Notes 2/24: Coinbase Base, Circle’s Hiring Spree, Bitcoin Price

Coinbase announced the launch of a test version of Base, a Layer 2 solution for Ethereum, yesterday. The company stated that the Layer 2 solution was a “secure, low-cost, developer friendly chain.” Base uses open-source software from Optimism – an already-existing solution that works off Ethereum.  

It has also set up a Base Ecosystem Fund to entice developers to work on the test chain and many crypto businesses have already committed to building products on Base. Among those who have committed are the likes of analytics firm Nansen, crypto bridge company Wormhole and decentralized protocol Aave.   

The idea is to bring more users into Coinbase’s fold through applications built on the blockchain. Thus, Coinbase users will be able to access more financial product offerings through the company’s app and website. “Our goal is to bring about phase 4 of Coinbase’s master plan: to bring a billion users into the crypto economy,” said Jesse Pollak, head of protocol products for Coinbase.  

A Price Jump

Layer 2 solutions are independent blockchains that function off the main network’s chain. They reduce transaction congestion on a blockchain’s network by taking over the heavy load of processing and confirming transactions. The confirmed transactions are committed to the underlying network.

The system is similar to that of a card processing network in which batched transactions from individual processors like businesses are reconciled on the card issuer’s network. Except, in this case, the underlying network is used for security and to ensure decentralization.

In response to yesterday’s announcement from the company, prices for tokens from Layer 2 solutions trading in crypto markets jumped. Why? Because this is crypto.

Coinbase’s stock also rose 5% in yesterday morning’s trading session. Ostensibly, investors might be enthusiastic about a new revenue stream for a company whose sources of revenue are in danger of drying up due to a drawdown in crypto markets and regulatory action from authorities.

But it is doubtful whether an entry into Layer 2 solutions will boost its balance sheet in the near term. The economics of Base are challenging. The service plans to charge fees of $0.10 to $0.50 for transactions. That means Coinbase will have to subsidize most operations on Base until it gains critical user volume. The problem here is that claims from enthusiastic proponents aside, Ethereum is still many years away from mainstream adoption.     

A Centralized Layer 2 For Decentralized Crypto  

There’s also the philosophical paradox that underlies practically all crypto ventures. Coinbase wants to bring “economic freedom” to everyone. The caveat to that grand proclamation is that it hinges on an expansion of the company’s business.

Base is a centralized system that will be responsible for processing and confirming transactions before it commits them to a supposedly decentralized blockchain. In other words, a centralized entity will make the final call on the constituents of economic freedom through its applications.   

Circle Is on A Hiring Spree

The tides seem to have turned pretty quickly for Circle – issuer of the USDC stablecoin. The company was struggling to remain solvent less than two years ago. Now, in the middle of a crypto winter that has induced mass layoffs in the industry, it plans to boost its headcount by “as much as 25%”, according to Bloomberg.

Circle CEO Jeremy Allaire told the publication that it plans to hire engineers and developers at “outposts” across the world. It is also on a marketing spree and purchased advertisements in newspapers to advertise itself as the future of payment. At this year’s Davos conference, where crypto took a back seat, Circle was a prominent presence.

The Mystery of Circle’s Finances

Where does it get the money to pay for these initiatives and hire employees?

Circle’s finances are a mystery. As I wrote earlier, it declared losses in a year when crypto volumes were up along with those of USDC, and bitcoin price set two records.  The Boston-based company claimed it was because its administrative and marketing spend rose in that year.

This past year has seen a different set of dynamics on display. Overall transaction volumes at crypto exchanges are down as are those for USDC, Circle’s stablecoin. Considering the company’s previous record of burning through cash, Circle should not have been thriving.

But the firm, which functioned as a market maker in crypto until 2018, claims that rising interest rates have boosted returns from the treasury securities in its reserves. It is unclear how much of those returns are accruing to its balance sheet. The company is required to share interest income with partners in its stablecoin venture. In 2021, it shared 41% of its interest income with exchanges according to a previous SEC filing.

Bitcoin Price And Macro

Up until now, the prevailing narrative around bitcoin price has been that its triggers have shifted developments in the crypto ecosystem to macroeconomic factors, such as the Fed’s tightening cycle. A new study from the New York Federal reserve claims that otherwise.

“Bitcoin is unresponsive to monetary and macroeconomic news,” the study’s authors declared. This means that the entire news cycle that attributes inflation data and Fed pronouncements as being responsible for the cryptocurrency’s price movement is false.

What, then, drives its volatility? Probably Tether. Probably perpetual futures. “…the result that Bitcoin does not react to monetary news is puzzling as it casts some doubts on the role of discount rates in pricing Bitcoin,” the authors write, in all seriousness.

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