In this edition of the newsletter, I’m thinking about the implosion of the FTX and the following question: what does it mean when a company valued at 32billion dollars earlier this year can lose all of its value overnight without affecting the broader economy in the slightest? Or put another way, what does it mean to assign enormous economic value to a company whose absence is not felt?
But before I jump in, some items to note:
1): I’m currently reading a book entitled Ways and Means: Lincoln and His Cabinet and the Financing of the Civil War which I highly recommend. Here’s the description: “Upon his election to the presidency, Abraham Lincoln inherited a country in crisis. Even before the Confederacy’s secession, the United States Treasury had run out of money. The government had no authority to raise taxes, no federal bank, no currency. But amid unprecedented troubles Lincoln saw opportunity—the chance to legislate in the centralizing spirit of the “more perfect union” that had first drawn him to politics. With Lincoln at the helm, the United States would now govern “for” its people: it would enact laws, establish a currency, raise armies, underwrite transportation and higher education, assist farmers, and impose taxes for them. Lincoln believed this agenda would foster the economic opportunity he had always sought for upwardly striving Americans, and which he would seek in particular for enslaved Black Americans.”
2): A former president who lost his election and whose preferred candidates for the 2022 midterms also lost (mostly) has announced his bid for 2024 to “make America great and glorious again.” Meanwhile, National Review was quick to put its stake in the ground with an editorial by the editors entitled “No.”
3): Now that the GOP has control of the House, we can expect at least two years of “Hunter Biden’s laptop” and “CRT in schools.” But for those Republican legislators who actually want to, you know, legislate, American Compass has a great policy agenda anchored by 8 focal areas: reshoring industry, building non-college pathways, supporting families, decoupling from China, representing workers, governing Big Tech, rekindling investment, and understanding America.
4): I have a recent article in The Bulwark on the intersection of corporate monopolies and deaths of despair: “"Regardless of the partisan ratios of the next congress, making opposition to anticompetitive corporate behavior a legislative & enforcement priority would go a long way towards easing the economic burden on the lives of ordinary Americans."
When A 35Billion Company Fails…
Last October, I published an essay in Plough about nominalism and realism and the world of finance. I opened the essay discussing the sale of digital ownership of the Disaster Girl meme via the possession of a non-fungible token (NFT), in a sale completed via cryptocurrency in an amount estimated at $500,000 in U.S. dollars. I contrasted this sale - of a digital asset bought by shuffling around made up numbers on a spreadsheet (digital currency with nothing tangible backing it up) with the “real economy” as measured by tangible products and services, and the tangible labor and capital that enables more products and services to be producted.
My main observation in that Plough piece is that the ability to untether capital from physical inputs (e.g., currency that doesn’t require a stock of corn or gold to establish and maintain its value) means that wealth-creation is not limited by the scarcity of the “real” world. And that’s a good thing inasmuch as it means that wealth-creation is less like a static pie that is divided and more like Christ’s miraculous multiplying of fish and loaves to feed the five thousand.
But here’s the caveat to that argument, as stated in the Plough piece: “finance-based capitalism rooted in nominalism can help to make the world a better place by generating new wealth for the sake of the common good. But when finance-driven growth is disconnected from tangible human needs and made to serve itself, financial markets become an idol whose worship encourages exploitation of the vulnerable.”
I was thinking a lot about this argument in the aftermath of the FTX crash. As with many Silicon Valley failures, 30 year old Sam Bankman-Fried (popularly known as SBF) had built a cult of personality around him, with all the usual media fanfare touting his genius. But SBF took this a step further by positioning himself as an ethical billionaire who got rich with the sole desire of “giving away more wealth.” At face value, SBF fits the above description of “generating wealth for the sake of the common good.” But by his own later admissions, those stated intentions were self-serving branding: idolatry with a good PR team.
I think it would be a mistake, however, to center analysis on SBF as failure or fraudster, without considering the merits (or lack thereof) of the engine of his wealth, the FTX company.
For those not familiar, FTX is a cryptocurrency exchange. In January of this year, FTX had a market valuation of a whopping 32billion. Basically, the company was a glorified brokerage allowing investors (both institutional and retail) to conduct trades, while profiting through commissions and fees similar to any other brokerage. The distinctiveness of the firm was that it facilitated trades in cryptocurrencies and other digital assets rather than standard financial products such as stocks, bonds, etc..
In early November, FTX experienced a liquidity crisis as investors sought to pull their money from the platform, as the worth of the various crypo tokens began to plummet in value, creating a vicious spiral that bankrupted the company. Here’s a rundown of the timeline from USA Today:
Nov. 2: CoinDesk publishes a report that revealed Alameda Research – a sister company to FTX – had a balance sheet full of FTT, the cryptocurrency issued by FTX.
Nov. 6: Changpeng Zhao, the founder of Binance, said the cryptocurrency exchange would offload all of its remaining FTX tokens "due to recent revelations that have came to light." FTT prices dropped as investors began to withdraw.
Nov. 8: Binance agrees to acquire FTX.
Nov. 9: Binance pulls out of its agreement to take over FTX.
Nov. 11: FTX files for bankruptcy. CEO and founder Sam Bankman-Fried, age 30, resigns.
Since that time, it’s been discovered that FTX was also taking customer deposits and moving them over to the Alameda Research (hedge fund) to finance risky bets that did not pay off. Needless to say, this action is very illegal as it is by definition a Ponzi scheme. It’s likely that Binance (a leading competitor to FTX) saw indications of this as part of their due diligence process, which is why they ended up not saving the firm via a buy-out.
But let’s suppose that everything had been above board, and the firm just experienced bad luck similar to a bank that experiences a bank run due to unreasonable panic. I still think it’s worth asking if the firm was truly as “valuable” in any meaningful sense as it’s market valuation.
In the graph below, I’m comparing FTX’s market valuation at the beginning of the year with some leading U.S. firms (in various industries).
Let’s pretend that the blow-up never happened and also that FTX’s January valuation was current for end of the year as well. Do we really believe a firm exclusively dedicated to speculative trading for non-tangible assets divorced from any real world product or service is more valuable than one of the leading producers of computers and other technology? More valuable than an airline that facilitates tourism, commerce, and the intangible benefits of visiting family and friends? More valuable than firms that provide food and clothing or that distribute that food to millions of households?
I think the fact that FTX could implode without affecting the rest of the economy provides us with pretty strong evidence that no, it was not truly valuable in any meaningful sense. To be clear, the crash did have real world consequences in terms of individuals losing a lot of money (maybe even all their life savings if they invested them with the firm.) And on the flip side, the firm could have facilitated growth in individual household wealth. But in terms of broader economic effects, FTX’s implosion didn’t affect the stock market, it didn’t lead to thousands of people losing their jobs, it didn’t compromise other industries, it didn’t disrupt supply chains or lead to shortages, it didn’t increase the federal deficit through a drop in corporate taxes, it didn’t lead to a contraction in GDP. But imagine if any of the other companies in the graph collapsed overnight: would the analysis be the same for them?
I don’t want to suggest that brokerages and investment banks and the like are meaningless or non-essential for our economy. These firms provide liquidity that keeps money flowing, they help individuals grow their wealth including retirement savings, they allocate capital to companies that turn that capital into products and services that each of us benefit from every day. But money is an instrumental good: it is good only inasmuch as it is in service to some other good. And finance is only in service to the common good when it is meeting real, tangible needs and desires. FTX appears to me like a firm devoted to money making money for its own sake, disconnected from any productive uses of that money in the broader economy.
Ultimately, I think FTX was an exercise in idolatry, as is much of finance-drive capitalism when it is not made subservient to the kind of productive investments that can improve the wellbeing of people, communities, and the planet. The near-term future of cryptocurrency relies on the ability to solve problems like how to infuse liquidity, how to insure deposits, how to standardize exchange rates, and the like — all of which were problems that the U.S. and other nations have dealt with in establishing, regulating, and stabilizing their own fiat currencies. Whether or not we even need crypto, and whether or not it can solve some of these problems via institutions, practices, and regulations, I think it will still need to address a more fundamental question about purpose.
Can crypto be about something more than famous people trying to sell us on a “get rich quick” scheme? Can crypto actually democratize finance in a way that allows ordinary people to help shape the world around them? Can crypto serve as an engine for tangible investments with positive real-world impact? I’m not sure the answers to any of those questions, but in the wake of FTX, I think those are the exact questions that we should all be asking.
What I’m Reading Elsewhere
Bloomberg: Apple Prepares to Get Made-in-US Chips in Pivot From Asia
Washington Post: A record 100,000 Americans missed work last month because of child-care problems - a higher amount than at any other point in the pandemic - as flu, cold, and covid take a toll.
The thinktank R Street has a great proposal for how to revamp Twitter to be a more open platform: “Open up the platform. Let others build their own Twitter apps, and do their own filtering and moderation, while preserving the advantages of a centralized discovery and sharing mechanism through the underlying platform. And when other, independent Twitter apps succeed, so too will Twitter.”
Princeton PhD Candidate Lukas Althoff has a great new paper entitled “Jim Crow and Black Economic Progress After Slavery" which provides new evidence that a Black family's socioeconomic status today strongly depends on their historical exposure to racially oppressive institutions. Here’s his Twitter thread summarizing the paper/research.
From an FDIC Chair speech earlier this week: “Thus far stablecoins have predominantly been used as a vehicle to buy and sell crypto–assets for investment and trading purposes– there has been no demonstration so far of their value in terms of the broader payments system.27 However, the distributed ledger technology upon which they are built may prove to have meaningful applications and public utility within the payments system. This raises a host of important policy questions that will be the subject of careful attention by all of the federal financial regulators.