A Stanford-trained Brazilian professor of computer science has left several of the sacred cows of Bitcoin wounded in the field after submitting a systematic take down of several of the coin’s tropes to the US Securities and Exchange Commission (SEC).
In early July, the SEC began taking submissions from the public on whether it should should green-light a VanEck SolidX Bitcoin Trust ETF.
Pofessor Jorge Stolfi responded:
“While I am neither a citizen nor a resident of the US, this proposal would have impact in my country too; by, among other things, appearing to giv(e) legitimacy to Bitcoin as a legitimate investment, on par with company stocks and physical commodities.”
The professor then argues that Bitcoin is a negative sum system with increased valuation fed in exclusively by participants, like a pyramid scheme.
He then argues that because the coin is not tied to any real world value-creation or asset, the price must necessarily be “fictitious,” established exclusively by speculation and quick-stepping bots.
He then argues that blockchain tech, including that of Bitcoin, is “irrelevant” and only partly immutable, and then goes on to suggest that the underlying chaos in unregulated Bitcoin spot markets would likely transfer to any derivative:
“The proposed ETF would be essentially a proxy for bitcoin itself….invested in and traded on the same markets as stocks and bonds…rather than through bitcoin exchanges. Hence the financial soundness of that ETF, and its admissibility for trading in those markets, cannot be any better than those of bitcoin itself.”
Bitcoin must first be distinguished from stocks and bonds, the professor argues, to which value is reasonably funneled by value- and revenue-creating real-world activities by companies.
“Stocks have dividends; bonds have legally binding promises of redemption with interest… (Stocks) also give…the right of property of a certain percentage of the company — including its assets, and any profits that the company may make in the future,” he writes.
ETF’s impart similar property rights:
“Similarly, when one buys shares of an ETF based on a physical commodity, like oil, grain, or gold, a…record effectively gives the shareholder, besides the right to sell those shares to other investors, also the property rights over a definite fraction of the physical commodity held by the fund.”
In regulated markets tied to real world assets, revenues”external to the body of investors” make investing in stocks or commodities a “positive-sum” game, says Stolfi.
Bitcoin, on the other hand, imparts no such rights and is a closed and negative-sum ecosystem with, “absolutely no source of revenue other than the money provided by the investors themselves”:
“The people who have ever bought bitcoins, considered as a whole, have put into the game more money than they have got back…That is not the conclusion of any economic analysis, but of elementary mathematics and those obvious facts about the flow of money…that sum is in fact very negative.”
These revenue-negative features of Bitcoin, Stolfi argues, are made worse by the fact that miners take $10 million dollars a day out of the system in the form of fees:
“It is not possible to estimate how that cost would change in the future. However, it is obvious to any impartial observer that the current cost of building the blockchain — over 10 million USD per day — is absurdly excessive, given its (lack of) significant use.”
Unregulated Bitcoin markets now are acting not much differently than penny stock pump schemes, taking money from Main Street and giving it to “scammers,” Stolfi argues:
“Like in penny stock scams, some early buyers have more chance to make a profit; but only at the expense of later investors, and only if they are lucky to cash out before the collapse. Even then their gains will come from the losses of other investors; so that the expected profit of a generic investor is strictly negative.”
Decentralization, Stolfi argues, does not mean that Bitcoin is not a ponzi:
“…(I)t is not the existence of a central operator, or the fact that he lies to investors, that make Ponzi and pyramid schemes be bad investments…Bernard Madoff never explicitly promised specific returns for his fund; he let misguided ‘market analysts’ praise its virtues, based only on the returns that he paid.) It is the negative-sum character that characterizes those ‘investment instruments’ as frauds to be avoided.”
Stole says that the Ponzi nature of the Bitcoin network, where gains are paid by other investors rather than by revenues, means, “there is no way to make a rational estimate for (Bitcoin’s) value (above zero)…7300 USD/BTC, rather than 0.73 or 73,000,000,” other than speculation and manipulation:
“One should note the price scale at the left (in USD/BTC), and observe that the small random-like fluctuations, believed to be due to high-frequency trading algorithms, are occasionally disrupted by sudden price shifts of 15% or more, apparently due to single large trades — even in the absence of significant news.”
Does blockchain tech improve the quality of cryptocurrencies?
Stolfi’s adds claims that “Blockchain technology is irrelevant” to his critiques of valuation:
“In order to make Bitcoin seem like a good investment, its holders often mention ‘blockchain technology (BT),’ arguing or implying that it is a revolutionary invention that will have many applications, and these will make bitcoin more valuable. However, nothing of that is true.”
Stolfi claims that Page 12 of VanEck’s ETF proposal claims blockchains provide, “highly redundant storage…because copies of [it] are distributed throughout the Internet.”
But Stolfi argues that maintaining a ledger on many of the chains involves, “no legal or contractual obligation for anyone to hold a copy of the Bitcoin blockchain.”
Bitcoin and other coin advocates say that interested parties are “incentivized” to run ledger nodes because they hold and transact the coins. They advise one another to run the increasingly data-bulky nodes as a way to secure the network and gives node user-hosts a way to directly verify transactions:
But Stolfi questions the incentives there, arguing that a node for Bitcoin is an, “extremely bulky dataset, that is now growing by about 140 megabytes per day; and would grow even faster in the future, if Bitcoin ever gains significant adoption as a currency of commerce.”
As well, if Bitcoin and Litecoin and others are indeed zero-sum Ponzis, people running nodes, “HODLing” as advised, mitigating and weathering market fluctuations while traders and manipulators speculate – these people may not only be subsidizing the network but also enriching cynical traders, who often refer to them as “bag holders.”
Arguably, early adopters or others coming out on the right side of the equation can also end up with a Pavlovian bias toward the network, which they then advocate for.
Stolfi also claims that certain “immutable” blockchain networks, even Bitcoin, have been mismanaged and even rewritten:
“Ripple (XRP), one of the oldest and best-known cryptocurrencies, is missing its first 30’000 blocks — because no one, not even the company that created the coin, bothered to save them on time.”
Ripple is often ridiculed as a corporate coin masquerading as decentralized, but Stolfi also provides claims from the BitMEX blog stating that more recent block layers in Bitcoin have been rewritten:
“Any final segment of a blockchain can be erased and rewritten, possibly replacing some of its contents, with an investment roughly equal to the cost of creating that segment. (In fact, the bitcoin blockchain had its last few dozen blocks, spanning several hours, discarded and rebuilt on two occasions, to correct software bugs.)”
Stolfi then takes more shots at the VanEck proposal, which claims that the Bitcoin blockchain could be used by other services and provide some sort of hard network for them to connect into and build their businesses off.
Stolfi counters, “Even if those services mentioned on page 12 were to generate revenue, that revenue would not contribute to the price of Bitcoin, and not a penny of it would accrue to the holders of Bitcoins, such as the proposed fund; even if those services found a practical use, they would not need to use the Bitcoin blockchain, but could use any other cryptocurrency blockchain, and switch between cryptocurrencies.”
The VanEck proposal also mistakenly claims: “the Commodity Futures Trading Commission (the ‘CFTC’) is responsible for regulating the Bitcoin spot market with respect to fraud and manipulation, which is not Stolfi’s understanding:
“To my knowledge, this statement is incorrect. The CFTC oversees and regulates only the trading of “futures” contracts and other derivative instruments — not the trading of their underlying commodities or stocks.”
An ETF could only be based on a “fictitious” price established by whatever equilibrium can be established by speculators/manipulators:
“Spot trading of Bitcoins in Bitcoin exchanges, like that on of OTC Bitcoin trading, is still essentially unregulated and unsupervised, since neither the SEC nor the CFTC claim jurisdiction over those marketplaces. Moreover, the largest exchanges, that are often seen to lead in fast price swings, are located outside the US… (and) all Bitcoin exchanges may well be engaging in many practices that are strictly forbidden in stock markets — such as wash trades, front-running, and trading against their own clients.”
“Indeed, some of the largest bitcoin exchanges, like Bitfinex (headquartered in Hong Kong) and Binance (formerly in China and moved subsequently to South Korea and recently to Malta) have been persistently suspected of manipulating the prices of cryptocurrencies, and have been unwilling to provide any form of auditing whatsoever.”
Stolfi ultimately concludes by arguing:
“The proposed ETF would be just a proxy for Bitcoins; therefore, if approved, it would expose traders and investors in supposedly regulated markets to those same manipulations and artifacts of fraudulent trading.”
From the ashes…
Stolfi’s analysis puts pressure on claims of people who seek to proliferate Bitcoin as a humanist endeavour.
Computer scientist and PhD Adam Back recently tweeted the following list of Bitcoin’s utilitarian virtues:
After a year-and-a-half of serious investigation, I have concluded that Bitcoin’s value lies in its ability to possibly provide an alternative system of payments with possible deflationary features.
But doesn’t repeated buying and selling of bitcoins void the deflationary policy at the heart of the invention and part naive idealists from their savings?
Back leaves out the black marketeers, many of whom have sold arguably harmless drugs like marijuana, and others who have sold worse, as well as the criminals who demand Bitcoins in ransomware and kidnapping attacks. Bitcoin serves them, too, and many have acknowledged that they form a significant percentage of Bitcoin’s original user base.
But Bitcoin was also built to serve the cypherpunk agenda, and to help the unjustly persecuted, and is arguably now serving Venezuelans as they try to survive hyperinflation that may reach one million percent or more this year.
If Professor Stolfi’s arguments about the Ponzi structure of Bitcoin are obvious and a necessary evil, the question now seems to be how much is a system with Bitcoin’s features worth to humanity really, and how many times over will good people have to pay for it as scalpers and derivatives traders take a cut?