further reinforcing network centralization.
Bitcoin’s centralization solutions such as the Lightning Network, however, have also demonstrated their own centralization concerns.
Ultimately, there is plenty of room for both cryptocurrencies, and both have something unique to bring to the cryptocurrency ecosystem.
About the Author
This is a guest post submission written by Kieran Smith. Kieran Smith provides content strategy and copywriting services for cryptocurrency companies at Bitcopy.
The market sentiment in the crypto markets since the halving can be described as cautiouslyoptimistic. So far the event itself has had little impact on the price but this impact is still anticipatedby many. In this situation it is worth considering the question of when and in what form we can expect to see these effects taking place. A look at the history of Bitcoin is certainly important.
Every four years, Bitcoin’s number of coins released to the network every ten minutes drops in half. There are currently 6.25 Bitcoins released every 10 minutes. This number has dropped from 12.5 with the halving event a few weeks ago. Holding demand constant as we say in economics, and cutting the supply in half, should theoretically increase the price of Bitcoin. But the question is, by how much will the Bitcoin price increase, and have investors already priced this into the market?
A similar reduction in supply applies to Dash. Every 383 days, the amount of new Dash released to the market decreases by 7.14%.
Historically, the price of Bitcoin went up substantially in the year following the halving. For example, Bitcoin had a 5,569% return in 2013 after the 2012 halving. Bitcoin had a 1,334% in 2017 following the 2016 halving. Dash also had its best year in 2017, the year after the second Bitcoin halving. Dash went up + 9,186%.
We are specifically interested in how many weeks it took for Bitcoin to reach its new all-time high after the halving. In recent research by Binance, they show that Bitcoin took over a year to reach its next all time high after the 2012 (52 weeks) and 2016 (75 weeks) halvings.
Overall, we are not convinced that the halving has been priced in yet for Bitcoin. Bitcoin’s return for the year is 25% while Dash is up 75%.
Answering the question of how long this process could take this time is particularly difficult. It is also not clear, how much altcoins will follow the lead of Bitcoin but if the future is anything like the past, we could be looking at over one year before the reduction in supply is fully priced into Bitcoin’s price.
Several weeks have passed since the Bitcoin Halvening. Weeks in which large parts of the market have been relatively quiet. Hardly any major cryptocurrency today differs from its position on May 9th, two days before the halving. Compared to mid-February and mid-March, however, a clear difference can be seen in the performance of individual projects during the Corona crisis. This article attempts to get to the bottom of this phenomenon and to draw parallels to the halving of 2016.
In an economic expansion, small firms tend to have better returns than large firms. In an economic recession, the reverse tends to be true: large firms tend to outperform small firms. This is because in an expansion, fiat inflation pushes investors into increasingly risky investments, but during a downturn, investors seek conservative safe havens to store their wealth.
For example, the small-cap Russell 2000 index dropped 38.6% between February 19th and March 17th, when the S&P 500 large-cap index was only down 29.5%.
A similar pattern may exist with cryptocurrencies.
When the global economy is in an expansionary period caused by easy credit lending policies, diversification into alt-coins tends to outperform Bitcoin. However, when the global economy is hit hard, Bitcoin tends to outperform a diversified portfolio of alt-coins. For example, trading volumes of the altcoins in the Top 10 on Coinmarketcap.com decreased by 30% between March 6th and April 1st, while Bitcoin’s trading volume didn’t decrease at all.
The market capitalization of the altcoins in the Top 10 on Coinmarketcap.com decreased by 37% between March 6th and April 1st, while Bitcoin’s market capitulation decreased 27%. Unlike Bitcoin’s trading volume, Bitcoin’s market capitalization did drop significantly in response to the Corona Virus. This is because the majority of crypto asset investors only have exposure to Bitcoin and not to altcoins. When an economic recession occurs, altcoin investors may see Bitcoin as a safe haven, but the overall market sees government bonds as a safe haven. Therefore, an economic shock puts selling pressure on Bitcoin as investors go into bonds and large-cap stocks like Facebook, Apple, Netflix, and Google. The buying pressure that altcoin investors have as they flee altcoins and go into Bitcoin dampens the selling pressure that Bitcoin experiences during an economic crisis.
Figure 2: Market Capitalization of Bitcoin vs. Altcoins
Source: Calculation of Top 10 market cap excludes Bitcoin and Tether, Coinmarketcap.com, CryptoResearch.Report
Figure 3: Return of Bitcoin vs. Altcoins During Corona Virus
During the same time, Bitcoin’s price lost 28% while altcoins in the Top 10 lost 38% on average with Tezos and Ethereum being hit the hardest, and XRP being the most stable.
So the big takeaway: During an economic crisis, Bitcoin is expected to out perform altcoins.
Another time when Bitcoin is expected to outperform altcoins is during the Bitcoin Halvening. During the last Bitcoin Halvening on July 9, 2016, Bitcoin’s dominance was 83%. Bitcoin’s dominance did not begin to drop until March of 2017, over half a year later. By January of 2018, Bitcoin’s dominance had reached an all-time low of 32%.
Currently, Bitcoin’s dominance is 65% and shows no signs of weakness. In light of a Bitcoin halvening, many cryptocurrency investors are exchanging altcoins for Bitcoin.
Between the economic shock that caused a flight to safety for altcoin investors and the reduction in Bitcoin’s supply, which will take months to impact the market, there is strong evidence that Bitcoin’s dominance will grow compared to altcoins in the Top 10. The altcoin season is not expected to begin until the global economy has reopened, investor sentiment has increased, and economic uncertainty has decreased.
This can be clearly seen from the fact that, apart from Bitcoin and Ethereum, hardly any cryptocurrency was able to restore its price level of mid-February. Economic uncertainty offers no fertile ground for high-risk speculation. In general, the risk tends to rise with falling market capitalization. Only general economic stability will help the altcoin sector to stabilize.
A recent analysis of PAX Gold (PAXG) and Tether Gold (XAUt), specifically with regards to reporting and transparency on the underlying gold backing their tokens, raised multiple questions due to inconsistencies in the data provided. In both cases there were inconsistencies between the number of tokens issued and the amount of gold backing the tokens in aggregate as well as inconsistencies in allocations to multiple specific addresses according to the data provided by PAX Gold and Tether Gold themselves.
Findings Regarding Tether Gold’s Backing as of Approximately ~14:00 UTC April 19, 2020
1) There were six addresses that did not have the same amount of gold allocated to them on the blockchain as indicated by Tether’s “Gold Allocation Lookup” tool.
2) One address was over-allocated by the same amount another address was under-allocated by, netting each other out. However, the discrepancy on each address was still significant (2.264 troy ounces).
3) Two of the six addresses with discrepancies had no gold allocated to them at all but indicated 1/10th of an ounce (~$170) on the blockchain. This can not be explained by a minimum precision in the system as there were other addresses with lower total XAUt balances with the correct amount of gold allocated both on the blockchain and according to Tether’s “Gold Allocation Lookup” tool (see also Tether’s assertion about precision on their transparency page that physical gold is tracked to 1/1000th of a troy ounce and XAUt tokens are tracked to six decimal points of precision).
4) These discrepancies cannot be explained due to transactions that occurred while completing the analysis because the most recent transaction was almost 24 hours prior. The analysis was performed between ~11:00-14:00 on April 19, 2020 UTC.
6) Tether had 100 bars listed as backing assets ranging in weight between 373.762 to 415.408 troy ounces which is well within the expected weight range for LMBA 400 oz good delivery bars according to LBMA specifications. However, Tether’s “Gold Allocation Lookup” tool does not provide the fineness, gross weight or fine weight of the bars so it was impossible to determine if any given individual bar was over-allocated with respect to its actual weight.
7) The data suggested that Tether Gold does not partially tokenize any individual bar as evidenced by the fact that the allocation of every bar fell well within the expected weight range for LBMA 400 oz good delivery bars although this is impossible to verify without additional information.
8) Tether’s transparency page did not shed any light on any of the discrepancies at the time of the analysis.
9) Tether’s transparency report showed more physical gold backing Tether Gold than could be verified with their “Gold Allocation Lookup” tool. The transparency report and blockchain both indicated 40,128.674 ounces vs. 40,094.657 ounces reported by the lookup tool.
10) The data presented above raises the question as to whether or not Tether Gold is in fact tracking the underlying gold to 1/1000th of an ounce precision as stated on their transparency page.
11) Tether’s “Gold Allocation Lookup” tool fails to provide bar photos, bar gross weight, bar fine weight, bar purity, bar refiner/brand or bar location (see the difference as compared PAX Gold below). PAX Gold also provides a time stamp on their allocation reports while Tether Gold does not.
While there could be any number of potential explanations for the discrepancies, such as the “amount is not statistically significant” (0.085% of the total), there should be no discrepancy greater than the three decimal points of precision Tether Gold itself says their underlying gold is tracked to and this was not the case.
Findings Regarding PAX Gold’s Backing as of Approximately 15:30 UTC April 30, 2020
1) PAX Gold’s single largest holder is 0x5195427ca88df768c298721da791b93ad11eca65 which at the time of analysis on held just under 63% of the total PAX Gold supply (16,051.0676 tokens, over $27 million USD) but PAX Gold’s “Gold Allocation Lookup”toolindicates 0 ounces of physical gold backing the tokens stored on this address. This discrepancy has appeared consistently for more than two weeks.
2) As of the time of analysis, PAX Gold had issued 25,497.096 PAXG tokens, but only reported holding 9,616.175 troy ounces of gold bars (gross weight) through their “Gold Allocation Lookup” tool and only 9,446.024 troy ounces of those bars were allocated to Ethereum addresses holding PAX Gold tokens.
3) The data suggested six bars may have been over-allocated as compared to both their gross and fine weights.
4) The data suggested that five bars may have had allocations that exceeded the maximum weight of the LBMA good delivery bar specification which is 350 – 430 troy ounces in gross weight. The five over-allocated bars ranged from 463.88 to 652.65 troy ounces in allocation.
5) These discrepancies are far too big to be considered rounding errors and are significantly greater than the discrepancies found in Tether Gold despite the fact that PAX Gold is licensed and regulated.
7) Any potential claim that 0x5195427ca88df768c298721da791b93ad11eca65 is an “unbacked treasury address” (or similar) is not consistent with data reported on CoinMarketCap.com which indicates that PAX Gold has a supply of 25,497 tokens in circulation with a market cap of over $43 million USD.
Conclusion
The “Gold Allocation Lookup” tools provided by both PAX Gold and Tether Gold fail to provide critical details regarding the underlying gold and both show less underlying gold than tokens issued.
Caveat to these findings: Due to the fact that PAX Gold has far more frequent on-chain transaction activity and there are far more addresses holding PAX Gold than Tether Gold, some of the discrepancies outlined above may be due to timing. This data has not yet been analyzed with a full archive Ethereum node to mitigate any potential timing discrepancies. However, the discrepancies are too large and too frequent to be explained entirely by timing alone. Timing also could not explain the lack of any physical gold allocation to 0x5195427ca88df768c298721da791b93ad11eca65.
Disclaimer: The findings above are based solely upon the publicly available data provided by Tether Gold and PAX Gold and the Ethereum blockchain and do not necessarily correspond to the actual physical gold holdings of either entity.
Author Bio: Brian Hankey is an entrepreneur and Co-founder of CACHE. CACHE is a provider of transparent, regulated, redeemable gold-backed tokens with GramChain physical asset tracking.
Listen Now to our exclusive interview with Jonas Gross and Manuel Klein who recently co-authored an article discussing what central banks are going to issue new digital currencies, and which ones actually use blockchain technology.
In this podcast, we discuss how most of the countries that are issuing central bank digital currencies (CBDCs) are actually NOT using distributed ledger technology (DLT) or blockchain. The only country that is confirmed to be using DLT for their CBDC is the Marshall Islands, and they are using Algorand, which is a permissioned database structure. There is NO country that is using a public and permissionless to issue a CBDC currently. Not really surprising.
We discuss the history of money and the difference between retail and wholesale central bank digital currencies. We also discuss potential risks of this newly issued currency.
Jonas is the author of the World Economic Forum’s recent paper on Central Bank Digital Currencies that was published in Davos in January. He is working at the Frankfurt School of Finance and Management in Germany, and he is doing his doctoral degree in Bayreuth. Manuel is working for Factset, and is involved in many monetary reform groups. They can both be found on LinkedIn if researchers would like to further discuss the results of their paper.
Our weekly newsletter this week discusses how Bitcoin outperformed altcoins in the Top 10 during the economic crisis. To read about the two main reasons that Bitcoin is forecasted to outperform a broad index of altcoins over the next few weeks, subscribe now!
