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Eight more questions with the director of Entrepreneurship@DU

Joshua Ross headshotWhen the Daniels Newsroom last spoke with Joshua Ross, director of Entrepreneurship@DU and teaching assistant professor of entrepreneurship at the Daniels College of Business, it was to unravel some of the mysteries surrounding blockchain. In a follow-up interview, Ross explained the recent fall in crypto values and what’s going on in the industry.

What’s going on in the crypto market? Bitcoin’s market capitalization plummeted in the first half of the year, down from $1.27 trillion in November to less than $400 billion in July. It’s recovered somewhat, but values are still down considerably. Why is that?

Like many things in the economy right now, it’s fear. In the macro environment, inflation has skyrocketed, interest rates have increased and we’ve had quantitative tightening. Also, several crypto-based companies in the lending space froze their assets and prevented people from withdrawing funds, which created a run on those institutions.

Yet other institutions—like Three Arrows Capital, a crypto hedge fund—failed because they took huge risks by making big bets on margin. When those margin calls came in, they didn’t have the funds to pay them, which led to some liquidations and a downward spiral.

People sold their crypto to flee the market and there was more crypto available, which, based on simple supply and demand, caused prices to go down. Then other people have margin calls, there are more liquidations and it becomes a ball rolling downhill that’s very difficult to stop.

Do you think these are types of growing pains for a relatively new industry that is resulting in “culling the herd?”

I think there is some of that going on. There are similarities to the late 90s and the creation of the dotcom bubble that eventually burst between 2001 and 2002.

During that time, the mindset was that if you had dotcom at the end of your name, you were going to have perpetual success. The goal wasn’t profits, it was just eyes on your web site and market share. But people started to ask, “What value are you creating? What are you actually doing?” There were, in fact, a lot of investors who didn’t know what they were doing. They were just, betting—and betting is the right word—on things perpetually going up.

It’s roughly the same situation with crypto. Two years ago, people were locked down at home. They had government checks and platforms such as Robinhood and Coinbase that made it very easy to buy and sell cryptocurrency. Most of the cryptocurrency was going up and different types of cryptocurrencies were coming out every day.

But nobody was looking at the true fundamentals. When the tide went out, we began to see that people were over-leveraged and didn’t have a sensible position or even a good understanding of what they were doing. Much like the dotcom bubble, there are significant losses and a culling of the herd.

How does the fed funds rate influence crypto values and investor expectations? Don’t cryptocurrencies run outside of the mainstream financial system?

There’s a lot of debate about this. Some say that monetary policy is disconnected from crypto. I don’t believe it is.

Everybody wants to believe that crypto is decentralized currency that is disconnected from the idea of centralized government. But if you think about Bitcoin, for example, many people look at it as an investment and investments have risk.

A couple years ago, we essentially had a 0% interest rate. Rates of return for savings accounts or treasury notes were almost zero so there really was no reason to make those investments. Crypto became a good alternative investment for many people, even with the risk and volatility.

Now, as interest rates have gone up, savings accounts and two-year treasuries have become more attractive. They’re paying 3% with no risk as opposed to a cryptocurrency, which has a lot of risk. So from an investment perspective, traditional economic policy can have a great effect on where money goes, including crypto.

How many cryptocurrencies are there? Why so many?

An exact number is hard to pinpoint. I believe there are 8,000 to 10,000 different coins and tokens. Industry sources say there could be as many as 20,000. However, Bitcoin and Ethereum—the two largest cryptocurrencies—together comprise about two-thirds of crypto’s total market capitalization.

Most coins and tokens start by developing a use case, a specific purpose. The developers are trying to solve a problem or address an unmet need, which is typically presented in a white paper written for broad public distribution. In some cases, they’re introduced in a space where 10 other coins are doing the same thing, akin to launching a new product in a certain business segment. Like with new products, the creators of a new coin believe they can do it better and more efficiently than their competitors.

Give us an example of a use case related to a cryptocurrency.

Helium, based in Boulder, Colorado, has of goal of creating a worldwide Wi-Fi mesh network. The idea is that our millions of Internet of Things devices—our laptops, phones, smart dog collars, computer networks in rural areas—need a persistent internet connection, rather than an inconsistent home Wi-Fi or cellular data network.

Helium has created what look like Wi-Fi boxes that homeowners can mount on their houses so anyone in range can connect to the Helium network. The payment mechanism used to connect to the network is Helium tokens. And the people who mount the boxes on their houses are paid in Helium tokens. Helium tokens sit on top of the Ethereum blockchain and ETH is the underlying currency.

The use case—continual internet connection—would seem to be strong. And as with other cryptocurrencies, the goal is to be decentralized and not under government control as would be the case with U.S. currency.

What is the difference between the various cryptocurrencies? Do they all operate in roughly the same way?

An important distinction is the difference between a coin and a token.

A coin is the main currency on a blockchain. Bitcoin and Ethereum, for example, are the underlying currencies on their respective blockchains. Then there are tokens, which are currencies that you can build on top of a blockchain.

To create a coin, you have to build out a blockchain, which includes a computer network and extensive technical requirements. A token is easier to establish because it only involves building something on an existing blockchain and using the coin—the underlying asset—to fund the transactions.

Why would somebody purchase or invest in one cryptocurrency versus another? It sounds similar to choosing among different stocks in the equities market. How is value determined?

It is similar to the equities market in that supply and demand determine value.

In the crypto world, people evaluate individual cryptocurrencies based on the project’s usefulness, the underlying use case described in the white paper. The use case, along with limited availability of the cryptocurrency and the number of people who believe the project has value in terms of what they’re trying to solve, are the driving factors.

With Bitcoin, there are 21 million that can be mined and 19 million have been mined so far. But there are maybe 15 million in circulation because quite a few have been destroyed. The limited availability raises questions. How valuable is it today? How valuable will it be in two or three years? You make your decision based on that.

Is one cryptocurrency safer than another? Several have failed and people have lost quite of bit of money.

That’s right. People have lost their life savings because they were betting that a certain cryptocurrency would be stable or even appreciate. Instead, it failed and fortunes were lost.

But I don’t have an answer with respect to the relative safety of various cryptocurrencies. Like with other investments, decisions should be based on an investment thesis—a solid rationale for owning a certain investment—and consideration of the risk involved.

There also is the issue of no government-backing, such as the FDIC for banks, or dispute resolution. Once a payment has been made using cryptocurrency, there is no mechanism to dispute a transaction, like there is with a credit card. Many people don’t realize that.

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