Notes 3/22: Biden’s Economic Report, ETHW, and Lost Ethereum

If there was any doubt about the Biden administration’s thinking on cryptocurrencies, then yesterday’s economic report should clear all confusion. The report is damning in its assessment of the crypto ecosystem.

“Cryptoassets to date do not appear to offer investments with any fundamental value nor do they act as an effective alternative to fiat money, improve financial inclusion, or make payments more efficient,” the report’s authors write. They add that the “innovation” in cryptoassets mainly consisted of creating artificial scarcity to support prices.

Cryptoassets are “mostly speculative investment vehicles” that are traded without the sort of fundamental anchors like cash flows that are used in real world investments. That the profits from crypto issuance accrue to a limited set of actors, a set that includes miners and investors, adds to the case against them.

Other so-called innovations in cryptocurrencies – stablecoins and decentralized finance (DeFi) – are also criticized in the report. The former are likened to money market funds that are subject to periodic bank runs when they lose their peg to fiat currencies. And DeFi apps are taken to task for providing financial services without appropriate regulation.

Game Over for Crypto?

When he issued an executive order last year ordering agencies to come up with a national policy about cryptocurrencies, President Biden stated that the rise of digital assets “creates an opportunity to reinforce American leadership in the global financial system.”

The report’s implications and tone make it clear that the administration does not foresee that opportunity in the use of cryptocurrencies as private money or as a substitute for government-issued fiat currency. The recent announcement about the Federal Reserve’s instant payment system, FedNow, also makes their role in innovating financial payment technology suspect.   

The timing of the report’s release is important, coming as it does at a perilous moment for cryptocurrencies. A series of failures in crypto businesses due to a crypto winter has sapped liquidity in its ecosystem.

Meanwhile, a cascade of regulatory offensives has struck fear and uncertainty into operations at crypto businesses, which earlier distributed tokens and made coin offerings with abandon.

The result is reflected in a strange set of circumstances. Even as Bitcoin price pumps, liquidity is running thin in its ecosystem. It could be a potential Minsky moment for cryptocurrencies, one that results in a wholesale destruction or decimation of its ecosystem.

More Regulation  

For all its criticism, the report admits that some cryptocurrencies are “here to stay.” But that’s hardly good news for tokens that survive the current crypto cataclysm. “Much of the activity in the crypto asset space is covered by existing regulations and regulators are expanding their capabilities to bring a large number of new entities under compliance,” the report states.

Cryptocurrency entrepreneurs and businesses have been hankering for clarity in the SEC’s, at times, whimsical approach to enforcing regulation towards the industry. That approach has enabled the agency to pick winners and losers by threatening enforcement action against companies. The report’s contents make it clear that they will have deal with the same uncertainty in the future.  

ETHW Update

ETHW is a worthless token created after Ethereum’s move to a Proof of Stake (PoS) consensus last year. Like most so-called cryptoassets, it possesses neither utility nor functionality. The coin was mainly created to keep miners for the Proof of Work (PoW) system, that underpinned Ethereum’s block generation mechanism earlier, solvent until the shift to a PoS system was complete.

There was drama – lots of it – when ETHW was released. But it seems to have overcome those initial hiccups.

An Impressive Valuation

Since its launch last August, ETHW has garnered an impressive valuation for a token that was useless to begin with and serves absolutely no purpose. It reached a peak price of $49.83 after Ethereum’s PoS transition. As of this writing, it has a price of $3.44 and a market capitalization of $339 million, according to data from Coinmarketcap.

That it is traded on unregulated exchanges, away from the prying eyes of auditors and regulators, helps matters. Its biggest trading volumes are at OKX, where it trades against controversial stablecoin Tether. Strangely it is among the select coins with substantial trading volumes against fiat currencies, including the likes of US dollar, Euro, and the Turkish Lira. [Turkey is also home to a percentage of Ethereum mining nodes]. Perhaps it offers a convenient exit route from Tether.  

ETHW’s Future

Given ETHW’s utility (or the absence of it), the most likely future for the token should be a sunset after Ethereum’s shift is complete next month. That is, of course, unless crypto markets do not tank before then.

But investment firm Grayscale, which has filed a case against the Securities Exchange Commission (SEC) to convert its bitcoin trust into an ETF, sees potential in ETHW. The firm recently extended the review period to “purchase and sell the token” to guileless investors after Ethereum’s transition is complete.

In crypto, the grift never dies. It just takes on new forms…er…tokens.  

Lost Ethereum   

Conor Grogan, Director of Product Strategy at Coinbase, recently analyzed Ethereum’s blockchain and found that 636,000 ETH worth nearly $1.15 billion is lost forever. There are various reasons for the losses – contract faults, burns of the tokens, hacks, and bugs. Grogan said his estimates are an “understatement” and that the total number of tokens lost is much higher.

Ethereum, of course, is not the only cryptocurrency to have lost significant chunks of its supply. Dead coins are common in crypto. In 2020, it was estimated that 3.7 million bitcoins were lost forever.

Still, Grogan’s research raises an interesting scenario.

While Ethereum does not have a hard cap on its native token’s supply, the total amount of its circulating supply makes a difference to its price. The move towards a PoS system has concentrated ownership of tokens among fewer stakeholders. In recent times, ether investors have been touting a decline in its supply as a reason to invest in ether, the blockchain’s native token. With more concentrated ownership, it will not take much to lose coins, decline supply, and pump ether’s price.

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