Dutch Lessons

If this crypto-winter is another “tulip bubble” then that is actually very good news.

Dateline: Woking, 1st August 2022.

Winter is coming. Crypto-winter, that is. A chill wind has been blowing across the new landscape of unstablecoins, tokens and (not really very) decentralised markets. As these markets went south, the recently opened Bored Ape Yacht Club restaurant, Bored & Hungry, reportedly stopped accepting ApeCoin and any form of crypto altogether. If they’re not eating their own dog food, so to speak, that must mean a shift in market sentiment, and that must mean something.

The Wall Street Journal (in “The Crypto Party Is Over”) notes the similarities between the current price adjustments in the cryptocurrency markets and the late-1990s and internet companies. On the one hand, investors back then were correct in their basic thesis: The internet was indeed the future. But that didn't stop many of them watching their money go down the drain as hundreds of internet companies failed.

At the height of that “dotcom bubble”, as I will lazily label it, I was involved in a couple of consulting projects advising investment banks on technology infrastructure. I can remember that one of the teams I worked with at that time had a generic dismissive term for nonsensical dotcom startups that had no sustainable business model and were created simply to fleece retail investors in IPOs while rewarding their investment banking chums. They used to call such companies “usedcondoms.com”.

Whether it is now politically-incorrect to use the term or not I am not certain but it still pops up in my head almost every day when I read about some new crypto asset scam rug pull ponzinomic enterprise going down the pan and taking investors cash with it. I’ll see something about a machine generating pictures of chimpanzees with assorted random sunglasses on and just file it away under usedcondoms.eth and think no more about it.

(I recently discovered that used condoms are actually a viable business, by the way. The police in Vietnam uncovered just such an enterprise and instead of praising the freelance prophylactic entrepreneurs for their valuable ecological stand against single-use disposable consumer products, they raided them and impounded 300,000 recycled condoms that had been boiled, dried and reshaped with a wooden prosthesis. This means I will need new terminology, so I am going to go with the more British “usedteabags.com” from now on*)

With a crypto-Winter, a variety of unstablecoins going to zero and funds blowing up all over the place, I think it is reasonable to ask how we should be viewing “crypto” right now. Are these enterprises a load of usedteabags.eth most of which will go to the wall while sowing the seeds of some web3 giants to come, a mimetic echo of the dotbombs? Or should we see the collapse of the currencies and a whole bunch of tokens as a modern day tulip bubble?

I think it’s the latter, and that that is more important.

Dot-bombs

Dotbombs first. The Dotcom bubble refers to the period from the mid-1990s dawn of the consumer internet and the Netscape IPO up to the Nasdaq peak in March 2000, when a myriad of online businesses formed with the primary goal of market share rather than profits. When the rot set in and stock prices fell by three-quarters over the next two years, a great many of these companies simply vanished. But a few — such as Amazon and eBay — went on to dominate the new business environment.

How is that like the crypto crash? Well, between September 1999 and July 2000, insiders at dotcom companies cashed out to the tune of $43 billion, twice the rate that they had sold at during the previous two years. Indeed, in the month before that Nasdaq peak, insiders were selling more than twenty times as many shares as they bought. As Brian McCullogh wrote, normal people were the most aggressive investors at the very moment the smart money was getting out. By 2002, 100 million individual investors had lost $5 trillion in the stock market.

(There’s something of a crash going on in US technology stocks as a whole, as you can hardly have failed to notice. The Nasdaq Composite index has already fallen by a fifth this year and has lost well over five trillion dollars in value since its November peak, which is actually more than the losses through the entire dotcom bubble.)

The key point is that in the dotcom bubble it was the retail investors who paid the price, just as it is the nurses and taxi drivers who bought tokens on the back of celebrity endorsements who are wrecked today, so it is an interesting comparison. Once again the retail investors were coming in as the smart money was getting out.

The dotcoms went away but the internet didn’t. In the following era of web2, as we now call it, companies such as Facebook and Alibaba, Twitter and Netflix were founded and exploded. Hence some observers think that we will see a similar explosion in web3 businesses when the crypto winter is over and this is certainly not impossible. Will the disappearance of usedteabags.eth and the emergence of amazing new web3 companies be the biggest impact of the crash though?

Listen to the Flower People

As you will have noticed, recent online discussions about Bitcoin falling below $20K before rebounding slightly often frequently refer to the well-known speculative mania of the Amsterdam “tulip bubble” in the 17th century.

Now, there certainly was a bubble of sorts in a Netherlands obsessed with the exotic products emerging from the orient, but it was nothing like the economic cataclysm of popular imagination. Peter Garber’s view that modern writers who invoke it “take for granted that it was a mania, selecting and organising the evidence to emphasise the irrationality of the market” seems accurate to me.

Yes, merchants really did engage in a frantic tulip trade, and yes they paid incredibly high prices for some bulbs. And when a number of buyers announced they would renege on their future contracts, the market did fall apart and cause a small crisis. But as I pointed out in Forbes last year, that was not a mass market mania: It was speculation by a small group of rich people who could well afford to lose money.

I really enjoyed Simon Lelieveldt’s wonderful walking tour of Amsterdam’s financial history and I’m sure you will too.

That doesn’t mean we shouldn’t study the tulip bubble and learn from it, and not only about financial services. Anne Goldgar, author of “Tulipmania: Money, Honor, and Knowledge in the Dutch Golden Age” wrote that while it might not have been a financial crisis, it was a social and cultural one as “Dutch burghers confronted a series of issues that in any case gripped their culture: novelty, the exotic, capitalism, immigration.”

(I think the view that the cryptowinter is a social crisis, not a financial one, deserves more detailed exploration that I can afford it. I will be very keen to learn from the perspective the social anthropologists bring to it.)

Flowering

More importantly, and of more relevance today, is that when the bubble popped it left behind a more efficient and better regulated financial market and that financial market then played a significant role in creating the Dutch golden age that was founded on trade and commerce. So great was the impact of this more efficient financial intermediation that balances at the Bank of Amsterdam became a pan-European currency and, as noted in an Atlanta Fed paper on the subject, the Dutch florin played a role “not unlike that of the U.S. dollar today.”

So, saying that crypto is like the tulip bubble is, in fact, saying that a relatively small number of people will lose a lot of money and that a new and more efficient market will be created because of it.

Of course, things may be worse in this bubble, because unlike the small fraction of the Dutch population with investments in tulip bulbs, just over half of American adults say they own or have previously owned cryptocurrency, of them three-quarters invested in crypto for the first time in the last two years. That’s 100m+ people who were vulnerable to the rampant market manipulation taking place in the thin and opaque token markets and I am not minimising the real suffering here. You only have to glance at, for example, the court dockets relating to the Celsius collapse to see that many lives were devastated while the insiders were buying yachts.

(Take a look at Molly White’s tweets to read these sad testaments at @molly0xFF. These are stories of normal people who thought that they were putting their money into some kind of regulated institution with appropriate legal and consumer protections some are heartbreaking. Yes, these retail investors were uninformed, swayed by Youtube influencers and celebrity endorsements, but that’s real life and it’s not an excuse for hanging them out to dry while the sharks lazily swim away.)

I am convinced that the long term outcome, though, will be a more efficient financial system, which is pretty much what The Economist meant when it observed that “because tokens can be digital representations of nearly anything, they could be efficient solutions to all sorts of financial problems”. I might add to that observation the fact that during the crypto-winter, decentralised operations were not wiped out: they liquidated their collateral as the protocols were designed to do and went about their business.

(When I’ve spoken to serious finance people about tokens they have all pretty much said the same thing: when the regulatory structure is in place, they will tokenise everything.)

If this cryptocrash is indeed like the tulip bubble then frankly that is a very good thing, not because some people were ruined but because the new regulatory environment that will support tokens, digital currencies and decentralised finance will be the crucial factor in creating a new golden age of trade and commerce based on the new technologies whether Bitcoin goes to zero or $100K next year.

* Uh oh. I’ve just discovered that there are in fact 27 things to do with used teabags, so I’m going to have to go back to drawing board and come up with something else instead. Any suggestions will be gratefully received.

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