Blog : What's Better Than Bitcoin?

by Ed Zwirn on May 22nd, 2014

You would have had to be living under a rock or something not to have noticed the amazing technological transformations that have impacted media, advertising, journalism and entertainment over the past few years. The Internet and social media have not only transformed the business and social landscape around the world recently, but they have already produced political consequences in a number of countries, bringing on a whole new set of opportunities and risks.

"What is less appreciated, however, is the extent to which a broadly similar phenomenon may be starting to play out in finance, via a democratization process that could gradually reconfigure a notable part of the institutional landscape, particularly in consumer finance, while challenging regulators to adapt," writes Mohamed El-Erian in a commentary for CNBC.

El-Erian ought to know something about the institutional landscape. As former CEO and co-CIO of PIMCO and a member of the International Executive Committee at Allianz, he has handled more money that most of us would dream of. And, according to El-Erian, while disruptive changes to finance are so far occurring at "a less frantic pace," they are coming all the same.

The Bitcoin, he maintains, "is the most visible - albeit far from a good - example of this nascent development, having attracted attention form specialists, regulators and, slowly but surely, public." Bitcoin started in 2009 as "an attempt to produce a 'better' currency, championed especially by those who mistrust central banks' management of fiat money." This attempt has since been hampered by institutional failures like Mt Gox, coupled with the volatility of the crypto-currency itself."

"Early [Bitoin] adopters were joined by a growing number of financial speculators attracted by highly volatile price movements," he writes. "But Bitcoin's success, which remains highly uncertain, ultimately depends on it attaining sufficient stability to perform the most essential function of any currency (as opposed to a speculative commodity) - that of providing a relatively predictable medium of exchange."

Fulfilling that function would require a lot to happen. At a minimum, Bitcoin "would need a more solid institutional foundation; and broad acceptance of it would require much greater clarity concerning regulatory and supervisory approaches."

As for a solid institutional foundation, don't expect anything like that to emerge soon.
As outlined recently in this investment blog, U.S. regulatory agencies like the IRS and SEC have been anything but supportive of Bitcoin, with the former refusing to recognize it as currency for tax purposes, and similar stances have emerged from regulators all over the world, particularly in China, where Bitcoin aficionados had hoped to get a foothold.

But whether or not the Bitcoin craze has come and gone, those of us trying to keep on top of the latest developments in finance should look beyond it to other disruptive technology, of which "the crypto currency is far from the only example, and certainly not the most consequential one."

Bitcoun's impact, says El-Erian, "both actual and potential, is relatively limited when compared to ongoing attempts to enhance and democratize lending, borrowing, investing, and payments and settlements."

More promising examples of the impact of Bitcoin-like disruptive finance may be found in Internet-driven lending and borrowing clubs or, more generally, the peer-to peer initiatives in consumer financial services, which seek to compress net interest margins and target an enhanced consumer experience. Similarly, "so-called digital wallets and mobile transfers are efforts to improve payments and settlement in a retail financial sector that gets a lot less attention than its institutional peers."

If these examples seem vague, that is because they are. Imagine trying to imagine 30 years ago what the digital media landscape of today would look like, let alone envision the basic changes to society wrought by social media, and you get an idea of how tricky prognosticating can be.

If El-Erian is correct, and I imagine he is, the magnitude of these changes will soon pale in comparison to the changes to finance. "The challenges of getting this right in finance are considerably more difficult than they are in media and the consequences are more profound, given the centrality of finance to broad swaths of the real economy," he says.

This outlook, however, comes with a caveat: It is human nature to consume any product or experience any pleasure to excess that had been previously prohibited or technologically unattainable. The "natural human to over-produce and over-consume hitherto restricted goods and services" in fact poses a danger to any new disruptive finance development, he argues.

We need only to look to recent financial history to bear this out. "Anyone who doubts that," he says, should recall how last decade's securitization boom and  bust - another example of a disruptive financial innovation that was over-produced and over-consumed - contributed to a credit and liquidity crisis that pushed the global economy to the verge of Great Depression II."