The Bank of International Settlements is out with a new assessment of cryptocurrencies. It does not pull its punches:
…a key potential limitation in terms of efficiency is the enormous cost of generating decentralised trust. One would expect miners to compete to add new blocks to the ledger through the proof-of-work until their anticipated profits fall to zero. Individual facilities operated by miners can host computing power equivalent to that of millions of personal computers. At the time of writing, the total electricity use of bitcoin mining equalled that of mid-sized economies such as Switzerland, and other cryptocurrencies also use ample electricity. Put in the simplest terms, the quest for decentralised trust has quickly become an environmental disaster.
At the most basic level, to live up to their promise of decentralised trust cryptocurrencies require each and every user to download and verify the history of all transactions ever made, including amount paid, payer, payee and other details. With every transaction adding a few hundred bytes, the ledger grows substantially over time.
For example, at the time of writing, the bitcoin blockchain was growing at around 50 GB per year and stood at roughly 170 GB. Thus, to keep the ledger’s size and the time needed to verify all transactions (which increases with block size) manageable, cryptocurrencies have hard limits on the throughput of transactions.
A thought experiment illustrates the inadequacy of cryptocurrencies as an everyday means of payment. To process the number of digital retail transactions currently handled by selected national retail payment systems, even under optimistic assumptions, the size of the ledger would swell well beyond the storage capacity of a typical smartphone in a matter of days, beyond that of a typical personal computer in a matter of weeks and beyond that of servers in a matter of months.
…But the issue goes well beyond storage capacity, and extends to processing capacity: only supercomputers could keep up with verification of the incoming transactions. The associated communication volumes could bring the internet to a halt, as millions of users exchanged files on the order of magnitude of a terabyte.
The second key issue with cryptocurrencies is their unstable value. This arises from the absence of a central issuer with a mandate to guarantee the currency’s stability.
Well run central banks succeed in stabilising the domestic value of their sovereign currency by adjusting the supply of the means of payment in line with transaction demand. They do so at high frequency, in particular during times of market stress but also during normal times.
This contrasts with a cryptocurrency, where generating some confidence in its value requires that supply be pre-determined by a protocol. This prevents it from being supplied elastically. Therefore, any fluctuation in demand translates into changes in valuation. This means that cryptocurrencies’ valuations are extremely volatile.
And the inherent instability is unlikely to be fully overcome by better protocols or financial engineering, as exemplified by the experience of the Dai cryptocurrency.
It’s just possible that crypto is the worst idea in the history of man, just pipping the helicopter ejector seat. One more chart for ya. Chinese industrial production where electricity generation has decoupled from output:
David Llewellyn-Smith is Chief Strategist at the MB Fund and MB Super. David is the founding publisher and editor of MacroBusiness and was the founding publisher and global economy editor of The Diplomat, the Asia Pacific’s leading geo-politics and economics portal.
He is also a former gold trader and economic commentator at The Sydney Morning Herald, The Age, the ABC and Business Spectator. He is the co-author of The Great Crash of 2008 with Ross Garnaut and was the editor of the second Garnaut Climate Change Review.
