A CRYPTO CHEAT SHEET
Not up to speed on the basics of bitcoin and other cryptocurrencies? Newsweek editorial director Hank Gilman got the lowdown from DAN ROBERTS, editor-in-chief of the cryptocurrency website Decrypt.
Can you give us a plain-english explanation of cryptocurrency, as if you were explaining it to your grandfather?
These are digital assets, as opposed to currencies. You can’t touch and hold bitcoins, but when you log into your online banking, you see your balance and trust that it’s there. You can own some gold without ever seeing and touching the actual gold bars. We are entering a world in which a growing portion of the things we value can be digital-only and still hold value. Some of the appeals of crypto assets: speed, privacy, reduced friction. Traditional money transfers can take days to settle, and in 2021 that’s unacceptable. Crypto transactions get recorded on a public, immutable ledger for all to see, and you cut out a middle man like a bank taking a cut and/or slowing the process.
How would a new investor go about putting money in bitcoin, which is pretty hot right now?
Only put in what you’d be prepared to lose. Some of the serious career investors that have warmed to crypto advocate starting with just 2 percent to 5 percent of your portfolio. It is becoming accepted as another standard asset type to have in your portfolio along with equities, bonds, metals and ETFS.
Where would a newbie go to buy some crypto?
There are multiple crypto exchanges you could use, but Coinbase has successfully established itself as the household name in the U.S. for newcomers. You create an account, verify it’s you, and buy some coins. Other well-known crypto exchanges are Gemini, Kraken, Binance and Bitstamp. You can also buy bitcoin through Robinhood, Square and Paypal, so a lot of newcomers are likely to just use them if they know and trust those names and already have accounts with them.
Should we worry about a bubble?
In hindsight, the end of 2017, when bitcoin surged to $20,000 and then, in February 2018, plummeted 65 percent, looked like a bubble. But now bitcoin is around $59,000. Could bitcoin or other top cryptocurrencies crash big again? Absolutely. But the current froth isn’t just about price speculation, it’s also got big public companies adopting crypto for payments, and big public companies building out crypto and blockchain divisions. I see an industry growing into maturity that isn’t going away.
Does anyone regulate this market or is it the Wild West?
The SEC has cracked down on companies that launched tokens and made millions with no product; the IRS has just recently begun asking people to disclose their crypto gains on their taxes; the CFTC has declared bitcoin a commodity and thus views it as part of its jurisdiction. Many different government agencies want to have a say in crypto regulation, and more rules are coming. Still, your question often gets asked in the simple form of: Is my crypto Fdic-insured? And the answer to that is, no.
What are the alternatives to bitcoin and how viable?
That depends on whether you mean as an investment or a technology for building applications. Bitcoin is the original cryptocurrency, and the safest for complete newbies who want to dip a toe in by buying a small amount. But ethereum, which launched in 2015, is a blockchain specifically designed for smart contracts, and all kinds of exciting projects and applications are being built on ethereum. So ethereum folks will tell you it’s a better bitcoin blockchain, and if you agree, you’d buy some “ether,” the token of ethereum.
What are some of the crypto trends we should be looking at in 2021?
Right now, crypto collectibles—digital trading cards or digital video clips of sports highlights, music performances—are super hot. There’s also a rapidly maturing crypto art market. But after Paypal and Tesla both announced they will let customers pay in crypto, I’m interested to see whether more companies offer that option and whether anyone actually takes them up on it. Right now, with crypto prices rising, no one wants to spend their crypto; they want to hold it as an investment.
What do you make of corporate treasurers going into crypto. Why are they doing this?
I think for now it’s a short-term speculation to boost their reserves and in turn their stock. Tesla made $1 billion in fresh profit in the first month after its January bitcoin purchase—more than its entire 2020 profit from selling cars. But companies buying bitcoin as a speculation for their treasuries is separate from all the exciting innovation and product-building happening in crypto.
Are merchants really taking this stuff now? Are there crypto-based credit cards?
It’s actually really interesting what’s happening with Bitcoin rewards cards—almost quietly, Visa and Mastercard have signed off on a handful of branded credit and debit cards that will give users their cash back in bitcoin rather than air miles or other perks. There has also been a rise in bitcoin shopping rewards extensions that give you cash back in crypto. As for paying in crypto, there are various workarounds to hypothetically “pay in crypto” on Amazon or other mainstream merchants. For instance, you put your crypto on a gift card, then use the gift card. But I don’t think many people right now are eager to spend their crypto. They want to hold it.
Perlman was one of many examples of how crypto companies have hired blue chip talent with regulatory backgrounds to help them win legitimacy. In 2018, Coinbase, an $8 million Silicon Valley-based digital crypto exchange that filed for a public offering last week, hired Brian Brooks to serve as its chief compliance officer. Brooks, a former managing partner at the Washington, D.C., office of the legal powerhouse O’melveny & Myers, had close ties to the banking industry and had served four years as executive vice president, general counsel and corporate secretary to Fannie Mae.
In 2020, after two years at Coinbase, Brooks joined the U.S. Office of the Comptroller of the Currency (OCC), as senior deputy comptroller and chief operating officer, a powerful government perch from which to promote the industry’s interests. Charged with ensuring the integrity of the U.S. banking system, the OCC is the sole U.S. institution with the authority to grant a national bank charter and determine what constitutes a bank. They can also withdraw it from institutions that fail to follow the rules. Roughly 70 percent of U.S. banks are regulated by the OCC.
Under Brooks, the Office of the Controller of the Currency issued a series of “interpretive letters” that have a gone a long way toward reassuring banks concerned about the legality and risk associated with cryptocurrency, says Kristin Smith, executive director of the Blockchain Association, a Washington, D.c.-based advocacy group. The letters clarified that banks can legally store the bitcoins held in “digital wallets” for their clients, connect computers to the digital bitcoin ledger and establish their own individual blockchain “node.”
In January, the OCC for the first time granted a national bank charter to a firm, Anchorage, which means it can act as a crypto custodian, holding crypto on behalf of its clients. Soon after, the OCC issued a similar grant to Protego. These actions served notice that the crypto institutions were now operating within the government’s regulatory system as legitimate entities subject to the customer protections and oversight seen in traditional finance.
“Those types of actions coming out of the OCC sent a really positive signal that crypto is here to stay,” Smith says. “They were really important.”
These efforts go a long way to explaining why attitudes toward crypto on Wall Street and the rest of the financial establishment have changed dramatically in recent months. In addition, late last year Wall Street thought leaders such as Paul Tudor Jones and Stanley Druckenmiller revealed that they own bitcoin, making the case that bitcoin was no longer something to be ashamed of.
That set the stage for February, when crypto took a quantum leap into the mainstream. Rick Rieder, the chief investment officer of Blackrock, acknowledged for the first time that his firm, the world’s largest asset manager, had started to “dabble in bitcoin.” Morgan Stanley began buying bitcoin for some customers and revealed it had taken a 10
>> “THESE ARE VERY POWERFUL, INFLUENTIAL PEOPLE, BUT, ULTIMATELY, IT’S JUST NOT IN THE PUBLIC’S INTEREST TO HAVE TRANSACTIONS GO IN ANY WAY THAT’S NOT EASILY TRACED.”
percent stake in Microstrategy, a Nasdaq-traded software company holding billions of bitcoin on its balance sheet. Goldman Sachs revived its moribund crypto trading desk and BNY Mellon, the nation’s oldest bank, said it plans to open a digital assets unit later this year.
Elon Musk, the mercurial head of Tesla, has teamed up with Jack Dorsey, the head of the payment company Square, and Massmutual Insurance, among others, in putting some of his electric car company’s corporate cash in crypto. He acquired a modest $1.5 billion in bitcoin and announced that he would accept the currency as a payment for his cars. Virgin Galactic now takes bitcoin for space travel.
Musk’s investment is puny compared to that of Microstrategy’s, a business intelligence software company that over the last year has built up a $4.5 billion stake. CEO Michael Saylor says he began buying early last year because his investors expect him to earn a return that at the very least keeps pace with the rise in the S&P 500. He says keeping his company’s reserve funds in cash, as the Fed flooded the market with new dollars, no longer seemed like an option.
“No one can stay in business holding a billion dollars of cash in a bank account yielding 15 basis points as the cost of everything you want to buy is going up 25 percent a year,” Saylor told Newsweek. “That’s an awful idea.”
Digital Gold
Whether the changing attitudes are enough to ensure bitcoin and other cryptocurrencies are here to stay remains to be seen. Not everybody is convinced. Kenneth Rogoff, a Harvard economist, former chief economist for the International Monetary Fund, and expert on both financial crises and central bank independence, says the current unique economic situation, created by the pandemic slowdown, makes it difficult to extrapolate into the future.
“It’s sort of hard to know what the meaning of anything is, when interest rates are this low,” Rogoff says. “We’ll know better when interest rates eventually start rising. Ultimately, for bitcoin to have a long-run value—and I emphasize long run—there needs to be a use that’s not just one cryptocurrency trading for another, like swapping comic books or trading cards.”
He’s skeptical that such a justification exists under normal circumstances—at least one strong enough to outweigh the downsides. Bitcoin, he notes, is “cash on steroids”—easier to move than cash and just as untraceable—which is why Hezbollah and other shady organizations use it. He expects the debate over how much to regulate bitcoin and other cryptocurrencies to continue. For the normal consumer, bitcoin itself carries high transaction costs and is environmentally inefficient. “If bitcoin ever started getting used for more routine transactions,” he says, “it’s going to get regulated more heavily. Every central bank is looking at this.”
Rogoff acknowledges that as more powerful and influential people buy into crypto as a store of value—a kind of “digital gold”—it becomes increasingly difficult for Western regulators to stamp it out altogether.
“These are very powerful, influential people, but, ultimately, it’s just not in the public’s interest to have transactions go in any way that’s not easily traced,” Rogoff says. “Supporters may be able to buy off some politicians in the short run, but everyone’s looking at this, every treasury. I’ve had regulators tell me, ‘Look, for the moment there’s innovation coming out of this space; if we ever
seeing a lot of transactions in our country, we’re going to crack down, but for the moment, we’re proceeding cautiously.’”
Ultimately, he believes, governments around the globe are likely to ban retail establishments from using bitcoin and outlaw financial establishments from taking it. “Right now, the governments haven’t stepped in to do anything about it,” he says. “But they will.” (As if on cue, just days after I interviewed Rogoff, Reuters quoted a senior Indian government official that the world’s largest democracy was likely to become the first major economy to make holding cryptocurrency illegal.)
Rogoff ’s argument has been used to justify the new crypto reporting requirements proposed in the final days of the Trump Administration, which
>> “AS PEOPLE BECOME LESS ENTHUSIASTIC ABOUT
BITCOIN, ITS VALUE COULD FALL CONSIDERABLY. IT DOES NOT HAVE INTRINSIC FUNDAMENTAL
VALUE AS YOU MIGHT HAVE IN SAY, GOLD.”
require crypto exchanges to track what their customers do with crypto and where it goes. In an apparent effort to avoid pushback, Treasury Secretary Steven Mnuchin unveiled the initial proposal just before Christmas, under a 15-day truncated comment period. Industry lobbyists worked through the holidays, mustered more than 7,000 comments opposing the rules, and hired Paul Clement, a former Solicitor General and Washington, D.C. legal heavy hitter to represent them.
In the end, Treasury agreed to extend the comment period, allowing them to run into the Biden Administration. The Blockchain Association’s Smith says she believes current Treasury officials are taking a “much more reasonable” approach to finding a solution to the problem of money laundering.
Smith argues that since banks are not required to track how customers spend cash after they withdraw it, it’s unfair to require crypto exchangstart es to track cryptocurrency transactions. Whether they will ultimately win the argument remains to be seen.
Other former regulators and experts are less certain than Rogoff that tight regulation is inevitable. But they still warn that the current valuations of bitcoin may be unsustainable. One of those skeptics is Raghuram Rajan, a finance professor at University of Chicago Booth School of Business whose long resume includes stints as an IMF economist and the Governor of the Reserve Bank of India; in 2005, he was among the first to warn of growing risks to the U.S. financial system, which seemed prophetic when the subprime bubble popped a couple years later.
Rajan now says that bitcoin and other cryptocurrencies “are seen increasingly as an asset class which is valued simply because others value it. To that extent, it has some features of what econowould
mists call a bubble—something that is valuable only because everybody else thinks it’s valuable. Which means that it has the potential for volatility. As people become less enthusiastic about it, its value could fall considerably.” Bitcon’s volatility is legendary. For instance, although the overall trend since its low in 2019 has been up, bitcoin’s value between then and the current rise last fall has whipsawed. Nobody is responsible for maintaining its value, as a central bank would with a traditional currency. Bitcoin, says Rajan, does not have “intrinsic fundamental value as you might have in say, gold.”
Dance Party
novogratz, ever the salesman, insists there’s no turning back.
Bitcoin is not so much a currency as a social movement, he says—one that has now collected a critical mass of adherents. When I ask him to elaborate, he refers me to a video, “How to Start a Movement,” by entrepreneur Derek Sivers. A shirtless man in shorts is dancing joyously, alone, on a grassy hillside, surrounded by picnickers sitting on blankets. He looks ridiculous. But soon a second dancer arrives and awkwardly joins in, followed by three more, and then another three more. In the end, almost everyone is dancing— and then who looks ridiculous? The few who remain on the sidelines.
The big players in corporate America and on Wall Street hate to be the first on the dance floor, but “now everybody is joining the dance,” says Novogratz, which explains bitcoin’s “accelerating adoption curve.” His firm, Galaxy, has benefited greatly—with $1.2 billion in assets under management, its earnings in the 4th quarter of 2020 increased by 650 percent. Meanwhile its stock price had risen from a low of 52 cents to more than $15 when last week, Morgan Stanley, which manages more than $4 trillion, announced plans to allow their financial advisors to buy bitcoin on behalf of clients through Galaxy’s investment funds. That announcement sent Galaxy’s stock surging north of $20 a share—an increase of more than 30 percent in two days.
“The most important thing that’s happened in the whole bitcoin ecosystem happened in the last two months,” he says. “Because in the last two months, everybody in both the tech world and the finance world has said, ‘this is here to stay.’ It’s no longer a debate. It’s over. The debate ended. Crypto is now an asset class. Critical mass has arrived. We’re over the hill, and we’re rolling downhill fast.”
When pressed, however, Novogratz acknowledges that there is no way to know whether the “social construct” propping up bitcoin will collapse or not.
“We don’t know that,” he says.
He sees no sign it will happen anytime soon. But what if things should change? What if the smart money starts to run for the exits and Novogratz finds himself once again among a mob of Paris Hilton fans? He can always do what he did the last time: Sell for a tidy profit.