Yet less kool-aid

Disclosure: Tim Swanson is a friend and personal hero of mine.

Furthermore, his latest book, Bitcoin: the Anatomy of a Money-like Informational Commodity, is just out. Having read his previous book, I recommend you read it (and ideally buy it, though as the book is licensed under Creative Commons, this is by no means necessary). Do so immediately.

As we’ve come to expect from Tim, his work takes a cold, objective look at Bitcoin and cryptocurrency as a whole – views which, though unpopular, I ultimately think are probably closer to the truth of the matter than that of Bitcoin’s breathless, more vocal proponents.

Tim has been gracious enough to interview me for a couple of sections of the book; I am fortunate that, far from merely tolerating my expression of skeptical views on the topic, Tim positively encourages it.

For the purposes of this blogpost, I’d like to share my comments on Dr. Patrick Byrne’s (no relation, at least in the last two or three generations) proposal to use a blockchain to mediate securities tradingOn the subject, I opine:

“I think it extremely unlikely that Counterparty will ever be used to transfer securities, for the following reasons:

  • first, to paraphrase Dr. Byrne, shares are utterly dependent on government mandarins, and with good reason. Being things in action, the ultimate guarantor of their value is the possibility of real-world enforcement against their issuers in the event of a default or making distributions on events such as an insolvency. Basing such instruments on a blockchain will frustrate that possibility;
  • second, the objective of the capital markets is for companies to raise capital – which, for the foreseeable future at least, the main markets are likely to be a far more effective means of doing so;
  • third, a fully-decentralised alternative will, as Bitcoin, be vulnerable to network failure in a way that a bricks-and-mortar institution is not;
  • fourth, the issuance of securities is difficult for a reason – we have these regulations to protect people from, in the words of SEC v Howey, “the countless and variable schemes devised by those who seek the use of the money of others on the promise of profits.” Although libertarians among us will argue that they should be free to choose for themselves from what and from whom they need government protection, the overwhelming evidence from centuries of securities fraud shows that, given the chance, unscrupulous people can, will, and do convince unsuspecting members of the public to part with their money with unsubstantiated promises of high returns, or simply by mismanaging the funds with which they have been entrusted. Lowering barriers to entry in the manner Dr. Byrne describes on a decentralised platform like Counterparty is likely to encourage this mischief, and cause harm to the investing public to such a degree as to easily outweigh the benefits;
  • fifth, corporates will want to ensure their securities are not traded in contravention of applicable law – for example, not being traded into and out of sanctioned countries such as North Korea – which the Counterparty vision is expressly designed to circumvent; and
  • sixth, Counterparty is untested – there may be security holes of which we are not yet aware, only one of which would be sufficient to introduce the possibility of substantial losses for its users.

Any corporate of consequence will therefore have almost no incentive to use Counterparty to list. In the short-term, it seems likely that the platform will be used by fringe crypto-equity issuers who are willing to sell what they purport to be financial instruments over the blockchain without complying with the necessary formalities. Although this may seem an acceptable solution for cryptocurrency enthusiasts, anyone issuing or investing in such products does so at their peril – it is all but certain that these issuances contravene the accredited investor statutes and public offering rules, and the likelihood of obtaining adequate remedies against a purely blockchain-based enterprise in the case of fraud or default is low if not non-existent.

Maybe I’m right, maybe I’m wrong. One thing is for sure though: analysing the future of crypto is easily the most fun I’ve ever had as a lawyer.

Long may it continue.