Blockchain and Investment: An Austrian Approach

With Darcy WE Allen, Sinclair Davidson and Jason Potts. Forthcoming in the Review of Austrian Economics

Abstract: Investment is a function of expected profit, which involves calculation of the cost of trust. Blockchain technology is a new institutional technology (Davidson et al 2018) that industrialises trust (Berg et al 2018). We therefore expect that the adoption of blockchain technology into the economy will affect investment and capital structure. Using a broad Austrian economic approach, we examine how blockchain technology will affect the cost of trust, patterns of investment, and economic institutions.

Working paper available at SSRN.

Proof of work as a three sided market

With Sinclair Davidson and Jason Potts. Published in Frontiers in Blockchain, 2020. doi: 10.3389/fbloc.2020.00002

Abstract: Blockchain technology is the distributed, decentralised ledger technology underlying Bitcoin and other cryptocurrencies. We apply Oliver Williamson’s transactions cost analysis to the blockchain consensus mechanism. Blockchains reduce the costs of opportunism but are not ‘trustless’. We show that blockchains are trust machines. Blockchains are platforms for three-sided bargaining that convert energy-intensive computation into economically-valuable trust.

Available here.

Blockchain technology as economic infrastructure: Revisiting the electronic markets hypothesis

With Sinclair Davidson and Jason Potts. Published in Frontiers in Blockchain (2019)

Abstract: In the late 1980s and early 1990s the electronic markets hypothesis offered a prediction about effect of information technology on industrial organisation, and many business writers forecast significant changes to the shape and nature of the firm. However, these changes did not come to pass. This paper provides an economic analysis of why, using the transaction cost economic framework of Ronald Coase and Oliver Williamson. Non-hierarchical corporate organisation struggled against contracting problems in the presence of possible opportunistic behaviour. Technologies of trust offer an institutional mechanism that acts on the margin of trust, suppressing opportunism. The paper concludes that blockchain technology provides an economic infrastructure for the coordination of economic activity and the possible realisation of the electronic markets hypothesis.

Available at Frontiers in Blockchain

Selling Your Data without Selling Your Soul: Privacy, Property, and the Platform Economy

With Sinclair Davidson

Executive summary: Humans have always sought to defend a zone of privacy around themselves—to protect their personal information, their intimate actions and relationships, and their thoughts and ideas from the scrutiny of others. However, it is now common to hear that thanks to digital technologies, we now have little expectation of privacy over our personal information.

Meanwhile, the economic value of personal information is rapidly growing as data becomes a key input to economic activity. A major driver of this change is the rise of a new form of business organization that has come to dominate the economy—platforms that can accumulate and store data and information are likely to make that data and information more valuable.

Given the growing economic importance of data, digital privacy has come to the fore as a major public policy issue. Yet, there is considerable confusion in public debates over the meaning of privacy and why it has become a public policy concern. A poor foundational understanding of privacy is likely to result in poor policy outcomes, including excessive regulatory costs, misallocated resources, and a failure to achieve intended goals.

This paper explores how to build a right to privacy that gives individuals more control over their personal data, and with it a choice about how much of their privacy to protect. It makes the case that privacy is an economic right that has largely not emerged in modern economies.

Regulatory attempts to improve individual control over personal information, such as the European Union’s General Data Protection Regulation (GDPR), have unintended consequences and are unlikely to achieve their goals. The GDPR is a quasi-global attempt to institute privacy protections over personal data through regulation. As an attempt to introduce a form of ownership over personal data, it is unwieldy and complex and unlikely to achieve its goals. The GDPR supplants the ongoing social negotiation around the appropriate ownership of personal data and presents a hurdle to future innovation.

In contrast to top-down approaches like the GDPR, the common law provides a framework for the discovery and evolution of rules around privacy. Under a common law approach, problems such as privacy are solved on a case-by-case basis, drawing on and building up a stock of precedent that has more fidelity to real-world dilemmas than do planned regulatory frameworks.

New technologies such as distributed ledger technology—blockchain—and advances in zero-knowledge proofs likewise provide an opportunity for entrepreneurs to improve privacy without top-down regulation and law.

Privacy is key to individual liberty. Individuals require control over their own private information in order to live autonomous and flourishing lives. While free individuals expose information about themselves in the course of social and economic activity, public policy should strive to ensure they do so only with their own implied or explicit consent.

The ideal public policy setting is one in which individuals have property rights over personal information and can control and monetize their own data. The common law, thanks to its case-by-case, evolutionary nature, is more likely to provide a sustainable and adaptive framework by which we can approach data privacy questions.

Published by the Competitive Enterprise Institute

Capitalism after Satoshi

With Sinclair Davidson and Jason Potts. Published in the Journal of Entrepreneurship and Public Policy (2019).

Purpose: The purpose of this paper is to explore the long-run economic structure and economic policy consequences of wide-spread blockchain adoption.

Design/methodology/approach: The approach uses institutional, organisational and evolutionary economic theory to predict consequences of blockchain innovation for economic structure (dehierarchicalisation) and then to further predict the effect of that structural change on the demand for economic policy.

Findings: The paper makes two key predictions. First, that blockchain adoption will cause both market disintermediation and organisational dehierarchicalisation. And second, that these structural changes will unwind some of the rationale for economic policy developed through the twentieth century that sought to control the effects of market power and organisational hierarchy.

Research limitations/implications: The core implication that the theoretical prediction made in this paper is that wide-spread blockchain technology adoption could reduce the need for counter-veiling economic policy, and therefore limiting the role of government.

Originality/value: The paper takes a standard prediction made about blockchain adoption, namely disintermediation (or growth of markets), and extends it to point out that the same effect will occur to organisations. It then notes that much of the rationale for economic policy, and especially industry and regulatory policy through the twentieth century was justified in order to control economic power created by hierarchical organisations. The surprising implication, then, is that blockchain adoption weakens the rationale for such economic policy. This reveals the long-run relationship between digital technological innovation and the regulatory state.

Available at Emerald Insight. Working paper version at SSRN.

Understanding the Blockchain Economy: An Introduction to Institutional Cryptoeconomics

With Sinclair Davidson and Jason Potts. Edward Elgar Publishing 2019

Blockchains are the distributed ledger technology that powers Bitcoin and other cryptocurrencies. But blockchains can be used for more than the transfer of tokens – they are a significant new economic infrastructure. This book offers the first scholarly analysis of the economic nature of blockchains and the shape of the blockchain economy. By applying the institutional economics of Ronald Coase and Oliver Williamson, this book shows how blockchains are poised to reshape the nature of firms, governments, markets, and civil society.

Available now from Edward Elgar Publishing

Facebook’s monetary revolution

With Sinclair Davidson and Jason Potts

With its new digital money, Libra, a Facebook-led global consortium has created the world’s first private international reserve currency.

Announced on Wednesday, this is no small thing. For the first time since the collapse of the Bretton Woods system there is a clear competitor to the US dollar for global dominance in the currency market.

For simplicity’s sake think of Libra as a return to the global gold standard. But rather than governments setting the rules and exchange rates, with gold being the underlying store of value, we’re seeing a private organisation setting the rules and a portfolio of relatively risk-free assets playing the role of gold.

To be clear – Libra is not a cryptocurrency like, say, Bitcoin; but it has many Bitcoin-like characteristics. It is a private money. It is not government money – ultimately fiat is backed only by the taxing powers of the state. Libra will be backed by tangible assets.

Rather than Bitcoin, Libra is more like PayPal, or WeChat Pay, on steroids – a payment gateway and a new money system all rolled into one. This is perhaps a good halfway house to introduce the world to the concept of non-government digital money.

The implications are huge. Facebook has disrupted digital money in a way central banks and the commercial banking system never could. Facebook has brand recognition that even the global banks must envy.

For those consumers who may baulk at using Facebook to transact, other large tech companies cannot be far behind with their own products. So what now?

We predict a large uptake in these digital money products. Largely because consumers tend to emphasise convenience. Libra will very quickly achieve global acceptance among consumers and merchants. If that prediction comes true, many other firms will launch their own competing monetary systems. In short, there is going to be a lot of competition in this space in the very near future.

The short-term consequences include the immediate disruption of the remittance market. Those companies charging exorbitant fees to move money around the world will see their rivers of gold drying up. Debit cards will also quickly become redundant – accelerating the move to phone-based tap and pay systems. The world’s “unbanked” will quickly become “banked”.

There are other immediate practical concerns. Within the next year, both Australian consumers and merchants will be wanting to use Libra. How will this be done? How will it be taxed? Will it be taxed? But any work that has been done so far on these questions has come in the context of Bitcoin and cryptocurrency – an extremely niche market. A general use private money has simply not been on the radar.

Those central banks that tolerate high rates of inflation will see disintermediation. Governments that pursue irresponsible fiscal policies will see even greater capital flight. Ironically the presence of a convenient, sound and private digital money will provide incentives to institutionally challenged governments to lift their game or lose total control over their domestic policy environments.

Every country in the world faces policy challenges from a viable private international reserve currency. Control over the monetary system lies at the heart of the modern economy. A viable alternative to fiat currency, with international mobility, undermines both the conduct of monetary policy and fiscal policy.

No doubt governments and their regulators will be looking very closely at Libra. They may treat it as a threat. But it is an opportunity for a forward-thinking government. It should come as no surprise that Libra is being set up in Switzerland. They have sensible laws relating to financial matters. The question we should be asking is why Australia isn’t being considered as a location for these products?

Australia should consider becoming a currency haven. Not only should a suite of policies be developed that facilitates the use of a private international reserve currency within Australia, a suite of policies that attracts the providers of such currencies to Australia should be considered. The use of Australian markets to purchase the underlying assets should encouraged and especially the inclusion of Australian assets in those portfolios should be encouraged.

With the announcement of Libra, the global monetary system – and arguably the structures of global financial capitalism – changed irreversibly. And just 10 years after the invention of Bitcoin and blockchain technology. The rate of disruptive innovation is only going to accelerate.

How well Australia adapts to this change will be determined over the next six months. Libra is coming in 2020. Regulatory obstruction is simply not an option.

International policy coordination for blockchain supply chains

With Darcy Allen, Sinclair Davidson, Mikayla Novak and Jason Potts. Published in Asia & The Pacific Policy Studies, 30 May 2019

Abstract: From the adoption of the shipping container to coordinated trade liberalization, reductions in trade costs have propelled modern globalization. In this paper, we analyse the application of blockchain to reduce the trade costs of producing and coordinating trusted information along supply chains. Consumers, producers, and governments increasingly demand information about the quality, characteristics, and provenance of traded goods. Partially due to the risks of error and fraud, this information is costly to produce and to maintain between dispersed parties. Recent efforts have sought to overcome these costs—such as paperless trade agendas—through the application of new technologies. Our focus is on how blockchain technology can form a new decentralized economic infrastructure for supply chains by governing decentralized dynamic ledgers of information about goods as they move. We outline the potential economic consequences of blockchain supply chains before examining policy. Effective adoption faces a range of policy challenges including regulatory recognition and interoperability across jurisdictions. We propose a high‐level policy forum in the Asia‐Pacific region to coordinate issues such as open standards and regulatory compatibility.

Available at Wiley Online.

Byzantine political economy

With Sinclair Davidson and Jason Potts.

Abstract: For decades, computer science and economics have been working on the same questions in parallel. But each field has offered strikingly different answers. This paper examines the close relationship between what the study of distributed systems describes as Byzantine consensus and what the study of institutional economics describes as robust political economy. These parallels have become evident after the invention of distributed ledger technology (blockchain) via the Bitcoin cryptocurrency which provides a new technology for managing and coordinating knowledge about property rights. Blockchain is the instantiation of a new form of social infrastructure that securely decentralises property ledgers. As such it represents a shift in the role of government as a centralised property ledger.

Available at SSRN.

Towards Crypto-friendly Public Policy

With Sinclair Davidson and Jason Potts. Published in Melanie Swan, Jason Potts, Soichiro Takagi, Frank Witte and Paolo Tasca, 2019. Blockchain Economics: Implications of Distributed Ledgers, World Scientific Publishing, Singapore, pp. 215-232.

Abstract: Distributed ledgers are institutional technologies that pose complex challenges regarding regulation and inter-jurisdictional competition. This chapter introduces ‘crypto-friendly’ public policy as a way to understand these challenges. Blockchains are relevant to public policy in at least three ways. First, they can be adopted by governments for the provision of public services. Second, many blockchain applications interact with existing regulatory frameworks and may provide new regulatory challenges. Third, they present the possibility of ‘crypto-secession’ as a form of privately provided public goods provision. The chapter applies an institutional theory of regulation to assess how blockchains effect relative institutional costs and guide public policy choices. Blockchain applications such as property rights and identity management are also considered. Finally the chapter considers the possibility of crypto-friendliness as a dimension for international regulatory competition.

Available at World Scientific.