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1/27 The lender of last resort has a challenge when called on to act. Backstopping system wide asset-liability mismatch requires a differentiation between "liquidity problem" and "solvency problem."
2/27 But of course in a fractional reserve system the two are the same thing in the limit: when the money supply contracts, the deflationary crunch impedes the creditworthiness of assets, depleting capital, ie solvency.
3/27 So, in a sense, acting as lender of last resort involves "giving money away without looking like you are giving money away" since in the liminal situation, liquidity basically *is* capital.
4/27 The converse is also true: when money is abundant, credit quality improves. That is to say, every loan is a performing loan if rates are 0.
5/27 So macro-prudential central banking is hard, and I have a lot of sympathy for the policy makers to whom the task fell during the financial crisis. Optimising the tradeoff between systemic risk vs moral hazard is tough. I think they did the right thing in 2008/2009.
6/27 What came later, with QE2, QE3, and operation twist, seems to me harder to justify. Moral hazard took root as the dominant meme in the market. This was allowed to happen despite much less acute catalysts for systemic risk.
7/27 The whole world now understands that these later legs of engineered asset inflation were highly regressive. Common knowledge now that the resultant increase in inequality had a material, deleterious, impact on social cohesion and is one major cause of rising populism.
8/27 I suspect that populism now precludes the possibility of an orderly QE4 in the mode of the previous interventions, should the need arise.
9/27 Meanwhile the system is more levered than ever in aggregate--partially as a result of the prior interventions--so the possibility of such an event is certainly not out of the question.
10/27 Both the historic record and recent data points show that the independence of central banks are not a given in such a scenario. Strong likelihood, therefore, that future interventions will be more along the lines of "Helicopter Money."
11/27 Helicopter money, alongside other "war on inequality" policies like more aggressive taxation, trade barriers, fiscal spending, anti-trust enforcement, and outright redistribution all seem likely as a response to the next recession.
12/27 Key question to ask: what will the market do, when it becomes clear that policy makers are working for labor instead of capital now?
13/27 Scare, secure, borderless, liquid, bearer assets have obvious attractions in such a scenario. Crypto seems like a pretty thin funnel to accommodate the likely subsequent asset rotation flows.
14/27 Its easy, given the downturn in crypto markets, to be pessimistic about the future of the asset class. But its important to understand these assets don't live in a vacuum. They are one star in the constellation of overall global markets. And a very young one at that.
15/27 Its also easy to read more into the current downturn than is justified. The reality is that we are working off an almighty hangover that was fuelled by the excesses of an epic party in 2017.
16/27 Not at all surprising, therefore, that the downstroke of the crypto pricing cycle is quite severe, given how far ahead of itself market pricing got in 2017.
17/27 But why was the blow off in 2017 so epic? My view: it didn't happen because crypto is a bad idea. No, it happened because crypto is *too good* of an idea.
18/27 More specifically, the memetic virulence of cryptocurrencies is so appropriate for the current world, while the market structure is still so nascent, that organic retail investment waves overwhelmed the underlying infra, regs, and institutional market structure.
19/27 This means that institutions have been unable to validate the prior enthusiasm with follow through on the timescale the speculators have been hoping for. Not surprising in the slightest, for anyone who has every actually worked with these types of clients.
20/27 But don't mistake the unwinding of short term excess as anything more than just that. The (very real) danger here is that allocators take 2018 as a false negative in terms of the product-market fitness of the asset class for the world as it is evolving.
21/27 To the contrary, I would actually read the 2017 -> 2018 price action as overwhelming, albeit still early, evidence for the product-market-fitness potential of the asset class
22/27 In a way, its exactly what one would expect for a product that has such obvious, radical, utility that the market attempted to attach growth before the basics (regs, infra, throughput, UX, etc.) were ready for showtime.
23/27 So I suspect that cascading waves of organic adoption with momentum chasing is the right framework to think about how cryptos will scale as a store of value and medium of exchange in future.
24/27 With each wave the underlying infra and baseline level of comfort amongst larger pools of investors will improve. Same with use cases downstream and the ironing out of UX and performance issues.
25/27 And all the while, the tectonic pressures in broader markets (and society!) that will bolster demand for stateless, inelastic, un-censorable, bearer stores of value continue to build. Its winding up.
26/27 The next wave could happen at any time, triggered by any one of many possible macro demand catalysts. Catalysts that have nothing to do with whether or not there has been "enough pain yet" in crypto - global macro forces don't care about that.
27/27 I suspect that the demand severity next time will be quite impressive. In other words, as an asset allocator: if you dont have FOMO here, taken in the context of overall macro conditions and current pricing, you should.
