ARK Fund's Rebuttal to 5 Criticisms of Traditional Media on Cryptocurrency

This article is sourced from the Baize Research Institute, authored by Yassine Elmandjra.

Note: The article was originally published on June 28, and the translator believes it serves as a promotion for the recent The B World online summit.

More than 12 years after the birth of Bitcoin, it is still striving for widespread institutional recognition. While constructive criticism is beneficial, ARK believes that some influential financial research institutions are dismissing Bitcoin based on outdated information, incoherent arguments, and flawed analyses.

In light of Goldman Sachs' recent stance on Bitcoin, ARK is re-examining the most common misconceptions affecting its acceptance. We look forward to engaging in healthy and educational debates about Bitcoin, as well as the important role we believe it should play in diversifying investment portfolios.

Critics' Statement: Bitcoin is too volatile to serve as a store of value

ARK's Counter: Bitcoin's volatility highlights the credibility of its monetary policy

Critics often label Bitcoin's volatility as a "value storage trade destroyer." Why would anyone want to store value in an asset with such extreme daily price fluctuations?

In our view, these critics do not understand why Bitcoin is volatile and why its volatility may diminish over time.

While distracting opponents from assessing its role as a store of value, Bitcoin's volatility actually underscores the credibility of its monetary policy. The impossible trinity, or the trilemma of macroeconomic policy, explains the reason. As illustrated below, the trilemma posits that when setting monetary goals, policymakers can satisfy two out of three objectives, but not all three, as the third objective would contradict one of the first two.

Source: ARK Investment Management LLC, 2020

Each side of the trilemma is mutually exclusive. For example, a monetary authority that chooses a fixed exchange rate and allows capital to flow freely cannot control the growth of the money supply. Similarly, a monetary authority that opts for a fixed exchange rate and controls the money supply cannot adapt to the free flow of capital, while a monetary authority that accommodates the free flow of capital and controls the money supply cannot maintain a fixed exchange rate.

Based on the trilemma, we can understand why volatility is a natural outcome of Bitcoin's monetary policy. Unlike modern central banks, it does not prioritize exchange rate stability. Instead, based on a monetary quantity rule, Bitcoin restricts the growth of the money supply and allows capital to flow freely, foregoing a stable exchange rate. Therefore, Bitcoin's price is a function of demand relative to its supply. Its volatility should not be surprising.

That said, Bitcoin's volatility has decreased over time, as shown below. As its adoption rate increases, the marginal demand for Bitcoin should represent a smaller percentage of its total network value, thereby reducing the magnitude of price fluctuations. All else being equal, for example, the impact of $1 billion in new demand on Bitcoin's price should be greater when the network value is $10 billion than when it is $100 billion. Importantly, we believe that volatility should not exclude Bitcoin as a store of value, primarily because it often coincides with significant price increases.

Source: ARK Investment Management LLC, 2020. Data Source: Coinmetrics

For a long time, Bitcoin's purchasing power has significantly increased. For instance, since 2011, Bitcoin's price has compounded at an annual growth rate of approximately 200%, despite significant volatility within years, it has appreciated year over year since 2014 when measured at its lowest value.

Source: ARK Investment Management LLC, 2020. Data Source: Coinmetrics

Critics' Statement: Bitcoin is in a bubble

ARK's Counter: Bitcoin is a competitor for the role of global currency

Some economists, such as Nouriel Roubini, argue that Bitcoin is in a bubble that will burst. The reasoning is that Bitcoin has no intrinsic value, and its appreciation depends on speculative activities akin to hot potatoes or tulips, as well as the willingness of "greater fools" to pay higher prices. In their view, Bitcoin is not an investable asset.

We believe this argument refutes the reasons Bitcoin generates value over time. Indeed, Bitcoin does not behave like traditional investable assets. Equity value is determined by discounting expected cash flows. Given higher future cash flows based on growth and/or returns on invested capital, stocks appreciate independently of their shareholder base.

However, currency assets like Bitcoin are non-productive, and their appreciation depends on their effectiveness in maintaining or increasing value over time. To some extent, the value proposition is circular: currency assets appreciate as more people demand them, and if it is an effective currency asset, more people will need it. In other words, "money is a shared illusion," and "money has value because others believe it has value."

However, claiming that the value of money entirely relies on a shared illusion suggests that its form is arbitrary. In reality, based on the history of money, the most common and sustainable currencies possess qualities that maintain their demand. For example, for thousands of years, economists have regarded gold as the most successful form of currency due to its scarcity, fungibility, and durability.

Often referred to as digital gold, we believe Bitcoin not only possesses many of gold's characteristics but also improves upon them. While scarce and durable, Bitcoin also has a range of monetary characteristics that are divisible, verifiable, portable, and transferable, which confer superior utility and may drive demand, making it suitable (if not superior) for the role of a global digital currency.

We believe that as a suitable competitor for the first global digital currency, Bitcoin should attract demand at least comparable to that of gold. However, contrary to claims that it is in a massive bubble, Bitcoin's network value—or market capitalization—is less than 2% of gold's, as shown below.

Data Source: ARK Investment Management LLC, 2020. Data Source: Coinmetrics

Critics' Statement: Bitcoin will lose value due to "forks" and digital copies

ARK's Counter: Bitcoin's value cannot be replicated solely by software

In the digital realm, goods are intangible and can be easily replicated without destroying the original. For example, individuals can widely send Word documents via email while retaining the original copy. Similarly, millions of people can listen to a song simultaneously, effectively enhancing the value of the original, especially when other songwriters imitate its differentiated sound.

Bitcoin's software is no exception. It is free and open-source. Individuals can copy the software, "fork the network," and create their own versions. However, skeptics still ask how Bitcoin can become scarce if it is based on open-source software that can be infinitely replicated.

First, forking the Bitcoin network does not create new units of Bitcoin, just as inflating the Venezuelan bolívar does not increase the dollar base of the U.S. currency. Instead, forking Bitcoin creates a new network with new units or coins. While existing Bitcoin holders have rights to the new coins, the forked network operates under a set of independent rules supported by unique stakeholders. Open-source software does not dilute the monetary supply of the original network; rather, it encourages not only cheap experimentation and new networks but also new coins and competitive markets.

The scarcity of Bitcoin is crucial to its network. Currently capped at 18 million units, Bitcoin's total supply is mathematically limited to 21 million units, as shown below. Each Bitcoin is associated with a wallet at any one time and cannot be replicated. Importantly, the only way to control a user's Bitcoin is to access its associated private key.

Source: ARK Investment Management LLC, 2020. Data Source: Coinmetrics

So, what makes the 21 million units in the Bitcoin network more valuable than the 21 million units in a Bitcoin fork like Bitcoin Cash (BCH)? Equating the value of Bitcoin Cash to that of Bitcoin is akin to assuming that the source code of Facebook could be "forked" and automatically replicate the value of its 2.6 billion users and 50,000 employees. Their value derives from the network effects of Bitcoin and Facebook, not merely from their existence.

In the case of Bitcoin, we believe the network effects encompass not only the hash rate dedicated to securing the blockchain but also Bitcoin's liquidity and the infrastructure supporting its adoption and use. If diluted, forks would have to share Bitcoin's hash power, users, and liquidity. As illustrated below, Bitcoin Cash and other forks seem to have failed to disrupt Bitcoin's network effects.

Source: ARK Investment Management LLC, 2020. Data Source: Coinmetrics

Critics' Statement: Bitcoin is for criminals

ARK's Counter: Bitcoin is resistant to censorship

Critics continue to accuse Bitcoin of facilitating criminal activity in its early days. In its initial years, Bitcoin funded Silk Road, an online black market platform known for selling illegal drugs.

We believe that criticizing Bitcoin for promoting criminal activity undermines one of its fundamental value propositions: censorship resistance. As a neutral technology, Bitcoin allows anyone to transact without identifying "criminals." It does not rely on central authorities to identify participants by name or IP address but distinguishes them through cryptographic digital keys and addresses, granting Bitcoin strong resistance to censorship. As long as participants pay fees to miners, anyone can transact anytime and anywhere. Once confirmed, transactions cannot be easily reversed.

If criminal activity could be censored on the Bitcoin network, then all activities could be subject to censorship. In contrast, Bitcoin enables anyone to exchange value globally without permission. This does not make it an inherently criminal tool. The bans on telephones, cars, and the internet in facilitating criminal activity are no less than those on Bitcoin.

That said, it appears that only a small fraction of Bitcoin transactions are used for illegal purposes. According to Chainalysis, the volume of Bitcoin transactions associated with illegal activities remains below 1%, which may be a testament to Bitcoin's transparency. Any user can view the complete transaction history on the network, indicating that physical cash is a better medium for conducting illegal activities. In fact, as outlined below, cash transactions account for a larger share of illegal activities than cryptocurrency transactions, both in absolute and relative terms.

Source: ARK Investment Management LLC, 2020.

Critics' Statement: Bitcoin wastes too much energy

ARK's Counter: Bitcoin's energy consumption is more efficient than gold and traditional banking

Bitcoin critics often assert that the resources consumed by mining, particularly energy, exceed the benefits it creates. However, while critics argue that it is inefficient and non-scalable, advocates consider not only the expected trade-offs but also a fundamental characteristic. As Bit Gold founder and Bitcoin pioneer Nick Szabo emphasized, "The large consumption of resources and poor computational scalability unlock the security needed for independent, seamless global, and automated integrity."

Bitcoin's energy footprint is easier to quantify and is often subject to superficial criticism. However, when measured solely by electricity costs, Bitcoin is far more efficient globally than traditional banking and gold mining. The traditional banking sector emits 1,368 million tons of carbon annually, while gold mining emits 144 million tons. Bitcoin emits 61 million tons, which is less than 5% and 45% of traditional banking and gold mining, respectively.

Note: Carbon dioxide equivalent (CO2e) Source: ARK Investment Management LLC, 2021. Data Source: Hass McCook

Contrary to consensus thinking, we believe Bitcoin mining has a negligible impact on the environment. Renewable energy, especially hydropower, constitutes a significant portion of Bitcoin's energy structure. As Castle Island Ventures partner Nic Carter pointed out, in search of the cheapest forms of electricity, miners will continue to flock to regions that provide abundant renewable power, treating stranded energy assets as "the last power buyer," creating a highly liquid base demand for any power source that can be produced at a price lower than current producers, regardless of location. Therefore, from a climate perspective, Bitcoin mining may be a net positive.

Conclusion

The complexity of Bitcoin should not deter financial institutions from conducting in-depth analyses. In this article, we discussed some of the most common objections to Bitcoin, hoping to spark dialogue and debate within the institutional investment community. As the Bitcoin network continues to mature, we believe it will solidify Bitcoin's position as an emerging monetary asset, and financial institutions will seriously consider it. Striving for widespread institutional recognition, while constructive criticism is beneficial, ARK believes that some influential financial research institutions are dismissing Bitcoin based on outdated information, incoherent arguments, and flawed analyses.

Original link: https://www.chainnews.com/articles/598654215530.htm