Is Crypto the Future of Currency Afterall?

Cryptocurrency is the most recent craze among today’s youth. However, the recent collapse of the cryptocurrency trading platform, Futures Exchange (FTX Trading Ltd.), once valued at $32 billion, and other recent crypto failures like BlockFI, Voyager Digital and Three Arrows Capital, makes it seem as though cryptocurrencies and their underlying blockchain technology were mainly a gimmick. This is only corroborated by the fall in the market capitalization of the crypto sector from a peak of almost $3 trillion to less than one trillion dollars today. Many attribute the speculative excesses seen in the crypto space as caused by loose monetary policy, and further exacerbated by government handouts during the COVID-19 pandemic; this was a case of too much money chasing a supposedly scarce amount of digital assets. For example, Bitcoin, the benchmark standard in cryptocurrencies, has a limit of 21 million units that can be “mined,” against the current existing supply of about 19.2 million; this limit was put in place to keep Bitcoin scarce in order to maintain its value, much like real gold. For the last several years, many proponents have made the case that Bitcoin was the new gold, which would hold its value in an inflationary environment; and these supporters have advocated allocating a certain percentage of investment portfolios to cryptocurrencies. Furthermore, the valuations of cryptocurrencies have been promoted further by celebrities like Kim Kardashian, who recently agreed to pay a $1.26 million penalty to the Securities and Exchange Commission for promoting a cryptocurrency for which she was paid a promotion fee without disclosing it publicly.  

Each cryptocurrency is associated with a particular blockchain. The blockchain is a decentralized ledger system created to keep track of transactions using an ecosystem which has many unrelated validators (“miners”) who are paid for this work in the native currency of the blockchain, like cryptocurrency. Each time a validator competes and wins in validating a transaction, a certain number of Bitcoins are created (“mined”) and paid to the validator. Cryptocurrencies are not difficult to create, and many new ones have been started by merely copying the code of a pre-existing one. New cryptocurrencies are usually launched using a method known as an Initial Coin Offering (ICO) whereby founders of the unique blockchain seek to raise funds to build a new blockchain platform. The ease with which cryptocurrencies can be created and launched in an ICO has attracted both entrepreneurs seeking to build on this technology, but as with any unregulated system where raising money is easy, it has also attracted a legion of bad actors seeking to turn a quick profit. By some estimates there are over 10,000 different cryptocurrencies in existence. 

The recent scandal with FTX, seems to be, at best,  a case of poor risk management, and, at worst, outright fraud. Only an in-depth investigation into the actions and accounts of those involved will clarify this. Its founder Sam Bankman-Fried claims there was no fraud. The collapse of FTX is important to the discussion of the future of crypto given its high-profile nature, and because of some of the notable investors who were involved. Sequoia Capital, the legendary venture capital firm, and Temasek, the Singaporean Government-owned investment company, both invested substantial amounts in FTX. Many are asking how such respected investors were duped and whether the whole ecosystem that surrounds the cryptocurrency world is built on a house of cards. 

Blockchains and their cryptocurrencies are a solution in search of a problem. So far, the best-known application to cryptocurrencies has been in money transfer. Many have derided the current state of traditional banking for its slow and time-consuming methods of moving money both within countries and internationally; beyond this, banks charge large fees for international transactions. However, the technology available even with one of the fastest and best known blockchains, Solana, is still less than 4,000 transactions a second. This compares unfavorably with a traditional processor like Visa, a credit card company, which claims to be able to process 24,000 transactions per second. And while newer blockchains will no doubt emerge with faster processing speeds, having 10,000 different cryptocurrencies, without wider usage, suggests that many of them will fail. 

The creation of cryptocurrencies and blockchains is reminiscent of the early years of the technology boom of the late 1990s and early 2000s. Then, as now, many new start-ups (“Dotcoms”) were able to raise funds despite having poor business plans; in addition, technology for the internet was still in its infancy, with connectivity defined in kilobits per second versus the speeds available today which are measured in megabits per second – a magnitude of several thousand times faster today than 20 years ago. And while many of the early companies failed, a handful dominate our daily lives today like Alphabet (Google) and Amazon. Today, entrepreneurs are building Web3.0 and the Metaverse; and while both concepts are vaguely defined and, in some ways, differentiated, they are interlinked. Web3.0 is the third generation of the internet; the first was the building of the infrastructure and companies which hosted content; the second was the social media revolution and user led content; and the third, or Web3.0, is likely to be built off the blockchain and will involve decentralized hosting of applications and content as opposed to the ring-fenced version we see today with the likes of Meta (Facebook), Twitter, and other social media companies. In Web3.0 each of us will own our own profiles and content, and will be able to control these, rather than having them held disparately by various technology companies. The Metaverse is the immersive and virtual world of the internet, which can be accessed by using headsets like the Meta Quest Pro or through applications produced by gaming companies like Roblox. While these two concepts seem to be developing in parallel, some see that the two will become interdependent. For example, companies like Decentraland and The Sandbox offer a Metaverse experience but are built on blockchain technology. 

The world of blockchains and cryptocurrencies is going through a difficult birth, and it seems like an unregulated and new field has been overtaken by speculation, greed and fraud. But the underlying technology is continuing to be developed, and new applications will eventually be realized. The Metaverse and finance offer two avenues for development. Beyond this, many major financial institutions and technology companies are investing on blockchain networks and the ecosystems that surround them. Twenty years from now it is likely a handful will become established as the bases for new applications, and no doubt many of the existing cryptocurrencies will fade into history like many of the Dotcom start-ups of the early internet age. For young and inexperienced investors, recent events are no doubt a warning to tread with caution in this new field; it will take insight to find the winners out of the 10,000 cryptocurrencies, and to avoid the majority which are likely to fail. So one should think twice before opening an account with brokerage companies.