Category Archives: Finance

Why do people still try to defend cryptocurrency as being “early” technology? This isn’t growing pains, it’s a scam

Bitcoin was launched in January of 2009, making it roughly 13.5 years old by now.  In that time, it has gone from scam to scam to scam and yet time and again the True Believers make excuses for both it and the entire cryptocurrency ecosystem.  “The tech is still early,” “it’s like the early days of the internet” “any day now mass market use will take off” and it NEVER EVER DOES.  Let’s get some context going:

Google was incorporated in 1998, and by 2008 it had 20 billion dollars in revenue.  Not valuation mind you, yearly revenue

Amazon was launched in 1994, and by 2005 they were offering Amazon Prime, which promised unlimited 2-day shipping on over a million in-stock items for a modest yearly fee

Microsoft was founded in 1975 and by 1985 they launched the Windows 1 which sold over half a million units.

Each of these modern tech giants started small, but had reached mass market appeal in less than a decade.  What does Bitcoin have?  Where is the mass market adoption of Bitcoin as a unit of currency?  Where are the merchants and vendors who take Bitcoin instead of Visa or Mastercard?  Time and again minor partnerships area announced where some sucker claims to accept Bitcoin, Bitcoiners exclaim that this is the beginning of mass adoption, and then Bitcoin is quietly removed from the available payment methods or ends up being the smallest method used by a large amount.  Bitcoin doesn’t compete with PayPal, or Apple Pay or any credit card or payment processor because it sucks and always has sucked.  And mass adoption isn’t right around the corner, we aren’t in the early days of Bitcoin we’re over a decade in and it is still useful for nothing more than scams and ponzi schemes.  Every now and then new stories pop up that *this* time it will be different, *this* will definitely be the start of mass adoption.  And of course every time it’s wrong.  I could go through every year from 2010 to today and find someone claiming that this would be the start of mass adoption too.  It’s always been nothing more than scams and hype.

Do dividends solve inflation?  Yes in theory, who knows in practice.

Congress just passed the CHIPS act giving billions of dollars to Intel, who turned around and cut their fab investments to hand money to investors as dividends.  One of the benefits of CHIPS was supposed to be reducing inflation by increasing the supply of microchips from companies building more fabs.  That obviously won’t be the case if companies follow Intel’s lead in handing the subsidies to their investors as a dividend.  But it made me think of how neoliberal economics believes that inflation is supposed to be self-correcting.

When demand for a particular product outstrips supply, prices will of course rise.  But what are the consequences of a rise in price?  First it means the consumers of the product will have higher costs, but that will incentivize consumers to use less of the product (reducing their demand and thus costs).  If those consumers are companies, then this can act as a market force driving efficiency, companies that can produce the same number or quality of output products while using less of the pricier input products will have an advantage over those who are more hamstrung.  In some ways we are seeing this with car companies offering cars that don’t have the full range of interior knick knacks due to the chip shortage.  If they can still produce a car while using less computer chips, then they will have an advantage over companies that cannot.  This means that the more efficient companies should remain competitive while the less efficient ones get removed from the market, thereby decreasing demand for the chips overall thanks to these efficiency gains.

For producers of the product however, when prices rise the company makes more money.  Now not all that money will be reinvested in the company, a lot of it will be handed back to the shareholders in the form of dividends.  But to neoliberals that isn’t a problem, that’s the solution.  When the company hands big dividends to its shareholders, the price of the company’s stock will rise greatly.  Everyone and their mother will realize that holding that company’s stock will net you a passive dividend income, and will rush to buy up the shares, driving share price up.  As I noted before companies like having a high share price because it gives them a source of money that they control.  They can use that share price to compensate employees and invest in large capital projects, both of which can theoretically lead to higher production either through higher quality/more motivated employees or through more factories or whatever.  And not only that, the return on investment for dividends should cause more money to flow into new companies as well that want to enter the market, because no one can resist those sweet sweet profits.  This higher production means supply increases and the cost of the good goes back down, thus massive dividends from profitable products are supposed to act as a reward mechanism that entices more investors to invest in that sector of the economy.

This paradigm, by the way, is why some neoliberal economists will oppose market interventions to alleviate shortages.  Price controls or rationing of good are supposed to mess up both the demand and supply side of the equation.  If price is controlled then the supplying company can’t make a higher profit, meaning they can’t expand supply and new companies won’t enter the market.  Likewise price controls mean that there isn’t as much gain from being an efficient demand-side company.  Rationing works much the same way as price controls, artificially keeping the price low by constraining demand.

So according to this theory of economics, supply-induced inflation should always be self-correcting.  The high price of chips should have pushed demand-side companies to buy less of them, and supply-side companies to sell more of them, both of which push the price down.  The question is whether any of this works in the real world, and the bigger question is whether the CHIPS act will sufficiently spur investment in fabs considering the money has basically no strings attached.  We’ll have to wait and see if every company decides to act like Intel.

Why do companies give out dividends in the first place?

I took a class on economics in high school, and as part of that class we had a classroom discussion on the stock market.  In that discussion, one of the most confusing parts for me was dividends.  It seemed crazy that companies will just give you free money if you buy their stocks, what do the companies get in return?  Other folks my age were more cynical, they thought that dividends were just how rich people paid themselves to avoid taxes.  Well dividends aren’t free money, and they aren’t *entirely* a tax dodge, they actually play an important part in the stock market.

As stated in a previous post, dividends are one way that a stock has value to an investor.  Even if a stock doesn’t currently give out dividends, there can be an expectation that they will in the future, and as stated the expected value of all future dividends (divided by uncertainty, multiplied by money now>money later) is part of what gives a stock value.  So if companies want their stock price to be high (and thus the value of their company to be high), they will often give a dividend to prop up the stock price.  But why would they care about a high stock price?  The important thing about stocks is that they are a source of money that the company controls.  The company can do a lot of things with stock: it can pay employees in stock, it can raise money by selling stock, it can purchase other companies with its own stock. Money is power, if a company has a whole lot of value because they have a giant stock price, then all sorts of methods to raise money and acquire assets become available.

So dividends aren’t a scam and stocks aren’t a ponzi scheme.  Companies pay dividends in order to have a higher stock price, which they want in order to finance their company’s expansion should the need arise.  These dividends are part of what give stocks value, and they are one of the reasons that no matter what Bitcoiners tell you, stocks are not ponzi schemes.

Why would investors invest in non-voting shares?

I said yesterday that stock has value in part because the investor is owning something real, a tiny part of a larger company.  With that ownership usually comes the right to vote on the direction of the company, but not always.  Some companies like Google, New York Times, and WWE have a dual-share system whereby only certain shares are “voting” shares and all others have no right to vote on the direction of the company.  Or in Google’s case, many shares are voting shares but thanks to “super-voting” shares two people (Larry Page and Sergey Brin) hold 51% of voting rights and can never be outvoted by investors. Why would an investor buy shares knowing they don’t come with any rights?

Well first of all there is still some small amount of rights that come with a share, your ownership must be compensated if the company gets bought.  And of course the share may still come with a dividend or an expectation of a dividend.  But without the ability to change the company by voting, the shareholders have no input on the dividend or the direction of the company in general.  I think that for large shareholders, they still have an expectation that they can move the direction of the company even without voting rights.  BlackRock and Vanguard Group, for example, are some of the largest holders of Google stock, and if they were to exit the company in a hurry it could crash the price.  Now these companies don’t want their Google investment to fail, they want Google to succeed so they succeed with it, but if they believe that the company is hopeless they can always exit in a hurry.  And because they are major investors (and their exit would crash the stock price), they have the ability to talk with Google higher ups on the regular.  This gives them an interpersonal line of communication to voice their grievances and request changes, even if they have no legal recourse to change Google’s behavior.  Google in turn doesn’t want to upset major investors, and so may acquiesce to some things in exchange for investor assurances.

These sorts of interpersonal dynamics go on all the time in the world of finance behind closed doors.  We can read countless examples of them from the 20th century since people retired and wrote tell-all books, but I doubt we’ll get any about Google until those books are written in the future.  But interpersonal relationships between investors and management can be as or more important than the legal framework that regulates them.  Large investors have some amount of power and access with a company, even if using their power by selling the stock would hurt the investor as much as the company.  Meanwhile management wants as high a stock price as possible and so can make an effort to placate the investors.  In this way, at least some investors will still feel that they have input into the direction of the company, even if they can’t change its direction by voting.

Now, with this voting vs non-voting shares, I do think this is neo-feudalism and must be stopped.  The WWE shares, for instance, stipulate that only the descendants of Vince McMahon can ever hold the super-voting shares in the company, any shares sold by them get converted into lower-voting or non-shares.  This allows people to inherit what are basically titles of nobility that no one else could ever have.  Only the descendants of ennobled investors can ever steer the direction of the company, even if they own far fewer shares the the other investors.  Capitalism is supposed to be plutocratic and this sort of hereditary nobility will do more to harm competition than any possible good it could do.  It’s no accident that the poorest countries during the industrial revolution of the 19th century were those that held on tightest to nobility and titles, money can’t compete with inherited rights.

A free market absolutist might claim that you can just start your own business and replace Google or WWE but we all know that’s not how the world works.  Large companies can have an outsized influence to maintain their market share even if there is some modicum of competition so that they don’t count as “monopolies.”  In the end, ennobled families will hold unwarranted power over cornerstones of the world economy, and those cornerstones will be hard to replace due to their sheer size and ability to buy or outlast the competition.  In the end, we’re all worse off.

The president of El Salvador is playing a dangerous game

El Salvador became internet famous about a year ago first when President Bukele declared that they would be the world’s first country with Bitcoin as a legal tender and second when their president began having his government buy Bitcoin as a “sovereign wealth fund.”  But flirtations with the Bitcoin ponzi are not even El Salvador’s biggest problem.  El Salvador owes billions of dollars in sovereign debt, and due to a large government deficit and little hope of improving economic conditions, the debt is currently at junk status.  The status of debt is basically how people express the risk of the debt not being paid back in full, and for El Salvador that risk is very high.  The money markets that have lent money to El Salvador believe it to be somewhat likely that El Salvador will default on its debt, leaving them with either nothing or less than the full amount that they lent, and because of that the debt is considered to be junk status.

What is a default?  A default is basically where a country declares it won’t pay back its debt.  It may be a partial default (we won’t pay back specific bonds) or a “haircut” (we’ll pay back only a certain percentage of what we owe) or a total default (we won’t pay back anything).  But a default leaves the lenders with less than the face value of the debt they lent to the country, and it in turn makes other lenders way less likely to lend money to that country.  Think about it, if you lend a buddy 100$ and he never pays you back, will you lend him another 100$ next time?

Now even junk debt isn’t worthless.  It may be *likely* that El Salvador defaults but it is not *certain*.  So if you hold an IOU from El Salvador, you can still try to make money off of it.  Let’s say you own El Salvador government debt worth 100$.  You think it unlikely that you’ll get back the full 100$ but someone else will buy the debt from you for 20$.  You’re taking a loss by selling the debt instead of waiting for El Salvador to pay up, but the 20$ they will give you is more than the 0$ you think El Salvador will give you, so you go ahead and sell it.  This sort of debt market happens all the time as institutions sell and buy debt based on their expectations of how likely the debt is to be paid back.  As economic conditions improve, the likelihood of being paid back increases and the price of the debt can rise, while worsening economic conditions would make it fall.

The problem is that President Bukele saw this debt market, and he hatched a scheme.  The debt markets think that El Salvador is unlikely to pay back its debt, and so 100$ of debt can be bought for 20$.  Well, thought the president, what if El Salvador just buys back the debt itself?  Now we can wipe away 100$ of debt for just 20$, genius!  Except not really, the debt is trading cheaply on the expectation that it won’t be paid back in full.  Buying it at this discount is an admittance that El Salvador won’t pay it back in full, they won’t pay back 100$ for 100$ worth of debt, they’ll pay back 20$.  In some ways that is a de facto default, and in the future when El Salvador wants to take out a loan (and remember they need loans to cover their deficit), banks will be very leery of giving a loan to a country that basically entered a partial default.  Secondly, President Bukele announced this scheme on twitter, and with this public announcement the price of El Salvador’s debt went way way up.  Obviously a lot of people holding El Salvador’s debt expected to get nothing, so with the public announcement of a buyback they now expect to get something and will raise their prices accordingly.  If the president thought he could buy back all the debt on the cheap, he’s very likely to be mistaken.

I don’t know who advises the president of El Salvador, but it seems like he does financial policy without much understanding of the effects.  By the way, this entire article is written using dollar denomination because El Salvador’s debt is denominated in dollars and dollars are an official currency (alongside Bitcoin). It’s probably one of the reasons El Salvador doesn’t have many economic levers to pull, they don’t control their own money supply.

I don’t think people understand stocks or what gives stocks value, and I think that’s why some people fall headlong into Bitcoin

Let me get one thing clear: Bitcoin is a ponzi scheme and Bitcoin “exchanges” are rugpulls waiting to happen.  There is no value in Bitcoin as an asset; anything it can do, everything else can do better.  But it’s clear that Bitcoin has a hold on people and I’ve seen many try to defend Bitcoin by comparing it to stocks.  Once you accept that Bitcoin is terrible and has no use cases, the only thing left is to claim that everything else in the world is even worse.  I’ve seen the argument made that the stock market is a legalized ponzi scheme taking money from individuals and giving it to corporations, but that argument clearly comes from a place of ignorance. Stocks are a legitimate investment vehicle, unlike Bitcoin, and I’d like to explain why.

First, why does a stock have value at all?  Two big reasons cited are ownership and dividends.  When you own a stock, you have real *ownership* of a small percentage of the company with all the property rights that come with that.  In a very real sense the stockholders can plutocratically vote (plutocracy in this case means 1 share = 1 vote) on the direction of the company. The stockholders have a sort of representative plutocracy in which they vote for the Board of Directors, who then act as the stockholders’ representatives guiding the direction of the company through their chosen CEO.  In 2021 for example, ExxonMobil stockholders led by a group called “Engine No 1” fought to make ExxonMobil commit to new environmental standards and a sustainable energy future.  There have also been cases in which stockholders such as private equity will put up a proposal to replace the board of directors and management staff with someone else in order to turn around the company and bring it back into profitability.  All these things are possible only if you can get the stockholders to agree, and this is the value that owning a share of stock has.

Another reason shares of stock have value is dividends, and here ownership comes into play as well.  If a plutocratic majority of the stockholders want it, they can demand that the company give them more and more of the company’s money in the form of dividends.  The value of the stock therefore is the value of all future dividends, divided by the uncertainty the company will stay in business, multiplied by the fact that money now is better than money later.  Say I hold a corporate stock that gives a yearly 1$ in dividend. I think the dividend is stable, so I expect to receive 1$ per year every year.  So the price of the stock is infinity because I expect to receive infinity dollars?  Well no because there is market uncertainty, I could be wrong about the company for instance, and it goes bankrupt next year. Or the market could change in ways I can’t predict and the company goes bankrupt, there’s no certainty about how long this company will stay in business.  Also, money now is always worth more than money later (even if inflation is zero, I’ll talk about that some time), so the dollars I expect to get 10 or 20 years from now are worth less than and less then the dollar I will get this year.  And so despite seeming infinite, the stock value can converge to a finite amount because there’s no guarantee I get all those future dividends. And of course different people can value a stock more or less based on their own personal appetite for risk.

So the value of a stock is based on real value.  A company has value just as much as say a factory does.  People want to buy the things that come out of it, so owning it gives you something that makes money and therefore has value.  Likewise a company gives money back to its stockholders in the form of dividends.  Now there are many reasons a company would want to give dividends, and likewise reasons stockholders would be OK with not having dividends, but going back to shares being ownership, remember that the shareholders can always demand the company give them dividends if there is a plutocratic majority in favor of it.  So dividends are demanded by the stockholders, given by the company, and the value of all future dividends plus the value of owning a part of the company itself is what gives a stock value for a stockholder.

Bitcoin does not have this value.  There is no dividend, there is no underlying thing of value that you “own” when you own a Bitcoin.  All Bitcoin has is the greater fool theory, the idea that somehow you’ll find someone to buy your Bitcoin for more than what you bought it for.  Greater fool theory isn’t unique to Bitcoin, and at least some percentage of stock market daytraders are only buying in order to sell to a greater fool, but as I said stocks have more than greater fool theory underpinning their value.  Bitcoin only has greater fools, and that’s what makes it a ponzi scheme.