Rotman Executive Summary

Cryptocurrency for the cautious business leader

Episode Summary

Blockchains and cryptocurrencies went into a spectacular meltdown in 2022. Professor Andreas Park — an expert of finance innovation at the University of Toronto — says that despite the ill tidings, businesses should keep an eye on the space...or risk missing out on a game-changing technology.

Episode Notes

Blockchains and cryptocurrencies went into a spectacular meltdown in 2022. Professor Andreas Park — an expert of finance innovation at the University of Toronto — says that despite the ill tidings, businesses should keep an eye on the space...or risk missing out on a game-changing technology. 

Show notes: 

[0:00] “So I think there's a disconnect between what people are building on the blockchain and what the use cases are. There's a lot of beautiful ideas of how to streamline existing blockchain operations, how they can have some gimmicky trading tools and so on and so forth, but thinking about what business case you can solve and what value you bring to customers is a much harder problem.”

[1:08] A short journey through the recent history of cryptocurrency and blockchain. 

[2:11] What is a blockchain? What is a cryptocurrency? What is a token? And how do they work together? 

[3:17] Why Bitcoin is like Beanie Babies.

[4:16] A breakdown of utility tokens, stablecoins, asset tokens, futures and derivatives tokens, and governance tokens. 

[7:10] Crypto’s first boom/bust/boom cycle.

[8:03] The current Crypto winter, and how it compares to the 2000s bubble bust. 

[9:30] Is Cryptocurrency a Ponzi scheme? 

[10:24] To solve the current crisis, cryptocurrency needs to be more user friendly… 

[11:25] …and some regulatory support.

[12:07] But not all is lost. The bust paid dividends for some companies. Crypto and blockchain might follow the same path. 

[13:00] Crypto and blockchain is more than just a currency to be traded and sold. So what businesses should keep an eye on this space?

[14:38] “The reality is that a blockchain is a very useful piece of technology for borderless digital transfers of value. I cannot see a world in which just is not used, and this is not useful.”


Episode Transcription

Andreas Park: So I think there's a disconnect between what people are building on the blockchain and what the use cases are. There's a lot of beautiful ideas of how to streamline existing blockchain operations, how they can have some gimmicky trading tools and so on and so forth, but thinking about what business case you can solve and what value you bring to customers is a much harder problem. 

So the fact that tokens imploded, and people withdrew money from this sector is not necessarily a bad thing. It doesn't necessarily affect the people who are already seriously working on projects. In that sense I think one should separate the craziness of prices from the from the real work that is being done.

Megan Haynes: That’s Andreas Park. He’s a professor of finance at University of Toronto Mississauga, with a cross-appointment to the Rotman School of Management. He’s also the research director at the financial innovation lab FinHub, and the co-founder of UofT’s blockchain research lab. He studies blockchains, digital currencies, payment innovations, decentralized finance, and more. And the past couple of years have been a very busy time for his research. 

Blockchains and cryptocurrencies dominated the news this summer.  After a meteoric rise starting in 2020, it seemed as though the decade-old technology was finally coming into its own. In 2021 and early 2022, it was impossible to venture online without hearing chatter of this chain or that. 

But then in May 2022, the fortunes seemed to turn. Now, analysts bandy about terms like “crypto winter” and “crypto meltdown.” 

Companies that were intrigued by the technology, but hadn’t yet dipped their toes in, were given reason to pause. But is that wise? Cryptocurrency and blockchain have been hailed as game-changers – will ignoring this space leave businesses scrambling to catch up? 

Welcome to the Executive Summary - I’m Megan Haynes, editor of the Rotman Insights Hub.

Music fade in

MH: If you’re a crypto-curious business, you really do need to understand the terminology. 

A blockchain is just a decentralized digital ledger, or a shared database, that records past transactions, and the data is validated by a piece of code. Cryptocurrency, meanwhile, is a payment system native to a specific blockchain. Effectively, you use a blockchain’s cryptocurrency to access the services on that particular platform - we’ll get into some of those services in a minute. 

While some cryptocurrencies are backed by fiat currency - or the currencies used by governments around the world, like the Canadian or US dollar - most cryptocurrencies are unlocked via mining. At its simplest, mining is the act of a computer system solving complex mathematical problems. The first to find the solution is awarded the cryptocurrency, which can also be called a token. These tokens can be used for transactions on their blockchain, or they can be traded and sold, like stock. 

People are likely familiar with Bitcoin – the first cryptocurrency and blockchain on the market. Bitcoin is a purely digital currency that’s mined through a network of computers. Over the past few years, Bitcoin has seen a steady increase in its value – with people buying up Bitcoins with fiat currencies, typically on the speculation that it would continue to rise in value. 

AP: In the late 1990s or early 2000s we had Beanie Babies.  People traded them for thousands of dollars and it's very hard to describe why a Beanie Baby could have possibly the value of multiple thousands of dollars, but there was a kind of a frenzy at the time for it because  they were rare and people could exchange them. And so in that sense  Bitcoin is not very different from that idea. You were willing to pay for Bitcoin what you think it's worth to you. Nothing pins down the price though. And so in that sense the entire the value of these items can fluctuate quite wildly and it does as we can see.

MH: Since Bitcoin launched in 2008 other platforms like Ethereum popped up, expanding on the utility of the blockchain. Ethereum, for example, uses its cryptocurrency Ether to pay for other computational services. 

And while currency is still the most common use for crypto, there’ve been some recent innovations in this space, such as the advent of utility tokens. 

AP: You can use those in order to access a particular type of service such as decentralized file storage - Firecoin is an example for that. 

MH: There are three different types of stablecoin...

AP: A stablecoin is a digital representation of a fiat currency that's quite prominent, and it allows people to send dollar amounts all across the world without using a bank or other type of financial institution.

Then there are also stablecoins that are backed by crypto. The way it works is somebody puts a deposit of a crypto asset and then in relation to the deposit that is being made the person can mint – so create new tokens – which are essentially then a loan. This loan then trades one to one to the U.S. dollar.

And then there are the fairy tale voodoo tokens, such as the UST token that recently spectacularly collapsed, which are algorithmic stablecoins where people basically trying to make up money out of thin air by having a computer code run a seniorage business.  Those tokens are non collateralized, and as we know from the history of finance and non-collateralized or under-collateralized loans, banks and so forth are subject to runs and if there's a run on such currency or on such a system, the whole system will collapse.

MH: We have asset tokens. 

AP: Asset tokens essentially just describe ownership of a particular item. For instance, NFTs – non-fungible tokens – that are linked to a digital piece of art are a very good example of an asset token. 

You can easily imagine a situation in which any type of asset that exists in the real world. You can have property registry. You can have car ownership. You can think of stock bonds and the like all of those assets can in principle be tokenized.   And can then be exchanged and run and used in financial applications on a blockchain.

MH: And the futures and derivatives tokens. 

AP: It's a token which is based on the value of other tokens. So just like the futures that we trade on regulated exchanges. There are also futures contracts which circulate on the blockchain. 

MH: And finally, we have governance tokens. 

AP: Those are tokens which are often issued in the context of so-called DAOs – decentralized autonomous organizations.

The idea is to take some of the decisions that are being made and democratize them so that the investors themselves can make a decision, and not a manager on their behalf.

MH: Many of these new uses for cryptocurrency followed a crypto boom/bust cycle in 2018. 

AP: Once the hype of 2018 was over and people could actually think again about what they wanted to build as opposed to just thinking about what happens to token prices going up, they were actually doing the hard work. The fruits of this labor came with a DeFi boom of 2020, and then 2021 had the boom in NFTs. 

MH: Businesses also began exploring the blockchain world. Taco Bell and Pizza Hut used limited edition NFTs for marketing tactics. Tesla announced it would accept Dodgecoin as a form of payment for its brand merch. In the U.S., grocery chain Kroger tested the use of blockchain to track the provenance of its food items. 

But despite the recent boom in investment, the hype could only last for so long. 

Musical interlude 

MH: Let’s pause here to talk about what began in May 2022. As the broader stock market began to tumble, blockchains across the world began to see investors pull out. Bitcoin’s market value dropped from a high of more than US$64,000 in November 2021 to just US$21,000 the following June. Etherium saw a 66 per cent decline in its trading value, while pair of so-called stablecoins/stable-backed coins called Terra UST and Luna Terra saw their values drop a whopping 99 per cent in just over a week. 

Some investors started getting bubble flashbacks. 

AP: There's a large number of problems that arose in the late 1990s. It was difficult to define what value the internet would bring. And there was a lot of ideas out there. Many of them were simply not viable. So an example for instance, a firm that had the idea that they could sell plants over the internet. They were in existence for just a few months, they went public. They raised $150,000,000 at the time which was a monstrous amount and they never shipped a single plant.  There's a lot of crazy ideas that were out there at the time and the general boom of ideas meant people were willing to throw money at anything. And eventually everything comes to a grinding halt when economics gets detached from reality too much. 

And in many ways, we saw the same thing in this crypto boom/bust. There were a large number of really interesting applications, but the sector attracted so much money so quickly that it was actually pretty difficult for genuinely interesting projects to get any attention. 

There's a lot of talk about whether or not all of these tokens are scams and all of them are essentially Ponzi schemes based only on the idea that the only way how they can function is by an ever-increasing number of people pouring money into a network and that’s it. 

MH: Essentially, cryptocurrencies rode the wave of potential and speculation, rather than actual usefulness. People were happy to continue to invest money because of its potential payoff at the end, but few companies were able to explain or put a clear picture to what that payoff was actually going to be. And part of the problem is that blockchains and cryptocurrencies are really not very user friendly. 

You don’t just visit a website to mine cryptocurrency. Accessing the value of your crypto or converting it into a fiat currency like a Canadian dollar is quite difficult. The average person on the street doesn’t have cryptocurrencies in their digital wallet, and even if they did – there isn’t exactly a lot they could actually buy with it. 

AP: Currently if you want to use Blockchain, it's actually pretty complex. It's a multi-step process. It can be quite nerve-wracking and because it's hard to use, there's also the propensity for fraud and theft. 

MH: Part of the problem, Andreas says, is the lack of ubiquity in this category. 

AP: You need to have people who actually liaise with customers. But that actually requires people interactions and understanding human beings and how they use it, and that's kind of missing in this space 

AP: Not to put too fine a point to it but really the industry needs a Steve Jobs.

MH: There’s also a lot of regulatory work that still needs to happen, and there’s little political will at the moment - in Canada at least – to push forward the technology and help give it a boost. 

AP: Honestly I worry that Canada is a million miles away and much further way than others. 

There's currently no thinking – at least I cannot see any anything on any level of the government which says how can we leverage this and make it work for Canada? How can we be a player in this space? How can we enable it? 

Musical interlude 

MH: Despite this crypto winter, businesses shouldn’t ignore the space completely. The dotcom bust winnowed out some of the deadweight that simply received money for existing, ultimately paving the way for Google, Facebook and Amazon to grow.

AP: My expectation is that now people probably go back to the drawing board and hopefully will find the applications that then shape the genuine usage of blockchains going forward.

MH: And, as of July 2022, countries like the UK and Germany were still actively exploring or had implemented cryptocurrency strategies – not to grow the value of cryptocurrencies, but to look at the underlying technology. 

So, for the crypto-curious businesses, keep in mind that while the dollars might be outflowing, the technology that makes crypto and blockchain so interesting are still being developed … because we’ve really only just scratched the surface of blockchain’s potential. 

AP: Simple things like if you are a provider of say exchange traded funds and you want to build these exchange traded funds and to organize them in a  meaningful way, it's actually an enormous back-office operation. It's very inefficient and extremely costly. So if you have a mutual fund company at least half of the people employed there work on the back office just to jerry-rig the different databases and silo asset systems together. And you can do that on a blockchain in a much more efficient manner, in a much more seamless manner and save enormously on these back-office costs.

MH: Andreas also sees big opportunity for blockchain in the world of global trade, HR and accounts management, loyalty program tracking, and more. 

AP: Every business has to ask themselves, am I a business that could be replaced by a process which runs on the blockchain. So am I a business which basically just keeps assets safe for instance for people?  A database that maintains information. Then that's a problem. Am I a business where I make sure that transfers can occur like an agent for trade finance then you may be disintermediated? I mean this seems like small problems, you would have to follow this space also carefully if you look at for instance loyalty programs, because I believe that these will eventually be used in the form of NFTs. And if you don't have a plan to use an NFTs, then a physical plastic card will not be the future right?

The reality is that a blockchain is a very useful piece of technology for borderless digital transfers of value. I cannot see a world in which just is not used and this is not useful.

Music fade up

MH: This has been Rotman Executive Summary, a podcast bringing you the latest insights and innovative thinking from Canada's leading business school. 

Special thanks to Professor Andreas Park.  We’ll be back in a few weeks with Professor Pankaj Aggarwal to talk about the future of anthropomorphized brands.

This episode was written and produced by Megan Haynes and Jessie Park. It was recorded by Dan Mazzotta, and edited by Avery Moore Kloss. 

For more innovative thinking, head over to the Rotman Insights Hub, and subscribe to this podcast on Spotify, Apple Podcasts, Google podcasts, or Soundcloud.

Thanks for tuning in.