Tag Archive for: Crypto


Why do people gamble?  A straight application of prospect theory says that when offered the choice of $1 with certainty versus a gamble with expected value of, say, 85cents then it is rational to stay with the $1.  Yet the gambling industry is alive and well and has been for thousands of years. Why?

Milton Friedman famously posed this question and concluded that gambling exists because people enjoy the experience.  He surmised that the average gambler knows that they expect to lose money but they enjoy the experience watching horses or being the patsy in a poker game with a bunch of sharpies. Technically, Friedman’s argument is that some people derive utility from gambling thereby qualifying it as a consumption good. By adding gambling into the utility function it follows that each economic agent will consume their gambling experience to the extent that their marginal utility matches the marginal cost of the good and, indeed, suppliers of gambling services will be lured by the profit opportunity this utility creates to build the industry.

The idea that we can stuff anything we want into the consumer’s utility function to explain seemingly inexplicable behaviour is both ingenious and unfulfilling.  On the one hand it makes sense since there is definitely some enjoyment being generated at the racetrack.  On the other hand, stuffing everything into the utility function means that you can explain everything, and I have said many times that a theory that explains everything, in fact explains nothing.

Not surprisingly, Fiat Money has also had the utility function treatment, being, as it is, nothing but worthless paper (now electrons) that can be supplied in any quantity by a Central Bank.  The ‘Money-in-the-utility-function’ argument is a more difficult case to make than is gambling since any utility derived is indirect at best. There are also millions of financial assets backed by real assets, that offer a positive rate of return, so why not put them in the utility function as well? Money-in-the-utility-function is a hard case to make…which brings me to Crypto and why it continues to exist.

On the face of it, cryptocurrencies should be bucketed in with fiat money as a competing, non-convertible media of exchange.  The traditional view is that the easiest and most widely accepted medium will dominate all others, thereby reducing the number of accepted currencies down to one.  If this were the case then the US dollar would have fought off the crypto threat years ago.  But this is not the case – after a decade we still have Bitcoin and a plethora of others.  True fortunes have been made in Crypto and the industry continues to produce astoundingly successful variations such as smart-contract decentralised finance markets and Non-Fungible Tokens. While purists will point out that Crypto coins are basically worthless since they lay claim to nothing, there is a ‘fun-factor’ in crypto for many users (investors?) in that they seem to derive some utility from being able to say they own crypto and one day they will buy a Tesla with it.  So whereas it is difficult to make a case for adding the US dollar to the utility function, it is very easy to make the case for crypto and its derivatives.   Positive utility builds demand and demand underwrites the industry that grows up to satisfy that demand.

Despite the coin scams, the rug-pulls, the inability to access the mainstream banking payments systems or, more simply, the inability to buy an espresso with a fraction of bitcoin, there is a ‘fun factor’ which keeps crypto alive and thriving.  So if the ‘fun factor’ justifies crypto’s very existence by virtue of the utility it provides and the related demand it generates, what will cause it to lose it’s source of value? The ‘fun factor’ itself is the issue here.

Ironically, crypto’s undoing at some point in the future (if indeed it does get undone) would be it’s becoming generally accepted, pedestrian, boring and therefore no longer fun.

I cannot see Central Bank crypto’s being successful for the reason that they will be regulated and boring. Every hacker’s dream would be to crack into USDcrypto so it would be arguably less safe than Dogecoin. There wouldn’t be a cool community to associate with online and your true identity will be in the hands of the government.

So the message here is that crypto will thrive while people want to be associated with it. The day it drops out of the list of 100 things to do before you die is the day your crypto wallet has nothing but doughnuts.


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Crypto just joined the establishment and sunk the Fed

Many traders and portfolio managers began their careers on the Cash desk. This is a place where you can learn the markets without getting into too much trouble. Cash is variously defined as fixed income securities with maturities ranging from 91 days for the most secure portfolios out to 397 days for portfolios with slightly more flexibility.  The short maturity and the dominance of government securities in the Cash markets make the sector low risk.  After 6 months or a year on the Cash desk boredom sets in and the traders/PMs gravitate to the more exciting markets that get them into trouble…

Money Market Funds are critical to the Fed’s policy implementation

Money Market Funds (MMFs) are the quintessential example of this boring asset class.  MMFs, however, are extremely powerful investors that virtually control the Reverse Repo Market (basically they lend money to the US Federal Reserve).  MMF’s account for roughly $2Trillion of short term investments whereas Reverse Repo weighs in at $500billion, meaning that the Fed relies on MMF’s to successfully execute their monetary policy actions.  Unlike the Primary Dealers, who largely do what the Fed wants by virtue of their privileged position, MMFs are completely independent of the Fed and under no compulsion to trade at the levels the Fed chooses.  It is a little known fact that the Fed was concerned with the systemic risk of a run on the MMFs during the Financial Crisis (there was no panic in hindsight) and the MMFs were also a wildcard in the Fed’s plans to wind down the Quantitative Easing policy as well as its ability to raise interest rates by borrowing from the MMFs.

Uh-oh…MMFs just went crypto

Last week, the boring old MMF suddenly became the future for crypto and with it the Fed’s public enemy #1.  Franklin Templeton’s “Blockchain Enabled US Government Money Fund” sought registration with the US Securities and Exchange Commission. The Fund is identical in all respects to Franklin’s existing MMF, including all the administration functions recording subscriptions, redemptions and balances. The only difference is the addition of a blockchain feature shadowing the centralised primary records.  [In the event of a discrepancy between the blockchain records and the centralised records, the latter prevail.] The “Blockchain enabled” MMF has been created entirely within the established regulatory framework.  While there is no intention to issue a token to each investor at present, the structure clearly anticipates a….

…STABLECOIN !  This is a massive step forward for the general acceptance of a private currency.    The standout aspects of the structure are (i) the MMF pays interest (this knocks Libra off the shelf), (ii) the MMF is registered to deal directly with the Federal Reserve (iii) the use of traditional record keeping together with blockchain record keeping.

Franklin Templeton are part of the establishment.  They are not techno-zealots or crypto-crusaders.  They simply recognise that electronic transactions between their MMF account holders can be facilitated on the blockchain (Anne’s MMF pays Bob’s MMF)  rather than through the traditional route (Anne’s MMF pays Anne’s bank Anne withdraws cash to pay Bob cash Bob deposits cash in Bob’s bank and transfers to Bob’s MMF).

So what does this mean for the Fed?

Franklin Templeton might be first to market but my guess is that every other MMF provider will follow and eventually club together so that i can buy coffee using my MMF provider transferring to the cafe’s  MMF provider over blockchain. This transaction completely bypasses the existing payments system, cutting out the banks and the Fed’s control.

The subtle implication is that the MMF blockchain effectively replaces the traditional payment system while at the same time continuing to trade with the Federal Reserve. This is starkly in contrast with any other attempt at stablecoin that held deposits with some unheard of custodian or dodgy bank account in Malta.

So here’s the rub: MMFs operate outside of the Fed’s official influence yet are a critical element of the Fed’s funding programs and the Fed’s ability to implement monetary policy.  MMFs have $2Trillion of existing power at their disposal and they could easily push the Fed around. Whereas the Fed has been hostile toward the other stablecoins by refusing access to the payments system and directing their primary dealers not to engage, the Fed now finds itself borrowing from an established main stream crypto currency and this will only become more prevalent over time. The Fed becomes hamstrung in its ability to influence the money supply since the demand for its reverse repo is driven by MMF flows rather than forced on primary dealers. When the Fed wants to drain liquidity by selling reverse repo the primary dealers dip into bank reserves. MMFs on the other hand only agree if they have the cash to invest and the interest rate is competitive. Put another way, unlike banks,  MMFs are not in the business of creating money so that the Fed will lose control of monetary policy.

…the end of fiat money is nigh

The next step in crypto development is for the established Fund houses to offer blockchain enabled mutual funds which can also be used for day-to-day purchases. This is the ultimate fully convertible currency backed by a market portfolio of claims to real assets. That is the logical extension of the private currency market and will drive the demand for fiat currency of any kind (traditional fiat and digital fiat) to zero. Franklin Templeton, Blackrock, ( even First Degree!) will have their role to play in the reform of the international monetary system.


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