Here is our talk from the CryptoFin Conference from October 2019 in Tallinn about how to disintermediate the banks:
Here is the short summary. We need:
- More tokenization
- Crypto credit-money
- Wealth management automation
Here is the talk:
Here is our talk from the CryptoFin Conference from October 2019 in Tallinn about how to disintermediate the banks: Here is the short summary. We need: More tokenization Crypto credit-money Wealth management automation Here is the talk:
October 16, 2019
Here is our talk from the CryptoFin Conference from October 2019 in Tallinn about how to disintermediate the banks: Here is the short summary. We need: More tokenization Crypto credit-money...
Oct 16, 2019 . 20 min read
Here is our talk from the CryptoFin Conference from October 2019 in Tallinn about how to disintermediate the banks:
Here is the short summary. We need:
Here is the talk:
Traditional fixed income markets have emerged in the last 350 years with: 19 trillion USD base money (central banking created money – M0) 36 trillion USD narrow money (M1) 73...
Sep 29, 2019 . 10 min read
Traditional fixed income markets have emerged in the last 350 years with:
The M0 money – the base-money – is created by the central banks. The other types of money include M0 plus credit-money, which is created via the commercial banks via lending (every time one takes a loan from the bank new credit-money is created; every time one pays back the loan the credit-money is destroyed). The global debt includes M3 money and bonds (transferable standardized debt obligations).
We see that in traditional finance the debt markets are bigger than the equity markets. They are older as well – let’s think that the laws allowing the creation of corporations are just some hundreds of years old and the laws for debt obligations are thousands of years old.
In parallel the crypto monetary system is developing – it has emerged since the last 10 years:
Our vision is, that crypto fixed income markets, which are 20% of the crypto equity markets at the moment, will become proportionally at least as big as traditional fixed income markets – i.e. crypto fixed income markets will become bigger than crypto equity markets, while crypto equity investments are simultaneously growing.
Let’s look now on Compound.finance. It has become a popular Decentral Finance (DeFi) product and is managing ca 150 million USD of crypto assets as a decentralized money market fund.
Considering the popularity of the Compound and our aim to facilitate fixed income markets emergence in the crypto sector we decided to research the gaps between the Compound and traditional fixed income markets.
This article looks at:
Compound emulates money market funds via smart contracts
The interest rate is set continuously via the following formula
Borrower Annual Interest = Base Rate + (Multiplier * Utilization Rate)
A linear equation is setting the variable interest rate, the “markets invisible hand” is not involved.
How do the fixed income markets work?
Fixed income markets are driven by interest. We have written earlier an extensive analysis of “What drives the interest in the fiat economy and how much should it be?” and “What drives the interest in the crypto economy and how much should it be”.
Let’s recap – the key drivers for the “base interest” are:
Some of these drivers increase interest, others decrease interest. Referenced articles calculated what should be the base interest rate for the fiat economy and for the crypto economy. NB – the interest which we calculated, does not match with the base interest rate in our current central banks driven economy.
The base interest rate in the economy – the “risk-free rate”- is set by the central banks. For example, in the U.S. we have 2%, in the Eurozone -0.4% and in Switzerland -0.75% (yes, these are negative “risk-free rates”).
Loans have different maturities – 1 month, 3 months, 9 months, 1 year and so on. Usually, the loans with longer maturities have higher interest and vice versa. If we plot the interest rates for different maturities and for the same credit quality, then we get the yield curve.
The yield curves are calculated via government bonds – for the Treasuries or for the German Bunds. Government bonds are considered “risk-free” and they do have high liquidity.
Some countries face higher default-risk (some of South-European Countries) and in the case of free markets, their yield curves should be higher if U.S. or Germany’s yield curves.
Different entities have different credit risk ratings (from AAA till BBB – these are investable, and then there are risk ratings below BBB – a.k.a. junk b0nds).
If we speak of specific loans, then the interest for a given maturity is calculated as follows:
If the loans are structured as bonds, then we are creating transferable and tradeable debt instruments. The aggregate of all these bonds creates a global bond market with a size of 100 trillion USD.
Which risks do we have on the fixed income markets?
Credit risk is the risk that the borrower will be late with the payments or will not pay at all. If loans are secured, then the collateral ownership will move over to the lender. If loans are not secured, then the lender will take the borrower into court or will sell the non-performing loan to the loan liquidators.
Interest rate risk exists in case of variable rate loans – in case that the variable rate will go up against the borrower. It exists as well in the case if we want to roll-over the loans and the interest rate has increased in the meantime.
Market risk is a risk that the market moves against the market participants. For example, in collateralized lending is the risk, that market has flash crashes, which will trigger the liquidations.
We note following in Compound business model:
No yield curve, but only the variable interest rate
The Compound has only variable rates (calculated at every new Ethereum block), there is no yield curve. If someone needs to take a loan for 3 months, then he needs to finance this for 90 days with variable rates.
In traditional fixed income, one would take a 90 days loan and fix the interest rate based on the yield curve. His interest rate risk would be mitigated, the interest rates could not go against the borrower.
Algorithmic interest rate
The Compound interest rate is set algorithmically (via linear equation). In traditional markets, we do have the “invisible hand of the market”, which would set the interest rate via the equilibrium of supply and demand for a given maturity and given credit risk.
Compound users are lending/borrowing money at short maturity and are practically rolling over day by day into the new variable interest rate.
Both sides – lenders and borrowers can stop the loans at any time. However, there is no way to call in existing loans from the borrowers. If borrowers like their interest rate, they can stay on their loans for a long time and keep paying the interest. If for example lenders would like to receive their funds, but the fund’s utilization is too high (i.e. that the unallocated funds are not available), then the lenders have to wait till borrowers will pay back funds or new funds are submitted into the fund.
That’s a typical maturity mismatch situation. The loan maturity for the borrowers is unlimited. The loan maturity for the lenders is daily (they can call in their loans at any time). The result is a maturity mismatch, which is 99% of cases not an issue, but it can be an issue if everyone and their grandma are running to the same exit-door at the same time. If this situation happens, the lender will be unable to withdraw his funds.
Which risks exist on Compound:
Following components are required:
The yield curve would show the interest rate for different maturities. I.e. instead of using only variable interest rate, there should be as well 1 week, 1 month, 3 months, 6 months, 12 months, and longer maturity interest rates.
The credit-money itself has existed for 5’000 years. Most of this time as decentral-credit money. Only the last 100 years we did had centralized credit money.
The Compound has addressed key elements of crypto lending, however, it lacks several features required for the fixed income markets. Nevertheless, it’s a step in the right direction.
The Roadmap the Crypto Fixed Income Markets requires several additional components. These components are part of traditional fixed income markets and they will be part of Crypto Fixed Income Markets too.
There is a lot to do!
We look in this article on the risk management of the custodial crypto lending platforms and of non-custodial crypto lending platforms. The aim is not to say what is right...
Sep 28, 2019 . 10 min read
We look in this article on the risk management of the custodial crypto lending platforms and of non-custodial crypto lending platforms. The aim is not to say what is right or wrong, but to create transparency about both business models from the risk point of view.
We look here on Nexo.io and on Celsius.network. Both systems represent custodial lending systems. Clients transfer their assets into platform wallets and platforms control their assets. Platforms then lend out the assets via marketplace or institutional channels. Platforms receive interest, they keep smaller parts of the interest and the clients receive the bigger part of the interest.
Nexo.io and Celsius.network have bought insurance policies to cover the client asset losses on their platforms. They pay a yearly fee but their coverage is capped at a fixed amount.
We have two key sub-types of lending:
From this moment we have to trust the contracting party and his lending/margin management processes. We have to trust as well, that the contracting party will not be hacked or the assets are not frozen because of regulatory issues (think Bitfinex and 850 mUSD) and many other risks. This lending sub-type has a higher risk than the first sub-type.
The key difference between these sub-channels is the following – in case of the first subtype, the platform can manage the end-to-end process. In the case of the second subtype, the assets are under the legal control of someone else…
Of course, there are contracts in place, but let’s keep in mind two cases from not so distant traditional finance history:
In traditional finance, we have a sector called “prime brokerage”, which is providing services, especially to the hedge funds. Investment banks pool their client assets, which are lent to hedge funds, which pay interest for them. Hedge funds borrow these assets for short selling (you borrow an asset, sell it and hope to buy it back at a lower price).
If the trade works, then you make a nice profit. If the trade is not working, then the margin calls are issued to the hedge funds. If the trade goes totally wrong, then the hedge fund is not losing only the collateral but has to put in additional money, to cover the losses. If they, don’t have this money, then they are bankrupt. The pooled and sliced client assets will be part of bankruptcy proceedings.
That’s why the “primer brokerage” the business has high-interest margins. It’s because of the high risk. That’s the same business that the crypto lending platforms are doing with their institutional clients.
Yes, we have. The vision of the regulations is to create a fair marketplace for service providers. The reality of the regulations is that they create the entry barriers for the non-members of the club. It’s just because of the revolving-door-phenomena – the regulators hire their people from the private companies in the sector, which will by nature protect their sector. And the private companies hire as well people from regulators, let’s call it – for preferred information and access.
The current regulations state (de-facto in all countries) is following – if you control client assets, what the custodial platforms do, then you will need a financial intermediary license. You not only need to apply for this, but you also have to maintain it year by year.
Custodial platforms provide the services in “cross-border mode” to other jurisdictions as well. But that’s where it gets interesting – providing “cross-border service” to other jurisdictions is OK, but doing marketing for a platform is not OK, except when the platform has registered in the respective jurisdiction. In the case of the U.S., it’s even more complicated – it’s enough to have cross-border service clients from the U.S. and the platform will need U.S. licensing (think here on the NY Attorney General versus Bitfinex case because of presumably 1 NY client on Bitfinex platform).
We look here on MakerDAO and Compound.finance as examples. We look only at their AS-IS business model.
Their model is simple:
But what can be the failure points?
Black swans are defined as 3-sigma (standard deviation) events and they should be very seldom events. Funnily there are more black swan events than the statistical theory allows. Are the statistics wrong?
No, it’s just the wrong statistics which are used – the financial markets are modeled based on the random-walk-hypothesis (which has never been scientifically proved, it’s just as the name says – “hypothesis”) and this hypothesis implies using of the standard distribution (as everything is random, then this would be logical conclusion).
But the financial markets act based on the power-law distribution, as most of the things in nature. And by this distribution we have a much higher frequency of the black swans, meaning there are many more risk events than anticipated.
We looked at the risks in two different crypto lending business models – custodial and non-custodial. The custodial business model is rather similar to traditional financial intermediaries. The non-custodial business models are new innovative business models.
Regarding the platform risks – we will not say which platform has fewer risks.
However, we refer to the common-sense hypothesis – if comparing two different models, then:
There are the custodian and non-custodian crypto lending platforms. The key difference between them is who controls the assets - the first ones control your crypto assets, by the second...
Sep 22, 2019 . 10 min read
There are the custodian and non-custodian crypto lending platforms. The key difference between them is who controls the assets – the first ones control your crypto assets, by the second ones it’s you who is controlling your assets.
Both of them propagate the interest rates on their platform, as the key benefit for the borrowers and lenders on their platforms. But is the interest rate really all and everything, what should be followed?
Our answer is – actually not. While interest rates and risk management are the key drivers for the lenders, there is one more parameter to be followed – the capability to borrow for the borrowers.
Here are current interest rates for DAI (they are pretty similar to the USDC)
The interest rates between custodial and non-custodial platforms are more or less the same. Non-custodial platforms are saying that custodial interest rates should be higher because of more risks (hacks, loss of assets, etc). Custodial platforms are saying the non-custodial interest rate should be higher because of potential mistakes in smart contracts.
Therefore, let’s use the https://loanscan.io data as a basis.
Here are for example current DeFi (Decentral Finance) collateral rates:
These collateral ratios are more or less the same on the custodian and non-custodian platforms.
Let’s imagine two scenarios for the borrower:
The interest rates in both scenarios are the same, but the Loan To Value (LTV) is different:
Capability to borrow shows, how much can borrower borrow on his given asset basis. If the borrower would have two similar offers with different LTV’s, then the borrower should choose the one with higher LTV.
What does it mean?
The capability to borrow does not matter to the lenders. Lenders are interested in:
But the capability to borrow matter’s very much to the borrowers:
Let’s imagine further two scenarios for the borrower:
Scenario C (the same as Scenario A)
The Loan to Collateral Value’s (LTV’s) are different. The interest rates are different too. The loan amounts are the same. But which option is better for the borrower?
Scenario C: LTV: 33%; Interest 10%
Scenario D: LTV: 66%; Interest 15%
The borrower will pay in Scenario C for this 50% more interest for 100% higher LTV – the borrower will have higher leverage on his assets. If the borrower needs leverage, then Scenario D is preferable for the borrower – he would pay a little bit more interest for a much bigger loan
Current DeFi and custodial platforms are using very high collateralization ratios. This is protecting the lenders.
However, the borrowers would be interested not only about the interest payable but about lower collateralization ratios, which would lead to the higher capability to borrow.
We analyzed the reasons for high collateralization ratio’s in another blog article. Here is the summary.
SmartCredit.io is funded from 2 CFA’s and ex-Bankers. The risk management is never a one-dimensional approach of over collateralizing the loans, but it’s a network of different measures, which on the end translates into usability:
This results in the least factor 2 – 2.5 smaller collateral requirements as the current standard in the industry. Which results in a higher capability to borrow.
The current collateralization ratios are ca 300% + for the DeFi borrowing/lending protocols. These ratios benefit the lenders on these platforms because over-collateralization protects their loans. However, these ratios reduce...
Sep 18, 2019 . 10 min read
The current collateralization ratios are ca 300% + for the DeFi borrowing/lending protocols. These ratios benefit the lenders on these platforms because over-collateralization protects their loans. However, these ratios reduce borrower’s capability to borrow and therefore the usability of the system.
This article analyses:
These ratios are rather high compared to margin borrowing requirements in traditional finance. Why is it so?
The collateralization approach is directly linked to the risk management framework. The key here is to combine multiple risk management elements, which then leads from one side to the smaller collateralization ratio and from the other side to better risk management.
Here is the list of measures for collateralization reduction:
On Maker and Compound platforms the borrowers do have unlimited maturities.
The platforms protect themselves with the collateral liquidation, if for example, the collateral value sinks to 135% of the loan, then the Maker will liquidate the collateral. The same with Compound (the ratios might be different).
If we would have fixed maturity loan, then we could calculate via standard deviations and loan maturity, how much collateral we should have, so that by given probability we will not hit the liquidation threshold.
Step 1: Calculate 30-day standard deviation of the underlying collateral
Step 2: For calibrating standard deviation to loan maturity we have to multiply standard deviation with the square root of “loan maturity / 30”.
By doing this we can set the amount of collateral so that the liquidation probability will be low.
But Maker and Compound do not have fixed maturities, therefore it’s not possible to calibrate loan collateral to the loan maturity. This results in very high collateral requirements, which then reduces borrower’s capability to borrow.
Could Maker use fixed maturities?
Maker DAO uses Collateral Debt Positions to create the DAI’s – borrower puts Ether into the Smart Contract (CDP) and receives the DAI’s. Having fixed maturities would imply fixed maturity CDP’s – borrowers would need to close these CDP’s before the maturity with paying in DAI’s into the CDP’s and receiving back the collateral. If the borrower forgets to pay in DAI at the right time, then the CDP would go into automated liquidation, independently from the collateral ratio.
Could Compound use fixed maturities?
Compound could introduce fixed maturities exactly in the same way as Maker. As maturities have to match on borrowing and lending side, then lenders should make fixed maturity loans as well (otherwise we get into the maturity mismatch and “bank run” risk on the platform).
Having fixed maturities would imply moving away from the “money market fund with variable interest” rate, which would be quite a change into the Compound’s business model and smart contracts.
Some assets have lower standard deviation and their collateral requirements will be smaller. Other assets have a higher standard deviation, which leads to higher collateral requirements.
Collateralization parameters cannot be something static, which is fixed in the smart contracts, but need to be continuously re-calculated. If this is not the case, then the mitigation is to increase the collateral for any eventuality.
Compounds and Maker’s approach is to over-collateralize for avoiding the worst market dynamics. But the other approach would be to use Loss Provision Funds to protect against adverse market dynamics.
If one can use only over-collateralization, then one has to prepare for the worst-case for every loan – i.e. for the non-paying borrower and for the collateral value flash crash for every loan.
If one would use over-collateralization plus loss provision funds, then the over-collateralization could cover till 2-sigma events and after that, the loss provision fund would take over. The result would be increasing the borrower’s capability to borrow.
Current DeFi systems are not using credit risk ratings for the borrowers. From one side there are no systems available, which would provide this information, from the other side the DeFi systems are avoiding collecting any user data.
However, having credit risk ratings would allow us to separate good risks from less good risks. Good risks would get better collateral requirements and vice versa. Credit risk ratings would be the approach for the users to monetize their data – having good credit risk (and opening up his data) rating would result in better borrowing conditions.
Credit risk ratings would allow as well-diversified approach with the collateral handling. In case of good credit risks, one doesn’t need to rush into the collateral liquidation in flash crashes. However, in case of not good credit risk ratings or not opening up his data, one would need to liquidate the collateral during flash crashes.
In traditional finance we have legal contracts. If the debtor is failing to meet his obligations, then the NPL (Non-Performing Loan process) will be started. Usually, the debt will be sold to the debt collection agencies, which are paying 5% – 20% from the amount owed. Debt collection agencies continue then with the NPL process against the borrowers.
Using the NPL process would require KYC. Many DeFi products see KYC as something that should not be followed. However, as KYC is the law in practically all countries, then we can just forecast that most of DeFi products start to use KYC as well.
Current high collateralization ratios are driven by the respective business models. If we adjust business models, then we will adjust as well the collateralization ratios and increase the usability for the borrowers via increased capability to borrow.
SmartCredit.io collateral requirements are by factor 2 – 2.5 lower than the MakerDAO or Compound requirements.
It’s achieved via:
This results in a higher capability to borrow with equal interest rates to other platforms.
The lenders have unique features as well – the tokenization and transferability of their credit, which enables immediate liquidity to the lenders. And they have as well capability to define private fixed-income funds:
DAI and USDC lending rates on DeFi systems are around 10%. Considering the current low yield on most of the investment classes and upcoming negative interest era, we can just...
Sep 15, 2019 . 5 min read
DAI and USDC lending rates on DeFi systems are around 10%. Considering the current low yield on most of the investment classes and upcoming negative interest era, we can just say that these are good yields.
But why are these lending rates around 10%?
Well, it’s about “following the money”.
The key question is– who are the biggest clients for borrowing. Our suspicion is that these are the margin traders on the central crypto exchanges.
These exchanges with margin lending features have their own P2P margin lending marketplaces, where lenders can lend assets and margin buyers can borrow the assets. These marketplaces have their own interest rates and our thesis is that these margin trading loan interest rates are driving as well the DeFi interest rates.
We look at the following:
After this initial number crunching, we will discuss what it means.
Here are the borrowing rates from the https://loanscan.io for the USDC (asset-backed USD stable coin, issued via Coinbase and Circle) and DAI (algorithmic USD stable coin, smart contracts created by the MakerDAO).
The borrowing rates are for the last 3 months:
Here is the amount of loans outstanding via https://loanscan.io:
So, there are 145 mUSD outstanding loans in the DeFi protocols as per now.
We use for the margin lending rates Bitfinex because this data is publicly available. The following chart shows the USD borrowing rates on the Bitfinex P2P margin lending/borrowing marketplace. The bold line shows the so-called “volume-weighted average” and the blue bars show the marketplace rates.
The interest rates are daily, to translate them to annual interest rates let’s multiply them with 365 and we get circa 10% annualized interest rates.
The margin lending volume for Bitfinex is public. Here is the latest data:
We see ca 400 mUSD open positions. That’s only on Bitfinex. Adding data from other exchanges is difficult because this data is not public. But let’s calculate with 10 active margin lending programs from ca 250 exchanges listed in the CoinMarketCap and we can speculate that the total open position is between 1 bUSD – 4 bUSD.
These are the key findings:
Which leads us to the key question of this article – why are the DeFi interest rates ca 10% for DAI and USDC?
The answer is in “follow the money”. It’s because the leading market is the crypto margin lending market. That’s the market, which sets the interest. The DeFi market just follows.
We speculate as well, that the biggest part of DeFi borrowing will be allocated into the crypto margin trading. Either via the central exchanges or the decentral exchanges.
If interest rates between the crypto exchange margin programs and DeFi would be different, then there would be arbitrage possibilities – the borrowers would borrow on the platforms, which offer less interest and the lenders would lend on the platforms, which offer more interest. This human behavior would move the markets back into equilibrium.
In the previous article, we looked at what influences the fiat economy's interest. The focus of this article is the crypto economy. We have three parts here: 1. We look...
Aug 19, 2019 . 10 min read
In the previous article, we looked at what influences the fiat economy’s interest.
The focus of this article is the crypto economy. We have three parts here:
1. We look at the same factors, which are influencing interest in the fiat monetary system:
2. We calculate how much should be the base interest (interest without the credit risk) in the crypto economy.
3. In the end, we compare the fiat monetary system with the crypto monetary system. We see as well, which system benefits which segments of the population.
Consummation preferences are presumably the same as in the fiat economy.
However, crypto users are rather younger generations / Millenials, which are characterized by relatively low saving rates and higher consummation preferences. i.e. the demand for borrowing is bigger than the demand for lending. This factor translates into higher interest.
Time preferences for crypto users are very similar to consummation preferences. This factor translates into higher interest as well.
Rate of base-money production/destruction – Bitcoin, Ether, Dash, Litecoin, etc. have built-in growth mechanisms/inflation mechanisms, where miners are getting paid with the freshly minted crypto-coins for providing the infrastructure for the decentral networks.
These platforms are open source platforms, but the costs for running network infrastructure (hardware, bandwidth, and power) are real and they need to be financed. The built-in inflation mechanisms are the solution for financing the real network infrastructure costs.
This crypto-monetary expansion is at the moment following:
For example – Bitcoin monetary inflation is 4.29% per year and Litecoin monetary inflation is 8.41% per year.
Rate of credit money production/destruction – today’s fiat credit money – the commercial banking money, which is 90% of the total money – this is missing at the moment in the crypto economy. The crypto economy has only base-money. The crypto sector does not have credit-money yet.
The credit money has been around for the last 5’000 years, the first instances of the credit money are known from Mesopotamia and it was created in the peer to peer transactions. Credit money was created in peer to peer way for the first 4’700 years until the commercial banks started to emerge ca 350 years ago.
Then the “private credit money” of the commercial banks emerged and after the introduction of central banking, we arrived into our current “central credit money” incarnation.
Let’s put this in the perspective – our current fiat monetary system is 100 years old; the credit-money exists in different incarnations for the last 5’000 years. As credit-money has been around so long, we support the thesis, that it will emerge as well in the crypto sector.
The store of value is very strong in Bitcoin. It’s called as well the “digital gold”. Store of the value function is present in other crypto-currencies as well, but less strong than in the Bitcoin.
Crypto-currencies are not manipulatable by the central instances as the base-money or credit-money in the fiat economy. This missing manipulation is the basis for the store of value in the crypto monetary system.
As there is no-manipulation compared with the fiat monetary system, then this results in higher demand for the crypto-currencies, which translates into higher interest.
Proximity to money creation – base-money is created by decentral means and it finances the miner’s operations. Decentral credit-money is still missing in the crypto sector, but it should be the only question of time until it will emerge.
If we decentral credit-money will emerge, then the proximity to money creation will equalize between the wealthy and the un-wealthy. It’s not only corporates and wealthy, who will be privileged, but everyone will be privileged to receive crypto credit or credit-money.
Here is the summary of the factors for the crypto-interest:
Results in higher interest than the equilibrium
Results in higher interest than the equilibrium
Rate of base money growth
Bitcoin base-money is growing 4.29% per year; other main crypto-currencies are in the same area. It is less compared to the fiat world.
Rate of credit money growth
Credit money is yet missing in the crypto sphere. The total money growth ratio is therefore equal to the base money growth ratio.
Proximity to money creation
Market participants will have the same proximity to money creation. No-one has an advantage compared to the others
Store of the value function
High store of the value function, especially for the Bitcoin
The following will answer the key question of this article – how much should be the base interest for the crypto sector – we look at this at the example of Bitcoin and Ethereum.
Younger population results in higher interest
Younger population results in higher interest
Younger population results in higher interest
Younger population results in higher interest
Rate of base-money growth
4.29% per year
4.64% per year
Rate of credit-money growth
0.00% – it’s missing at the moment
0.00% – it’s missing at the moment
Store of the value function
High store of the value function drives the interest higher
Medium store of value function has a positive impact on the interest
Base interest per year
7% – 8%
6% – 7%
These would be the estimated base rates for the crypto base interest rates. I.e.if lending crypto, then the interest rate should start from this area.
This table summarizes the above discussion:
Less impact than in the crypto sphere
Rather younger populous implies higher consummation preferences, resulting in higher interest
Less impact than in the crypto sphere
Rather younger populous implies shorter time preferences, resulting in higher interest
Rate of base money growth
300% to 1’000% depending on the central bank in the last 12 years
4% – 8% per year depending on the crypto
Rate of credit money growth
6% of total money growth per year
Proximity to the money creation
The ones with high proximity to the money creation have preferred terms
No preferred segments
Store of the value function
Low store of the value due to continuous monetary inflation
High store of the value
Fiat money is inflationary money, with a low store of the value function. It’s the money, which benefits the ones, with high proximity to the money creation, but not the general population. It benefits the few and not the many.
The benefitted ones have better credit conditions and are paying less interest than the required base-interest in the economy. This results in the continuous wealth transfer to the benefitted ones (at the cost of all other segments).
Crypto money is at the first-hand high store of value money. There are no preferred segments, the proximity to the money creation is the same for all. This money benefits the general population. It benefits the many and not the few.
In every monetary system, there is interest - the price to be paid for using someone else money. In this article, we focus on the “base interest” - i.e. how...
Aug 19, 2019 . 10 min read
In every monetary system, there is interest – the price to be paid for using someone else money. In this article, we focus on the “base interest” – i.e. how much should be the interest, if there is no credit risk.
We focus here on two topics:
The drivers for the interest are:
First, we analyze these factors and then we conclude how much should be the base interest in the fiat economy.
The output of the economy is expressed as GDP – Gross Domestic Product. There are multiple ways to define what the GDP is, but for this article, we use the following definition – GDP the sum of all income paid to persons (not to the companies, but the natural persons). So, the persons are receiving an income and then they decide how much to consume or to invest/save.
The interest is the price for the money, it’s the price, which has to be paid to someone else for delaying his consumption.
High interest would imply, that rather a small number of persons would like to delay their consumption – this results in the shortage of money in the economy – therefore the price for money – the interest – will be higher than equilibrium.
Low interest would imply, that rather a big number of persons are confident to delay their consumption – this results in the over-supply of money in the economy – therefore the price for money – the interest – will be lower than equilibrium.
By adding all these different wants of different individuals together we will get the fixed income markets, which intermediate between the “endpoints” – between the natural persons.
The time factor has his influence too:
If the amount of money in the economy would be constant, then the consumption preferences and time preferences would determine the price for the money – the interest – in the economy.
But as we see in the following – the amount of money in today’s fiat economy is not constant, but continuously growing.
Central banks are creating/destroying base-money. It exists:
The amount of base-money is not as stable as you might think. Federal Reserve increased the amount of base money after the 2008 financial crisis by 350%. Swiss National Bank did the same, but by 1’100%. This was called Quantitative Easing. We think Quantitative Perpetuity would be a better term to describe this.
If we look at the total base money growth of all central banks over the last 40 years, then we see the following:
We see continuous world-wide base-money production of ca 12% per year since the 1970s. If one asks, where is the inflation coming from, well – that’s one of the reasons here.
Increasing the amount of base-money lowers the interest rate – there is more supply of money in the economy, and the price of money – the interest – will go down.
Decreasing the amount of base-money decreases the interest rate – there is less supply of money in the economy, and the price of money – the interest – will go up.
Central banks influence interest as well with the interest they pay for the reserves of commercial banks on their central bank deposits. For example, in Switzerland, this rate is negative – 0.75%. Commercial banks have to pay interest to the Swiss National Bank (and not vice versa as one would think).
The hypothesis is that negative interest rates will stimulate bank lending – the idea being that banks would rather put the money into the circulation instead of paying interest to the central banks for their deposits. Well, the reality is, however, that these costs are just passed over to the consumers.
The biggest part of the money is not the base-money but the credit-money. The amount of credit-money is changing even more than the amount of base-money.
Commercial banks create credit money when the loans are issued; commercial banks destroy credit money when the loans are paid back. In the relative terms – 90% – 97% of the money is credit money, created by private organizations – by the commercial banks.
The money that you have on your bank accounts is not the base-money from the central banks, it’s the credit-money created by the commercial banks. The only way for the non-bank-entities to use the base-money is to use the coins or the notes (they are issued by the central banks).
The amount of credit-money can grow and can decline in the economy.
If more loans are issued than paid back – then the amount of the credit-money is growing in the economy. This means there is more money supply, which leads to lower interest – the price for the money.
If more loans are paid back, then issued – then the amount of credit-money is declining in the economy. This means there is a declining money supply, which results in increasing interest – the pice for the money.
The amount of total credit money (so-called M3) is growing by 5% – 6% per year. One could say that every unit of credit-money is then devalued by the same ratio year by year (there is rather a constant amount of the real assets and continuously growing amount of the credit-money).
This continuos devaluation of the money-units means from another side the inflation for the end-users. The interest paid to the lenders should compensate for the continuous devaluation of money.
The store of value function derives from the other parameters. It’s listed here because it’s very different for the fiat monetary system as compared to the crypto monetary systems.
The world economy had mainly deflationary scenario 1870 – 1910. After WWI it’s mainly the inflationary scenario. The deflationary scenario benefitted the savers – their money was worth more and more, the deflationary scenario enabled the middle class to emerge.
The inflationary scenario – our current fiat system scenario – benefits the debtors – they have to pay back less and less real value. This scenario hurts the middle class as well via pension fund mechanisms. The value of the pension funds should grow at least as much as the loss of value through inflation. But as this is not the case, then the pension funds pay-outs will be much smaller as required for keeping the life-standards of the middle-class.
Benefitting the savers is the store of value function of the money. Now, if the amount of credit-money in the economy is growing ca 5% – 6% per year – meaning every unit of credit-money is devaluing by the same ratio – then how is it possible to have a store of the value function in today’s fiat money?
Well, it’s clear, the current fiat monetary system does not possess any store of the value function. It’s an inflationary monetary system, where the wealth creators of the economy – the middle class – will discover latest by their retirement that after working all their life, they have not created any wealth for themselves…
If a debtor has to pay less interest, then the fair interest in the economy, then we have hidden wealth transfer to the debtors. It’s because of the following – if inflationary money is losing more value than the interest, which the debtor has to pay than the debtor is benefitting financially from this transaction.
The wealthy have to pay little interest, which is less than the fair interest in the economy. This results in the hidden wealth transfer to the wealthy.
The non-wealthy have much higher interest, which usually higher than the fair interest in the economy. This results in the hidden wealth transfer away from the non-wealthy.
Why are there different interest rates for the wealthy and for the non-wealthy? Well, it’s the proximity to the money creation, it’s the proximity to the commercial banks’ lending, which counts. The wealthy, which are closer to the commercial banks, will do better and the non-wealthy, which are definitively not close to the commercial banks, will do not so well.
Wealthy individuals and big corporations have easier access to credit creation via commercial banks. They have to pay much lower interest. Consumer segments, however, have reduced access to the credit. They have to pay much higher interest for the same nominal values.
Central banks quantitative easing, which started after the Lehman crisis, set the goals to facilitate the lending. But it didn’t work – the QE landed in the bank accounts of corporations or big banks. Little of this trickled down to the general population, to the non-wealthy.
It’s the proximity to money creation, which counts in the current financial system. If commercial banks don’t want to lend to the Small Medium Enterprises or consumers, then they will not do this. Pushing QE into the economy, will not force private organizations (banks) to do more lending. Pushing QE means only, that the wealthy are becoming more wealthy.
Inflation is defined as a loss of purchasing power of money. Mainstream macroeconomy presents the orthodox view that healthy inflation is always required and healthy for the economy. U.S. Fed for example targets 2% inflation per year.
This struggles us because the productivity increases continuously due to the innovation, which should lead to the decline of the prices, i.e. to the deflation (opposite of the inflation). This healthy deflation is beneficial to the savers because they will be able to consume more real assets (opposite to today’s situation, where money buys less and less).
However, as central banks are using monetary instruments to create inflation, then we have inflation in the economy.
Back to the interest – the base interest in the economy should be at least as much as the inflation, i.e. it should compensate for the loss of the purchasing power of the money.
This leads us to the question – how much is the inflation in today’s economy? We have to distinguish between the:
Official inflation calculation is “kind of optimized” – let’s think here on the transfer costs (health insurance costs are not included) and substitution effects (one should eat chicken if beef prices grow too much). The fact is that the official inflation calculation was changed in the 1990s. It is now circa 2.5% in the U.S.
Real inflation, based on the before 1990’s method, should be around 6% per year in the U.S. (please have a look at the www.shadowstats.com for the backgrounds).
This implies that the base interest should be ca 6% in today’s economy.
There is a total output of the economy (GDP) and there is a total amount of the money in the economy (so-called M3).
There are two scenarios for the base interest:
The first scenario helps the party’s with huge liabilities – for example, our governments. Having higher inflation allows to reduce nominal liabilities, it allows to “inflate” the debt away.
The second scenario helps anyone, who is borrowing for investing in the real assets – either for buying a house or for the retirement or for the kid’s education. This scenario is the best for the middle class.
The rate of credit money growth is circa 6% in the U.S, based on the discontinued government M3 statistics, however, recalculated by ShadowStats:
This implies the base interest should be as well ca 6%. Otherwise, the money would lose his value just by staying on the bank account.
Central banking is driven by the philosophy that there has to be inflation in the economy. Negative inflation (or deflation), which would be actually beneficial for the savers, is considered something very bad by the central banks…
Central bankers will explain their view in the following way – if the value of money will increase over time, then the consumers start to delay consummation decisions; enterprises will not invest, and all economy will become to the standstill.
Well, central bankers forget that, for example, the U.S. economy before the creation of Fed was a deflationary economy – it was economic boom time and it was the time where the savers become wealthier.
But why then this misconception in today’s central banking? Well, the trigger is the amount of credit money in the economy. Today’s economy is significantly over-leveraged by debt. The pre-Fed economy had much lower debt ratios. There was a clear separation of the base money (gold) and credit money in the pre-Fed area. Credit money was temporary and was always reversed back into the base money (gold). This system didn’t allow to create debt bubbles.
It’s not the fear of deflation, it’s the fear of the debt bubble, which keeps the central bankers inflating the system. Our current system doesn’t have a clear separation between the base-money and credit-money. Credit-money was supposed to be temporary and always reversed back to the base-money. But this is missing – we have not temporary but a permanent credit-money, which leads through inflationary policies to ever-growing bubble.
By lowering the central bank short term interests, by Quantitative Easing, by lowering the balance sheet requirements to the commercial banks – all these instruments are there to create an additional amount of credit-money and via this additional inflation and to prolong the status quo.
Let’s reflect the key points from here:
The current fiat money intermediation system is “kind of de-functional” in the current state.
It is not designed to keep and expand the middle-class. It’s current design and implementation leads to a continuous wealth transfer from the non-wealthy to the wealthy. It leads to a society with 1% and the rest.
Our aim in SmartCredit.io is to create a self-reinforcing crypto lending/borrowing platform. Sounds easy, but how to achieve this? There are three key components of the SmartCredit.io ecosystem. The interplay...
Aug 6, 2019 . 5 min read
Our aim in SmartCredit.io is to create a self-reinforcing crypto lending/borrowing platform. Sounds easy, but how to achieve this?
There are three key components of the SmartCredit.io ecosystem. The interplay of these components results in the self-reinforcements and positive feedback loop. The components are:
This is the traditional borrowing and lending against the collateral on the decentral marketplace. We aim to have the credit process as easy as possible for the borrower, that’s why we call it “2-Click Consumer Credit”.
The credit marketplace needs two sides – the borrowers and lenders. Our platform makes it easy for borrowers to create loan requests. And our platform offers private fixed income funds for the investors, who would like to earn passive income on their crypto assets.
Borrower’s loan requests will be matched either manually via the marketplace or in an automated way via the private fixed income funds.
All loans are tokenized on our platform into one standardized ERC 20 contract. This tokenization makes loans transferable. The loans are protected with the collateral and loss provisions fund. This means the lender can use the tokenized loans as a mean of payment.
It works in the following way:
This means that the lenders will be liquid even after they lend out their assets – they can use the credit-coins, which get assigned to them, to pay the third parties.
Why is having liquidity important? Let’s imagine, that the lender has lent out all his funds but needs to make some un-expected payments to third parties. The only way for him would be to take a loan. That’s how it would work on all fiat P2P or crypto P2P lending platforms – except SmartCredit.io.
Having liquidity options means the lender doesn’t need to take the bridge loans. It means, he can use his own loans, which are tokenized and value protected, to pay third parties.
How would the lender know who would like to receive his credit coins? There are two ways – the lender can do advertisements to SmartCredit.io and add new members into the network or he can send his credit-coins to the private fixed-income funds and receive the Ethereum in return.
The investor needs only to define the investment rules – to which credit ratings and to which durations he would like to allocate which part of his assets. He does not need to monitor ongoing loan requests, but everything will run in a fully automated way.
That’s the way for the investor to earn easily passive income on his crypto holdings.
If the lender/investor want’s to cancel the automated investment process, then he can do this by one button click. If he does this, then he is back in the manual mode.
Private fixed income funds will provide continuous liquidity to the platform, these are the assets, which will be lent to the borrowers.
Additionally, if some of the lenders have liquidity needs, then the respective lenders can always send their credit-coins into the private fixed-income funds and will receive Ethereum in return.
Every marketplace needs to create supply and demand. SmartCredit.io is doing this via:
There are several key differences from our competitors:
Here is an interview with Bull.io from June 2019 from Bristol, UK: Here is the transcript: Thank you for agreeing to be interviewed. If you can tell us your...
Jun 18, 2019 . 4 min read
Here is an interview with Bull.io from June 2019 from Bristol, UK:
Here is the transcript:
Thank you for agreeing to be interviewed. If you can tell us your name and what project are you currently involved it?
I am Martin, I am a CEO and Co-Founder of SmartCredit.io. What we are doing is a peer-to-peer marketplace, but now, here is a very big difference to all other crypto lending and powering marketplaces – what we are doing that loans are getting tokenized, they are very protected and they’re transferable.
So, on any other marketplace, you’re a lender, you lend out the money and you’re getting it back in three, six, nine months. In our marketplace, you lend out the money and you are getting the credit coins, which represent underlying loans. And you can use this credit coins to pay the next party who can pay the next parties, next parties and so on. And the owners on the end – they will receive the interest. It’s quite simple.
On what blockchain are you building on?
Our smart contracts are on the Ethereum system. But we have as well a lot of off-chain components. So that our philosophy is to go as well in the future to the other blockchains, which will keep only smart contracts on the blockchain but a lot of other logic we will keep in off-chain components.
And how do you find Ethereum so far?
I know a lot of other people are maybe criticizing Ethereum. I’m not one of them. I think Ethereum is a very genius innovation. I know, there is a lot of headache about this. Sometimes I think for us it’s good, it’s perfect. They had a first-mover advantage, there is most collateral on the system, most users are on this system, most real transactions are happening on this system. And our forecast is very easy – they were the first movers, they will stay there, they will have the biggest market share as well in the future. You can quote me in five years.
Where are you located?
We are located in Switzerland in Zurich
How is the Swiss government’s response to blockchain?
OK. I have to say now an official version and an unofficial version. The official version is of course that Swiss are declaring themselves a crypto nation. So, it’s very good to hear and there is a lot of PR about Swiss mountains and crypto and everything.
But then there is as well the reality for the young companies. For example in Switzerland if you mention the word blockchain – you are not getting the bank account. As simple it is. So there is a lot of talk about the crypto nation, but there are some small things which are very difficult for startups to do.
Our first Bitcoin price forecast was from January 2014 published in Swiss CFA magazine. It was 10’000 this time.
When do you think it will be 100’000 USD?
It’s very good – you’re like reading my mind. Beginning of 2018 we published a new analysis because the Swiss CFA president he called me and said Martin oops, you were right, yeah oops, you were right. Can you write a new analysis? So we did it, we wrote a new analysis and we said in the next four years it will be 100’000.
So on what are we based? It’s just basic fundamental research, we’re looking very much the s-curve movements, we are looking for the number of growth (of users), we are are looking at the value-added and we are adding just these components together and then we get the price range – that’s our forecast.
So, whats about a million dollars?
1’000’000 USD – we haven’t looked so far. But we have to realize the monetary systems, usually, the monetary systems have existed like 60 years or 50 years. Then they are getting replaced with something new, with another monetary system.
Our current monetary system exists since Bretton Wood, 1944; since Nixon stopped the so-called gold window or gold exchangeability in 1971. So our monetary system will have as well the end, the logical end, and now it depends when this end is coming. When this end is coming I think Bitcoin price is getting much higher because there is a need for an alternate way to keep the assets and to secure the assets.
And what TV show are you currently watching?
Actually, I don’t watch any TV. No movies, no TV.
We were presenting at the Blockercon Conference in Bristol (https://blockercon.com) in June 2019 about our favorite topic - Crypto Credit-Money - Why do we need it? Here are the Slideshare...
Jun 5, 2019 . 2 min read
We were presenting at the Blockercon Conference in Bristol (https://blockercon.com) in June 2019 about our favorite topic – Crypto Credit-Money – Why do we need it?
Here are the Slideshare slides of this presentation
SmartCredit.io is close to launching our platform. This platform shows in real life how to create decentral crypto credit money. Decentral credit money is created in the same way, as it has been created in the last 5’000 years – via the lending process. And it’s destroyed in the same way, as it has been done in the last 5’000 years – via payments of principal and interest. Everything is the same, as it was for thousands of years – but this time it’s empowered by blockchain.
In this scenario there are no banks involved – it’s peer to peer platform. Today’s banks earn high profits from credit money creation, it’s called seigniorage. It is estimated to be 3% of the principal. Now, let’s imagine this seigniorage will not belong to the selected view (commercial banks), but it will be distributed via decentral lending into the society. Just imagine what would be the effect of this for the wealth distribution in society.
We would be very happy if you look at our conference presentation and our pilot demo as well.
Here is our pitch — 3 minutes and 40 seconds — from the Paris Blockchain Week. Enjoy! Here is the transcript: So, we are in the lending business, in the credit business, in...
Apr 25, 2019 . 5 min read
Here is our pitch — 3 minutes and 40 seconds — from the Paris Blockchain Week. Enjoy!
Here is the transcript:
So, we are in the lending business, in the credit business, in the business of credit-money.
Let me start with credit – the credit as such is 5’000 years old. The first artifacts of credit are 5’000 years old. Let’s look at today – 85% of the economy runs on credit. To produce 1 USD of GDP we need 5 USD credit. Most people know it.
But now let’s look – what’s behind the credit – behind the credit is the credit-money. So, credit-money versus base-money. Base-money is the money that you have in your wallet – the coins, the notes – but, it’s 3% of the money. The 97% of the money is the credit-money, the commercial banking money, created by the commercial banks in the lending process.
Let’s think about history now. Commercial banks have been there for 350 years, only. Credit-money has been there for 5’000 years. How did it work the first 4’700 years?
It’s very easy? Peer-to-peer. It was a peer-to-peer credit-money. So, what is credit-money? It’s created in the lending transactions, dissolved in the lending transactions, is transferable, is protected.
We are here on the blockchain conference. Where is the credit-money, where is 97% what the economy needs in blockchain? Is it Bitcoin – no; is in Ether – no; is it Litecoin – no; It’s missing. We are speaking here about the 3%, but we in SmartCredit.io are speaking of 97%.
What we are doing – we are a marketplace – there are borrowers and lenders. They meet in the marketplace. The lenders lend out their money, the crypto and they receive the freshly minted credit-coins, which represent the underlying loans. The lender can use this credit-money to pay the next parties, which can pay with this the next party and so on.
These coins are value protected. There is a loss provisions mechanism. There is a collateral mechanism. These coins are transferable. And the guys, who own these coins at the end, they will receive interest pro-rata.
Let’s think again what we are doing – the lender lends out his money, but he receives the credit-coins. He can use these credit-coins to pay the next parties, who can pay the next parties and so on. We are creating credit-money.
The lending process – we are dissolving credit money at the end, we replace it with the underlying plus the interest. That’s what we are doing – we focus on the 97% and not on the 3%.
So, where are we – we have a pilot, it’s running, everyone who is interested, please look on the website. You can register, you can use the system. There are instructions on how to use the system. We aim to launch in the middle of summer in Europe and then, of course, to roll out in the next locations.
And a little background of the team, of founders – me and my twin brother – we have been long in the banking, in swiss banking, we worked for Credit Suisse as Vice Presidents for 10+ years, we know the banking inside out, we know the credit system inside out. And we started 2008 with monetary systems, Satoshi started …
So, that’s our aim – to create credit-money.
We were hounoured to give a deep dive lecture at the HWZ Zürich Blockchain course (https://fh-hwz.ch/produkt/cas-blockchain-economy/) Here are our slides: About the monetary systems and the credit-money About SmartCredit.io (https://smartcredit.io)...
Apr 23, 2019 . 10 min read
We were hounoured to give a deep dive lecture at the HWZ Zürich Blockchain course (https://fh-hwz.ch/produkt/cas-blockchain-economy/)
Here are our slides:
World today is to a big extent influenced by the wealth pyramid so that 1% of people own 46% wealth in the world. It is known, that the rich become...
Apr 23, 2019 . 3 min read
World today is to a big extent influenced by the wealth pyramid so that 1% of people own 46% wealth in the world. It is known, that the rich become richer and we have got somehow used to it. We don’t question it, we see it almost as normal.
But why is it like this? Why is the wealth in the world distributed so unevenly? How did it come that 3.7 billion people have only 2.7% of the world’s wealth?
One of the main reasons is our current banking system — the fiat money system. It creates the impression that stable money is available in the world, right? But behind the scenes, the amount of money is continuously expanded and the unfortunate side effect is that from the money creation profits rich class and poor class sees only inflation of prices.
Even if the poor class has an impression of stable money, relatively they can buy less and less for their money as profits from the fiat money creation accumulate to the rich class.
Why does it happen so? Key drivers here are the proximity to the money creation (commercial banks do this) and having access to the credit on favorable terms. We can summarize this as follows:
Let’s illustrate the effect of the fiat money system with the following simulation which considers the current wealth pyramid, world annual inflation 3.2% and profit from money creation (seigniorage) 2% annual. The inflation applies here for everyone; the profits from the seigniorage are available only to the rich class.
The effect of the fiat money creation system on the wealth pyramid is clear. Rich become richer and the poor become poorer.
What can we do? Cryptocurrencies created non-government controlled money. It is a big step forward. But it is not enough. We need more. We need to distribute profits from money creation (seigniorage) evenly in the world.
Therefore, we created SmartCredit.io. To make the world a better place, to have more even wealth distribution in the world, to give chance to the non-included people in our world and to reduce inequality in our world!
Join the revolution.
SmartCredit.io Pilot is available and everyone can use it now. One-Pager Here is a one-slider what we are doing - others offer decentral marketplaces, borrowers and lenders meet there and...
Apr 8, 2019 . 19 min read
SmartCredit.io Pilot is available and everyone can use it now.
Here is a one-slider what we are doing – others offer decentral marketplaces, borrowers and lenders meet there and transactions are executed on this platform. We are the only ones, who add something very essential – it’s the transferability of the credit.
The lender will receive during the lending transactions the credit-coins, which represent their rights to the principal and interest. Credit-coins are value protected with the collateral and loss provision funds.
The lenders can use the Credit-coins to pay the next parties, which can pay the next parties and so on. The owners of the credit-coins will receive the interest and principal at the end of the loan. If the lender kept all his credit-coins, then he will receive all interest and principal. If the lender transfers parts of his credit-coins to the others, then interest and principal are paid out pro-rata.
On-demand credit tokenization
At the end of the loan period, the credit-coins are replaced with the underlying principal and interest payments. In case, if the borrower defaults, then the borrower’s collateral is liquidated and loss provisions fund will jump in to cover the difference (if there is any).
Every marketplace needs to create supply and demand. SmartCredit.io ecosystem is doing this via three key components. The interplay of these components results in the self-reinforcements and positive feedback loop. These are the key components and the benefits to respective users:
And please note – the client will always be in control of his private keys. The platform can never control or influence client assets!
The demo videos below have 4 steps:
This video show’s the demo script in a fast walkthrough. It’s 3 minutes long – enjoy:
The video explains the concepts and shows the full demo. It’s 19 minutes long – enjoy:
If you have questions, please send us a message via https://smartcredit.io. Many thanks!
In the previous article, we looked at the two dimensions of money — base-money and credit-money. We also looked at the different kinds of monetary systems that existed in the last 5’000...
Mar 26, 2019 . 5 min read
In the previous article, we looked at the two dimensions of money — base-money and credit-money. We also looked at the different kinds of monetary systems that existed in the last 5’000 years and possible scenarios for the future.
The key question is — will it be different this time? Will we enter a phase of crypto-based money without having some form of crypto-credit money or will credit money be included in the crypto sector?
Here is the summary of the monetary systems from the last 5’000 years.
The first conclusion from the previous article is that monetary systems are not static, but are ever-evolving:
The second conclusion is that the decentralized credit money system has existed for thousands of years without central intermediaries.
As we are in the crypto age, let’s analyze how decentralized credit systems worked in the past.
It was all based on the bill of exchange — these are legal documents enforced by the court system. Anyone can issue a bill of exchange, it has only 8 attributes, including the wet signature of the borrower. The borrower has to pay, not to the issuer, but to the owner of the bill of exchange. This gives value to every bill of exchange as they are backed by the borrower’s obligation to pay. This allows the use of bills of exchange as a mean of payment:
Bills of exchange are enforced by the court system — there is no court hearing, there is only validation of the evidence, analysis of who has to pay whom, and a court decision. It is as simple as that.
The bill of exchange system is a P2P system backed by the court system. Every lender can create new credit money — the bills become the credit money, till they are paid back to the holder. One doesn’t need banks to create the credit money, every person can do this via a bill of exchange.
This system works as well today, even without the blockchain. This system has been the basis of all decentralized credit money systems in the last 5’000 years.
But there are limitations to this system:
Bill of exchange networks could become arbitrarily complex, with multiple borrowers, lenders, and holders. But without central middlemen:
Here is a more detailed view of how it could work:
It would work very similar to the bill of the exchange system, but it has to address the weaknesses of the previous systems:
Our forecast for the future is the following:
This future does not depend on a central bank based money creation or commercial bank credit money creation. Instead, it will be an alternative financial system. However, it’ll not really be a new system as it has existed for the last 5’000 years. Only this time it will be empowered by the blockchain.
Our forecast roadmap:
This time will not be different, there will be crypto credit money as well. It’s not yet there, but it might be there faster than anyone is anticipating.
During presentations about money, we usually hear that money has to be durable, portable, divisible and fungible. We fully agree with this distinction. However, there is a bigger picture. Money...
Mar 26, 2019 . 9 min read
During presentations about money, we usually hear that money has to be durable, portable, divisible and fungible. We fully agree with this distinction.
However, there is a bigger picture. Money doesn’t have just one dimension, it actually has two — the base money and the credit money. The notes and coins in your wallet are the base money. The money what you have in your bank account is actually the credit money.
Below is a picture of the first known credit money, from Mesopotamia, from ca 2’500 B.C., now in the possession of the British Museum in London:
The intuitive answer to the key question of this article will be — yes. Since credit money has been around for so long, it will be around in the future as well.
The crypto sphere today does not have any form of credit money. Bitcoin, Bitcoin Cash, Ether, etc. can only be used as base money because credit money has to be dynamic. Credit money is elastic; it is created and destroyed every time we perform economic transactions.
Let’s start with how they work today. Base money is created by central banks and credit money is created by commercial banks. Base money constitutes about 3% — 7% of today’s money, the rest is credit money.
Credit money is elastic, it’s amount grows and declines together with economic transactions. More economic transactions result in more lending which results in more credit money and vice versa.
This elasticity parameter is the key reason why we say that Bitcoin, Ether, etc. are not a form of credit money, but base money.
The supply of credit money also rises and falls — additional economic activities lead to additional demand for credit and reduced economic activity to reduced demand.
Credit money is, by principle, rather temporary. However, in our current monetary system, we create more credit money than we destroyed, resulting in the continuous growth of the total credit money available circa 5% — 7% per year.
Credit money is created by commercial banks in the lending process (no, commercial banks are not lending your grandma’s deposits, they create credit money by the so-called “balance sheet extension” procedure).
Credit money is created every time you receive a loan from a bank and destroyed every time you pay back a loan. The money, which you have in your bank account, is not as durable as you might have thought — there are continuous cycles of destruction and creation happening in the background.
Banks create credit money and protect it with their reserves (for example, the Deutsche Bank which has a balance sheet to equity ratio of 100:1) and there are national deposit insurances as well (for example, the Swiss deposit insurance, which has reserve funds to cover 4% of all Swiss deposits).
In practical terms, banks do the following:
Banks protect the value of the credit-money which they have created with this mechanism.
Well, what happens if this mechanism fails? No problem, it’s fixed by creating more of the same (creating more credit money):
Obviously, this mechanism will result in inflation (sooner or later) or in deflation (if no-one wants to borrow anymore), but as this happens later, then this is someone else’s problem.
Some people say that this system reminds them a little of the “musical chairs game”. We think that’s wrong — it IS the musical chairs game.
Monetary systems have always been made up of base money and credit money. The differences lie in:
Our current fiat monetary system is actually not very old, it started in the time period between the Federal Reserve creation (1913) and the gradual gold standard abolishment (1933 — nationalizing gold in U.S., 1944 -Bretton Wood agreement, 1971 — removing gold backing from USD base money, 1992 — removing gold backing from CHF base money).
Our fiat system looks as follows:
How did it work before our fiat system? Through the following:
This system started to emerge around the time period of the creation of the first central banks (in Sweden and England in 1660’s) and lasted until the Federal Reserve was created in 1913.
There were several sub-phases during this time — free banking areas, gold-based systems, some countries introduced central banks earlier, some later. In some cases, the central banks were “independent”, in other cases there were state treasuries, etc.
The key to this phase was however
The earlier phase started around 500 B.C. and lasted until 1660. The first coins were created around 500 B.C. — this was the time when the standing armies in Europe, India, and China had to be financed — they were financed with sovereign minted coins.
In the beginning, the coins were usually 100% gold or 100% silver. Then later the kings started to reduce the ratio of precious metals in the coins — this caused hidden inflation in base money. However, the coins were legal tender and one had to accept them.
In the time period when the Phoenicia, Islamic Trading Network, Mediterranean and Hanseatic Trading Networks existed. Decentralized credit money was created, in peer to peer transactions. Obligations to pay were used as bearer notes which could be used to pay third parties, who could pay fourth parties and so on. In the end, the borrower had to pay to the owner of the bearer note.
So, the key to this phase was:
But how did it all work before 500 B.C? There were many blossoming civilizations during that time and the following are common to all of them:
However, governments and sovereigns were not involved in the definition of what the base money had to be — the people decided it. Neither did they define how credit money had to work — the people also decided it. There was no government involvement. But there was a court system for enforcing contracts. And there was a government system for enforcing the court’s decisions.
The first known credit money is from Mesopotamia, from about 5’000 years ago. It was created decentrally, in peer to peer transactions. Mesopotamia used grain as their base money — the unit of account was a barrel of grain. On top of this was the decentralized peer to peer credit money, in this case, clay plates with the stamps of the borrowers.
Obviously, the barrels of grain were not easy to use in daily transactions. This facilitated the usage of clay plates based credit money even more.
By using base money and credit money dimensions we can classify the monetary systems of the last 5’000 years as follows:
The current crypto sphere doesn’t have the credit money approach, but none of the civilizations in the past has survived without credit money. Which leads us to the next question:
The first conclusion is that credit money has been always there. It has been created either as:
The second conclusion is that we are presented with two different possibilities to create base money:
Uncontrolled creation of base money means that a commodity, which cannot be manipulated, will be used as the base currency. The Swiss National Bank has increased its amount of base money by 10x in the last 10 years since the Lehman crisis. One cannot do this with commodity-based base money.
U.S. Courts have defined Bitcoin as a commodity. Some people are unhappy about this. However, we are very satisfied with this — it allows us to move back to the commodity-based monetary systems (which are then by definition, non-manipulatable).
But what’s about the crypto credit-money? If we use the Bitcoin as our base money, who will create crypto credit money? In the end, there are 3 possibilities — decentralized credit money, privatized credit money or centralized credit money.
Credit-money has been around for the last 5’000 years. No key civilization from the last 5’000 years has survived without using elastic credit money of one form or another.
But credit money is currently missing in the crypto sector. Bitcoin, Bitcoin Cash, Ether, etc. have the characteristics of base money. They are missing various characteristics, the elasticity, the continuous creation, and destruction, and more of credit money.
So, who will create elastic credit money for the crypto sector?
Our thesis is that the pendulum will move back to where we started:
It will be the same as it was in Mesopotamia 5’000 years ago. But this time empowered by the blockchain.
Some readers may remember the NASDAQ Dot-com bubble of 2000, but most readers will remember the Crypto bubble of 2018. In this article, we ask if we can leverage our...
Feb 28, 2019 . 5 min read
Some readers may remember the NASDAQ Dot-com bubble of 2000, but most readers will remember the Crypto bubble of 2018. In this article, we ask if we can leverage our knowledge of NASDAQ’s 2000 bubble in forecasting future crypto trends? What are their commonalities? And what will happen next?
NASDAQ composite is a stock market index of securities listed on the NASDAQ stock market. It is heavily tilted toward information technology companies. NASDAQ composite was launched in 1971 with a starting value of 100 and it peaked at 5132 in March 2000. After that, it fell to 1108 in October 2002, a — 78% decline. This was the dot-com bubble.
NASDAQ has recovered from these lows and the current price is around 7400 (in Feb 2019).
Here, we use Bitcoin as a proxy for the crypto markets. It reached a top price of 19500 in Dec 2017, and the current low, 3250, in Dec 2018. This represents an 84% decline.
Many believed, like in the NASDAQ 2000, that “this time it is different” or that it’s “the new economy”. It wasn’t so.
The dot-com bubble was driven by the belief in new technology — the Internet. The NASDAQ Composite was full of stocks which lacked real business potential.
The initial focus was on broadband cable companies, which were seen as a new infrastructure which would eventually generate huge revenues. However, this resulted in the oversupply of broadband infrastructure, internet connectivity prices collapsed and with them the stocks of the respective broadband companies as well. The positive outcome was that Internet broadband became a commodity and became available for most of the population.
The real business models of the Internet were not present before the dot-com bubble. These new, so-called Web 2.0 business models — Amazon, eBay, Facebook, Google,… emerged after the dot-com bubble.
All of them started to generate revenues/benefits compared to brick-and-mortar models, which translated into huge Discounted Cash Flow based valuations thanks to the network effects (value of the network increases in quadrat to the growth of the nodes in the network):
The internet was and is a major disruption enabler. However, interestingly — the initial business models on the Internet tried to mirror the brick-and-mortar world into the Internet. It took 5+ years before the new disruptive revenue generating business models emerged.
The crypto-bubble was driven by the belief in new technology — in this case, the blockchain. CoinmarketCap.com was full of projects without real business potential (remember that it was believed that you didn’t need cash flow/benefit based valuations then).
The initial focus was on the “smart contract platform” systems, which were the key enabler of blockchain disruption. However, being the key enabler doesn’t mean revenue generation. It can mean becoming a commodity as it happened with broadband during the NASDAQ bubble.
Our forecast is that smart contract platforms will consolidate, there will be some global/central platforms and other rather region specific platforms. (Having a smart contract platform could be compared to the importance of having/controlling maritime sea routes two centuries ago).
However, it is not the most technically advanced platform that will win the race, it will be the platform with the most users by now. Winning the race doesn’t mean becoming a cash flow generator, it will rather mean becoming a commodity or standard in the industry.
So, who will be the new eBay’s, Amazon’s, Google’s for the blockchain economy? The answer to this is in the new disruptive business models — it’s about cash flow/benefit generating disruptive business models.
So, what are the real disruptive revenue generating business models on the blockchain? There are the following:
These business models — money, credit, data, supply chain, energy, rights, and assets are by their nature decentralized. Adding a transaction fee per value-added business transactions will allow easy monetization and enables discounted cash flow based valuations. Adding a network effect will multiply these valuations.
The NASDAQ 2000 bubble and the crypto 2018 bubble were similar events. The next similarity will be what will happen afterward.
In both bubbles, the platforms (broadband or smart contract platforms) had the highest valuations. In the case of NASDAQ, broadband became the commodity. We expect the same from the smart contract platforms.
In the case of NASDAQ, the real value adding disruptive business models emerged. Real value-adding transactions drove the discounted cash flow based valuation of these companies.
Our forecast is that the same thing will happen in the crypto sector — new disruptive cash flow generating business models will emerge. The companies behind these models will become the new Facebooks, Googles and Amazons.
How to find these companies — it’s actually pretty easy:
We have heard many people saying “this time will be different”. We don’t think so, we think “this time will be the same”. History will repeat itself. Major disruptions are driven by real value-adding business models. It’s all the same. It’s the economy.
I was presenting on 28th of November 2018 at the moontec.io conference in Tallinn, Estonia about the monetary systems and about why one will need credit money in the crypto...
Nov 28, 2018 . 1 min read
I was presenting on 28th of November 2018 at the moontec.io conference in Tallinn, Estonia about the monetary systems and about why one will need credit money in the crypto sector.
I was happy with the participants of the conference, not only could they understand what the others were telling them, but they could as well synthesize new ideas!
Here is a one pager of the presentation:
Here are the slides of the presentation:
Here is our pitch from the Swiss Fintech Investor Day in Zurich: If you have only 10 seconds — here is the 10 seconds version: Here is the transcript: Hello,...
Nov 15, 2018 . 10 min read
Here is our pitch from the Swiss Fintech Investor Day in Zurich:
If you have only 10 seconds — here is the 10 seconds version:
Here is the transcript:
Hello, I am Martin. I’m Co-Founder and CEO of SmartCredit.io. We are crypto credit marketplace and we are creating programmable elastic crypto credit money.
Let’s start with the use-case. It’s about credit-markets. On one side we have Luiza from Poland, she needs credit. On the another side, we have Walter from Germany, 48 years old, established, a little bit gray hair – lucky one who invested early into the Ethereum.
These are the want’s – by putting all these wants together we will get the crypto-currency credit-market. And it’s a global credit market for lending and borrowing.
What are the problems? We see the two key problems:
The first one: the current market, as it’s implemented is very over-collateralized. It’s a margin calls market with a very high probability of margin calls. We call it cripple credit market. Although it’s a cripple credit market – the lending volume has been 1 Billion USD.
The second problem – if we speak of lending, if we speak of commercial banking, there is always the question – it’s lending and it’s creating money. In Switzerland, 97% of the money has been created by commercial banks.
Let’s look at the Federal Reserve. It provides the base-money supply and on top is the credit-money. Let’s look on ECB – it provides the base-money and on top of it the credit-money. The same in Switzerland.
The big question is – how is it working in the crypto sphere, who will create the credit-money for the crypto sphere. Are the commercial banks creating credit-money for the crypto-sphere or is the crypto-economy creating the crypto-sphere crypto-money? That’s where we are.
Let’s speak of the past. The credit-money has been there for 5’000 years. Created first in Mesopotamia, used in Phonecia, used in Hanseatic network, in many times in history. It has been decentrally created credit-money. That’s what we want to achieve.
So, our solution – SmartCredit.io – is a two-step system – from one side decentral credit marketplace for ether and stable coin lending; from another side, we are creating programmable elastic crypto credit-money in the lending process – we call it Smart Money tokens.
What does this programmable elastic credit money mean? With respect to all our competitors – there are two boxes here – and all our competitors are here in the left box – they are lending, borrowing, they are just intermediating between them (between the lender and borrower).
On the right side, there is a bigger box – that’s where we are. That means we are in all these together – we are a marketplace and we are creating liquidity for the lenders, which they can pass on to the next persons, and so on and so on. We are creating decentral credit money.
So, how does it then work in the crypto? We take the loan agreements, we tokenize them, and these tokens can be passed on to the next persons, One Smart Money token is worth at least one Ether or one stablecoin, underlying currency, which we are using. We have a protection mechanism, it’s a decentral community-based protection mechanism. And this means the Smart Money tokens can be passed on to the next parties, next parties, next parties – we are creating credit supply for the lenders.
The market – there are now 130 million crypto users, by the end of this year it’s 150 million, by the end of next year it’s 500 million. It’s an exponentially growing market. We are focussing on millennials – these are 55% of this. And from them, it’s 10%, who have the financing needs. So, our market size is like 6 million people and exponentially growing.
Our Competition – with all respect to our competition – we did a lot of number crunching – the existing business models are over-collateralized, there are long processes, there are no insurance or protection mechanisms, no-one is providing the crypto credit-money. We are doing all of this. That’s a small difference.
The Go-To-Market – it’s three pillars. The first one is the community. If we are building decentral systems, then everything is about the community. We are building it through he ICO marketing, we are building it via airdrops, community market. Second, it’s viral marketing – because Smart Money tokens are free marketing for us. It’s are the lenders who are doing marketing for us, to create liquidity for themselves. The third one – the credit marketplace – it fits with any wallet, with any marketplace, it’s an integration.
Our Roadmap – we started one year ago. We have our Whitepaper, we have our Pilot running, actually now the Pilot Phase II, we are completing our MVP in December. We started with whitelisting to start to build up the community. And we are focusing now to get 10’000 whitelisting, to start with the ICO.
The Team – these are some of our pictures. It’s me – I have been working 10 years in banking, my twin brother – as well 10 years in the banking. There are many other people in the team – we have 100+ years of finance experience, 50 years crypto experience, 10 years of artificial intelligence experience. That’s our team – we are the experts.
The Summary – the Bitcoin defined the base money for the Internet, the monetary systems don’t need only the base money, but they need the credit-money. So, what we will do is – we will create credit money for the Internet. We will create decentral programmable elastic credit money. Meaning our impact will be the same to the commercial banks as the impact of Skype to the telcos.
Thank you. I was a little bit faster. So, let’s move to the questions.