FIN310 Class Web Page, Fall ' 21
Instructor: Maggie Foley
Weekly SCHEDULE, LINKS, FILES and Questions
Coverage, HW, Supplements
Chapter 1, 2
Discussion: How to pick stocks (finviz.com)
Daily earning announcement: http://www.zacks.com/earnings/earnings-calendar
IPO schedule: http://www.marketwatch.com/tools/ipo-calendar
Chapter 1 Introduction
Flow of funds describes the financial assets flowing from various sectors through financial intermediaries for the purpose of buying physical or financial assets.
*** Household, non-financial business, and our government
Financial institutions facilitate exchanges of funds and financial products.
*** Building blocks of a financial system. Passing and transforming funds and risks during transactions.
*** Buy and sell, receive and deliver, and create and underwrite financial products.
*** The transferring of funds and risk is thus created. Capital utilization for individual and for the whole economy is thus enhanced.
For class discussion:
1. What is the business model of each player in the above graph?
2. Which player is the most important one in the financial market?
3. Can any of the players be removed from the system?
4. What might trigger the next financial crisis
The factors that could cause the next financial crisis are (based on class discussion)
· Global warming
· student loan
· government debt
· tax reform
· unemployment rate
· stimulus check
Q&A based on class discussion: QE money comes from budget. Where does the Fed get money for quantitative easing?
· Answer: Fed buys assets. The Fed can make money appear out of thin air—so-called money printing—by creating bank reserves on its balance sheet. With QE, the central bank uses new bank reserves to purchase long-term Treasuries in the open market from major financial institutions (primary dealers).
· Which item under assets has increased the most from 2019 to 2020?
· Which item under liability has increased the most from 2019 to 2020?
· So where does the stimulus money come from?
1. What are the six parts of the financial markets
· To pay for purchases and store wealth (fiat money, fiat currency)
· To transfer resources from savers to investors and to transfer risk to those best equipped to bear it.
· Buy and sell financial instruments
· Channel funds from savers to investors, thereby promoting economic efficiency
· Affect personal wealth and behavior of business firms. Example?
· Provide access to financial markets, collect information & provide services
· Financial Intermediary: Helps get funds from savers to investors
· Monitor financial Institutions and stabilize the economy
· To provide oversight for financial system.
8/17 Class video: syllabus and market watch game
8/19 class video: chapters 1, discussion on factors for next financial crisis
8/24 Class video:
8/26 class video
8/31 Class video
· M0, MB, M1, M2
· Fed balance sheet
9/2 class video
· Fractional reserve banking system
9/7 Class video
· Bitcoin’s impact on economy, on banks, on central banks
9/9 class video (Thanks Jack, Madeline, Thomas)
9/14 Class video: Order types, money market, financial instruments
9/16 class video: IPO, SEO, NYSE vs. NASDAQ
9/21 Class video: Chapter 4 (Time value of money)
9/23 class video: First mid term exam (Study guide posted) and homework due
9/28 Class video
9/30 class video
10/5 Class video
10/7 class video
10/12 Class video
10/14 class video
10/19 Class video
10/21 class video: Second mid term exam
10/26 Class video
10/28 class video
11/2 Class video
11/4 Class video
11/9 Class video
11/11 Class video
11/16 Class video
11/18 Class video Final Exam; Term project due
In the last decade, algorithmic trading (AT) and high-frequency trading (HFT) have come to dominate the trading world, particularly HFT. During 2009-2010, more than 60% of U.S. trading was attributed to HFT, though that percentage has declined in the last few years.1
Here’s a look into the world of algorithmic and high-frequency trading: how they're related, their benefits and challenges, their main users and their current and future state.
High-Frequency Trading – HFT Structure
First, note that HFT is a subset of algorithmic trading and, in turn, HFT includes Ultra HFT trading. Algorithms essentially work as middlemen between buyers and sellers, with HFT and Ultra HFT being a way for traders to capitalize on infinitesimal price discrepancies that might exist only for a minuscule period.
Computer-assisted rule-based algorithmic trading uses dedicated programs that make automated trading decisions to place orders. AT splits large-sized orders and places these split orders at different times and even manages trade orders after their submission.
Large sized-orders, usually made by pension funds or insurance companies, can have a severe impact on stock price levels. AT aims to reduce that price impact by splitting large orders into many small-sized orders, thereby offering traders some price advantage.
The algorithms also dynamically control the schedule of sending orders to the market. These algorithms read real-time high-speed data feeds, detect trading signals, identify appropriate price levels and then place trade orders once they identify a suitable opportunity. They can also detect arbitrage opportunities and can place trades based on trend following, news events, and even speculation.
High-frequency trading is an extension of algorithmic trading. It manages small-sized trade orders to be sent to the market at high speeds, often in milliseconds or microseconds—a millisecond is a thousandth of a second and a microsecond is a thousandth of a millisecond.
These orders are managed by high-speed algorithms which replicate the role of a market maker. HFT algorithms typically involve two-sided order placements (buy-low and sell-high) in an attempt to benefit from bid-ask spreads. HFT algorithms also try to “sense” any pending large-size orders by sending multiple small-sized orders and analyzing the patterns and time taken in trade execution. If they sense an opportunity, HFT algorithms then try to capitalize on large pending orders by adjusting prices to fill them and make profits.
Also, Ultra HFT is a further specialized stream of HFT. By paying an additional exchange fee, trading firms get access to see pending orders a split-second before the rest of the market does.
Profit Potential from HFT
Exploiting market conditions that can't be detected by the human eye, HFT algorithms bank on finding profit potential in the ultra-short time duration. One example is arbitrage between futures and ETFs on the same underlying index.
In the U.S. markets, the SEC authorized automated electronic exchanges in 1998. Roughly a year later, HFT began, with trade execution time, at that time, being a few seconds. By 2010, this had been reduced to milliseconds—see the speech by the Bank of England's Andrew Haldane's "Patience and finance"—and today, one-hundredth of a microsecond is enough time for most HFT trade decisions and executions. Given ever-increasing computing power, working at nanosecond and picosecond frequencies may be achievable via HFT in the relatively near future.
Bloomberg reports that while in 2010, HFT "accounted for more than 60% of all U.S. equity volume,” that proved to be a high-water mark. By 2013, that percentage had fallen to roughly 50%. Bloomberg further noted that where, in 2009, "high-frequency traders moved about 3.25 billion shares a day. In 2012, it was 1.6 billion a day” and “average profits have fallen from about a tenth of a penny per share to a twentieth of a penny.”
HFT trading ideally needs to have the lowest possible data latency (time-delays) and the maximum possible automation level. So participants prefer to trade in markets with high levels of automation and integration capabilities in their trading platforms. These include NASDAQ, NYSE, Direct Edge, and BATS.
HFT is dominated by proprietary trading firms and spans across multiple securities, including equities, derivatives, index funds, and ETFs, currencies and fixed income instruments. A 2011 Deutsche Bank report found that of then-current HFT participants, proprietary trading firms made up 48%, proprietary trading desks of multi-service broker-dealers were 46% and hedge funds about 6%. Major names in the space include proprietary trading firms like KWG Holdings (formed of the merger between Getco and Knight Capital) and the trading desks of large institutional firms like Citigroup (C), JP Morgan (JPM) and Goldman Sachs (GS).
HFT Infrastructure Needs
For high-frequency trading, participants need the following infrastructure in place:
Benefits of HFT
HFT is beneficial to traders, but does it help the overall market? Some overall market benefits that HFT supporters cite include:
Challenges Of HFT
Opponents of HFT argue that algorithms can be programmed to send hundreds of fake orders and cancel them in the next second. Such “spoofing” momentarily creates a false spike in demand/supply leading to price anomalies, which can be exploited by HFT traders to their advantage. In 2013, the SEC introduced the Market Information Data Analytics System (MIDAS), which screens multiple markets for data at millisecond frequencies to try and catch fraudulent activities like “spoofing."
Other obstacles to HFT's growth are its high costs of entry, which include:
The HFT marketplace also has gotten crowded, with participants trying to get an edge over their competitors by constantly improving algorithms and adding to infrastructure. Due to this "arms race," it's getting more difficult for traders to capitalize on price anomalies, even if they have the best computers and top-end networks.
And the prospect of costly glitches is also scaring away potential participants. Some examples include the “Flash Crash" of May 6, 2010, where HFT-triggered sell orders led to an impulsive drop of 600 points in the DJIA index.9 Then there's the case of Knight Capital, the then-king of HFT on NYSE. It installed new software on Aug 1, 2012, and accidentally bought and sold $7 billion worth of NYSE stocks at unfavorable prices.10 Knight was forced to settle its positions, costing it $440 million in one day and eroding 40% of the firm’s value. Acquired by another HFT firm, Getco, to form KCG Holdings, the merged entity still continues to struggle.
So, some major bottlenecks for HFT's future growth are its declining profit potential, high operational costs, the prospect of stricter regulations and the fact that there is no room for error, as losses can quickly run in the millions.
The Bottom Line
The growth of computer speed and algorithm development has created seemingly limitless possibilities in trading. But, AT and HFT are classic examples of rapid developments that, for years, outpaced regulatory regimes and allowed massive advantages to a relative handful of trading firms. While HFT may offer reduced opportunities in the future for traders in established markets like the U.S., some emerging markets could still be quite favorable for high-stakes HFT ventures.
Goldman Sachs says computerized trading may make next 'flash crash' worse (optional)
· Goldman Sachs is worried the increasing dominance of computerized trading may cause more volatility during market downturns.
· The firm says high-frequency trading machines may "withdraw liquidity" at the worst possible moment in the next financial crisis.
Goldman Sachs is cautioning its clients that computerized trading may exacerbate the volatility of the next big market sell-off.
"One theory that has been proposed for why market fragility could be higher today is that because HFTs [high-frequency trading] supply liquidity without taking into account fundamental information, they are forced to withdraw liquidity during periods of market stress to avoid being adversely selected," Charles Himmelberg, co-head of global markets research at Goldman, said in a report Tuesday. "In our view, this at least raises the risk that as machines have replaced people, and speed has replaced capital, the inability of the market's liquidity providers to process complex information may lead to surprisingly large drops in liquidity when the next crisis hits."
Himmelberg noted the higher level of computerized trading has not been truly "stress tested" during the bull market since the financial crisis. He said the increasing incidents of volatility in various markets such as the VIX spike on Feb. 5, the 10-year Treasury bond on Oct. 15, 2014, and the British pound on Oct. 6, 2016, may be precursors of a bigger one to come.
"The rising frequency of 'flash crashes' across many major markets may be an important early warning sign that something is not quite right with the current state of trading liquidity," he said. "These warning signs plus the rapid growth of high-frequency trading (HFT) and its near-total dominance in many of the largest and most widely traded markets prompt us to more carefully consider the possibility (not necessarily the probability) that the long expansion accompanied by relatively low market volatility may have helped disguise an under-appreciated rise in 'market fragility.'"
The strategist said computerized trading is generally not backed by large levels of capital, which could drive the "collapse" of liquidity if the machines suffer any big losses during a significant market downturn.
"Future flash crashes may not end well," he warned. "The quality of trading liquidity for even the biggest, most heavily-traded markets should not be taken for granted."
— With reporting by CNBC's Michael Bloom.
The stock market halted trading Monday—here’s why younger investors shouldn’t panic (optional)
Published Mon, Mar 9 202011:30 AM EDTUpdated Tue, Mar 10 20209:25 AM EDT
The stock market opened on a rough note this week as fears that the coronavirus will continue to have widespread economic impact drove down stock prices. On Monday morning, the S&P 500 fell more than 7% at the open, triggering circuit breakers that led the New York Stock Exchange to halt all market trading for 15 minutes.
The plunge, which occurred just after the market opened, triggered what’s called a ‘circuit breaker’ that immediately halted trading. Basically, this is a fail-safe that’s built into the system to allow for a short cool down period.
“The market circuit breakers are designed to slow trading down for a few minutes, give investors the ability to understand what’s happening in the market, consume the information and make decisions based on market conditions,” New York Stock Exchange President Stacey Cunningham told CNBC’s Bob Pisani. “This is operating as it’s supposed to.”
The current system of circuit breakers has never been tripped. A revamped system was put in place in February 2013 after the last set failed to prevent the May 2010 flash crash.
During regular trading hours, a circuit breaker can be triggered in a few situations:
1. If the S&P 500 drops 7%, then trading will pause for 15 minutes.
2. If the S&P 500 declines 13% on or before 3:25 p.m. ET, then trading will be paused again for 15 minutes. If the drop occurs after 3:25 p.m., then there’s no halt.
3. If the S&P 500 falls 20%, then trading will be suspended for the rest of the day.
Trading started back up at 9:49 a.m. ET and the S&P 500 continued to slide. Meanwhile, the Dow Jones Industrial Average, which tracks 30 stocks, fell 2,000 points, or 7.3%, at one point during morning trading. The Nasdaq, which features some of the market’s biggest technology names as well as an assortment of other companies, fell 6.9% during the same period.
“The bull market’s 11-year birthday is today, but investors are not in a celebratory mood,” says Greg McBride, chartered financial analyst and chief financial analyst at Bankrate.com.
What it means for you
Over 66% of millennials have investments of some type. About a third of millennials invested in a taxable brokerage account in 2018, while another third invested in a retirement account, according to a study of over 1,800 millennials (ages 23 to 38) sponsored by the CFA Institute and the FINRA Investor Education Foundation.
If you’re part of that group, the roller coaster markets do have an impact on your investments, including your 401(k). But before you panic, keep in mind that market downturns are fairly common. Market pullbacks with declines of less than 20% have occurred over 100 times since 1946, according to investment firm Guggenheim Funds.
“Investing should never be about a moment in time; it should always be about a process over time,” Liz Ann Sonders, chief investment strategist at Charles Schwab, tells CNBC Make It.
That’s a nice way of saying: Don’t time the market. Most millennials (ages 24 to 39) have a long time horizon for their investments. Since there are likely decades before you retire, even if a recession hits tomorrow or next year, there’s plenty of time for your investments to bounce back. Recessions and market downturns are part of a normal, healthy market cycle.
NYSE President Stacey Cunningham explains why stock trading was halted for 15 minutes
The best course of action right now is to keep investing and making regular contributions to your 401(k). This routine influx of money into your investment accounts is a strategy that experts call dollar-cost averaging. It’s great for long-term investors because it takes emotion out of the equation and keeps you from selling out during market lows and buying in at market highs.
A 401(k) is actually a good place to invest amid market volatility, Sonders says. Typically, they’re structured in a way so that you’re buying on a regimented basis and many have the option to invest in target date funds, which have an automatic rebalancing process.
“As the uncertainty persists, the market frenzy will continue, perhaps for weeks, perhaps for months,” McBride says. “But long-term investors must think in terms of years or decades.”
Finally, just take a deep breath. Many millennials have strong “muscle memory” from their own involvement, or their parents’ experiences, with the market during the last financial crisis, Sonders says. Yet the reality is that that market event was not the rule; it was more on the exceptional end of the spectrum.
“Markets fall sharply, but can also rebound quickly,” McBride says. “No one knows when that comes and you don’t want to be sitting on the sidelines when that happens.”
Chapter 2 What is Money
Part I What is Money?
· There is no single "correct" measure of the money supply: instead, there are several measures, classified along a spectrum or continuum between narrow and broad monetary aggregates.
• Narrow measures include only the most liquid assets, the ones most easily used to spend (currency, checkable deposits). Broader measures add less liquid types of assets (certificates of deposit, etc.)
· M0: In some countries, such as the United Kingdom, M0 includes bank reserves, so M0 is referred to as the monetary base, or narrow money.
· MB: is referred to as the monetary base or total currency. This is the base from which other forms of money (like checking deposits, listed below) are created and is traditionally the most liquid measure of the money supply.
· M1: Bank reserves are not included in M1. (M1 and Components @ Fed St. Louise website)
· M2: Represents M1 and "close substitutes" for M1. M2 is a broader classification of money than M1. M2 is a key economic indicator used to forecast inflation. (M2 and components @ Fed St. Louise website)
· M3: M2 plus large and long-term deposits. Since 2006, M3 is no longer published by the US central bank. However, there are still estimates produced by various private institutions. (M3 and components at Fed St. Louise website)
Let’s watch this money supply video: Khan academy money supply M0, M1, M2 (video)
Money Supply M2 in the United States averaged 4121.70 USD Billion from 1959 until 2019, reaching an all time high of 14872.10 USD Billion in July of 2019 and a record low of 286.60 USD Billion in January of 1959.
Beyond Bitcoin bubble – New York Times (FYI only)
The sequence of words is meaningless: a random array strung together by an algorithm let loose in an English dictionary. What makes them valuable is that they’ve been generated exclusively for me, by a software tool called MetaMask. In the lingo of cryptography, they’re known as my seed phrase. They might read like an incoherent stream of consciousness, but these words can be transformed into a key that unlocks a digital bank account, or even an online identity. It just takes a few more steps.
On the screen, I’m instructed to keep my seed phrase secure: Write it down, or keep it in a secure place on your computer. I scribble the 12 words onto a notepad, click a button and my seed phrase is transformed into a string of 64 seemingly patternless characters:
This is what’s called a “private key” in the world of cryptography: a way of proving identity, in the same, limited way that real-world keys attest to your identity when you unlock your front door. My seed phrase will generate that exact sequence of characters every time, but there’s no known way to reverse-engineer the original phrase from the key, which is why it is so important to keep the seed phrase in a safe location.
That private key number is then run through two additional transformations, creating a new string:
That string is my address on the Ethereum blockchain.
Ethereum belongs to the same family as the cryptocurrency Bitcoin, whose value has increased more than 1,000 percent in just the past year. Ethereum has its own currencies, most notably Ether, but the platform has a wider scope than just money. You can think of my Ethereum address as having elements of a bank account, an email address and a Social Security number. For now, it exists only on my computer as an inert string of nonsense, but the second I try to perform any kind of transaction — say, contributing to a crowdfunding campaign or voting in an online referendum — that address is broadcast out to an improvised worldwide network of computers that tries to verify the transaction. The results of that verification are then broadcast to the wider network again, where more machines enter into a kind of competition to perform complex mathematical calculations, the winner of which gets to record that transaction in the single, canonical record of every transaction ever made in the history of Ethereum. Because those transactions are registered in a sequence of “blocks” of data, that record is called the blockchain.
The whole exchange takes no more than a few minutes to complete. From my perspective, the experience barely differs from the usual routines of online life. But on a technical level, something miraculous is happening — something that would have been unimaginable just a decade ago. I’ve managed to complete a secure transaction without any of the traditional institutions that we rely on to establish trust. No intermediary brokered the deal; no social-media network captured the data from my transaction to better target its advertising; no credit bureau tracked the activity to build a portrait of my financial trustworthiness.
And the platform that makes all this possible? No one owns it. There are no venture investors backing Ethereum Inc., because there is no Ethereum Inc. As an organizational form, Ethereum is far closer to a democracy than a private corporation. No imperial chief executive calls the shots. You earn the privilege of helping to steer Ethereum’s ship of state by joining the community and doing the work. Like Bitcoin and most other blockchain platforms, Ethereum is more a swarm than a formal entity. Its borders are porous; its hierarchy is deliberately flattened.
Oh, one other thing: Some members of that swarm have already accumulated a paper net worth in the billions from their labors, as the value of one “coin” of Ether rose from $8 on Jan. 1, 2017, to $843 exactly one year later.
You may be inclined to dismiss these transformations. After all, Bitcoin and Ether’s runaway valuation looks like a case study in irrational exuberance. And why should you care about an arcane technical breakthrough that right now doesn’t feel all that different from signing in to a website to make a credit card payment?
‘The Bitcoin bubble may ultimately turn out to be a distraction from the true significance of the blockchain.’
But that dismissal would be shortsighted. If there’s one thing we’ve learned from the recent history of the internet, it’s that seemingly esoteric decisions about software architecture can unleash profound global forces once the technology moves into wider circulation. If the email standards adopted in the 1970s had included public-private key cryptography as a default setting, we might have avoided the cataclysmic email hacks that have afflicted everyone from Sony to John Podesta, and millions of ordinary consumers might be spared routinized identity theft. If Tim Berners-Lee, the inventor of the World Wide Web, had included a protocol for mapping our social identity in his original specs, we might not have Facebook.
The true believers behind blockchain platforms like Ethereum argue that a network of distributed trust is one of those advances in software architecture that will prove, in the long run, to have historic significance. That promise has helped fuel the huge jump in cryptocurrency valuations. But in a way, the Bitcoin bubble may ultimately turn out to be a distraction from the true significance of the blockchain. The real promise of these new technologies, many of their evangelists believe, lies not in displacing our currencies but in replacing much of what we now think of as the internet, while at the same time returning the online world to a more decentralized and egalitarian system. If you believe the evangelists, the blockchain is the future. But it is also a way of getting back to the internet’s roots.
Once the inspiration for utopian dreams of infinite libraries and global connectivity, the internet has seemingly become, over the past year, a universal scapegoat: the cause of almost every social ill that confronts us. Russian trolls destroy the democratic system with fake news on Facebook; hate speech flourishes on Twitter and Reddit; the vast fortunes of the geek elite worsen income equality. For many of us who participated in the early days of the web, the last few years have felt almost postlapsarian. The web had promised a new kind of egalitarian media, populated by small magazines, bloggers and self-organizing encyclopedias; the information titans that dominated mass culture in the 20th century would give way to a more decentralized system, defined by collaborative networks, not hierarchies and broadcast channels. The wider culture would come to mirror the peer-to-peer architecture of the internet itself. The web in those days was hardly a utopia — there were financial bubbles and spammers and a thousand other problems — but beneath those flaws, we assumed, there was an underlying story of progress.
Last year marked the point at which that narrative finally collapsed. The existence of internet skeptics is nothing new, of course; the difference now is that the critical voices increasingly belong to former enthusiasts. “We have to fix the internet,” Walter Isaacson, Steve Jobs’s biographer, wrote in an essay published a few weeks after Donald Trump was elected president. “After 40 years, it has begun to corrode, both itself and us.” The former Google strategist James Williams told The Guardian: “The dynamics of the attention economy are structurally set up to undermine the human will.” In a blog post, Brad Burnham, a managing partner at Union Square Ventures, a top New York venture-capital firm, bemoaned the collateral damage from the quasi monopolies of the digital age: “Publishers find themselves becoming commodity content suppliers in a sea of undifferentiated content in the Facebook news feed. Websites see their fortunes upended by small changes in Google’s search algorithms. And manufacturers watch helplessly as sales dwindle when Amazon decides to source products directly in China and redirect demand to their own products.” (Full disclosure: Burnham’s firm invested in a company I started in 2006; we have had no financial relationship since it sold in 2011.) Even Berners-Lee, the inventor of the web itself, wrote a blog post voicing his concerns that the advertising-based model of social media and search engines creates a climate where “misinformation, or ‘fake news,’ which is surprising, shocking or designed to appeal to our biases, can spread like wildfire.”
For most critics, the solution to these immense structural issues has been to propose either a new mindfulness about the dangers of these tools — turning off our smartphones, keeping kids off social media — or the strong arm of regulation and antitrust: making the tech giants subject to the same scrutiny as other industries that are vital to the public interest, like the railroads or telephone networks of an earlier age. Both those ideas are commendable: We probably should develop a new set of habits governing how we interact with social media, and it seems entirely sensible that companies as powerful as Google and Facebook should face the same regulatory scrutiny as, say, television networks. But those interventions are unlikely to fix the core problems that the online world confronts. After all, it was not just the antitrust division of the Department of Justice that challenged Microsoft’s monopoly power in the 1990s; it was also the emergence of new software and hardware — the web, open-source software and Apple products — that helped undermine Microsoft’s dominant position.
The blockchain evangelists behind platforms like Ethereum believe that a comparable array of advances in software, cryptography and distributed systems has the ability to tackle today’s digital problems: the corrosive incentives of online advertising; the quasi monopolies of Facebook, Google and Amazon; Russian misinformation campaigns. If they succeed, their creations may challenge the hegemony of the tech giants far more effectively than any antitrust regulation. They even claim to offer an alternative to the winner-take-all model of capitalism than has driven wealth inequality to heights not seen since the age of the robber barons.
That remedy is not yet visible in any product that would be intelligible to an ordinary tech consumer. The only blockchain project that has crossed over into mainstream recognition so far is Bitcoin, which is in the middle of a speculative bubble that makes the 1990s internet I.P.O. frenzy look like a neighborhood garage sale. And herein lies the cognitive dissonance that confronts anyone trying to make sense of the blockchain: the potential power of this would-be revolution is being actively undercut by the crowd it is attracting, a veritable goon squad of charlatans, false prophets and mercenaries. Not for the first time, technologists pursuing a vision of an open and decentralized network have found themselves surrounded by a wave of opportunists looking to make an overnight fortune. The question is whether, after the bubble has burst, the very real promise of the blockchain can endure.
To some students of modern technological history, the internet’s fall from grace follows an inevitable historical script. As Tim Wu argued in his 2010 book, “The Master Switch,” all the major information technologies of the 20th century adhered to a similar developmental pattern, starting out as the playthings of hobbyists and researchers motivated by curiosity and community, and ending up in the hands of multinational corporations fixated on maximizing shareholder value. Wu calls this pattern the Cycle, and on the surface at least, the internet has followed the Cycle with convincing fidelity. The internet began as a hodgepodge of government-funded academic research projects and side-hustle hobbies. But 20 years after the web first crested into the popular imagination, it has produced in Google, Facebook and Amazon — and indirectly, Apple — what may well be the most powerful and valuable corporations in the history of capitalism.
Blockchain advocates don’t accept the inevitability of the Cycle. The roots of the internet were in fact more radically open and decentralized than previous information technologies, they argue, and had we managed to stay true to those roots, it could have remained that way. The online world would not be dominated by a handful of information-age titans; our news platforms would be less vulnerable to manipulation and fraud; identity theft would be far less common; advertising dollars would be distributed across a wider range of media properties.
To understand why, it helps to think of the internet as two fundamentally different kinds of systems stacked on top of each other, like layers in an archaeological dig. One layer is composed of the software protocols that were developed in the 1970s and 1980s and hit critical mass, at least in terms of audience, in the 1990s. (A protocol is the software version of a lingua franca, a way that multiple computers agree to communicate with one another. There are protocols that govern the flow of the internet’s raw data, and protocols for sending email messages, and protocols that define the addresses of web pages.) And then above them, a second layer of web-based services — Facebook, Google, Amazon, Twitter — that largely came to power in the following decade.
The first layer — call it InternetOne — was founded on open protocols, which in turn were defined and maintained by academic researchers and international-standards bodies, owned by no one. In fact, that original openness continues to be all around us, in ways we probably don’t appreciate enough. Email is still based on the open protocols POP, SMTP and IMAP; websites are still served up using the open protocol HTTP; bits are still circulated via the original open protocols of the internet, TCP/IP. You don’t need to understand anything about how these software conventions work on a technical level to enjoy their benefits. The key characteristic they all share is that anyone can use them, free of charge. You don’t need to pay a licensing fee to some corporation that owns HTTP if you want to put up a web page; you don’t have to sell a part of your identity to advertisers if you want to send an email using SMTP. Along with Wikipedia, the open protocols of the internet constitute the most impressive example of commons-based production in human history.
To see how enormous but also invisible the benefits of such protocols have been, imagine that one of those key standards had not been developed: for instance, the open standard we use for defining our geographic location, GPS. Originally developed by the United States military, the Global Positioning System was first made available for civilian use during the Reagan administration. For about a decade, it was largely used by the aviation industry, until individual consumers began to use it in car navigation systems. And now we have smartphones that can pick up a signal from GPS satellites orbiting above us, and we use that extraordinary power to do everything from locating nearby restaurants to playing Pokémon Go to coordinating disaster-relief efforts.
But what if the military had kept GPS out of the public domain? Presumably, sometime in the 1990s, a market signal would have gone out to the innovators of Silicon Valley and other tech hubs, suggesting that consumers were interested in establishing their exact geographic coordinates so that those locations could be projected onto digital maps. There would have been a few years of furious competition among rival companies, who would toss their own proprietary satellites into orbit and advance their own unique protocols, but eventually the market would have settled on one dominant model, given all the efficiencies that result from a single, common way of verifying location. Call that imaginary firm GeoBook. Initially, the embrace of GeoBook would have been a leap forward for consumers and other companies trying to build location awareness into their hardware and software. But slowly, a darker narrative would have emerged: a single private corporation, tracking the movements of billions of people around the planet, building an advertising behemoth based on our shifting locations. Any start-up trying to build a geo-aware application would have been vulnerable to the whims of mighty GeoBook. Appropriately angry polemics would have been written denouncing the public menace of this Big Brother in the sky.
But none of that happened, for a simple reason. Geolocation, like the location of web pages and email addresses and domain names, is a problem we solved with an open protocol. And because it’s a problem we don’t have, we rarely think about how beautifully GPS does work and how many different applications have been built on its foundation.
The open, decentralized web turns out to be alive and well on the InternetOne layer. But since we settled on the World Wide Web in the mid-’90s, we’ve adopted very few new open-standard protocols. The biggest problems that technologists tackled after 1995 — many of which revolved around identity, community and payment mechanisms — were left to the private sector to solve. This is what led, in the early 2000s, to a powerful new layer of internet services, which we might call InternetTwo.
For all their brilliance, the inventors of the open protocols that shaped the internet failed to include some key elements that would later prove critical to the future of online culture. Perhaps most important, they did not create a secure open standard that established human identity on the network. Units of information could be defined — pages, links, messages — but people did not have their own protocol: no way to define and share your real name, your location, your interests or (perhaps most crucial) your relationships to other people online.
This turns out to have been a major oversight, because identity is the sort of problem that benefits from one universally recognized solution. It’s what Vitalik Buterin, a founder of Ethereum, describes as “base-layer” infrastructure: things like language, roads and postal services, platforms where commerce and competition are actually assisted by having an underlying layer in the public domain. Offline, we don’t have an open market for physical passports or Social Security numbers; we have a few reputable authorities — most of them backed by the power of the state — that we use to confirm to others that we are who we say we are. But online, the private sector swooped in to fill that vacuum, and because identity had that characteristic of being a universal problem, the market was heavily incentivized to settle on one common standard for defining yourself and the people you know.
The self-reinforcing feedback loops that economists call “increasing returns” or “network effects” kicked in, and after a period of experimentation in which we dabbled in social-media start-ups like Myspace and Friendster, the market settled on what is essentially a proprietary standard for establishing who you are and whom you know. That standard is Facebook. With more than two billion users, Facebook is far larger than the entire internet at the peak of the dot-com bubble in the late 1990s. And that user growth has made it the world’s sixth-most-valuable corporation, just 14 years after it was founded. Facebook is the ultimate embodiment of the chasm that divides InternetOne and InternetTwo economies. No private company owned the protocols that defined email or GPS or the open web. But one single corporation owns the data that define social identity for two billion people today — and one single person, Mark Zuckerberg, holds the majority of the voting power in that corporation.
If you see the rise of the centralized web as an inevitable turn of the Cycle, and the open-protocol idealism of the early web as a kind of adolescent false consciousness, then there’s less reason to fret about all the ways we’ve abandoned the vision of InternetOne. Either we’re living in a fallen state today and there’s no way to get back to Eden, or Eden itself was a kind of fantasy that was always going to be corrupted by concentrated power. In either case, there’s no point in trying to restore the architecture of InternetOne; our only hope is to use the power of the state to rein in these corporate giants, through regulation and antitrust action. It’s a variation of the old Audre Lorde maxim: “The master’s tools will never dismantle the master’s house.” You can’t fix the problems technology has created for us by throwing more technological solutions at it. You need forces outside the domain of software and servers to break up cartels with this much power.
But the thing about the master’s house, in this analogy, is that it’s a duplex. The upper floor has indeed been built with tools that cannot be used to dismantle it. But the open protocols beneath them still have the potential to build something better.
One of the most persuasive advocates of an open-protocol revival is Juan Benet, a Mexican-born programmer now living on a suburban side street in Palo Alto, Calif., in a three-bedroom rental that he shares with his girlfriend and another programmer, plus a rotating cast of guests, some of whom belong to Benet’s organization, Protocol Labs. On a warm day in September, Benet greeted me at his door wearing a black Protocol Labs hoodie. The interior of the space brought to mind the incubator/frat house of HBO’s “Silicon Valley,” its living room commandeered by an array of black computer monitors. In the entrance hallway, the words “Welcome to Rivendell” were scrawled out on a whiteboard, a nod to the Elven city from “Lord of the Rings.” “We call this house Rivendell,” Benet said sheepishly. “It’s not a very good Rivendell. It doesn’t have enough books, or waterfalls, or elves.”
Benet, who is 29, considers himself a child of the first peer-to-peer revolution that briefly flourished in the late 1990s and early 2000s, driven in large part by networks like BitTorrent that distributed media files, often illegally. That initial flowering was in many ways a logical outgrowth of the internet’s decentralized, open-protocol roots. The web had shown that you could publish documents reliably in a commons-based network. Services like BitTorrent or Skype took that logic to the next level, allowing ordinary users to add new functionality to the internet: creating a distributed library of (largely pirated) media, as with BitTorrent, or helping people make phone calls over the internet, as with Skype.
‘We’re not trying to replace the U.S. government. It’s not meant to be a real currency; it’s meant to be a pseudo-currency inside this world.’
Sitting in the living room/office at Rivendell, Benet told me that he thinks of the early 2000s, with the ascent of Skype and BitTorrent, as “the ‘summer’ of peer-to-peer” — its salad days. “But then peer-to-peer hit a wall, because people started to prefer centralized architectures,” he said. “And partly because the peer-to-peer business models were piracy-driven.” A graduate of Stanford’s computer-science program, Benet talks in a manner reminiscent of Elon Musk: As he speaks, his eyes dart across an empty space above your head, almost as though he’s reading an invisible teleprompter to find the words. He is passionate about the technology Protocol Labs is developing, but also keen to put it in a wider context. For Benet, the shift from distributed systems to more centralized approaches set in motion changes that few could have predicted. “The rules of the game, the rules that govern all of this technology, matter a lot,” he said. “The structure of what we build now will paint a very different picture of the way things will be five or 10 years in the future.” He continued: “It was clear to me then that peer-to-peer was this extraordinary thing. What was not clear to me then was how at risk it is. It was not clear to me that you had to take up the baton, that it’s now your turn to protect it.”
Protocol Labs is Benet’s attempt to take up that baton, and its first project is a radical overhaul of the internet’s file system, including the basic scheme we use to address the location of pages on the web. Benet calls his system IPFS, short for InterPlanetary File System. The current protocol — HTTP — pulls down web pages from a single location at a time and has no built-in mechanism for archiving the online pages. IPFS allows users to download a page simultaneously from multiple locations and includes what programmers call “historic versioning,” so that past iterations do not vanish from the historical record. To support the protocol, Benet is also creating a system called Filecoin that will allow users to effectively rent out unused hard-drive space. (Think of it as a sort of Airbnb for data.) “Right now there are tons of hard drives around the planet that are doing nothing, or close to nothing, to the point where their owners are just losing money,” Benet said. “So you can bring online a massive amount of supply, which will bring down the costs of storage.” But as its name suggests, Protocol Labs has an ambition that extends beyond these projects; Benet’s larger mission is to support many new open-source protocols in the years to come.
Why did the internet follow the path from open to closed? One part of the explanation lies in sins of omission: By the time a new generation of coders began to tackle the problems that InternetOne left unsolved, there were near-limitless sources of capital to invest in those efforts, so long as the coders kept their systems closed. The secret to the success of the open protocols of InternetOne is that they were developed in an age when most people didn’t care about online networks, so they were able to stealthily reach critical mass without having to contend with wealthy conglomerates and venture capitalists. By the mid-2000s, though, a promising new start-up like Facebook could attract millions of dollars in financing even before it became a household brand. And that private-sector money ensured that the company’s key software would remain closed, in order to capture as much value as possible for shareholders.
And yet — as the venture capitalist Chris Dixon points out — there was another factor, too, one that was more technical than financial in nature. “Let’s say you’re trying to build an open Twitter,” Dixon explained while sitting in a conference room at the New York offices of Andreessen Horowitz, where he is a general partner. “I’m @cdixon at Twitter. Where do you store that? You need a database.” A closed architecture like Facebook’s or Twitter’s puts all the information about its users — their handles, their likes and photos, the map of connections they have to other individuals on the network — into a private database that is maintained by the company. Whenever you look at your Facebook newsfeed, you are granted access to some infinitesimally small section of that database, seeing only the information that is relevant to you.
Running Facebook’s database is an unimaginably complex operation, relying on hundreds of thousands of servers scattered around the world, overseen by some of the most brilliant engineers on the planet. From Facebook’s point of view, they’re providing a valuable service to humanity: creating a common social graph for almost everyone on earth. The fact that they have to sell ads to pay the bills for that service — and the fact that the scale of their network gives them staggering power over the minds of two billion people around the world — is an unfortunate, but inevitable, price to pay for a shared social graph. And that trade-off did in fact make sense in the mid-2000s; creating a single database capable of tracking the interactions of hundreds of millions of people — much less two billion — was the kind of problem that could be tackled only by a single organization. But as Benet and his fellow blockchain evangelists are eager to prove, that might not be true anymore.
So how can you get meaningful adoption of base-layer protocols in an age when the big tech companies have already attracted billions of users and collectively sit on hundreds of billions of dollars in cash? If you happen to believe that the internet, in its current incarnation, is causing significant and growing harm to society, then this seemingly esoteric problem — the difficulty of getting people to adopt new open-source technology standards — turns out to have momentous consequences. If we can’t figure out a way to introduce new, rival base-layer infrastructure, then we’re stuck with the internet we have today. The best we can hope for is government interventions to scale back the power of Facebook or Google, or some kind of consumer revolt that encourages that marketplace to shift to less hegemonic online services, the digital equivalent of forswearing big agriculture for local farmers’ markets. Neither approach would upend the underlying dynamics of Internet Two.
The first hint of a meaningful challenge to the closed-protocol era arrived in 2008, not long after Zuckerberg opened the first international headquarters for his growing company. A mysterious programmer (or group of programmers) going by the name Satoshi Nakamoto circulated a paper on a cryptography mailing list. The paper was called “Bitcoin: A Peer-to-Peer Electronic Cash System,” and in it, Nakamoto outlined an ingenious system for a digital currency that did not require a centralized trusted authority to verify transactions. At the time, Facebook and Bitcoin seemed to belong to entirely different spheres — one was a booming venture-backed social-media start-up that let you share birthday greetings and connect with old friends, while the other was a byzantine scheme for cryptographic currency from an obscure email list. But 10 years later, the ideas that Nakamoto unleashed with that paper now pose the most significant challenge to the hegemony of InternetTwo giants like Facebook.
The paradox about Bitcoin is that it may well turn out to be a genuinely revolutionary breakthrough and at the same time a colossal failure as a currency. As I write, Bitcoin has increased in value by nearly 100,000 percent over the past five years, making a fortune for its early investors but also branding it as a spectacularly unstable payment mechanism. The process for creating new Bitcoins has also turned out to be a staggering energy drain.
History is replete with stories of new technologies whose initial applications end up having little to do with their eventual use. All the focus on Bitcoin as a payment system may similarly prove to be a distraction, a technological red herring. Nakamoto pitched Bitcoin as a “peer-to-peer electronic-cash system” in the initial manifesto, but at its heart, the innovation he (or she or they) was proposing had a more general structure, with two key features.
First, Bitcoin offered a kind of proof that you could create a secure database — the blockchain — scattered across hundreds or thousands of computers, with no single authority controlling and verifying the authenticity of the data.
Second, Nakamoto designed Bitcoin so that the work of maintaining that distributed ledger was itself rewarded with small, increasingly scarce Bitcoin payments. If you dedicated half your computer’s processing cycles to helping the Bitcoin network get its math right — and thus fend off the hackers and scam artists — you received a small sliver of the currency. Nakamoto designed the system so that Bitcoins would grow increasingly difficult to earn over time, ensuring a certain amount of scarcity in the system. If you helped Bitcoin keep that database secure in the early days, you would earn more Bitcoin than later arrivals. This process has come to be called “mining.”
For our purposes, forget everything else about the Bitcoin frenzy, and just keep these two things in mind: What Nakamoto ushered into the world was a way of agreeing on the contents of a database without anyone being “in charge” of the database, and a way of compensating people for helping make that database more valuable, without those people being on an official payroll or owning shares in a corporate entity. Together, those two ideas solved the distributed-database problem and the funding problem. Suddenly there was a way of supporting open protocols that wasn’t available during the infancy of Facebook and Twitter.
These two features have now been replicated in dozens of new systems inspired by Bitcoin. One of those systems is Ethereum, proposed in a white paper by Vitalik Buterin when he was just 19. Ethereum does have its currencies, but at its heart Ethereum was designed less to facilitate electronic payments than to allow people to run applications on top of the Ethereum blockchain. There are currently hundreds of Ethereum apps in development, ranging from prediction markets to Facebook clones to crowdfunding services. Almost all of them are in pre-alpha stage, not ready for consumer adoption. Despite the embryonic state of the applications, the Ether currency has seen its own miniature version of the Bitcoin bubble, most likely making Buterin an immense fortune.
These currencies can be used in clever ways. Juan Benet’s Filecoin system will rely on Ethereum technology and reward users and developers who adopt its IPFS protocol or help maintain the shared database it requires. Protocol Labs is creating its own cryptocurrency, also called Filecoin, and has plans to sell some of those coins on the open market in the coming months. (In the summer of 2017, the company raised $135 million in the first 60 minutes of what Benet calls a “presale” of the tokens to accredited investors.) Many cryptocurrencies are first made available to the public through a process known as an initial coin offering, or I.C.O.
The I.C.O. abbreviation is a deliberate echo of the initial public offering that so defined the first internet bubble in the 1990s. But there is a crucial difference between the two. Speculators can buy in during an I.C.O., but they are not buying an ownership stake in a private company and its proprietary software, the way they might in a traditional I.P.O. Afterward, the coins will continue to be created in exchange for labor — in the case of Filecoin, by anyone who helps maintain the Filecoin network. Developers who help refine the software can earn the coins, as can ordinary users who lend out spare hard-drive space to expand the network’s storage capacity. The Filecoin is a way of signaling that someone, somewhere, has added value to the network.
. You need new code.
Part II What is Fractional Reserve Banking System?
In a fractional reserve banking system, banks create money when they make loans.
Bank reserves have a multiplier effect on the money supply.
What Is Fractional Reserve Banking?
Understanding Fractional Reserve Banking
Banks are required to keep on hand and available for withdrawal a certain amount of the cash that depositors give them. If someone deposits $100, the bank can't lend out the entire amount.
Nor are banks required to keep the entire amount on hand. Many central banks have historically required banks under their purview to keep 10% of the deposit, referred to as reserves. This requirement is set in the U.S. by the Federal Reserve and is one of the central bank's tools to implement monetary policy. Increasing the reserve requirement takes money out of the economy while decreasing the reserve requirement puts money into the economy.
Historically, the required reserve ratio on non-transaction accounts (such as CDs) is zero, while the requirement on transaction deposits (e.g., checking accounts) is 10 percent. Following recent efforts to stimulate economic growth, however, the Fed has reduced the reserve requirements to zero for transaction accounts as well.
Fractional Reserve Requirements
Depository institutions must report their transaction accounts, time and savings deposits, vault cash, and other reservable obligations to the Fed either weekly or quarterly. Some banks are exempt from holding reserves, but all banks are paid a rate of interest on reserves called the "interest rate on reserves" (IOR) or the "interest rate on excess reserves" (IOER). This rate acts as an incentive for banks to keep excess reserves.
Banks with less than $16.3 million in assets are not required to hold reserves. Banks with assets of less than $124.2 million but more than $16.3 million have a 3% reserve requirement, and those banks with more than $124.2 million in assets have a 10% reserve requirement.
Fractional banking aims to expand the economy by freeing capital for lending.
Fractional Reserve Multiplier Effect
"Fractional reserve" refers to the fraction of deposits held in reserves. For example, if a bank has $500 million in assets, it must hold $50 million, or 10%, in reserve.
Analysts reference an equation referred to as the multiplier equation when estimating the impact of the reserve requirement on the economy as a whole. The equation provides an estimate for the amount of money created with the fractional reserve system and is calculated by multiplying the initial deposit by one divided by the reserve requirement. Using the example above, the calculation is $500 million multiplied by one divided by 10%, or $5 billion.
This is not how money is actually created but only a way to represent the possible impact of the fractional reserve system on the money supply. As such, while is useful for economics professors, it is generally regarded as an oversimplification by policymakers.
The Bottom Line
Fractional reserve banking has pros and cons. It permits banks to use funds (the bulk of deposits) that would be otherwise unused to generate returns in the form of interest rates on loans—and to make more money available to grow the economy. It also, however, could catch a bank short in the self-perpetuating panic of a bank run.
Many U.S. banks were forced to shut down during the Great Depression because too many customers attempted to withdraw assets at the same time. Nevertheless, fractional reserve banking is an accepted business practice that is in use at banks worldwide.
Example: You deposited $1,000 in a local bank
Summary: Template here FYI (updated)
(continuing from above)
Advocates like Chris Dixon have started referring to the compensation side of the equation in terms of “tokens,” not coins, to emphasize that the technology here isn’t necessarily aiming to disrupt existing currency systems. “I like the metaphor of a token because it makes it very clear that it’s like an arcade,” he says. “You go to the arcade, and in the arcade you can use these tokens. But we’re not trying to replace the U.S. government. It’s not meant to be a real currency; it’s meant to be a pseudo-currency inside this world.” Dan Finlay, a creator of MetaMask, echoes Dixon’s argument. “To me, what’s interesting about this is that we get to program new value systems,” he says. “They don’t have to resemble money.”
Pseudo or not, the idea of an I.C.O. has already inspired a host of shady offerings, some of them endorsed by celebrities who would seem to be unlikely blockchain enthusiasts, like DJ Khaled, Paris Hilton and Floyd Mayweather. In a blog post published in October 2017, Fred Wilson, a founder of Union Square Ventures and an early advocate of the blockchain revolution, thundered against the spread of I.C.O.s. “I hate it,” Wilson wrote, adding that most I.C.O.s “are scams. And the celebrities and others who promote them on their social-media channels in an effort to enrich themselves are behaving badly and possibly violating securities laws.” Arguably the most striking thing about the surge of interest in I.C.O.s — and in existing currencies like Bitcoin or Ether — is how much financial speculation has already gravitated to platforms that have effectively zero adoption among ordinary consumers. At least during the internet bubble of late 1990s, ordinary people were buying books on Amazon or reading newspapers online; there was clear evidence that the web was going to become a mainstream platform. Today, the hype cycles are so accelerated that billions of dollars are chasing a technology that almost no one outside the cryptocommunity understands, much less uses.
Let’s say, for the sake of argument, that the hype is warranted, and blockchain platforms like Ethereum become a fundamental part of our digital infrastructure. How would a distributed ledger and a token economy somehow challenge one of the tech giants? One of Fred Wilson’s partners at Union Square Ventures, Brad Burnham, suggests a scenario revolving around another tech giant that has run afoul of regulators and public opinion in the last year: Uber. “Uber is basically just a coordination platform between drivers and passengers,” Burnham says. “Yes, it was really innovative, and there were a bunch of things in the beginning about reducing the anxiety of whether the driver was coming or not, and the map — and a whole bunch of things that you should give them a lot of credit for.” But when a new service like Uber starts to take off, there’s a strong incentive for the marketplace to consolidate around a single leader. The fact that more passengers are starting to use the Uber app attracts more drivers to the service, which in turn attracts more passengers. People have their credit cards stored with Uber; they have the app installed already; there are far more Uber drivers on the road. And so the switching costs of trying out some other rival service eventually become prohibitive, even if the chief executive seems to be a jerk or if consumers would, in the abstract, prefer a competitive marketplace with a dozen Ubers. “At some point, the innovation around the coordination becomes less and less innovative,” Burnham says.
The blockchain world proposes something different. Imagine some group like Protocol Labs decides there’s a case to be made for adding another “basic layer” to the stack. Just as GPS gave us a way of discovering and sharing our location, this new protocol would define a simple request: I am here and would like to go there. A distributed ledger might record all its users’ past trips, credit cards, favorite locations — all the metadata that services like Uber or Amazon use to encourage lock-in. Call it, for the sake of argument, the Transit protocol. The standards for sending a Transit request out onto the internet would be entirely open; anyone who wanted to build an app to respond to that request would be free to do so. Cities could build Transit apps that allowed taxi drivers to field requests. But so could bike-share collectives, or rickshaw drivers. Developers could create shared marketplace apps where all the potential vehicles using Transit could vie for your business. When you walked out on the sidewalk and tried to get a ride, you wouldn’t have to place your allegiance with a single provider before hailing. You would simply announce that you were standing at 67th and Madison and needed to get to Union Square. And then you’d get a flurry of competing offers. You could even theoretically get an offer from the M.T.A., which could build a service to remind Transit users that it might be much cheaper and faster just to jump on the 6 train.
How would Transit reach critical mass when Uber and Lyft already dominate the ride-sharing market? This is where the tokens come in. Early adopters of Transit would be rewarded with Transit tokens, which could themselves be used to purchase Transit services or be traded on exchanges for traditional currency. As in the Bitcoin model, tokens would be doled out less generously as Transit grew more popular. In the early days, a developer who built an iPhone app that uses Transit might see a windfall of tokens; Uber drivers who started using Transit as a second option for finding passengers could collect tokens as a reward for embracing the system; adventurous consumers would be rewarded with tokens for using Transit in its early days, when there are fewer drivers available compared with the existing proprietary networks like Uber or Lyft.
As Transit began to take off, it would attract speculators, who would put a monetary price on the token and drive even more interest in the protocol by inflating its value, which in turn would attract more developers, drivers and customers. If the whole system ends up working as its advocates believe, the result is a more competitive but at the same time more equitable marketplace. Instead of all the economic value being captured by the shareholders of one or two large corporations that dominate the market, the economic value is distributed across a much wider group: the early developers of Transit, the app creators who make the protocol work in a consumer-friendly form, the early-adopter drivers and passengers, the first wave of speculators. Token economies introduce a strange new set of elements that do not fit the traditional models: instead of creating value by owning something, as in the shareholder equity model, people create value by improving the underlying protocol, either by helping to maintain the ledger (as in Bitcoin mining), or by writing apps atop it, or simply by using the service. The lines between founders, investors and customers are far blurrier than in traditional corporate models; all the incentives are explicitly designed to steer away from winner-take-all outcomes. And yet at the same time, the whole system depends on an initial speculative phase in which outsiders are betting on the token to rise in value.
“You think about the ’90s internet bubble and all the great infrastructure we got out of that,” Dixon says. “You’re basically taking that effect and shrinking it down to the size of an application.”
‘Bitcoin is now a nine-year-old multibillion-dollar bug bounty, and no one’s hacked it. It feels like pretty good proof.’
Even decentralized cryptomovements have their key nodes. For Ethereum, one of those nodes is the Brooklyn headquarters of an organization called ConsenSys, founded by Joseph Lubin, an early Ethereum pioneer. In November, Amanda Gutterman, the 26-year-old chief marketing officer for ConsenSys, gave me a tour of the space. In our first few minutes together, she offered the obligatory cup of coffee, only to discover that the drip-coffee machine in the kitchen was bone dry. “How can we fix the internet if we can’t even make coffee?” she said with a laugh.
Part III: Could Cryptocurrency Put Banks out of Business?
What is Cryptocurrency? What is blockchain?
Impact of Cryptocurrency on economy
· The first crypto currency discussed in this paper as an example is Bitcoin which is technically, “an algorithm that records an ongoing chain of transactions between members of a decentralized peer-to-peer network and broadcasts these records to all members of the network”.
· Secondly, Ethereum is used as an example which is a blockchain-based, public, open-source, computing platform and operating system for smart contracts.
· The first advantage is that crypto currencies combine important properties to foster trust, such as accountability and transparency, which allows trust free interactions between counterparties.
· Another benefit of the decentralization of crypto currencies is that governments cannot manage them. Hence, crypto currencies are not restricted to a specific geographic area and can be traded around the world. Therefore, Bitcoin can be used to provide low-cost money transfers, particularly for those seeking to transfer small amounts of money internationally, such as remittance payments
· One characteristic is that it makes it easy to transfer money from illegal activities or to finance terror activities without the possibility of government intervention
· the decentralization and “the lack of flexibility in the Bitcoin supply schedule results in high price volatility”
· Furthermore, no government or central bank can influence the supply of crypto currencies.
· Cryptocurrency has not changed existing job markets, however it created jobs in a new category of its own. Cryptocurrency job availability has increased demand for software engineers, and provided many new jobs for US workers. https://www.arcgis.com/apps/Cascade/index.html?appid=b9bafd50ab5f4eec9a77925cec0db09d
The short answer is yes. Cryptocurrencies are an existential threat to central banks, and the response from national financial authorities thus far seems to be, “If you can't beat them, join them.”
The youngest age demographic is most likely to participate in crypto, with 58% of digital currency owners worldwide being under 34, according to a 2021 survey.
A whopping 27% of people ages 18-34 prefer Bitcoin (the largest crypto by market cap) over stocks (April 2019 study). The youngest age demographic of investors is the most likely to adopt Bitcoin and other cryptocurrencies as a large or maybe the largest portion of their portfolios.
Additionally, 54.9% of retail investors are between the ages of 26 and 40. This class of investors has shown increasing interest in crypto in 2021 after it provided unprecedented short-term opportunities.
From Dogecoin to Ethereum, speculation and value investing have been off the charts in a crypto bull run. This young investor demographic has grown impatient and used to sky-high returns and volatility.
This age category is the next most likely to enter the crypto scene. 36% of crypto investors worldwide have an income of over 100,000 USD. The next wave of crypto buyers is older, with an average age of 44 in the USA.
With more education and more disposable income, this investor class is looking to cash in on early crypto adoption and coin trading. These two youngest groups of investors on the chart are also most likely to use DeFi’s other tools like staking and borrowing currency.
Even ages 45-54 show signs of adopting crypto as the average age of the crypto-curious settles around 44. Many in this age group are looking for extra portfolio allocations that may help them reach a comfier retirement. However, many Gen Xers prefer a relationship with mutual funds and safe stocks like Apple or Amazon.
The Baby Boomer generation shows a less than 1% likelihood of investing in Bitcoin as a long-term investment (July 2018 study). They have little trust for digital currency and prefer mainstream investments as safer vehicles for their wealth as they look to transition out of the workforce.
Those ages 65 and over aren’t likely to contribute to cryptocurrency’s rise, as they are mostly concerned with safe investments to hold them through retirement. This age demographic is not as familiar with tech and has very low trust for digital assets. They are more likely to stay the path of 90-year-old investor Warren Buffet with a background in safer blue-chip stocks and mutual funds.
We shouldn’t forget that Asia and China make up a huge portion of these demographics, with over 59 million crypto users.
Top 5 cryptocurrency
What is bitcoin? By Khan Academy (video) (optional)
Bitcoin vs. Ethereum - Everything you need to know! (Similarities & differences)
Is Ethereum More Important Than Bitcoin?
By ADAM HAYES Reviewed by ERIKA RASURE Updated Aug 26, 2021
Blockchain technology, the distributed ledger system that underpins the digital currency Bitcoin, is getting a lot of attention from Wall Street lately. With uses ranging from cross-border payments to settlements and clearing of over-the-counter derivatives to streamlining back-office processes, the potential for disruption in the financial industry and elsewhere is growing more real each day. While bitcoin is the most widely used and well-known use case of blockchain, Ethereum may be the killer app that allows for this disruption to finally take place.
The token native to the Ethereum blockchain, Ether (ETH), currently trades around $230, and the market capitalization of all ether around $25 billion, making it the second most valuable blockchain behind Bitcoin (which represents approximately $185 billion of value). What is Ethereum and why is it interesting?
A Brief Overview of Ethereum
Ethereum was developed to augment and improve on bitcoin, expanding its capabilities. Importantly, it was developed to feature prominently “smart contracts:” decentralized, self-executing agreements coded into the blockchain itself. Ethereum was first proposed by Vitalik Buterin in 2013 and went live with its first beta version in 2015. Its blockchain is built with a turing-complete scripting language that can simultaneously run such smart contracts across all nodes and achieve verifiable consensus without the need for a trusted third party such as a court, judge or legal system. According to its website, Ethereum can be used to “codify, decentralize, secure and trade just about anything.” In late 2014, Ethereum raised almost $18 million in bitcoin by way of a crowd sale to fund its development.6
The ‘Ethereum Virtual Machine’ (EVM) is capable of running smart contracts that can represent financial agreements such as options contracts, swaps or coupon-paying bonds. It can also be used to execute bets and wagers, to fulfill employment contracts, to act as a trusted escrow for the purchase of high-value items, and to maintain a legitimate decentralized gambling facility. These are just a few examples of what is possible with smart contracts, and the potential to replace all sorts of legal, financial and social agreements is exciting.
Currently, the EVM is in its infancy, and running smart contracts is both “expensive” in terms of ether consumed, as well as limited in its processing power. According to its developers, the system is currently about as powerful as a late 1990s-era mobile phone. This, however, is likely to change as the protocol is developed further. To put this into perspective, the computer on the Apollo 11 lander had less power than an iPhone; it is certainly plausible that in a few short years, the EVM (or something like it) will be able to handle sophisticated smart contracts in real time.8
Within the Ethereum ecosystem, ether exists as the internal cryptocurrency which is used to settle the outcomes of smart contracts executed within the protocol. Ether can be mined for and traded on cryptocurrency exchanges with bitcoin or fiat currencies such as US Dollars, and is also used to pay for computational effort employed by nodes on its blockchain.
Ethereum and Decentralized Autonomous Organizations
Smart contracts could be the building blocks for entire decentralized autonomous organizations (DAO's) that function like corporations, engaging in economic transactions—buying and selling things, hiring labor, negotiating deals, balancing budgets and maximizing profits—without any human or institutional intervention. If one takes the view that corporations are just a complex web of contracts and obligations of varying size and scope, then such DAO's could be coded into Ethereum.
This opens the door for all sorts of new and interesting possibilities such as emancipated machines that literally own themselves and people being employed directly by pieces of software.
Ethereum and Decentralized Applications
While DAO's may be a concept to be realized in the future, decentralized applications (Dapps) are currently being developed for Ethereum today. These standalone applications utilize smart contracts and run on the EVM.9 Some examples include micro-payments platforms, reputation functions, online gambling apps, schedulers and P2P marketplaces.
The key feature to Dapps is that they run across a decentralized network and are enforced without the need for a central authority or overseer. Any sort of multi-party application that today relies on a central server can be disintermediated via the Ethereum blockchain.9 This can eventually include chat, gaming, shopping and banking.
The Bottom Line
What Bitcoin did for money and payments by harnessing blockchain technology, Ethereum may do for applications of all shapes and sizes. With a built-in scripting language and distributed virtual machine, smart contracts can be built to carry out all sorts of functions without the need for a trusted third party or central authority. Using its internal cryptocurrency, ether, nodes can be paid for their processing power in running these decentralized apps, and eventually, entire decentralized autonomous organizations may exist in an ether economy.
Cardano joins crypto’s creative destruction loop
By John Foley
September 3, 2021
Representations of cryptocurrencies Bitcoin, Ethereum, DogeCoin, Ripple, Litecoin are placed on PC motherboard in this illustration taken, June 29, 2021.
NEW YORK, Sept 3 (Reuters Breakingviews) - Watch out, bitcoin and ether. Cryptocurrency platform Cardano had its ADA token pass the $3 mark for the first time on Sept. 1, just weeks after becoming the world’s third-biggest virtual tender. While its total value at that price of $96 billion is roughly a fifth of that of Ethereum’s currency and a 10th of that of leader bitcoin, according to Coinbase, the No. 3 has doubled in a month.
Cardano differs from its bigger cousins because transactions are verified using “proof of stake,” which rewards ownership, rather than “proof of work,” which rewards effort. The former uses much less energy. Ethereum is switching to proof of stake, but maybe not for a year or two. On the other hand, Cardano is less suited to so-called smart contracts, which automatically execute certain agreed actions, until a revamp later in September. Another difference is that the supply of Cardano’s ADA is limited, like bitcoins but unlike ether’s.
Crypto-believers may just hedge their bets by investing in all of them. But Cardano’s rise shows how the space is evolving – collectively. New entrants from Polkadot to Iota each bring some perk that the others don’t. Variations run into the thousands. Cardano’s success could be fleeting as copycats take its charms and build on them to create more appealing alternatives.
Those with long memories might remember Altavista, the 1990s search engine that introduced firsts like web-page translation. It stormed ahead until Google wiped it off the map, in part by piggybacking off the advances of its predecessors. A dollar invested in Google’s forebears might have been wasted, but without that, search wouldn’t be what it is today. That’s the paradox of crypto too: only through today’s investors losing fortunes will the sector deliver sustainable riches.
By JAKE FRANKENFIELD Updated December 21, 2020
What Is Dogecoin?
Dogecoin (DOGE) is a peer-to-peer, open-source cryptocurrency. It is considered an altcoin and an almost sarcastic meme coin. Launched in Dec. 2013, Dogecoin has the image of a Shiba Inu dog as its logo.
While it was created seemingly as a joke, Dogecoin's blockchain still has merit. Its underlying technology is derived from Litecoin. Notable features of Dogecoin, which uses a scrypt algorithm, are its low price and unlimited supply.
Dogecoin started as something of a joke, but after it was created, it gained a following. By late 2017, it was participating in the cryptocurrency bubble that sent the values of many coins up significantly.1 After the bubble burst in 2018, Dogecoin lost much of its value, but it still has a core of supporters who trade it and use it to tip content on Twitter and Reddit.
Users can buy and sell Dogecoin on digital currency exchanges. They can opt to store their Dogecoin on an exchange or in a Dogecoin wallet.
The History of Dogecoin
In the Beginning
Jackson Palmer, a product manager at the Sydney, Australia office of Adobe Inc., created Dogecoin in 2013 as a way to satirize the hype surrounding cryptocurrencies. Palmer has been described as a "skeptic-analytic" observer of the emerging technology, and his initial tweets about his new cryptocurrency venture were done tongue-in-cheek. But after getting positive feedback on social media, he bought the domain dogecoin.com.
Meanwhile in Portland, Oregon, Billy Markus, a software developer at IBM who wanted to create a digital currency but had trouble promoting his efforts, discovered the Dogecoin buzz. Markus reached out to Palmer to get permission to build the software behind an actual Dogecoin.
Markus based Dogecoin's code on Luckycoin, which is itself derived from Litecoin, and initially used a randomized reward for block mining, although that was changed to a static reward in March 2014. Dogecoin uses Litecoin's scrypt technology and is a proof-of-work coin.
Palmer and Markus launched the coin on Dec. 6, 2013. Two weeks later on Dec. 19, the value of Dogecoin jumped 300%, perhaps due to China forbidding its banks from investing in cryptocurrency.
The Rise of Dogecoin
Dogecoin marketed itself as a "fun" version of Bitcoin with a Shibu Inu (Japanese dog) as its logo. Dogecoin's casual presentation suited the mood of the burgeoning crypto community. Its scrypt technology and unlimited supply was an argument for a faster, more adaptable, and consumer-friendly version of Bitcoin.
Dogecoin is an "inflationary coin," while cryptocurrencies like Bitcoin are deflationary because there’s a ceiling on the number of coins that will be created. Every four years the amount of Bitcoin released into circulation via mining rewards is halved and its inflation rate is halved along with it until all coins are released.
In Jan. 2014, the Dogecoin community donated 27 million Dogecoins worth approximately $30,000 to fund the Jamaican bobsled team's trip to the Sochi Winter Olympic games. In March of that year, the Dogecoin community donated $11,000 worth of Dogecoin to build a well in Kenya and $55,000 of Dogecoin to sponsor NASCAR driver Josh Wise.
By its first birthday, Dogecoin had a market capitalization of $20 million and a loyal fanbase.
Controversy Takes Some Fun From Dogecoin
The freewheeling fun of Dogecoin lost some of its mirth in 2015 as the crypto community, in general, started to grow more serious. The first sign that not all was well with the Dogecoin community was the departure of Jackson Palmer who has said that a “toxic community” had grown up around the coin and the money it was producing.
One member of that toxic community was Alex Green, a.k.a. Ryan Kennedy, a British citizen who created a Dogecoin exchange called Moolah. Alex Green (his pseudonym) was known in the community as a lavish tipper who reportedly mistakenly gave $15,000 instead of $1,500 to the NASCAR fundraiser.
Green's exchange convinced members of the community to donate large sums to help fund the creation of his exchange, but it later surfaced that he had used the donations to buy more than $1.5 million of Bitcoin that in turn bought him a lavish lifestyle. Separately, Kennedy was convicted in 2016 of multiple counts of rape and sentenced to 11 years in prison.
Dogecoin During and After the Crypto Bubble of 2017-2018
Dogecoin's value skyrocketed with the rest of the cryptoverse during the bubble that peaked at the end of 2017, and it fell with the rest of the cryptoverse over 2018. At its height, Dogecoin was trading for $0.018 and had a market cap of over $2 billion.
In the summer of 2019, Dogecoin saw another bump in value along with the rest of the crypto market. Dogecoin enthusiasts were happy when the crypto exchange Binance listed the coin, and many thought Tesla CEO Elon Musk had endorsed the coin in a cryptic tweet.
Dogecoin in the 2020s
Dogecoin's infrastructure has not been a central source of concern for the coin's developers, however, who are still volunteers. One reason it still continues to operate and trade, however, is its active community of miners. As Zachary Mashiach of CryptoIQ puts it:
Numerous Scrypt miners still prefer Dogecoin (DOGE) over other Scrypt PoW cryptocurrencies. Indeed, the Dogecoin (DOGE) hash rate is roughly 150 TH/s. This is just below the Litecoin (LTC) hash rate of 170 TH/s, likely because Dogecoin (DOGE) can be merge mined with Litecoin (LTC), meaning miners can mine both cryptos simultaneously using the same work. Essentially, practically everyone who mines Litecoin (LTC) chooses to mine Dogecoin (DOGE) as well, because merge mining Dogecoin (DOGE) increases profits.
As of Dec. 21, 2020, Dogecoin's market cap ranking was 43, with a market capitalization of $611 million.
Ethereum, Bitcoin, and Dogecoin Lecture (Thanks, Jack, Madeline, and Thomas)
Homework of chapter 2 (due with first mid term)
What happens when Fed balance sheet is too big? Answer: Here's why investors worry about the Fed's balance sheet: If it unwinds too quickly and overly constrains the money supply, higher borrowing costs could grind the economy into a recession. However, if there's too much money sloshing around it could lead to higher inflation.
2. Write down the definition of M0, M1, M2 and M3; Which one is used as a measure of money supply in this country? How much is it by the end of July 2020?
3. From Fed St. Louis website, find the most recent charts of M1 money stock and M2 money stock.
Compare the two charts and discuss the differences between the two charts.
4.What is fractional banking system?
Imagine that you deposited $5,000 in Bank A. Reserve ratio is 0.1. Imagine that the fractional banking system is fully functioning. After five cycles, what is the amount that has been deposited and what is the total amount that has been lent out? Template here FYI
5. What is bitcoin? In your view, could bitcoin become a major global currency? Could governments ban or destroy bitcoin?
6. What is Ethereum? What is Dogecoin?
7. Among the three crypto currencies (Bitcoin, Ethereum, and Dogecoin), which one do you recommend? For shrot term? For long term?
8. Could crypto currency put banks out of business? What is your opinion?
(continuing from above)
Planted in industrial Bushwick, a stone’s throw from the pizza mecca Roberta’s, “headquarters” seemed an unlikely word. The front door was festooned with graffiti and stickers; inside, the stairwells of the space appeared to have been last renovated during the Coolidge administration. Just about three years old, the ConsenSys network now includes more than 550 employees in 28 countries, and the operation has never raised a d0ime of venture capital. As an organization, ConsenSys does not quite fit any of the usual categories: It is technically a corporation, but it has elements that also resemble nonprofits and workers’ collectives. The shared goal of ConsenSys members is strengthening and expanding the Ethereum blockchain. They support developers creating new apps and tools for the platform, one of which is MetaMask, the software that generated my Ethereum address. But they also offer consulting-style services for companies, nonprofits or governments looking for ways to integrate Ethereum’s smart contracts into their own systems.
The true test of the blockchain will revolve — like so many of the online crises of the past few years — around the problem of identity. Today your digital identity is scattered across dozens, or even hundreds, of different sites: Amazon has your credit-card information and your purchase history; Facebook knows your friends and family; Equifax maintains your credit history. When you use any of those services, you are effectively asking for permission to borrow some of that information about yourself in order perform a task: ordering a Christmas present for your uncle, checking Instagram to see pictures from the office party last night. But all these different fragments of your identity don’t belong to you; they belong to Facebook and Amazon and Google, who are free to sell bits of that information about you to advertisers without consulting you. You, of course, are free to delete those accounts if you choose, and if you stop checking Facebook, Zuckerberg and the Facebook shareholders will stop making money by renting out your attention to their true customers. But your Facebook or Google identity isn’t portable. If you want to join another promising social network that is maybe a little less infected with Russian bots, you can’t extract your social network from Twitter and deposit it in the new service. You have to build the network again from scratch (and persuade all your friends to do the same).
The blockchain evangelists think this entire approach is backward. You should own your digital identity — which could include everything from your date of birth to your friend networks to your purchasing history — and you should be free to lend parts of that identity out to services as you see fit. Given that identity was not baked into the original internet protocols, and given the difficulty of managing a distributed database in the days before Bitcoin, this form of “self-sovereign” identity — as the parlance has it — was a practical impossibility. Now it is an attainable goal. A number of blockchain-based services are trying to tackle this problem, including a new identity system called uPort that has been spun out of ConsenSys and another one called Blockstack that is currently based on the Bitcoin platform. (Tim Berners-Lee is leading the development of a comparable system, called Solid, that would also give users control over their own data.) These rival protocols all have slightly different frameworks, but they all share a general vision of how identity should work on a truly decentralized internet.
What would prevent a new blockchain-based identity standard from following Tim Wu’s Cycle, the same one that brought Facebook to such a dominant position? Perhaps nothing. But imagine how that sequence would play out in practice. Someone creates a new protocol to define your social network via Ethereum. It might be as simple as a list of other Ethereum addresses; in other words, Here are the public addresses of people I like and trust. That way of defining your social network might well take off and ultimately supplant the closed systems that define your network on Facebook. Perhaps someday, every single person on the planet might use that standard to map their social connections, just as every single person on the internet uses TCP/IP to share data. But even if this new form of identity became ubiquitous, it wouldn’t present the same opportunities for abuse and manipulation that you find in the closed systems that have become de facto standards. I might allow a Facebook-style service to use my social map to filter news or gossip or music for me, based on the activity of my friends, but if that service annoyed me, I’d be free to sample other alternatives without the switching costs. An open identity standard would give ordinary people the opportunity to sell their attention to the highest bidder, or choose to keep it out of the marketplace altogether.
Gutterman suggests that the same kind of system could be applied to even more critical forms of identity, like health care data. Instead of storing, say, your genome on servers belonging to a private corporation, the information would instead be stored inside a personal data archive. “There may be many corporate entities that I don’t want seeing that data, but maybe I’d like to donate that data to a medical study,” she says. “I could use my blockchain-based self-sovereign ID to [allow] one group to use it and not another. Or I could sell it over here and give it away over there.”
The token architecture would give a blockchain-based identity standard an additional edge over closed standards like Facebook’s. As many critics have observed, ordinary users on social-media platforms create almost all the content without compensation, while the companies capture all the economic value from that content through advertising sales. A token-based social network would at least give early adopters a piece of the action, rewarding them for their labors in making the new platform appealing. “If someone can really figure out a version of Facebook that lets users own a piece of the network and get paid,” Dixon says, “that could be pretty compelling.”
Would that information be more secure in a distributed blockchain than behind the elaborate firewalls of giant corporations like Google or Facebook? In this one respect, the Bitcoin story is actually instructive: It may never be stable enough to function as a currency, but it does offer convincing proof of just how secure a distributed ledger can be. “Look at the market cap of Bitcoin or Ethereum: $80 billion, $25 billion, whatever,” Dixon says. “That means if you successfully attack that system, you could walk away with more than a billion dollars. You know what a ‘bug bounty’ is? Someone says, ‘If you hack my system, I’ll give you a million dollars.’ So Bitcoin is now a nine-year-old multibillion-dollar bug bounty, and no one’s hacked it. It feels like pretty good proof.”
Additional security would come from the decentralized nature of these new identity protocols. In the identity system proposed by Blockstack, the actual information about your identity — your social connections, your purchasing history — could be stored anywhere online. The blockchain would simply provide cryptographically secure keys to unlock that information and share it with other trusted providers. A system with a centralized repository with data for hundreds of millions of users — what security experts call “honey pots” — is far more appealing to hackers. Which would you rather do: steal a hundred million credit histories by hacking into a hundred million separate personal computers and sniﬃng around until you found the right data on each machine? Or just hack into one honey pot at Equifax and walk away with the same amount of data in a matter of hours? As Gutterman puts it, “It’s the difference between robbing a house versus robbing the entire village.”
So much of the blockchain’s architecture is shaped by predictions about how that architecture might be abused once it finds a wider audience. That is part of its charm and its power. The blockchain channels the energy of speculative bubbles by allowing tokens to be shared widely among true supporters of the platform. It safeguards against any individual or small group gaining control of the entire database. Its cryptography is designed to protect against surveillance states or identity thieves. In this, the blockchain displays a familial resemblance to political constitutions: Its rules are designed with one eye on how those rules might be exploited down the line.
Much has been made of the anarcho-libertarian streak in Bitcoin and other nonfiat currencies; the community is rife with words and phrases (“self-sovereign”) that sound as if they could be slogans for some militia compound in Montana. And yet in its potential to break up large concentrations of power and explore less-proprietary models of ownership, the blockchain idea offers a tantalizing possibility for those who would like to distribute wealth more equitably and break up the cartels of the digital age.
The blockchain worldview can also sound libertarian in the sense that it proposes nonstate solutions to capitalist excesses like information monopolies. But to believe in the blockchain is not necessarily to oppose regulation, if that regulation is designed with complementary aims. Brad Burnham, for instance, suggests that regulators should insist that everyone have “a right to a private data store,” where all the various facets of their online identity would be maintained. But governments wouldn’t be required to design those identity protocols. They would be developed on the blockchain, open source. Ideologically speaking, that private data store would be a true team effort: built as an intellectual commons, funded by token speculators, supported by the regulatory state.
Like the original internet itself, the blockchain is an idea with radical — almost communitarian — possibilities that at the same time has attracted some of the most frivolous and regressive appetites of capitalism. We spent our first years online in a world defined by open protocols and intellectual commons; we spent the second phase in a world increasingly dominated by closed architectures and proprietary databases. We have learned enough from this history to support the hypothesis that open works better than closed, at least where base-layer issues are concerned. But we don’t have an easy route back to the open-protocol era. Some messianic next-generation internet protocol is not likely to emerge out of Department of Defense research, the way the first-generation internet did nearly 50 years ago.
Yes, the blockchain may seem like the very worst of speculative capitalism right now, and yes, it is demonically challenging to understand. But the beautiful thing about open protocols is that they can be steered in surprising new directions by the people who discover and champion them in their infancy. Right now, the only real hope for a revival of the open-protocol ethos lies in the blockchain. Whether it eventually lives up to its egalitarian promise will in large part depend on the people who embrace the platform, who take up the baton, as Juan Benet puts it, from those early online pioneers. If you think the internet is not working in its current incarnation, you can’t change the system through think-pieces and F.C.C. regulations alone
Supplemental reading material
Can Bitcoin Kill Central Banks? (optional)
By JAMES MCWHINNEY Updated Mar 11, 2021
What Is Bitcoin?
Bitcoin is a digital currency that, in the words of its sponsors, “uses peer-to-peer technology to operate with no central authority or banks.”By its very definition Bitcoin seems well-positioned to kill off central banks. Could it? Would it? Should it? Like just about everything else involving finance, the topic of central banks and their potential replacements is complex with valid arguments for and against.
The History of Central Banks
The English refined the concept of central banking in 1844 with the Bank Charter Act, a legislative effort that laid the groundwork for an institution that had monopoly power to issue currency. The idea was that a bank with that level of power could help stabilize the financial system in times of crisis. It’s a concept that many experts agree helped stave off disaster during the 2007-2008 financial crisis and the Great Recession that followed.
Central banks have evolved over time. The U.S. Federal Reserve, for example, is tasked with using monetary policy as a tool to do the following:
What Central Banks Do
To achieve these objectives, the Federal Reserve and other central banks can increase or decrease interest rates and create or destroy money. For example, if the economy seems to be growing too quickly and causing prices for goods and services to rise so rapidly that they become unaffordable, a central bank can increase interest rates to make it more expensive for borrowers to access money.
A central bank can also remove money from the economy by reducing the amount of money the central bank makes available to other banks for borrowing purposes. Since money largely exists on electronic balance sheets, simply hitting delete can make it disappear. Doing so reduces the amount of money available to purchase goods, theoretically causing prices to fall.
Of course, every action has a reaction. While reducing the amount of money in circulation may cause prices to fall, it also makes it more difficult for businesses to borrow money. In turn, these businesses may become cautious, unwilling to invest, and unwilling to hire new workers.
If an economy is not growing quickly enough, central banks can reduce interest rates or create money. Reducing interest rates make it less expensive, and therefore easier and more appealing, for business and consumers to borrow money. Similarly, central banks can increase the amount of money that banks have available to lend.
Central banks can also engage in additional efforts to manipulate economies. These efforts can include the purchase of securities (bonds) on the open market in an effort to generate demand for them. Increased demand leads to lower interest rates, as borrowers do not need to offer a higher rate because the central bank offers a ready and willing buyer.
Central Bank Policy Risks
Central bank-led efforts to steer economies on to the path to prosperity are fraught with peril. If interest rates are too low, inflation can become a problem. As prices rise and consumers can no longer afford to buy the items they wish to purchase, the economy can slow. If rates are too high, borrowing is stifled and the economy is hobbled.
Low-interest rates (relative to other nations) cause investors to pull money out of one country and send it to another country that offers a greater return in the form of higher interest rates. Consider the plight of retirees who rely on high-interest rates to generate income. If rates are low, these people suffer a direct hit to their purchasing power and ability to pay their bills. Sending cash to a country that offers better returns is a logical decision.
Manipulation of interest rates and/or the money supply also has a direct effect on the value of a nation’s currency. A strong dollar makes it more expensive for domestic firms to sell goods abroad. This can lead to domestic unemployment. A weak dollar increases the price of imported goods, including oil and other commodities.
This can make it more expensive for consumers to purchase imports and for domestic companies to produce goods that rely on imported parts or materials. Arguably, a weak dollar is beneficial for a slow economy that needs to pick up steam while a strong dollar is good for consumers.
Because there is a lag between the time a central bank begins to implement a policy change and that change actually having an impact on a nation’s economy, central banks are always looking to the future. They want to make policy changes today that will enable them to achieve future goals.
Arguments Against Central Banks
The very complexities associated with national and global economies set the stage for an argument that these economies are too unpredictable to be successfully managed by the type of manipulation central banks engage in. This argument, made by proponents of the Austrian School of Economics, can be used to support the implementation of Bitcoin-style peer-to-peer currency that eliminates central banks and their complex schemes.
Negative Impact on Citizens and the Economy
Modern central banks have been the subject of controversy since their inception. And the reasons for discontent are wide and varied. On one hand, the concept of monopoly power is profoundly disturbing to many people. On another, the existence of an independent, opaque entity that has the power to manipulate an economy is even more disturbing.
Many people (including economists and politicians) believe that central banks make mistakes that have enormous ramifications in the lives of citizens. These mistakes include:
Increases in the monetary supply (creating inflation and hurting consumers by raising prices for the goods and services they purchase)
The implementation of interest rate increases (hurting consumers who wish to borrow money)
The formulation of policies that keep inflation too low (resulting in unemployment)
The implementation of unnaturally low-interest rates (creating asset bubbles in real estate, stocks, or bonds)
Along these lines, no less an authority than former Chair of the Federal Reserve Ben Bernanke blames manipulation by the central bank (which raised interest rates) for the Great Depression of 1929.
The Impact of Technology
In an era when technology has enabled consumers to engage in commerce without the need for a central authority, an argument can be made that central banks are no longer necessary. A broader examination of the banking system extends this argument.
Corruption associated with the banking system resulted in the Great Recession and a host of scandals. Bankers have caused great angst in Greece and other nations. Organizations such as the International Monetary Fund have been cited for fostering profits over people. And at the more local level, bankers make billions of dollars by serving as the middlemen in transactions between individuals. In this environment, the elimination of the entire banking system is an appealing concept to many people.
The Bottom Line
Central banks are currently the dominant structure nations use to manage their economies. They have monopoly power and are not going to give up that power without a fight. While Bitcoin and other digital currencies have generated significant interest, their adoption rates are minuscule and government support for them is virtually nonexistent.
Until and unless governments recognize
Bitcoin as a legitimate currency, it has little hope of killing off central
banks any time soon. That
noted, central banks across the globe
are watching and studying Bitcoin. Based on the fact that metal coins are
expensive to manufacture (often costing more than their face value), it is
more likely than not that central banks will one day issue digital currencies
of their win.
Bank of America, JPMorgan Call Cryptocurrencies a Threat (optional)
By DAVID FLOYD Updated Jun 25, 2019
In its annual 10-K filing with the Securities and Exchange Commission (SEC), released Feb. 22, Bank of America Corp. (BAC) listed cryptocurrencies among the risk factors that could impact the bank's competitiveness and reduce its revenues and profits. The disclosure was followed on Feb. 27 by a similar message from JPMorgan Chase & Co. (JPM), whose CEO, Jamie Dimon, has previously called bitcoin a "fraud."
The idea that bitcoin and other cryptocurrencies pose a threat to incumbent financial institutions is as old as Satoshi Nakamoto's whitepaper, the abstract of which begins, "A purely peer-to-peer version of electronic cash would allow online payments to be sent directly from one party to another without going through a financial institution." But the idea that this threat was real – much less imminent or existential – was long limited to enthusiasts’ forums, dedicated subreddits and certain corners of Twitter.
To be sure, Bank of America's brief mentions of cryptocurrencies as risk factors – first spotted by the Financial Times – hardly signal panic. The bank describes three ways in which cryptocurrencies could pose a threat. The first two implicitly denigrate the new assets. "Emerging technologies, such as cryptocurrencies, could limit our ability to track the movement of funds," the filing says, making it harder for Bank of America to comply with know-your-customer and anti-money-laundering regulations.
"Further," the bank writes, "clients may choose to conduct business with other market participants who engage in business or offer products in areas we deem speculative or risky, such as cryptocurrencies."
The third risk factor, however, does not derive from cryptocurrencies’ legal complications or flighty customers' susceptibility to bubbles. It derives from bitcoin's ability to bypass intermediaries:
"Additionally, the competitive landscape may be impacted by the growth of non-depository institutions that offer products that were traditionally banking products as well as new innovative products. This can reduce our net interest margin and revenues from our fee-based products and services. In addition, the widespread adoption of new technologies, including internet services, cryptocurrencies and payment systems, could require substantial expenditures to modify or adapt our existing products and services as we grow and develop our internet banking and mobile banking channel strategies in addition to remote connectivity solutions."
If that disclosure is a bit mealy-mouthed, JPMorgan's is to-the-point, almost echoing Nakamoto's language:
"both financial institutions and their non-banking competitors face the risk that payment processing and other services could be disrupted by technologies, such as cryptocurrencies, that require no intermediation. New technologies have required and could require JPMorgan Chase to spend more to modify or adapt its products to attract and retain clients and customers or to match products and services offered by its competitors, including technology companies."
A Real Threat?
While decentralized financial networks could threaten banks' long-term viability, the immediate threat posed by bitcoin and its peers is negligible.
Bitcoin in particular has several widely acknowledged flaws, which its detractors see as crippling. It can process only a handful of transactions per second, compared to the tens of thousands major credit card networks can handle. As Bank of America mentioned, its quasi-anonymity makes its use dicey if not illegal for certain applications, particularly by heavily regulated institutions. Its price in fiat terms is so volatile that accepting a salary or taking out a mortgage in bitcoin would be extremely risky. Finally, its occasionally high and generally unpredictable fees make it all but worthless for small transactions. Other cryptocurrencies have made attempts to solve one or more of these problems, with limited success.
At the same time, bitcoin and its peers enable something that has never before been possible in human history: transacting at a distance without placing trust in an intermediary. Banks' business models depend on their role as trusted nodes in a centralized financial system. Replacing them with a decentralized network remains firmly in the realm of theory. But it is, as Bank of America and JPMorgan appear to acknowledge, theoretically possible. (See also, Blockchain Could Make You—Not Equifax—the Owner of Your Data.)
Blockchain Not Bitcoin
While this is the first time big banks' 10-Ks have hinted at the fundamental threat posed by peer-to-peer money, the sector has engaged in a multi-year dialogue with proponents of cryptocurrencies. Mostly it has been acrimonious.
Charlie Munger, vice-chair of Berkshire Hathaway Inc. (BRK-A, BRK-B) called bitcoin "noxious poison" earlier in February. Berkshire's biggest stock holding is Wells Fargo & Co. (WFC), which opened perhaps 3.5 million fake accounts in customers' names without their permission from 2009 to 2016. Munger said regulators should "let up" on the lender following this scandal, which bitcoin's proponents might argue illustrates the "inherent weakness of the trust based model" – Nakamoto's words. (See also, Wells Fargo CEO John Stumpf to Retire Immediately.)
Dimon, JPMorgan's CEO, has called bitcoin a fraud, but has expressed enthusiasm for the underlying blockchain technology. This blockchain-not-bitcoin line has been echoed by a number of other financial incumbents, and it's hinted at in the 10-K's suggestion that JPMorgan could have to "modify or adapt its products." The bank is already building a blockchain platform called Quorum.
In fact almost every major lender has joined one blockchain consortium or another, and central bankers – most recently the Bank of England's Mark Carney – have expressed enthusiasm for blockchain that does not extend to bitcoin.
When Is a Blockchain Not a Blockchain?
Critics of this blockchain-not-bitcoin posture see it as a way of deflecting attention from bitcoin's core innovation. Bitcoin and other blockchain-based assets offer distributed networks in which value can be transferred without trusting any single party, such as a bank. According to this logic, banks cannot innovate their way out of trouble by building their own decentralized networks: banks are necessarily absent from any such network.
Another critique is that blockchain technology – at least the most reliably secure form, known as proof of work – is highly inefficient (and carries potentially severe environmental consequences). Centralized parties such as banks have little obvious reason to employ blockchains, which offer no advantage over traditional databases – unless the goal is decentralization – and promise to consume vastly more electricity in order to process transactions at slower speeds. Banks have countered that blockchain technology can speed up settlement times, particularly for complicated derivatives trades. (See also, How Does Bitcoin Mining Work?)
On the other hand, many proposed enterprise blockchains use alternative consensus models, which are more similar to proof of stake than proof of work. These models are potentially more energy efficient but, critics argue, have not demonstrated the same security as proof of work.
It may make some sense for large consortia of banks to employ blockchains, since they could allow all parties to transact among themselves without trusting each other. The issue is that, in order to be trustless, a blockchain-based network must be at least half honest. If even the slimmest majority of banks collude, the network can suffer a so-called 51% attack. Past manipulation of rates and markets for currencies and precious metals by groups of financial institutions indicate that is not an unreasonable concern.
In any case, though, it is not necessary for banks to explicitly conspire to compromise a network. Blockchains are intended to enable commerce among networks of nodes who do not know or trust each other at all. Even if a majority of participants shares an interest in common – which is not unlikely in a group of a couple dozen financial incumbents – the network is insecure enough. That is, the added inefficiencies of using blockchain technology may outweigh the benefits of decentralization.
"Some of these platforms are developed to be kind of replicas of the old system," MIT assistant professor of technological innovation, entrepreneurship and strategic management Christian Catalini told Investopedia in September, "where the trusted intermediary has almost the same control, or exactly the same control, it would have had in the old system. And then you're wondering, why are we switching to a less efficient IT infrastructure? Because it's trendy?"
That, or to mitigate a growing threat.
Chapter 3 Financial Instruments, Financial Markets, and Financial Institutions
Part I: Examples and characteristics of financial instruments
What Is a Financial Instrument? Video
Financial instruments are assets that can be traded, or they can also be seen as packages of capital that may be traded. Most types of financial instruments provide efficient flow and transfer of capital all throughout the world's investors. These assets can be cash, a contractual right to deliver or receive cash or another type of financial instrument, or evidence of one's ownership of an entity.
Understanding Financial Instruments
Financial instruments can be real or virtual documents representing a legal agreement involving any kind of monetary value. Equity-based financial instruments represent ownership of an asset. Debt-based financial instruments represent a loan made by an investor to the owner of the asset.
Foreign exchange instruments comprise a third, unique type of financial instrument. Different subcategories of each instrument type exist, such as preferred share equity and common share equity.
International Accounting Standards (IAS) defines financial instruments as "any contract that gives rise to a financial asset of one entity and a financial liability or equity instrument of another entity."
Types of Financial Instruments
Financial instruments may be divided into two types: cash instruments and derivative instruments.
The values of cash instruments are directly influenced and determined by the markets. These can be securities that are easily transferable.
Cash instruments may also be deposits and loans agreed upon by borrowers and lenders.
The value and characteristics of derivative instruments are based on the vehicle’s underlying components, such as assets, interest rates, or indices.
An equity options contract, for example, is a derivative because it derives its value from the underlying stock. The option gives the right, but not the obligation, to buy or sell the stock at a specified price and by a certain date. As the price of the stock rises and falls, so too does the value of the option although not necessarily by the same percentage.
There can be over-the-counter (OTC) derivatives or exchange-traded derivatives. OTC is a market or process whereby securities–that are not listed on formal exchanges–are priced and traded.
Types of Asset Classes of Financial Instruments
Financial instruments may also be divided according to an asset class, which depends on whether they are debt-based or equity-based.
Debt-Based Financial Instruments
Short-term debt-based financial instruments last for one year or less. Securities of this kind come in the form of T-bills and commercial paper. Cash of this kind can be deposits and certificates of deposit (CDs).
Exchange-traded derivatives under short-term, debt-based financial instruments can be short-term interest rate futures. OTC derivatives are forward rate agreements.
Long-term debt-based financial instruments last for more than a year. Under securities, these are bonds. Cash equivalents are loans. Exchange-traded derivatives are bond futures and options on bond futures. OTC derivatives are interest rate swaps, interest rate caps and floors, interest rate options, and exotic derivatives.
Equity-Based Financial Instruments
Securities under equity-based financial instruments are stocks. Exchange-traded derivatives in this category include stock options and equity futures. The OTC derivatives are stock options and exotic derivatives.
Getting to Know the Money Market
By BARCLAY PALMER Updated June 08, 2021
The major attributes that draw an investor to short-term money market instruments are superior safety and liquidity. Money market instruments have maturities that range from one day to one year, although they are most often three months or less. Because these investments are associated with massive and actively traded secondary markets, you can almost always sell them prior to maturity, albeit at the price of forgoing the interest you would have gained by holding them until maturity.
Types of Money Market Instruments
A large number of financial instruments have been created for the purposes of short-term lending and borrowing. Many of these money market instruments are quite specialized, and they are typically traded only by those with intimate knowledge of the money market, such as banks and large financial institutions.
Some examples of these specialized instruments are federal funds, the discount window, negotiable certificates of deposit (NCDs), eurodollar time deposits, repurchase agreements, government-sponsored enterprise securities, shares in money market instruments, futures contracts, futures options, and swaps.
Aside from these specialized instruments on the money market are the investment vehicles with which individual investors will be more familiar, such as short-term investment pools (STIPs) and money market mutual funds, Treasury bills, short-term municipal securities, commercial paper, and bankers' acceptances. Here we take a closer look at STIPs, money market mutual funds, and Treasury bills.
Short-Term Investment Pools and Money Market Mutual Funds
Short-term investment pools (STIPs) include money market mutual funds, local government investment pools, and short-term investment funds of bank trust departments. All STIPs are sold as shares in very large pools of money market instruments, which may include any or all of the money market instruments mentioned above. In other words, STIPs are a convenient means of cumulating various money market products into one product, just as an equity or fixed income mutual fund brings together a variety of stocks, bonds, and so forth.
STIPs make specialized money market instruments accessible to individual investors without requiring intimate knowledge of the various instruments contained within the pool. STIPs also alleviate the large minimum investment amounts required to purchase most money market instruments, which generally equal or exceed $100,000.
Money market accounts are safe, low-risk investments. They're generally a good place to put your money, especially if you need immediate access to it while you collect interest. Institutions offer higher interest rates because they use the funds in money market accounts to invest in short-term assets with short-term maturities, as noted above.
Part II: Order types (supplement materials)