Bitcoin is fiat money, too
What Charles Kindleberger has to say about cryptocurrencies
Sep 22nd 2017 by B.G. | WASHINGTON
FINANCIERS with PhDs like to remind each other to “read your Kindleberger". The rare academic who could speak fluently to bureaucrats and normal people, Charles Kindleberger designed the Marshall Plan and wrote vast economic histories worthy of Tolstoy. “Read your Kindleberger” is just a coded way of saying “don’t forget this has all happened before”. So to anyone invested in, mining or building applications for distributed ledger money such as bitcoin or ethereum: read your Kindleberger.
Start with A Financial History of Western Europe, in which Kindleberger documents how many times merchants in different centuries figured out clever ways of doing the exact same thing. They made transactions easier, and in the process created new deposits and bills that increased the supply of money. In most cases, the Bürgermeister or the king left these innovations in place, but decided to control the supply of money and credit themselves. It is good for the king to be in charge of his own creditors. But also, it has always been tempting for private finance to create too much money. There is no evidence that money born on a distributed ledger will be clean of this sin.
Distributed ledgers, which borrow private computers from around the world to update the same list of accounts, address one ancient challenge of finance: how to make sure a transaction between two people located far apart is credible to both. Other innovations have done the same. In 1773 banks in England went in on a clearinghouse in London, for example, an improvement on the system of managing separate ledgers with each bank. The banks themselves took in gold coin—cumbersome to carry and verify—then created new money by offering more in loans than the gold they had on deposit. In 1776 Adam Smith described coins as an earth-bound highway, where bank money offered a “waggon-way through the air”. (Quote from Kindleberger. Read your Kindleberger.) Your blogger challenges any bitcoin operator to praise his own disruptions more loftily.
Over the next century the “currency school”, which wanted to lock down growth in money, argued with the “banking school”, which wanted ever more waggons in the air. We can’t look back now and say either side definitively won, because this argument cannot ever possibly be won. Creditors and business owners want the supply of money to grow slowly. Debtors and employees want it to grow faster. We might sooner tease out the true nature of the Holy Spirit.
Bankers talk about “governance”, ways to ensure private banks and central bankers make sound decisions—so they create just enough money make commerce easier, but not so much that the system collapses through inflation or panics. The developers behind distributed ledgers, however, often talk as if governance is something they are beyond. They are not. Computer code is just a set of rules. Code is governance. And it can change. Take bitcoin: if a supermajority of the computers running the bitcoin distributed ledger run an upgrade, the upgrade becomes the new code. But behind each computer is a human, making decisions. Distributed-ledger developers talk about a consensus-driven model, where you improve the system by bringing everyone on board. So do central bankers.
And different humans have different interests. In bitcoin, the people who own the computers verifying transactions—the “miners”—want code that increases fees for miners. People who use bitcoin want code that keeps those fees low. These two sides could not agree, and so in August the bitcoin distributed ledger “forked”—a smaller group of developers created a copy with slightly different rules, called “bitcoin cash”. Everyone who owned one unit of bitcoin also suddenly owned one unit of bitcoin cash. Out of a governance dispute, new money. In mid-September bitcoin traded at about $3900, while bitcoin cash fetched only $500.
Cointelegraph, a site for people who trade distributed-ledger currencies, also offers quotes and analysis on currencies called ethereum, ripple and litecoin. You could argue that markets are already deciding which new currencies provide sound money. And in doing so you would join the banking school of 19th-century England, or the people who loosened financial regulation in the late 1990s in America. Your blogger does not believe this argument is wrong, necessarily. But it is not new, and it has failed spectacularly in the past. Distributed ledgers are useful technology, just like banks. As they become a larger part of finance, the temptation to abuse them will be just as great. History instructs that no governance is perfect, and humans are reliably awful.
This week Quartz, an online magazine, published an interview with Vitalik Buterin, the 23-year-old founder of ethereum. The currency survived a crisis of credibility after a bug was discovered in 2016, leaving him up all night communicating with ethereum’s users and gathering consensus for action—much like the world’s central bankers a decade ago. He seems thoughtful on the trade-offs of governance, but unaware that anyone has considered them before:
In the case of ethereum, if somehow 80% of ethereum’s users just ended up being cryptocurrency speculators, would we then have a social responsibility to start optimizing for that constituency, because that would end up being our constituency? That’s an interesting philosophical question.
Yes. It is. Read your Kindleberger.
China sets its sights on dominating sunrise industries
But its record of industrial-policy successes is patchy
Sep 23rd 2017| SHANGHAI
IN RECENT days China set the record for the world’s fastest long-distance bullet train, which hurtled between Beijing and Shanghai at 350kph (217mph). This was a triumph of industrial policy as much as of engineering. China’s first high-speed trains started rolling only a decade ago; today the country has 20,000km of high-speed track, more than the rest of the world combined. China could not have built this without a strong government. The state provided funds for research, land for tracks, aid for loss-making railways, subsidies for equipment-makers and, most controversially, incentives for foreign companies to share commercial secrets.
High-speed rail is a prime example of the Chinese government’s prowess at identifying priority industries and deploying money and policy tools to nurture them. It inspires awe of what it can accomplish and fear that other countries stand little chance against such a formidable competitor. Yet there have also been big industrial-policy misses, notably the failure to develop strong car manufacturers and semiconductor-makers. China is rolling out a new generation of industrial policies, directed at a range of advanced sectors, raising worries that it will dominate everything from robotics to artificial intelligence. That result is far from preordained.
Industrial policy is a touchy topic. In continental Europe and, especially, Asia, many have faith in the government’s ability to steer companies into industries they might otherwise shun. In America and Britain, faith tends to be supplanted by deep doubts. Governments, after all, have a lousy record in picking winners in fast-evolving markets. Yet most countries try to support some industries, usually through a mixture of infrastructure, tax breaks and research funding. What differs is the stress they lay on such measures.
China is unique in the breadth and heft of its industrial policy. For years the government concentrated on modernising what it classified as nine traditional industries such as shipbuilding, steelmaking and petrochemical production. In 2010 seven new strategic industries, from alternative energy to biotechnology, also became targets. And two years ago it announced its “Made in China 2025” scheme, specifying ten sectors, including aerospace, new materials and agricultural equipment, which are now at the heart of its planning. The various plans overlap; cars, for example, have appeared in every iteration. The result is a wide-ranging approach in which the government tries to shape outcomes in important parts of the economy, new and old.
The “Made in China” plan, its latest industrial-policy craze, is derived in part from Germany’s “Industry 4.0” model, which focuses on creating a helpful environment through training and policy support but leaves business decisions to companies. China’s version is much more hands-on. By the start of this year, officials had established 1,013 “state-guided funds”, endowed with 5.3trn yuan ($807bn), much of it for “Made in China” industries. In August the Ministry of Industry and Information Technology unveiled a manufacturing-subsidy programme, spread across as many as 62 separate initiatives. Most contentiously, the government has laid out local-content targets for the various “Made in China” sectors (see chart). One plan features hundreds of market-share targets, both at home and abroad. “Clearly, this is no mere domestic exercise,” the EU Chamber of Commerce in China warned in a report this year.
The targets also illustrate one of the facets of Chinese industrial policy that has so angered foreign companies and governments: the disguising of state support. The World Trade Organisation (WTO) strictly limits local-content rules. But China’s market-share targets are primarily contained in semi-official documents, such as a blueprint published by the Chinese Academy of Engineering. So the government can claim that these are simply industry reports, not official targets. But in the Chinese system the line between government-backed industry estimates and official guidelines is easily blurred.
Similarly, foreigners have long complained that China hides much of its illegal state aid. Since 2011 America has formally requested information about more than 400 unreported Chinese subsidies. “China learned how to game the system,” says Tim Stratford, a former American trade official responsible for dealings with China. “The WTO is not designed to deal effectively with a huge economy that has, as the core of its development strategy, industrial policies across a wide range of sectors.” Frustrations at the WTO’s inadequacy in restraining China have led the American government to look at other mechanisms (see article).
Foreign competitors see China as a well-oiled machine and worry that they will lose business not just in China but around the world. Export powerhouses such as South Korea and Germany feel most exposed (see chart). But in fact the Chinese government’s record in promoting specific industries is patchy. Since the 1970s it has tried to develop semiconductors. But of the $145bn-worth of microchips China consumed in 2015, only a tenth were truly domestic; foreign technology remains superior. The car industry, too, has disappointed. To manufacture in China, foreign firms must take local partners. The government hoped this would lead to knowledge transfers. Instead, local firms, insulated from head-on foreign competition, have milked the joint ventures for profits and innovated little.
Moreover, in their zeal, local governments can go overboard. Some worry that “Made in China” sectors will end up facing gluts, like “old” industries where China is now cutting overcapacity, such as steel and coal. The Mercator Institute of China Studies, a Berlin-based research group, counted that, by late 2016, nearly 40 local governments had opened or planned robotics parks. The central government estimates that China will need nearly 150bn yuan-worth of robots over the next few years. According to the Mercator tally, local targets add up to roughly five times as much.
Yet when four factors—foreign technology, domestic abilities, market demand and government money—come together, Chinese industrial policy can be ruthlessly effective. The boom in high-speed rail began in 2004 when the government offered lucrative contracts to foreign engineering companies such as Germany’s Siemens and Japan’s Kawasaki so long as they shared their know-how. Some resisted at first, but eventually the lure of China’s vast market won them over, especially when they saw competitors getting a slice of it. With their prodigious engineering skills, born from years of trying to develop high-speed rail themselves, Chinese companies soon absorbed the technology. After a decade of laying tracks on an unprecedented scale, they have improved on it.
That success cannot be replicated in all ten of the “Made in China” sectors, not least because foreign companies are more guarded about sharing their secrets. But it would be rash to bet against China’s succeeding in at least a few of them.
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