The Crypto-Financial Paradox

[R. A. Hettinga]

At 9:22 AM -0800 on 11/22/01, jamesd at echeque.com wrote:


> People want immediate and final settlement when purchasing
> rights over assets.   They do not want immediate and final
> settlement when purchasing services, or goods that must be
> physically delivered.  Rather, for physical delivery, they
> want the final settlement to be as closely tied to actual
> delivery as possible --they want the arbitration provided by
> the credit card companies.

Agreed, on all points, but it doesn't presuppose that credit card companies
will always be necessary if there's a significantly cheaper alternative.

For instance, we've kicked around lots of stuff like internet bearer title
to assets in warehouses, or internet bearer bills of lading, which, among
other things, allow the secondary trading of a given asset along its entire
"chain of custody" until its delivered to the end user. The entire
derivative/options/futures markets work this way, remember. A farmer sells
his crop in the spring and delivers it to whoever holds the futures
contract for the crop sometime in the fall, while the crop itself is
re-sold many times in between.

As a sidebar, one of the ways Paul Harrison and Mark Tenney (by way of Gene
Fama and Fisher Black of course :-)) figured out you can get a completely
"state-less" numeraire (currency to those in Palm Beach County) is with an
index of various assets that includes assets in storage and transit.

> In such a system, the digital certificates must ultimately
> reflect control over assets, in other words they must be
> functionally equivalent to bearer bonds and, more
> importantly, bearer shares.
>
> Needless to say, bearer shares are illegal almost everywhere.

Certainly laws for actual bearer ownership of equity exist in all major
markets. Doesn't mean they have to stay that way if a digital bearer form
in another market reduces risk adjusted transaction costs that the
technology must be adopted in the capital markets as well.


> Any system that does what you describe must be located in a
> haven, and will be met by great wrath.

As people here note all the time, you don't solve such a problem
politically. It would be like asking religious leaders to enforce a given
nation-state's freedom of religion laws. You solve it technically and
economically. In fact, that's the only way to solve it. Regulatory
arbitrage, using havens, is a pipe-dream in the long run, even though
HavenCo seems to have done a fine existence proof of the canary in a coal
mine.

But, if transactions are cheaper when they're using an asset transfer
protocol which is identity-independent, then even laws about bearer shares
will have to change or governments will end up killing their host
economies. More to the point, so much money has to be made that governments
get *more* gross tax revenue with bearer transactions in their capital
markets than they do with book-entries, or if revenue is reduced, that the
operating cost of government falls so much (through a loss of pure
transaction fraud) that the state has more to spend on other parts of the
government, whatever that may be...


In the meantime, it is possible, at least at the moment, to do a bearer
transaction on the net even for assets that appreciate, using unsponsored
depository receipts. The underwriter has to be the material owners of the
shares and bonds in question, which is ugly, but, done that way, the bearer
certificates on the net representing those assets can be instantly
converted into a private holding belonging to someone else with a brokerage
account at any time. Exchangeability is just about the most important thing
there is in a financial instrument, and that, I believe, is why we don't
have internet bearer transactions today.

Like I said elsewhere, it isn't the law, per se, that is the problem so
much. People have worked out the legal problems to their satisfaction. Or
at least that was the case until September 11th, which, as I said, people
are starting to turn the corner on.

Even right now, as far as I can read the new legislation and regulations
passed since WTC, you can obey all the laws about cash and securities and
put something out on the net, that people can use to lower their
transaction cost, to do instantaneous transactions, and so on, that
incorporates blind signatures, and as secure as you want to make them,
including good-enough two-way anonymity.

Furthermore, the technical, even the legal, cost of doing so keeps going
down, and, eventually, somebody's just going to do it to see what happens,
if for no other reason to see what the economics of it all is.

Cheers,
RAH


-- 
-----------------
R. A. Hettinga <mailto: rah at ibuc.com>
The Internet Bearer Underwriting Corporation <http://www.ibuc.com/>
44 Farquhar Street, Boston, MA 02131 USA
"... however it may deserve respect for its usefulness and antiquity,
[predicting the end of the world] has not been found agreeable to
experience." -- Edward Gibbon, 'Decline and Fall of the Roman Empire'