Articles C2 Summer 2022

Future of Money Part 1

If you have been around the NonStop platform for any length of time, you know how influential the platform has been with respect to the evolution of money. From stock exchanges, ATMs, and Point-of-Sale systems, NonStop has served as an integral part of the innovation occurring within the world of finance.

But what does the future hold for the platform as money continues to evolve? Will NonStop fundamentals continue to add value or will technology evolve in ways similar to the global stock market, rapidly changing right down to the millisecond and potentially eliminating the need for the hallmark of the platform: data integrity. There’s no doubt that decentralized finance is shaking up the banking and financial world, but will NonStop fundamentals be able to withstand the changing environment and remain relevant?

In a two-part article, we will explore what money is and what role it plays, as well as explore other types of money – such as Gold and Bitcoin – in an effort to better understand what factors have helped drive Bitcoin prices to their current level while achieving a daily turnover volume more than what one would expect as compared to Dogecoin or Siba Inu. The only conclusion that can be drawn is there are now two categories of money: ‘inside money’ and ‘outside money,’ with the distinction being that inside money utilizes the traditional institutions and mechanisms of the financial system, while outside money functions outside of the traditional mechanisms.

Central Bank Digital Currency is on the horizon but how the currency will fare and what other attempts will be made by successful tech firms with large consumer marketplaces with the potential to introduce their own coins remains unknown. Throughout this article, we will look at the role of stable coins and how they serve as the on-and-off ramps into the digital currency world, as well as address the potential risks associated with using digital currency. Additionally, we will explore what one woman is doing to establish a parallel system that is compatible with traditional finance that many states are eager to replicate upon Federal approval.

What Is Money?

Is it the bills in your pocket or the value represented within your bank, savings, or investment accounts? The truth is that the prices of goods and services are valued in relation to the amount of dollars, euros, or whatever medium of exchange is being used within a geographical area. So in order to acquire goods and services, one must be able to exchange currency in order to complete the transaction. But what about an Amazon gift card or an airline frequent flyer account that can be exchanged for goods and services – is this money, too?

The function of money and the role it plays helps explain what it is and how it functions. The four main functions of money include:

  • Medium of Exchange
  • Measure of Value
  • Standard for Deferred Payments
  • Store of Value

But what is the distinction between money and currency?

The simple answer: Money has intrinsic value.

Currency, on the other hand, is considered legal tender used to settle accounts and has no intrinsic value. There are many governments that have created paper (fiat) money options that have come and gone throughout the years, even as recently as November 2016 when the Reserve Bank of India (RBI) caused the Rs 500 and Rs 1000 currency notes to cease as legal tender. While the Rs 500 and Rs 1000 notes did not cease to exist after the conversion period had concluded, the value of the note was reduced to nothing more than its collectible appeal. Conversely, money can never lose its value; it is only currency that can and does lose value with great speed, as referenced in the earlier example.

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Our money in the United States is represented by the US Dollar (USD) and is still considered as a “dollar is still a dollar,” as far as a medium of exchange is concerned. We still use the dollar to measure the value of goods and services (items priced as USD) and consider the dollar the Standard of Deferred Payments throughout capital markets. But what about as a Store of Value?

The Dollar as a Store of Value

The US Dollar, AKA the Federal Reserve Note inside your pocket, was created in 1913. The purchasing power of $1 in 2022 is equivalent to $28.66 of the 1913 version. There are many charts that represent the loss of purchasing power associated with the USD – just ask Google. However, to represent how “money” functions (see quote above from good ol’ JP Morgan), we need to compare money (i.e. gold) to currency in our example regarding the US Dollar.

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The picture above represents the gold/oil/dollar ratio from a 2015 standpoint. Using 2022 values for Gold ($1927) and Oil WTI ($114 BBL), the current amount of Oil that can be purchased with one ounce of gold is 16.9 BBL/oz AU – slightly more than the 16.5 barrels that could be purchased in 1975. However, the ratio is still over 1 at 102%. The USD cost for 16.5 barrels of oil is currently $1881, with the cost of the same amount of barrels being $59.51/BBL in 1975, making the cost of 16.5 bbl of oil $982 in 1975. However, with $982 in 2022, the number of barrels that could be purchased is only 8.61.

To put it another way, 16.5 barrels = 1 oz AU in 1975 = 16.9 barrels in 2022. Gold equivalent in oil is fairly close to parity, while the USD ratio is down by half in the 47 years since 1975 (16.5 to 8.61). This means that the Store of Value (gold in this case) maintained its purchasing power within the marketplace. This is because gold has remained as “money,” not currency, for the past 5000 years. Our currency, however, is a derivative of money, meaning that the Medium of Exchange, Measure of Value, and Standard of Deferred Payment are derived from the gold per ounce cost of the currency.

But what about other forms of money, such as crypto assets like Bitcoin? Could these currencies one day function as currency, too?

Is Bitcoin Money?

Going through the four main functions of money, Medium of Exchange, and Measure of Value are basically derivative functions of the value in currency and have too many zeros for practical use, making pricing in Bitcoin (BTC) a challenge. However, debit cards can convert BTC to USD and thus enable the load of the card with USD-based proceeds. This process enables crypto assets to spend albeit through the medium of a card network, with some merchants even utilizing processors for larger ticket items that are BTC direct.

However, as a Standard of Deferred Payment, as in the case of a business loan, the volatility of BTC makes it a suboptimal form of currency. This is because the risk of writing a loan based on BTC is difficult, as the value of BTC is subject to wild swings. What may have required a $955/BTC payoff value in 2017 may now have ballooned into a $42,631/BTC value in 2022.

Bitcoin does, however, benefit from the Store of Value aspect, which is one of the most compelling reasons to use BTC for wealth preservation. Using oil and our 2017 timeframe, we can see that $46.34/BBL = 20.60 BBL Oil/BTC, meaning that in 2017 1BTC = 20.6 BBL, while in 2022 the same BTC can buy 373 BBL or 1815% more over a 5-year period.

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Where is Bitcoin going from here and will its usage evolve into a method to make everyday pricing and payments in BTC a regular occurrence? Pull up the chart of the Crypto Universe on coinmarketcap.com and you’ll see the daily volume and market capitalization of the entire crypto universe over the past decade and more. While there has been a lot of speculation and many a Bitcoin millionaire minted, the question still remains: Is speculative interest what drove the exponential price appreciation and was rampant, unfettered speculation fueled by worldwide currency issuance?

Perhaps…

But there is another theory to explore. The 24HR volume in the Crypto Universe on February 3, 2014, was $22.5M. The highest daily volume recorded occurred on Saturday, April 10, 2021, at $8.1T – that’s T for Trillion – in just one day. This is of course an outlier with lots of craziness certainly occurring around this time. However, in the latter part of 2021, the average daily volume expanded to about $150B/day, which equates to roughly $54T per year. That would represent an awful lot of day traders speculating in the crypto markets – perhaps too many to be the only explanation for the volume.

The only reasonable explanation left is trade settlement, which is hard to determine for sure but seems reasonable to surmise that a Medium of Exchange and Measure of Value Capability has appeared in the crypto markets resulting in the increase in volume. Refer back to the BTC use case as the birth of decentralized finance, free of a middleman and with settlements happening in milliseconds at near-zero cost compared to the multi-layered labyrinth that is the traditional trade system process.

Inside Money or Outside Money

The use of sanctions and the limitations placed on using the SWIFT system have occurred because of the recent situation in Ukraine, resulting in an acceleration in the evolutionary shift in how countries pay for trade.

Zoltan Poszar of Credit Suisse spoke about the concept of ‘inside money’ and ‘outside money’ in a recent article titled Bretton Woods III. Inside money is defined as monetary instruments that are liabilities on someone else’s balance sheet, such as government bonds. While government bonds are liabilities of the government, they are considered assets in the banking system and trade like cash. Conversely, outside money is not considered a liability on another’s balance sheet. Gold, BTC, and other cryptocurrencies are considered outside money. The integration and/or separation of the two types of money continues to rapidly evolve within the physical versus digital domains.

Central banks are in various stages of evaluating digital currencies within many regions of the world. The implications of this process are only theorized, as the Law of Large Numbers will bring with it unexpected and unavoidable consequences. Admittedly, there are some who feel the process is inevitable, while others feel vested interests and conflicting objectives will stall any meaningful progress. Both groups can agree on one thing in terms of Poszar’s concept of money: the move forward in CBDCs is one more form of inside money.

Governments utilize payment and settlement structures to facilitate trade policy. The global payment structures in place today within a large part of the world are based on using the USD as the Medium of Exchange, Measure of Value, and Standard of Deferred Payments. Country-specific systems use the currency of the country (i.e. GBP IR, Renmimbi, etc.) or economic union (EUR) to develop tax and trade policy using the currencies as the basis for the tax payment structure. As outside money payment and settlement mechanisms evolve, record-keeping and control functions must evolve, too.

Remember Libra?

While preparing to introduce Libra (digital coin) during a recent surge in crypto-interest, Facebook was met with a not-so-supportive message from the BOE. Basically, any transaction using Libra would be treated as a security, meaning gain and loss accounting would apply from a tax standpoint in addition to any sales or VAT tax. Upon hearing this, Facebook reconsidered the launch of Libra, as the record-keeping and oversight requirements would have been far too onerous. This was a shot across the bow from a government policy perspective and showcased how governments viewed the threat to their money franchise.

The evolution of crypto policy with respect to tax, trade, and settlement rules is being written and rewritten as circumstances and conditions rapidly change. The ramps to using outside money are the focus of much regulatory oversight and coin dealer now have limitations on transaction size and KYC regulations to follow. Indeed, crypto exchanges have their own policies and tracking mechanisms and once those conditions are met, an investor can send money to the exchange which will land in a stable coin – most likely Tether.

 

Stable Coins

The most popular stable coin is Tether, encompassing over 80% of all value within the stable coin universe. Think of a stable coin as a money market or brokerage account depository funding vehicle. The money that is deposited into the brokerage lands in this account before you use the funds to trade in the market and vice versa for trade settlements. This is the location of the proceeds acquired from stock sales. Most funds destined for crypto or from crypto end up in a stable coin, with the proceeds available to be converted to USD or other fiat currencies. Stable coins (as their name describes) should remain stable with their value and are generally pegged with the value of 1 USD. Similar to a money market, the expectation is of a secure repository for funds destined for or from crypto.

With the increase in the value of Bitcoin, Tether has followed with its own value – now at almost $70B. With this has come increased scrutiny of Tether, including a series of articles questioning the stability of assets that comprise USDT.

Just as with a money market account, the balances on hand at Tether are used to generate interest income to cover operating expenses and provide funds for operations, as well as generate return or yield for holders. The assets that comprise Tether’s holdings are intended to be liquid and very stable; however, the ability to determine the quality and sources of the assets has remained the subject of much debate and regulatory oversight.

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Given the growth in the size of the digital coin universe, there is a concern that any issue with the quality of Tether’s portfolio would have follow-on effects within the entire marketplace. Issues regarding the quality of Tether assets would put in question the value of the stable coin and greatly limit the ability to move into and out of crypto assets in general. Would it produce a mass exodus of those trying to get out of crypto coins or just an exodus out of Tether and if so, would the alternative stable coins be able to handle what would likely be a tsunami of interest?

For an example of what could happen, one doesn’t need to look further than a recent announcement of regulatory changes within the crypto markets of India, which have caused a brief but rapid reduction of Tether’s value by nearly 25%.

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Above is from late January 2021, when the USDT fell from ₹80 to ₹61 on news that a bill banning cryptocurrencies was included as part of the government’s parliamentary agenda.

This happened again later in the year and under a similar scenario when news hit that the bill would be part of the November 2021 legislative session.

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The November 2021 action was a brief but tradeable event in a small section of the marketplace exposing the potential for rapid declines in value within the most widely used stable coin. The use of stable coins is what enables the fiat-to-crypto and back-to-fiat interface to function without a funding and settlement function available from the existing banking system. Stable coins and Tether in particular matched the rapid rise in Bitcoin; skeptics would even say USDT enabled it. But as more questions and greater scrutiny appears there will certainly be an evolution within the stable coin space.

Wild Wild West No More

Caitlin Long spent a large part of her career in financial services and understands the issues between traditional financial markets and digital assets. She defined three intersection points that should be focused on in the parallel system with Bitcoin as the driving factor:

  • Settlement Risk
  • Interoperability
  • Legal Clarity

The company that Long is leading, Custodia, headquartered in Cheyenne, Wyoming, is on the cutting-edge of the intersection between traditional and digital asset banking offering custodial services in a state that is at the forefront of crypto banking, much like South Dakota was in the early days of credit cards. Custodia is planning a Q2 2022 launch and the stable coin that it has developed (Avit – as in “Have It”) will be a key part of the implementation. There are indications that many states are watching and planning to copy what Wyoming is doing and pending the final Fed approvals, those states will be ready with legislation to enable their own crypto banking sectors.

In the next article, we will review governmental monetary policies to date and how they may be affected by the new cryptocurrencies. As you would expect, we will highlight what this means for current HPE NonStop users running Payment and Exchange apps. We will argue and demonstrate how this is a major asset on the path to Neo-banking and digital currency. At lower risk, cost, and quick time to market, the HPE NonStop Servers can lead a business into the future of banking.

Additionally, we will showcase a customer story who did just that and explain how it was done.

Stay tuned…

 


Authors:

Khody Khodayari

HPE NonStop devotee for decades, we have opened its architecture to Neo banking and Crypto commerce / Blockchain.

Leading a team of mostly Millennials at Idelji, we are bringing heavy AI to NonStop to open the path for new solutions Gen Zs will need in a decentralized universe.

David Lorenz

David Lorenz is an HPE NonStop sales specialist from Tampa Florida with over 25 years of direct sales to the finance, telecommunications, DoD, and retail industries.

David has been the HPE representative at NACHA ( US ACH association) and the NACHA payments alliance as well as the PayIT conclave in Mumbai.

He sees tremendous opportunity to evolve and expand the NonStop operating environment beyond the card networks and into the rapidly evolving mobile financial marketplace.

Working closely with customers in the telecommunications and financial services industry over his career gives David a very unique perspective on their convergence.

dlo has a keen interest in monetary history and the geopolitical and social events that are driving the rapid evolution that is happening in payments today.