Ten years after Satoshi Nakamoto published the Bitcoin white paper, the world is finally diverging from the old economic model that was deemed broken after the last great financial crisis. Although there is still widespread dissonance within the elite that open, financial protocols are nothing more than a bubble, the genie is out of the bottle. The narrative of the bubble that the media has created will only accelerate this. Looking closely to what is actually happening is key to understanding how the future will develop.

In 2008, I was a student of the financial crisis and operated in the stock market. I had traded Magic the Gathering cards and played World of Warcraft before I got hooked by the stock market. The market struck me as this four dimensional puzzle that you constantly had to figure out in order to predict correctly. The stock market was also foundational to how the global economy functioned. It was a never ending knowledge puzzle that I had to figure out. It was the perfect adventure to embark on: to understand how the world at a deeper level. When I discovered Bitcoin and even more importantly crypto-economics, I was even more in awe.

So I had saved money from trading these card games and started to build a capital base that I used to speculate in the German stock market. I began reading everything I could about trading, investing and the global financial order. I read up the entire financial history. I had read up everything I could find in my local library. Having learned to operate in virtual worlds like World of Warcraft, leading dozens of people into virtual raids, I had played the perfect game to prepare me for the ultimate virtual reality: America. What better way to learn how capitalism worked than work in America.

For me America was an idea that people from anywhere could come here and realize their potential. Moving to America came at a price as I wasn’t allowed to work legally in this country. Playing by the rules, I was forced to stay creative if I wanted to stay here. As I had not found a better reality to escape from than America itself, each time my visa would expire I decided to figure out in some way so I could continue to stay here legally. Each time however the sacrifice would become higher. And having to live on my own capital base required me to live very frugally and resourcefully. This is not to say that America is a bad country, but achieving the American Dream which will be replaced by the Universal Dream will allow future generations from anywhere to realize their potential anywhere. Having learned first-hand as an outsider-insider about American capitalism has made me appreciate that America can not be the only gateway for the world’s best talent to connect with other like minded people.

After having tasted my first blood in the stock market, I became a student of economics, politics, philosophy, financial history, not by choice but by design. The American system requires immigrants to enroll in school first and get a bachelor’s degree before being allowed to enter the workforce. In America, I learned first-hand how capitalism worked. The good, the bad and the ugly.

When we speculate about how the future will develop, the answer is rarely what we think it is. As Paul Graham says you kind of have to live in the future in order to develop the future. Few people live in the future. Most people are taken by surprise. Paradigm shifts take a lot of time. They don’t just happen. You know how say they that 9 out 10 startups fail. The same is true about revolutions. Most forks in history were meaningless and didn’t go anywhere. Turns out putting some new paradigm in place is actually very difficult. Merging the old world with the new is even harder. This is what distinguished the American Revolution from most revolutions in history.

I had watched the financial elite come together in the wake of the 2008 financial crisis and fail to know how to address the systemic issues that led up to the crisis in the first place. As Soros would say they had a mistaken interpretation of how financial markets work. By the way, the financial elite at the time was completely oblivious to the decentralized crypto paradigm.

The paradigm that actually switched the world economy has been predicted by few people. It is shocking to see so few of the experts at the time realize what was actually happening. Literally nobody was talking about it. Well, that was part of my own bias that I had developed that kept me blind to it like everyone else. In 2013, I was invited as a young scholar to George Soros’s New Economic Thinking inaugural conference. This was considered bleeding-edge intellectual thought discussions and nobody mentioned Bitcoin.

This is not an expose on Bitcoin and open, decentralized financial protocols. I am not trying to convince you here why Bitcoin, Ethereum, or other networks represent the future. There are plenty of articles now on the web that have been targeted at educating the public. They are great and I’ve read many of them. I first wrote about the crypto markets when they were at an inflection point at $30 billion. I remember in early 2016 walking through Stanford and Harvard and having trouble finding many others in interested in crypto. I was invited to give a talk to students. Now it seems everyone wants to speak on the matter. Everyone is an expert.

Like many of you I have not been focusing on crypto since inception. When I was first studying it in 2010, I was dismissing it too. I was too influenced by the current economic paradigm that I wasn’t open to see how game-changing Bitcoin and crypto-economics was. To some extent the multi-polar world of crypto did not really exist back then. Thankfully and thanks to my friend Tom Ding, I began a while ago to reconsider everything I had learned and devote all my time to crypto later than I would like but still early to amass a wealth of knowledge about crypto-economic principles that will be important to the future world economic order.

With so much information and noise in the space, I think it can be very difficult to maintain perspective. That’s why in this essay I want to look at the big picture, while also exploring underlying dynamics of this network revolution. As the latest bear market has demonstrated, there is always a new generation of speculators that are drawn in when the media drives a new narrative to bring crypto to the mainstream. These weak hands are bleeding themselves out and we are beginning to enter another accumulation phase. During these times crypto is deemed dead. This is a good time also to reflect on what has happened.

Anyway, here are a few key insights that we should bear in mind as we go deeper into the networked future that crypto-economics is enabling.

A self-sovereign asset class

The owner of the asset is the owner of the asset. The private keys to the virtual ledger in the cloud represent real ownership in the network. Blockchain-based assets are defined by software. Consensus and legal agreements by software. The tokens of these networks are global and liquid. They are defined by scarcity. As the value of the network increases, the value of the tokens increases. The networks are open-source and the tokens are cryptographically secured.

The paradigm towards open financial protocols will continue to accelerate Open-source crypto-economic networks encourage early stakeholders to come together to build protocols that fulfill the original vision of a decentralized internet.

Blockchain-based networks spawn an entire new alternative financial market Hierarchies, companies and contracts stand to be disrupted. The disintermediation of monopolistic systems will lead to trust-less systems. As networks are turned into markets, open financial protocols will provide unparalleled financial access.

The printing press effect Crypto-economics will give rise to a multi-polar world in which alternative economic entities and governments compete. Innovation is no longer the monopoly of one region or country.

What will give crypto legitimacy?

In a recent conversation at the Economic Club of New York, Peter Thiel said that as a store of value Bitcoin still has ways to go. Essentially he legitimized it as a digital gold alternative. The gold market is $8 trillion, while the entire crypto market is about ~ $0.3 trillion, up 10x from where it was a year ago. It shares some of the same characteristics. Just like gold, bitcoin is not backed by any government. It is not sure what the intrinsic value is. It may well be a bubble, and most bubble are unstable and end badly. He said that even if there is a bubble type of element that doesn’t rebut the argument that Bitcoin isn’t valuable. He did compare crypto to the IPO mania and there are a lot of similarities. But he also said that it still strikes him as deeply contrarian. Probability weighted it is a good investment. The point of all of this paragraph is that we ought to think what gives this revolution its legitimacy. In some ways crypto does not need to get outside legitimacy because it is in math we trust but it has been interesting to watch how certain sources that provide legitimacy to crypto have very positive effects to the industry, like the Ethereum Enterprise Alliance was an early catalyst to the ecosystem last year.

The coming clash of networks vs. hierarchies

“Financial markets are like the mirror of mankind, revealing every hour of every working day the way we value ourselves and the resources of the world around us.” — Niall Ferguson

It is appropriate that in this discussion of a networked future that I include some thoughts of my former professor and financial historian Niall Ferguson. Here is a key insight from him as to why networks matter: “Networks are important not just as transmission mechanisms for new ideas, but as the sources of the new ideas themselves.”

The printing revolution unleashed wave after wave of revolution. The question is: are open financial protocols going to a similar effect? As Ferguson asks, “will those new networks liberate us from the shackles of the administrative state as the revolutionary networks in the past freed our ancestors from the shackles of spiritual and temporal hierarchy?”

His 7 insights of network theory:

  • No man is an island: Individuals can be understood in terms of the relationship to other nodes. Defined by the number of relationships, and the likelihood of her being a bridge between other nodes. To what extent can you be a network bridge? Connectors are the new leaders.

  • Birds of a feather flock together: what is the nature of the network linkages? What gets exchanged within the network? What kind of network is it? What is the relationship between the different nodes?

  • Weak ties are strong: How dense is a network? How connected it is to other clusters?

  • Structure determines virality: Ideas go viral because of the structural features of the network. Networks are more likely to do this than hierarchies.

  • Networks never sleep: Dynamic networks are prone to constant changes. As Ferguson explains, they are “complex adaptive systems with emergent properties.” Small changes can have big consequences.

  • Networks network: Interaction within networks can lead to innovation and invention.

  • The rich get richer: Most social networks are profoundly inegalitarian.

Ferguson’s conclusion: “Expect continued network-driven disruption of hierarchies that cannot reform themselves, but also the potential for some kind of restoration of hierarchical order when it becomes clear that the networks alone cannot avert a decent into anarchy.”

The sharing of novel ideas in the 18th century within networks of scholars created tremendous progress. The same is happening now in crypto communities all over the world. Having seen this first-hand, there exists a global hidden network of crypto developers and investors that are not so secretly building an alternative economic reality. Whether it is Devcon last year, or Deconomy now, the crypto elite is wandering around like a circus from one summit to the next, from hidden gatherings like the Satoshi Roundtable to more public conventions.

His remark on monetary debasement throughout history also interesting: “Since ancient history times states have exploited their ability to monopolize the issuance of currency, whether the issuance of currency, whether coins stamped with the king’s likeness, banknotes depicting past presidents or electronic entries on a screen.” Who is holding the judge accountable? Who is holding governments accountable? How can we restore trust in government?

A word of caution on networks from co-founder of Twitter Ev Williams, “The lesson of history is that trusting in networks to run the world is a recipe for anarchy: at best, power ends up in the hands of the Illuminati, but more likely it ends up being in the hands of the Jacobins.”

The one lesson I want to leave you with is never forget history. We cannot change the past, but knowing the past can help instruct the future. As Winston Churchill wrote “the longer you can look back, the farther you can look forward.”

Markets are inherently reflexive

Obviously Soros is better at explaining the theory of reflexivity and how it applies to financial markets. This gets quite theoretical so feel free to skip ahead. Here is a short excerpt from Soros himself:

I can state the core idea in two relatively simple propositions. One is that in situations that have thinking participants, the participants’ view of the world is always partial and distorted. That is the principle of fallibility. The other is that these distorted views can influence the situation to which they relate because false views lead to inappropriate actions. That is the principle of reflexivity. For instance, treating drug addicts as criminals creates criminal behavior. It misconstrues the problem and interferes with the proper treatment of addicts. As another example, declaring that government is bad tends to make for bad government.

If you like more details on this:

The concept of reflexivity needs a little more explication. It applies exclusively to situations that have thinking participants. The participants’ thinking serves two functions. One is to understand the world in which we live; I call this the cognitive function. The other is to change the situation to our advantage. I call this the participating or manipulative function. The two functions connect thinking and reality in opposite directions. In the cognitive function, reality is supposed to determine the participants’ views; the direction of causation is from the world to the mind. By contrast, in the manipulative function, the direction of causation is from the mind to the world, that is to say, the intentions of the participants have an effect on the world. When both functions operate at the same time they can interfere with each other.

How? By depriving each function of the independent variable that would be needed to determine the value of the dependent variable. Because, when the independent variable of one function is the dependent variable of the other, neither function has a genuinely independent variable. This means that the cognitive function can’t produce enough knowledge to serve as the basis of the participants’ decisions. Similarly, the manipulative function can have an effect on the outcome, but can’t determine it. In other words, the outcome is liable to diverge from the participants’ intentions. There is bound to be some slippage between intentions and actions and further slippage between actions and outcomes. As a result, there is an element of uncertainty both in our understanding of reality and in the actual course of events.

To understand the uncertainties associated with reflexivity, we need to probe a little further. If the cognitive function operated in isolation without any interference from the manipulative function it could produce knowledge. Knowledge is represented by true statements. A statement is true if it corresponds to the facts — that is what the correspondence theory of truth tells us. But if there is interference from the manipulative function, the facts no longer serve as an independent criterion by which the truth of a statement can be judged because the correspondence may have been brought about by the statement changing the facts.

Reflexivity holds a major key in understanding financial bubbles. Next understanding the anatomy of bubbles will save the ordinary speculator probably a lot of tuition that he otherwise will have to pay in the future.

In the real world, the participants’ thinking finds expression not only in statements but also, of course, in various forms of action and behavior. That makes reflexivity a very broad phenomenon that typically takes the form of feedback loops. The participants’ views influence the course of events, and the course of events influences the participants’ views. The influence is continuous and circular; that is what turns it into a feedback loop.

If you care to read my take on it, I wrote my undergraduate thesis on Soros’s theory of reflexivity. That was a long time ago, so don’t judge me. Alas, I did not do Soros justice, because years later when former Soros CIO and former CEO forwarded my thesis to Soros, I did not get a response back haha

The anatomy of a bubble or boom-bust processes

“Men, it has been well said, think in herds; it will be seen that they go mad in herds, while they only recover their senses slowly, and one by one.” — Gustave Le Bon

Again, better to be understood in Soros’s own words:

I have developed a theory about boom-bust processes, or bubbles, along these lines. Every bubble has two components: an underlying trend that prevails in reality and a misconception relating to that trend. A boom-bust process is set in motion when a trend and a misconception positively reinforce each other. The process is liable to be tested by negative feedback along the way. If the trend is strong enough to survive the test, both the trend and the misconception will be further reinforced. Eventually, market expectations become so far removed from reality that people are forced to recognize that a misconception is involved. A twilight period ensues during which doubts grow, and more people loose faith, but the prevailing trend is sustained by inertia. As Chuck Prince, former head of Citigroup said: we must continue dancing until the music stops. Eventually a point is reached when the trend is reversed; it then becomes self reinforcing in the opposite direction…

… Bubbles that conform to this pattern go through distinct stages: inception; a period of acceleration, interrupted and reinforced by successful tests; a twilight period; and the reversal point or climax, followed by acceleration on the downside culminating in a financial crisis. The length and strength of each stage is unpredictable, but there is an internal logic to the sequence of stages. So the sequence is predictable-but even that can be terminated by government intervention or some other form of negative feedback.

Typically, bubbles have an asymmetric shape. The boom is long and drawn out: slow to start, it accelerates gradually until it flattens out during the twilight period. The bust is short and steep because it is reinforced by the forced liquidation of unsound positions. Disillusionment turns into panic, reaching its climax in a financial crisis.

Skin in the game

Historically society was run by risk-takers. Prominent ones took more risks than ordinary ones. Given the many pump and dumps, crypto needs more skin in the game inside the system. We need to build economic systems in which risk-taking is not socialized away to certain classes of people.

The 2008 crisis should serve as a lesson learned:

For instance, bank blowups came in 2008 because of the accumulation of hidden and asymmetric risks in the system: bankers, master risk transferors, could make steady money from a certain class of concealed explosive risks, use academic risk models that don’t work except on paper (because academics know practically nothing about risk), then invoke uncertainty after a blowup (that same unseen and unforecastable Black Swan and that same very, very stubborn author), and keep past income — what I have called the Bob Rubin trade.

This is a topic worthy its own essay. For now, will end with Taleb’s words, “Well, we have no choice but to decentralize or, more politely, to localize; to have fewer of these immune decision makers.”

The end of Silicon Valley

Obviously a bit dramatic as a subtitle, but the core idea persists: in a decentralized future, centralized hubs of innovation should cease to exist. That doesn’t mean that Silicon Valley is in decline, just as the United States may be in decline, but it is all relative. Silicon Valley will remain the leader in global innovation for years to come, but just as Silicon Valley was blind to crypto, it will be blind to other things, problems that it may not see the need to solve when there is real need abroad in developing parts of the world.

Where will innovation in the future come from? It is unlikely to come from just one geographical center like Silicon Valley. The future is decentralized and as a consequence hubs around the world are already challenging Silicon Valley in its supremacy as the sole place where the future is happening.

Most people did not predict the crypto rise the way it happened. It was missed in New York and it also was missed here in Silicon Valley. Crypto naturally emerged in a distributed way. For example, many bleeding edge projects are based outside the United States. Ethereum and Dfinity are based in Zug, Switzerland.

A New Narrative

Going back to the Thiel conversation at the Economic Club, he also stressed the importance of a good story and the necessary charisma for the technology to truly impact the world. You want to have a future where people are inspired and it is not just about money, he said, I think. And crypto Thiel remarks qualifies where these young people do have this vision of a very different world that they are trying to build. AI for example is not as charismatic. This key. And this brings me to my last point.

If there is one thing that I have learned being part of some of the best networks in the world it is that the ecosystem pushes you to grow as an individual beyond what you could maybe imagine for yourself. This is what the best networks and communities can do for you. And that is something special to care about.

And that is why it is so important to be part of the best network that you could become part of for what you are trying to do. Take Elon Musk. If I had to name one individual who is most likely to catalyze our path from a single to a multi-planetary species, the answer is Elon Musk. Elon Musk is another growth story, as Thiel said.

The economic base that will be necessary to sustain an early colony on Mars. That is where crypto-economics and Mars meet. With crypto we can create new forms of value and we are now establishing the economic infrastructure. We can now create new open societies based on crypto-economic principles.

Please steelman my arguments here Thiel says we should steelman the people we disagree with. How can we make their arguments even better than we make them? In that vein, please submit your feedback, suggestions, comments and feel free to disagree. As Voltaire used to say, “I wholly disapprove of what you say and will defend to the death your right to say it.” There are many forks in history but not all of them matter in the end. Where will crypto lead you?