February 4, 2023

In mid-November, as crypto markets faltered in the wake of the FTX collapse, Nobel Prize-winning economist Paul Krugman used his New York Times column to discredit crypto assets – again. Despite his undeniable academic credentials, Krugman reiterated a common misunderstanding in his attempt to understand crypto-assets — by conflating Bitcoin (BTC) with other cryptocurrencies.

Despite being the oldest, most valuable, and best-known member of this emerging digital asset class, Bitcoin has a unique use case that is very different from all others. To understand this asset class as a whole, it would therefore make more sense to choose an asset with a more tangible utility as a starting point. For example, Filecoin provides storage for digital files in the same way as Google Drive or Dropbox, but in a decentralized way. This network allows users with excess storage space to rent out that capacity to other users for a fee. This fee is paid with the network’s own token, known as Filecoin. This example is much more representative of most crypto-assets: a network that provides financial incentives for services in a decentralized manner, with added efficiencies and reduced costs due to the lack of intermediaries and central counterparties. However, Bitcoin is different.

But what exactly is Bitcoin? This seems to be another blind spot in Paul Krugman’s understanding. Bitcoin has evolved over time, both in terms of its technology, with updates and improvements to its functionalities, and its most prominent investment thesis. According to his own column, Krugman sees Bitcoin (and, of course, other crypto assets) as a means of payment. In fact, that was the intended purpose revealed in the white paper that launched Bitcoin in 2008, and remained so in the years immediately following its publication.

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However, this thesis has evolved over time. Particularly in 2017, when there was a major debate within the Bitcoin community about whether to prioritize its functionality as a means of payment or its features as a store of value. The will of the store of value proponents prevailed and the dissidents created Bitcoin Cash. Since then, the prevailing consensus has been that Bitcoin should aim to be a replacement for gold, not fiat currencies – with the added benefits of greater portability and resistance to seizures.

In light of these characteristics, in extreme situations – such as the war in Ukraine and the hyperinflationary crisis in Venezuela – Bitcoin is highly sought after by ordinary people rather than criminals, as Krugman falsely suggests. It is clear that Bitcoin has a long way to go before it can effectively establish itself as a true store of value – the first step would be to achieve greater price stability. In addition, other use cases are under development. The necessary scalability improvements that would allow it to flourish as a means of payment have been allocated to so-called layer-2 solutions, such as the Lightning Network. One of Bitcoin’s most recent updates implemented in September allowed the creation of tokens within its network. Crypto has continued to evolve, but Krugman is still clinging to the 2008 white paper. The eventual failure of Bitcoin as a means of payment would not spell the end of Bitcoin itself, much less the end of all crypto assets.

Buoyed by this misunderstanding of the general nature of crypto-assets and Bitcoin in particular, Krugman arrives at conclusions that, while coherent in their own right, are utterly wrong, as, for example, his argument that the crypto industry would not survive increased levels of regulation. In 1998, discussing a similar subject, Krugman erroneously stated, “By 2005 it will become clear that the impact of the Internet on the economy has been no greater than that of the facsimile machine.” His bias against crypto assets can lead to predictions as inaccurate as his now infamous quote about the future impact of the internet.

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Well-designed regulations for companies providing services related to crypto-assets are welcomed by the vast majority of industry participants and are in fact seen as a development that would increase investor confidence needed to push this technology to mass adoption. to propel. In addition, many of the services offered by these companies are of a financial nature and, as the successive events that have taken place this year have shown, there are contagion effects. This in itself justifies the need for more regulation. As Krugman said in the first line of his op-ed, “Recent events have highlighted the need to regulate crypto.” On that point he was right.

It is likely that the crisis triggered by FTX will spur regulators to accelerate their efforts around the world and consequently help consolidate crypto assets and blockchain technology. Just as Krugman’s misguided predictions did not ruin his reputation, this crisis is not the endgame for crypto.

João Marco Braga da Cunha is the portfolio manager at Hashdex. He received a Master of Science in Economics from the Fundação Getulio Vargas before obtaining a PhD in Electrical and Electronic Engineering from the Pontifical Catholic University of Rio de Janeiro.

This article does not contain any investment advice or recommendations. Every investment and trading move involves risk and readers should do their own research when making a decision. The views, thoughts and opinions expressed here are those of the author alone and do not necessarily reflect or represent the views and opinions of Cointelegraph.

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