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What a few candidates for Louisiana governor, as
well as state politicians and the public must understand, is that any
perception that the state's chief executive has a lot of power that needs
clipping really means curbing the formal powers of all of state government.

Because it is a stubborn fiction that Louisiana's
governor has a vast set of powers granted him by the Constitution. Instead, as
the latest if a bit dated (2009)
version of a long-running assessment of relative gubernatorial powers among the
50 states reveals, the Bayou State's chief executive at best comes in among the
middle of the pack. Among other things, term limits, widely dispersed executive
powers with many out of his hands entirely, limited budgetary authority, and an
elected judiciary circumscribe his ability to make policy in an extensive and unconstrained
fashion.

Thus, when
at a recent gubernatorial candidate forum Republicans state Rep. Richard Nelson, Treasurer John Schroder, and former gubernatorial
chief of staff Stephen Waguespack all
said they would try to circumscribe the power of the office, they traded on a
canard. Nelson and Waguespack mentioned the state's fiscal system that places
too much emphasis on centralized revenue sources and redistribution to local
governments, while Schroder targeted a related issue, the governor's ability to
veto state capital outlay funds to local governments as an enticement for legislator
cooperation with his agenda.

But these aren't examples of specific formal powers
only possessed by the governor. In the former instance, that indicts the entire
fiscal system and power relations among the different branches of government
and between its levels. For the latter case, that addresses checks and balances
formally written into the Constitution.

All the mythology about the Louisiana governor's
power has sprung up because the cult of personalistic politics and organizations
surrounding them acted as glue holding together, rather than having work independently
and potentially against each other, or checks and balances. Assigning so much
faith to leaders and conveying that power through machine politics historically
has been a defining feature of state politics since Reconstruction, and peaked
about a century ago.

Yet this has eroded immensely since, and particularly
in the past quarter century. The explosion of access to information and news,
partially as a result of rising education levels but mainly from the information
revolution magnified by the Internet, and this advance in educational attainment
with greater knowledge also has encouraged more ideological thinking among
voters. Now, it's not enough to be a good old boy preaching social conservatism
and generic liberal class warfare in a news environment that increasingly
interjects national issues into state and local politics; instead, voters want to
know where the money goes, why so much gets taken, who the favored constituencies
are to get it, and otherwise what special interests receive what privileges.

With a more independent electorate, governors have
lost the ability the exert authority over legislators. The greatest legacy of
departing Democrat Gov. John Bel Edwards
will be by his clinging so fiercely to the old way that he largely will have delegitimized
it, set against a legislative majority and other state executive officers elected
under the new norms. With a largely failed agenda over eight years – few of his
priorities became policy with the exception of growing government (and that
mainly because the Legislature the year before his election foolishly
authorized the governor to expand Medicaid) – because of legislative resistance
and from other quarters as well, such as GOP Atty. Gen. Jeff Landry (another gubernatorial
candidate) defeating him often in court and the Board of Elementary and Secondary
Education mostly refusing to reverse accountability measures, among other
things, this established a future model of constrained gubernatorial power
exertion when other institutions fight back rather than go along and get along.

Pushback likely will increase. For example, referring
to Schroder's complaint, legislators simply can start overriding line-item
vetoes, having under Edwards instituted an expectation that veto sessions will
occur – or with better regular session planning, can overturn vetoes then. And
one lingering source of gubernatorial power, appointment powers to the myriad
of boards in state government, has devalued in recent years as sources of campaign
cash become more varied and more tied to ideology rather than transactional
benefits.

Of course, reducing state government power by, for
example, deregulating many occupational qualifications that would render many
boards unneeded, points to the actual method of decreasing gubernatorial power:
reduce the power of state government in general and the governor's will follow.
Historically, governors have been "powerful" mainly through informal means because
other parts of government allowed them to be so. It's not a powerful governor
that should concern Louisianans, it's a powerful government that takes too much
and redistributes too much and dictates too much well beyond a need to protect individuals
vulnerable not from their own actions. Decentralization of and disempowering the
state is what needs desperately to change.

Jack Solowey and Jennifer J. Schulp


While the Securities and Exchange Commission (SEC) leans into regulating crypto by enforcement, lawmakers in the House are looking to lay a foundation for rationalizing U.S. crypto policy—releasing a Digital Asset Market Structure Discussion Draft last Friday and holding a pair of hearings this past Tuesday and next.
The Discussion Draft, while in early days, gets the big question right: it would determine whether crypto tokens are securities or commodities largely based on whether the networks over which they operate are decentralized. In addition, the Discussion Draft would help provide regulatory clarity to crypto marketplaces through long‐​sought pathways for lawfully registering certain crypto exchanges. While the draft would benefit from some modifications—including to the process for certifying network decentralization and the treatment of decentralized marketplaces—this legislative effort would bring much‐​needed clarity to U.S. crypto policy by tackling its thorny questions.
In a microcosm of the SEC's years long effort to use the inexact fit between legacy securities laws and modern crypto markets to declare most U.S. crypto activity unlawful, the SEC on Tuesday filed a complaint alleging that U.S.-based crypto exchange Coinbase operates an unregistered securities exchange. Congressman French Hill (R‑AR) dryly dubbed it "an interesting coincidence" that the complaint was filed on the same day the House Agriculture Committee held a hearing on the Discussion Draft. Coinbase maintains the tokens it lists are not securities and that it would be happy to register with the SEC if only the Commission would let it.
The poor fit between existing rules and reality stems from the challenge of squaring securities laws designed for centralized firms and financial intermediaries with a crypto ecosystem that includes tokens generated by decentralized networks and traded via disintermediated protocols. Compounding this challenge is the fact that centralized crypto projects can decentralize over time.
The Discussion Draft, to its credit, grasps these nettles. Understanding how is a matter of understanding the security versus commodity debate. A classic security is a share of stock—a partial ownership stake in a company and claim on assets and profits. A stock's value typically depends on how well a company and its managers perform, so securities regulation seeks to make managers share information relevant to that performance. A classic commodity, by contrast, is a piece of produce (like, say, an orange) that's standardized and interchangeable. Its value typically depends on supply and demand.
Those arguing crypto tokens are securities analogize them to stocks: they can be sold to raise funds to build out projects and also can be viewed as proxies for those projects' value.
Those arguing crypto tokens are commodities analogize them to produce. In a famous Supreme Court case on the nature of securities—which is tediously but unavoidably recounted in any crypto regulation discussion—the Court assessed whether an orange grove seller's scheme to contract with land purchasers to manage orange sales and give them a cut constituted a securities arrangement. It was a securities scheme, the Court reasoned, because the seller's efforts to manage the operation were essential. Those who argue crypto tokens are commodities point out that while certain token sales may resemble the contract in the orange grove case, the tokens themselves are best analogized to the oranges, which remained commodities notwithstanding the securities scheme.
The Discussion Draft enters this fray by identifying that crypto tokens are neither inherently like stocks nor oranges, but rather resemble one or the other depending on whether there are managers—like the executives at a company or citrus enterprise—controlling the token network.
The Discussion Draft does this through a legal test for whether a crypto project's network is decentralized. At a high level, it defines a decentralized network as one where no person could unilaterally control, materially change, or restrict general users' use of the network. In addition, the definition requires that within specific lookback periods, certain persons closely related to the network project have not held or controlled over 20 percent of the network's outstanding tokens or voting power, contributed intellectual property that materially changed network functionality, or marketed the network or its tokens or issued those tokens, and that certain token issuances were nondiscretionary.
Although it's possible to quibble over certain details—such as the arbitrariness of a 20 percent holdings cut off and who qualifies as a closely related person—the definition incorporates some key decentralization features, namely the absence of: unified and discretionary control, reliance on or susceptibility to closely related parties' material contributions or changes, and gatekeeping that excludes general users.
Decentralization is key to the regulatory framework proposed in the Discussion Draft because it is a core component (along with a network becoming "functional") of the definition of a "digital commodity." Digital commodities, as laid out by the Discussion Draft, do not require the same ongoing disclosures by issuers as other digital assets (though they are subject to listing disclosures on registered digital commodity exchanges) and may generally be offered and sold by any person other than a closely related party. Importantly, such digital commodities are expressly excluded from the definition of securities and are generally subject to the exclusive jurisdiction of the Commodity Futures Trading Commission (CFTC).
While the Discussion Draft framework is complex, this is largely an unavoidable consequence of the existing "byzantine" U.S. capital markets regulatory regime. Moreover, the framework is appropriately premised on the presence, or lack, of core risks that securities laws seek to address: information asymmetries from managerial bodies.
Even with a legal definition of decentralization that gets to the heart of managerial control, though, there's the challenge of identifying decentralization in the wild. To address this, the Discussion Draft proposes a process where any person can seek to certify to the SEC that a network is decentralized. Certification will occur by default within 30 days unless the SEC issues a stay or rebuttal explaining its decision. Notably, the SEC will be able to reconsider certifications annually and, where appropriate, cancel them. The certifying party may appeal both initial SEC rebuttals, as well as later cancellations.
It's probably inevitable that the process for certifying decentralization before a regulator is going to be an intellectually unsatisfying exercise in Gordian knot cutting. Helpfully, the certification process would allow "any person" to initiate a certification, which recognizes that in the case of a truly decentralized network, there's no single party that must be the one to provide relevant information. For that same reason, the proposed appeals process should similarly allow any person—not just the initial certifying party—to appeal an SEC rebuttal or cancellation. This is particularly important in the case of the cancelled certification of a genuinely decentralized network, where the initial certifier may no longer be in a prime, or any, position to appeal.
Another wrinkle is that leaving the process to the SEC assumes crypto projects are properly subject to SEC jurisdiction unless proved otherwise. While some projects would appropriately begin life under SEC jurisdiction, others, like Bitcoin, would not. One way to resolve this would be to involve the SEC only where the network's digital asset previously was part of a securities transaction, such as a traditional private offering or the novel exempt digital asset offering provided for in the Discussion Draft, and otherwise leave the process to the CFTC.
The Discussion Draft also grapples with the fact that, like tokens themselves, the marketplaces over which they trade also may be decentralized. And similar to how a lack of managers makes applying traditional securities regulation inappropriate, the lack of a financial intermediary in the case of a crypto marketplace makes applying traditional exchange regulations inappropriate as well.
Importantly, the Discussion Draft recognizes that decentralized finance (DeFi) is different from intermediated finance, and, in addition to defining DeFi, provides for the SEC, CFTC, and Government Accountability Office to provide DeFi studies to Congress. Further, the Discussion Draft expressly exempts from both securities and digital commodities exchange requirements certain "ancillary activities" related to operating a blockchain network, including compiling and validating transactions; operating a pool; providing computing and incidental transaction services; providing a user‐​interface to interact with a blockchain network; and developing, publishing, and maintaining a blockchain network or digital wallet software or hardware systems.
These provisions could be read to cabin off the activities of decentralized exchanges (DEXs), yet reasonable minds may disagree. For one, while SEC rule revisions under the Discussion Draft must permit disintermediated trading in covered assets, that such rules must be "consistent with what is necessary or appropriate in the public interest or for the protection of investors" suggests that at least disintermediated exchange of digital asset securities would likely face some degree of regulation. In addition, although the ancillary activities are broad enough and incorporate enough DEX‐​related concepts to be read to create exemptions for DEX activity, the fact that the definition of DeFi and listed ancillary activities are not coterminous leaves the question open to debate. To head off some of this ambiguity, the DeFi definition could, for example, state that it should not be construed to mean that DeFi is not otherwise covered by ancillary activities.
Finally, residual sources of potential regulatory landgrabs in the Discussion Draft's framework should continue to be limited and clarified. In particular, there are several points where the framework would give the SEC and CFTC the authority to set standards or impose requirements on any basis that the agencies determine to be in the public interest.
Judging by SEC Chair Gensler's recent remark that "we don't need more digital currency," one such landgrab would seem to be transforming the SEC into the merit regulator it never was meant to be. To borrow a line from House Agriculture Committee Chairman GT Thompson (R‑PA) at Tuesday's hearing, the SEC's current approach is no way "to govern a market, adequately protect customers, or promote innovation." The Discussion Draft offers an opportunity to reverse this course and bring clear thinking to crypto policy.

There is a recurrent discussion about the small size of the
U.S. House of Representatives in comparison with most democratic assemblies. A
few days ago, Danielle Allen from Harvard made a good case for increasing the
size of the House within a framework of democracy renovation (The Washington Post,
March 1). She argues that, as the U.S. House has the highest ratio of population per seat
of any OECD country, the representatives are much removed from their
constituents. My point is that the federal structure of the very large United
States and its multiple channels for people's participation may allow for a
functional explanation of a relatively small House that may not work for more
centralized nations.

From a worldwide perspective, it
has been found that the best approximation for the size of the democratic national
assembly in number of seats is to take the cube root of the population, as
initially formulated by Rein Taagepera. For most countries, the number of
inhabitants amounts to millions, so the cube root must be in the hundreds (that
is, some figures with six zeros can be transformed into figures with two
zeros). For example, as Mexico has about 122mn inhabitants, the cube root of
this number closely approaches the 500 seats of its Chamber of Deputies. In
Italy, with 59mn people, the Chamber of Deputies was oversized but it was
recently reduced via referendum from 630 to 400 seats, which fits the cube root
law.

According to this standard, the
U.S. House of Representatives is undersized. During the nineteenth century, the
size of the House regularly increased every ten years to account for population
growth according to the decennial census. But despite the further increase in
the country's population, the House has remained frozen since it was fixed at
435 seats in 1911. At that moment this was an almost exact fit with the cube
root of the population. A 1929 Act capped the size of the House until now.

Some studies suggest that the
discussion in the House at that time reflected the fear of third-party growth,
namely the Progressive Party and its left-wing cousins. Much less compellingly,
it was also argued that the room for plenary meetings on Capitol Hill would be
too small for much larger gatherings.

A larger assembly would certainly
create more competitive districts and would facilitate the election of more
representatives from minority parties and groups. However, in the complex
political structure of the federal United States, other institutional devices,
especially broad decentralization into a high number of states, have
compensated for the federal House's small size and its restrictive political
consequences.

The trade-off between federalism and
multipartyism comes from a long history. If in a large country, multiple
territorial governments are established, as it was from the very beginning in
the United States, much political action tends to focus on those local
institutions; it is then less likely that multiple political parties are formed
at the federal level, and as a consequence, there is less pressure to adopt a
large assembly and an electoral system favoring national representation of multiple
political parties.

The effect is extreme in this
country, which, with 50 states, is the most decentralized in the world. The
very high number of states somehow compensates for small federal representation.
A logical inference is that an increase in the size of the House would make it more
inclusive, with more diverse partisan affiliations, which would push for a
stronger federal government. Some issues that are now mainly debated and
decided by the state legislatures would be channeled to Congress as territorial
demands by the additional state representatives in Washington.

The trade-off can also be observed
from the inverse extreme case. In the oldest British democracy, the assembly
size has also been frozen for a long period, but on the other direction: the
House of Commons, with 650 seats, is largely oversized regarding the country's
population and the cube root law. Not by chance, the United Kingdom is the most
centralized large democracy, where most territorial tensions are channeled
toward London. Right now, there are ten parties in the House of Commons, six of
them based in Scotland, Wales, or Northern Ireland. Not surprisingly, the House
room is too small and many MPs have to stand up during its plenary sessions.

The main point is that in a
long-durable democracy, the trade-off between the size of the national assembly
and territorial decentralization must keep a consistently bounded relationship.
It is not possible to alter significantly an institution without affecting the
balance of the other.

---

See also my article:

"Equilibrium Institutions: The Federal-Proportional Trade-Off"
- click

It was never very clear what Mikhail Gorbachev's plan was. He probably did not know it himself. His greatest determination, as he repeated many times, was that "we cannot go on living like this". Dictatorial socialism had failed. Early in his tenure, the CIA speculated that Soviet production must have been half that of the United States, but senior Soviet officials eventually acknowledged to former President Richard Nixon that the actual ratio was a quarter or a fifth. When foreign journalists asked Gorbachev what his model for the future of the Soviet Union was, he usually responded with an elusive "Life will tell." The USSR could not compete with the skyrocketing costs of the arms race launched by President Ronald Reagan, so Gorbachev sought and won remarkable nuclear arms reduction agreements. However, he was always aware that the problem was the Soviet economic and political system itself. When I visited Moscow, Kyiv and Leningrad in the summer of 1989, the system was still in place, almost intact, but there was freedom of speech and some transparency, thanks to the policy of glasnost, which made it possible to break through the wall of propaganda and see how it really worked. The new information, the possibility of hearing and saying aloud what almost everyone had pretended to ignore, made it clear that there was no going back to the old formulas.For the countries of Eastern Europe, Gorbachev replaced the Brezhnev doctrine of limited sovereignty with what was called the Sinatra "do it my way" doctrine. In some of these countries, opinions and movements in favor of democratic socialism emerged. Such an ideology did not take root in the USSR, but progress could have been made towards the production of private goods at market prices and decentralization of the public sector. In fact, Gorbachev only encouraged the creation of small cooperatives in secondary economic sectors and refused to free prices from government control. At each episode of political pressure or resistance, he zigzagged, thus losing credibility. In practice, central planning had ceased to function and the market economy had barely emerged. In a panel I shared with some of Gorbachev's top advisors, economist Nikolai Shmelyov presented his "non-ideological, common-sense proposal" for completing perestroika: abolish all public monopolies by "selling everything" to anyone who wanted to buy, including foreigners, i.e., enterprises, land, housing, materials, tractors..., "everything you can imagine, everything." However, he acknowledged that a necessary condition for success was that Gorbachev could "survive in office for a couple of years," which was already an improbable gamble.It was said that real socialism had proved that it was possible to turn an aquarium into a fish soup, and the problem of perestroika was how to turn a soup into an aquarium. However, the old aquarium was neither capitalism nor democracy, since neither had hardly ever existed in Russia. The result of perestroika could not be a "restoration," but a shaken, perhaps stirred, version of a system that carried a strong feudal, bureaucratic and authoritarian heritage.Despite the enthusiasm of some, perestroika was a movement launched from above, initially with a great concentration of power in Gorbachev, and with sympathy mainly among the "intelligentsia" and the new middle strata, which only gradually achieved a certain institutional and popular support. From the first semi-competitive elections to the Congress of People's Deputies, the radical reformists triumphed in Moscow, led by the future president of Russia, Boris Yeltsin, and in Leningrad with Mayor Anatoly Sobchak, Vladimir Putin's godfather. At the same time, independentists rose up in the Baltic republics and soon, as historian Hélène Carrère d'Encausse had prophesied, "the empire exploded." Putin argues —with considerable historical foundation, I believe— that the dissolution of the Soviet Union was "the greatest geopolitical catastrophe of the 20th century." The Russian Empire in its Soviet version lost half of its population. We are still living the consequences.In Spanish in La Vanguardia CLICK                                                       Image by Ben Jennings

A stroke of good luck for Louisiana taxpayers, the strike
by writers and actors of motion picture and television productions can be
leveraged even more for the state's citizens to avoid the bad consequences of
its poorly-conceived Motion Picture Investors Tax Credit.

First writers, then actors began the strike
starting over three months ago. This brought largely to a halt an already
slowing production of movies and series, whether shown in theaters, on broadcast
television, cable television, streaming over the Internet, or in podcast form,
although some films in progress actor members have been allowed to complete. Anticipation
of a strike as early as late last year had prompted ratcheting down production,
so as not to have things interrupted if a strike occurred. To work with a network
or major studio (which comprise most of the business; for example, the top ten
studios in movie box office receipts for last
year collected seven-eighths of all revenues), writers and actors must be a
member of their respective unions.

The main issue in both cases is revenue-sharing. The
rapid growth in streaming particularly has exposed that prior compensation
models didn't account for this, leading members to demand a greater share of
the pie from that. Both also want more control over the use of artificial intelligence
in story writing and actor likenesses. Writers additionally want retainer pay
for stretches that they don't work.

These fall under a much larger theme: an industry
used to centralization of economic control through cooperation of management
and labor has lost that control because, simply, the economics have changed so
that far more people at far reduced costs can create profitably content. Old
producers and unions have come to loggerheads because the decentralization trend
has more forcefully affected the fortunes of the latter.

But the unions involved – both extremely top heavy
with the vast majority of earnings going to a handful of members in each – also
by their actions have impacted other people who work in the industry and in
much greater numbers. Audio-visual content production requires a slew of
behind-the-scenes labor, almost exclusively contract in nature. Shutting down
production also shuts down at least part of the livelihood of many individuals,
as most work part-time, but for some its entirety.

That
has hit Louisiana disproportionately hard, given its generous taxpayer
subsidization of film and television production to the tune typically of $150
million annually which artificially has boosted this activity and created a kind
of workfare for people who want to work around the movie business. Nobody
should kid themselves that in absence of the credit that business would be no
more than a fraction of what it is, or that the credit is a net money-maker for
taxpayers, as study after study has shown (the latest,
most optimistic shows it returns 23 cents on the dollar while costing $13,300
for each job "created").

Thus, the slowdown will help Louisianans save
money, as fewer productions will occur and fewer credits dispensed. But the overall
theme that triggered the strike now has a chance to insert itself into policy-makers'
consciousness, which it apparently didn't this past legislative session when with
only some beneficial changes the tax credit foolishly was renewed.

And, the idea
to accomplish this reform to keep up with the times actually came years ago
from Republican Lt. Gov. Billy Nungesser,
running for reelection this fall. He suggested that part of any contract with
an entity qualifying for the credits contain a clause that, if the production
made a certain amount in revenues, the state take a cut.

This can be designed to capture streaming revenues,
and in a way to help local producers; the overwhelming majority of credit
dollars go to out-of-state entities. The law could be changed to charge gross
revenues to the parent corporation or other entity in a tiered system. For
example, there would be no tax reimbursement for a production that in a decade
after release doesn't collect $1 million, but then from there to $10 million one
percent is charged, two percent up to $20 million, and so on every $10 million
until reaching $100 million and beyond where it becomes a fixed 10 percent.
This shields smaller producers such as those in-state as an incentive to grow,
ensures that creative accounting doesn't hide revenues, and reasonably accounts
for present and future streaming.

As currently constructed, the film tax credit is nothing
more than a jobs program for a favored political constituency that wastes
taxpayer dollars and distorts the economy into a preferred direction picked by
government. Ironically, people in the spillover industries that have benefited
from this now suffer precisely because of it and its vulnerability to what
happens in Hollywood. Had the reimbursement idea been in place, it would have been
less buffeted by Hollywood developments because it would have helped stimulate
an indigenous film industry outside of the current labor dispute. The new
Legislature next year needs to make this modification.

My former colleague Howard Wall asked me to join Lawrence White yesterday evening to discuss the role and future of cryptocurrencies at an event hosted by the Hammond Institute for Free Enterprise. It was a great honor to share the stage with Larry. I've been thinking about cryptocurrencies for a long time; many of my writings and talks on the subject can be found here. My thoughts on the subject are evolving as I learn more about the phenomenon. For what it's worth, I thought I'd share my opening remarks with interested readers below. As usual, any feedback is welcome. The Role and Future of CryptocurrenciesA money and
payments system is about managing databases containing the money accounts of
individuals and organizations. Any database management system must necessarily
define read and write protocols. Read privileges specify who can view what on
the database. Write privileges specify who gets to write what to the database.

So, for
example, we can read what's in our bank account. So can the bank and its
regulators. But other people cannot see how much money is held in any account
apart from their own. While we cannot write directly to our account, we can
send our bank instructions to so on our behalf. The bank can also write directly
to our account. It may, for example, credit our account with interest, or debit
it for service fees.

Note that bank
accounts are digital. Moreover, the messages we send to our bank over the
Internet are secured with the aid of cryptography. In this sense, one could say
that bank deposits are a form of cryptocurrency.

Bank
deposits, however, are not typically viewed as cryptocurrencies. Well then, what
are the distinguishing characteristics of a cryptocurrency? It's not so
clear-cut, but two things come to my mind. First, the database for a
cryptocurrency is typically associated with an open-read privilege. This
implies that the database can, in principle, at least, be subject to audits
from any person, or any agency, at any time, all the time.  This property offers a degree of financial
transparency that is unheard of in conventional money services businesses. Second,
the task of managing the database is typically decentralized in some manner to
"validator nodes;" or, what one might label more mundanely as "accountants" in
the non-crypto world. What is interesting here is how these validators are
potentially recruited and compensated. For Bitcoin, anyone can potentially
become a validator and compensation arrives in the form of a stochastic reward.

When it
comes to keeping track of money balances, an open-write privilege is problematic.
This is known as the double-spend problem. In conventional payment systems, the
double-spend problem is solved by delegating database management to a trusted
third party. A cryptocurrency like Bitcoin or Ethereum must instead rely on a
consensus mechanism that somehow ensures that a dispersed write-privilege does
not result in garbage being written to the database. To date, the most popular
mechanisms are based on PoW (Proof of Work) and PoS (Proof of Stake). But there
are others as well, and one should expect innovation along this dimension
since, as far as I know, no existing consensus mechanism has yet proven to be entirely
satisfactory.

Of course,
the same can be said of conventional database management systems. To young
eyes, the current system seems a hopelessly tangled mess of databases that have
trouble communicating with each other. Moreover, they appear not to be very
secure at times. But despite the problems we all encounter with the modern
banking system, one should, in fairness, acknowledge the tremendous
achievements that have taken place over the last fifty years. For example, we
are now able to travel to foreign countries with just a credit card. This is
not the way things worked until relatively recently. Anyone who has had the
experience of needing traveler's checks can fill you in on what it was like to
travel in the old days.

Well, if
there's been so much progress in money and payments, what accounts for the emergence
and proliferation of cryptocurrencies?

As is so
often the case, I think the fundamental cause of this development is rapid
technological change moving against a relatively slow-moving incumbency that
includes banks, money services businesses, and especially their regulators. In
saying this, I do not mean to assign blame; the inertial properties of existing
institutional arrangements likely has some merit. Institutional inertia can stabilizing,
for example. But to benefit the communities they serve, institutions also have to evolve to meet the
challenges of new technologies. And I think this is happening today in the
sphere of money and payments.

What new
technologies are we talking about? Innovations in communications, like the
Internet, have been transformational. As well, there have been advances in data
storage and cryptography that have played a critical role. All these
innovations are, however, within the grasp of incumbent banks and money service
businesses. And indeed, incumbents have made use of these technologies. Internet
banking and PayPal are real things, after all. I think the important innovation as
far as cryptocurrencies are concerned isthe development of database
management protocols that permits a degree of decentralization for managing large
databases. I say "large" databases because we already have decentralized
database management systems for small communities, like gift exchange or the
exchange of favors among friends (see: Why the Blockchain Should be Familiar to You). Advances in data storage and communications
have, in effect, permitted this ancient form of communal record-keeping to
scale.

The
decentralized or communal aspect of managing a database is, of course, very
much at odds with the notion of delegating the responsibility to a privileged
set of institutions. Some people believe that these developments will lead to a
revolution—an overthrow of existing institutions—a triumph in democracy over a
privileged class. What is much more likely is an evolution of existing
institutions to accommodate the threat posed by the potential usurpers in a
manner that serves the broader community. In short, what we are likely to
witness is the usual pattern of economic development in relatively well-functioning
societies.

What do
cryptocurrencies offer individuals and society? What are the concerns of
regulators and policymakers?

To answer
these questions, we need to recognize that there are different classes of
cryptocurrencies, each of which cater to a specific constituency. Broadly, they
can be categorized as belonging to one of two groups distinguished by their
respective exchange rate regimes and governance structures.

In one
group, we have the decentralized autonomous organizations, like Bitcoin. From
the perspective of domestic policymakers, Bitcoin can be viewed as foreign
currency operating under a floating exchange rate regime. Except that there's
no negotiating with Bitcoin (there's no negotiating with some countries either). The intermediaries that deal or broker BTC
transactions can, however, be regulated.

In the other
group, we have the so-called stablecoins, like USD Coin (sponsored by Circle
and Coinbase) and Diem (sponsored by Facebook). To domestic policymakers,
stablecoins can be viewed as checkable mutual funds operating under a unilateral
fixed exchange rate regime utilizing various forms of collateral. The major
innovation here has less to do with technological innovation and more to do
with the willingness and ability to process USD payments outside the commercial
banking sector.

Viewed in
this light, cryptocurrencies do not look so unfamiliar. As a foreign
currency operating under a floating exchange rate, they'll likely never displace the domestic unit of account. They may,
however, serve as store-of-value or portfolio hedge. And they may facilitate
certain kinds of payments, typically on-chain and large-value. As a stablecoin
offering a par exchange rate, they suffer from all the usual problems of
uninsured fractional reserve banking—unless they promise to back their
currencies fully with USD cash.

The question
here is whether these products are offering something fundamentally more
cost-effective when it comes to making payments, or whether they owe their
existence primarily to regulatory arbitrage. I do not know the answer to this
question, but I suspect that much of what they have to offer comes from the
latter. Diem, for example, can bypass banking regulations by not becoming a
bank. It can leverage Facebook's huge social network as a payment system
connecting 2B+ users around the world. It can potentially offer
money-transmitting services for "free" or, rather, in exchange for personal
data. My guess is that banks (or even PayPal) are not permitted operate in this manner. Regulatory advantage: Diem. 

Regulators
need to keep a close eye on these structures since it is politically impossible
to commit to the doctrine of caveat emptor when it comes to money and banking.
The temptation, as always, will be to replace "cash" for higher-yielding "cash
equivalents" on the balance sheet. The structure slowly evolves into an
uninsured fractional reserve bank, but in the shadow bank sector. If something
goes wrong, depositors will seek compensation, first from the firm and then from the government. After all, how could a
government knowingly permit such an unstable structure to exist in the first
place?

To sum up, I
think the future of cryptocurrencies like Bitcoin is to serve as an alternative
asset class for investors. I doubt that it will ever become a dominant medium
of exchange in any large economy. Fractional reserve banks using BTC as
reserves are not likely to be tolerated.

The future
of stablecoins seems more interesting to me. In the first instance, they seem
capable of filling the gaps that remain apparent in modern day payment systems
(think correspondent banking here). But the main effect here is likely to spur
conventional banks and their regulators to fill these gaps at a faster pace. There
is a possibility that a project like Diem might one day abandon its peg to the
USD and offer itself as a stand-alone currency. Policymakers would in that case
be concerned about a country maintaining monetary policy sovereignty. One manifestation
of this concern could be a pre-emptive action on the part of the government,
for example, by offering its own universally-accessible CBDC.