The past few months have been dark times for the crypto industry. Between April and June, Bitcoin’s
value more than halved, from just over $45,000 to around $20,000; other coins have fallen even more.
The Terra-UST ecosystem, which paired a crypto coin with one designed to be pegged to the dollar,
collapsed in May, wiping out $60 billion worth of value and leading to cascading failures among crypto
lenders. Established companies like Coinbase, a popular crypto exchange, have announced layoffs.


Amidst the turmoil, crypto skeptics have doubled down on their critiques, often with a focus on the
speculative excess, and argued that the crash has revealed crypto as a Ponzi scheme. As evidence, some
cite the extreme volatility. How could crypto live up to the hype if participation feels like a rollercoaster
— one whose operator is opposed to safety inspections? While some of the criticism is well deserved,
the focus on price volatility isn’t as strong an argument as critics might think. Rather, it reveals a
misunderstanding of what different crypto assets represent.


Crypto is a young industry. Most projects are barely five years old. Eventually, different coins are meant
to serve different functions, but today they all more or less act as startup equity with the distinctive
properties of having liquidity and price discovery from the start. This unique attribute — enabled by the
novelty of the underlying infrastructure — leads to a more benign explanation of the volatility.

Equity, Liquidity, and Volatility


Startup equity is a core concept in business. Everything from a venture capital investment in a software
company to an ownership stake in your cousin’s new restaurant falls into that category. But traditional
startup equity has no liquidity — you don’t invest in a restaurant with the hope of flipping your shares a
month later. No liquidity means no price discovery, either. Your investment is hard to value.


Crypto is different because a token can start trading right away — sometimes even before the function
the token is meant to be used for is live. This feature is enabled by crypto’s underlying infrastructure,
architected for a post-digital world where data roams freely and important tasks are performed by code,
not clerks. This doesn’t mean every project has to issue a token right away, but many do.

Early liquidity has benefits and drawbacks. Before analyzing them, it might help to understand why the
legacy financial system doesn’t offer this option, even to those who may prefer it.


Despite becoming more digital, the architecture of the Wall Street-run system is the same as it was
decades ago. It relies on opaque systems that don’t talk to each other and still require a good deal of
manual processing. Trading may look hyperactive, but back-office settlement is a bottleneck, leading to
access being restricted to the shares of the biggest companies. Regulations also plays a role in this
gatekeeping, but infrastructure is the primary bottleneck. The startup boom of the past decade has led
to the creation of bespoke markets for smaller companies, but they too are limited in scope. Most
companies can’t issue liquid shares, even if they wanted to.


The natively digital design of a blockchain platforms like Ethereum empowers it to handle more assets
by orders of magnitude — hundreds of thousands (and soon to be millions) of tokens that can trade
around the clock. Code automates how tokens are issued, traded and transferred from one owner to the
next. All assets are programmable, improving how different assets (such as a crypto coin and a fiat coin,
which is pegged to traditional currency) interact, reducing errors. Fractional ownership is easily
accommodated, and universal access to the infrastructure is granted to entrepreneurs and investors
alike. If this were the media industry, then Ethereum would be to Wall Street what YouTube was to
cable TV, for better and for worse. Better infrastructure and a lack of gatekeepers results in greater
participation and innovation, but the lack of curation means more garbage, too.

These features enable cheaper to operate and more dynamic markets, and in some cases financial
models that would not exist otherwise, thus why everyone from central banks to Wall Street is exploring
blockchain technology. The added efficiency comes with tradeoffs, however. On the one hand, capital
formation improves, and entrepreneurs can tap a larger pool of potential investors. But an unavoidable
consequence of bringing such enhanced efficiency to the shares of any young project is extreme


Most startups fail, and investing in one is making a bet in a race against oblivion. From the
entrepreneur’s point of view, every decision — what kind of food should a new restaurant serve — has
an amplified impact. So do outside developments, like getting a liquor license. From the investor’s point
of view, trying to discount the consequences of these decisions is equally daunting. The distribution of
eventual outcomes for any business is widest at birth, so rational investors have no choice but to
constantly overreact.


If your cousin’s new restaurant had tradable shares, they’d probably be as volatile as crypto. Landing a
liquor license might make them quadruple, while a bad review may make them tank. Given the
uncertainty, external developments would also have an amplified impact. A new restaurant is more
vulnerable to things like dining fads or bad weather than an established one.

Everything Is Bigger on Blockchain


Crypto investors grapple with a stronger version of this phenomenon because everything is borderless, and the total addressable market is huge. Unlike a new community bank, a blockchain-based lending protocol could theoretically serve hundreds of millions of people all over the world. Success could mean

significant value accrual to its token, but the project could also fail. Early investors have no choice but to flail back and forth between hope and despair. Their dilemma is compounded by the fact that most digital assets can’t be pigeonholed into traditional categories, making valuation that much harder. Traditional investors can always rely on established metrics like a stock’s price to earnings (PE) ratio for a sanity check. Crypto investors have no such option.


Most digital assets are a hybrid and transition from one category to another throughout their lifecycle. Ether, for instance, started as a security, as its coins were sold up front to fund development. But once the blockchain launched, it transitioned to being a cross between a currency and a commodity. Some people used it as a store of value or medium of exchange, while others used it to pay for transaction validation and code execution. These features distinguished it from traditional equity and commodities — you can’t pay for a cab ride with Uber stock, and you don’t save in oil. Today, it has evolved even further to a yield-bearing instrument, a collateral asset for borrowing, a reference currency for NFTs, and the means by which validators participate in consensus. All of these attributes make it difficult to assess the value of even the most mature crypto project, never mind the thousands that have launched recently.



 A skeptic could argue that these challenges are the very reason why nascent projects should not have tradable equity. Indeed, access to startup investing in traditional finance is often restricted to institutional and “sophisticated” investors. But such restrictions have their own drawbacks. Lack of access to startup investing has contributed to the growing wealth gap. Successful companies like Meta (Facebook) stayed private for as long as possible, and VC funds couldn’t — and still can’t — take retail money. Other investments like real estate or collectible art had too high an entry price for most people. Bitcoin was the lone exception, the only high-performing asset that was universally accessible and fractionally ownable from day one. Bitcoin was still volatile during that period, but volatility isn’t always bad. Price swings communicate important information to founders and investors, particularly during the crucial adolescent stage of any startup. And restricting price discovery to periodic funding rounds negotiated with a handful of investorscan be dangerous. WeWork famously raised money at a $47 billion valuation less than a year before itended up flirting with bankruptcy; Theranos was valued at $9 billion before going bust. Despite multiple

red flags for both companies, there was little price information until the bitter end. Both investments
turned out to be as volatile as crypto, we just couldn’t see the volatility — and concerned investors
couldn’t get out.


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