Modern crypto assets offer fast and simple payments, innovative financial services, and access to untapped markets and un-banked parts of the world. All these innovations are made possible on account of the fast-evolving crypto ecosystem. However, the rapid growth and adoption of crypto assets have led to new risks and challenges. The Growth of Crypto Assets The market capitalization of crypto assets has registered substantial growth in recent years, albeit it amid large bouts of price volatility. In 2021, it increased three-fold compared to October 2020 reaching a record high of $2.5 trillion in early May. Concern from institutional holders on the influence of crypto assets on the environment, along with heightened global regulatory scrutiny led to a 40% decrease at the end of May, but the market value of crypto assets has since increased again, reaching more than $2 trillion by October 2021 — a 170 percent increase year to date. Numerous factors have played a role in the recovery of the crypto-assets market, most notably increasing interest from investors and consumers in decentralized finance (DeFi), Stablecoins, and “Smart Contract” blockchains. [caption id="attachment_7778" align="aligncenter" width="604"] Figure 1 - Market Capitalization for Crypto Assets (Billions of US dollars)- Source: IMF[/caption] Decentralized Finance (DeFi) Decentralized Finance is a blockchain-based open alternative to the current financial system that does not rely on financial entities such as banks, brokerages, or exchanges to provide traditional financial instruments, relying instead on smart contracts on blockchains such as Ethereum. The DeFi market size reached $110 billion in September 2021, up from just 15 billion at the end of 2020, due largely to the growth of decentralized exchanges that allow users to trade cryptos without resorting to an intermediary, and credit platforms that allow lenders to access borrowers without the need to undergo a credit risk evaluation. Stablecoins Most DeFi services are built on the Ethereum blockchain and use Ethereum-based tokens, including stable coins. Stablecoins are a form of cryptocurrency that is designed to provide price stability, by anchoring their value to a specific asset. While this is typically the US dollar, it can also include commodities such as gold or oil, or simply other fiat currencies. In 2021, the market capitalization of stable coins grew to more than $120 billion, a four-fold increase over 2020. The largest of these, “Tether”, saw its market share gradually decline as leading crypto exchanges such as USD coin by Coinbase and USD Binance introduced their own versions to the market. According to the IMF, the trading flows of Stablecoins outstrip all crypto assets, primarily because they are so usable for settlement of derivates and spot trades on exchanges. Moreover, their price stability continues to improve, protecting users from the volatility of other crypto-assets and in so doing encouraging them to keep their funds inside the crypto ecosystem. “Smart Contract” blockchains Smart contracts are computer programs or transaction protocols that are executed automatically when a set of conditions are met. They are used to automate the execution of a contract so all parties involved can be confident of the outcome without time loss or the need to rely on an intermediary. While Bitcoin remains the leading crypto asset in 2021, it has seen its market share decrease from 70 percent to less than 45 percent. The main reason behind this decrease is the shifting market interest towards more recent blockchains that operate smart contracts offering features that ensure sustainability, interoperability, and scalability. Ether, for instance, saw its trading volumes surpass those of Bitcoin earlier this year. Challenges Posed by the Crypto-Ecosystem The crypto ecosystem’s rapid growth has encouraged the entrance of new players and entities, many of which have poor cyber risk management, operational and governance frameworks. Cyber risks These include cases of hacking thefts of customer funds and the most common target centralized elements of the ecosystem, such as exchanges and wallets, though they have also been carried out against the consensus algorithms underpinning all crypto operations. Operational Risks These include failures and disruptions that prevent the use of services, leading to significant downtime and losses of customer funds. Such failures typically occur during periods of high transaction activity and are usually attributable to inadequate system and control design. Governance risks These encompass the lack of transparency regarding the issuance and distribution of crypto assets and have resulted in significant investor losses. Noteworthy examples of such risks include the hacking thefts of Coincheck in 2018, and KuCoin in 2019 — in Japan and Singapore respectively — and the sudden price collapse and rapid outflows from Bitmex in 2020. More recent examples include the temporary shutdown of the Philippines Digital Asset Exchange and the collapse of Turkish exchanges Vebitcoin and Thodex, all of which took place this year. Cryptoization In emerging markets, the advent of crypto assets brings with it heightened macro-financial risk, primarily in the form of asset and currency substitution, or ‘cryptoization’. Cryptoization can negatively impact such economies in several ways, with perhaps the biggest risk coming from its tendency to reinforce dollarization forces, impeding the ability of central banks to implement effective monetary policy. Looking Forward While the above-mentioned crises did not have a substantial impact on global and domestic financial stability, the macroeconomic impact of such risks will only increase as the crypto ecosystem continues to expand. According to the IMF, regulators can mitigate these risks by enhancing their monitoring of crypto-assets through targeting data gaps in the market, while policymakers can do the same by implementing global standards for crypto assets. As Stablecoins continue to gain prominence, regulations will have to increase in accordance with the economic functions they perform and the risks they present. This will be especially important in emerging and developing markets — where the macro-criticality of Stablecoins can be considerably higher. Finally, emerging markets threatened by cryptoization should reinforce their macroeconomic policies and consider the benefits of issuing central bank digital currencies. Author: Yassine Falk Sources: https://www.pwc.com/us/en/industries/financial-services/library/cryptocurrency-evolutiohtml https://www.firstposcom/business/imf-warns-rapid-growth-and-increasing-adoption-of-crypto- assets-pose-financial-stability-challenges-1001865html https://www.imf.org/-/media/Files/Publications/GFSR/2021/October/English/ch2.ashx https://economictimes.indiatimes.com/markets/cryptocurrency/emerging-market-cryptoization-threatens-financial-stability-imf/articleshow/86688539.cms?from=mdr https://www.reuters.com/business/finance/el-salvador-leads-world-into-cryptocurrency-bitcoin-legal-tender-2021-09-07/
Non-fungible tokens, or NFTs, have been making headlines during the past few months as they went from something very few people had heard of, to the latest crypto trend. NFT advocates say that they can fix a significant problem within art and entertainment, while critics only see it as another crypto bubble soon to pop. What are NFTs? Non-fungible tokens are individually unique digital assets — which include songs, images, videos, and even tweets. The metadata that an NFT is composed of makes it unique through various attributes, including size, rarity, the artist’s name, etc. [1] NFTs determine an item’s ownership by storing the details in a digital ledger known as a blockchain. [2] In the context of NFTs, there is some debate over this concept of ownership. Indeed, in various transactions involving NFTs, they do not represent the asset itself, but rather only the record of its ownership. But the inherent characteristics that are commonly mentioned when defining these tokens as a “new form of ownership” include scarcity and uniqueness, trade and interoperability, and immutability. [3] A brief history of NFTs What could be called the ancestor of NFTs dates back to 2012 when “colored coins” were first mentioned in an article titled “bitcoin 2.X (aka Colored Bitcoin) — initial specs”, by Yoni Assia, which describes coins that are made of small denominations of a bitcoin and can be as small as a single satoshi, the smallest unit of a bitcoin. Another article, published by Meni Rosenfeld titled “Overview of Colored Coins”, discussed the potential of these new assets. Further iterations followed over the years, such as the trading cards on Counterparty, a peer-to-peer financial platform and distributed, open-source Internet protocol built on top of the Bitcoin blockchain, as well as Cryptopunks, which are unique characters generated on the Ethereum blockchain, and CryptoKitties, a blockchain-based virtual game that allows players to adopt, raise, and trade virtual cats. These experiments collectively laid the groundwork for the growth the market would witness until NFTs finally reached the mainstream. [2, 3] In fact, monthly sales on OpenSea, an NFT marketplace, reached $95.2 million in February 2021, up from $8 million in January of the same year. [4, 5] [caption id="attachment_7255" align="aligncenter" width="690"] Monthly sales volume on OpenSea, in U.S. dollars. Source: Reuters, 2021[/caption] How much are NFTs worth? Everyone is able to tokenize digital assets and sell them as NFTs, but interest in these past few months has been fueled by headlines of multi-million-dollar sales. In March, Mike Winkelman, a conceptual 3D artist who goes by Beeple, became the third wealthiest living artist after renowned auction house Christie’s sold his digital work, a piece titled “Everydays: The First 5000 Days” for $69.3 million (€58.9 million), breaking all previous NFT sales records. [caption id="attachment_11620" align="alignnone" width="300"] Beeple, Everydays: The First 5000 Days, 2021. Source: Christie's auction house[/caption] In the same month, Kings of Leon, a music group, released one of the first major records to also be released as a collection of NFTs and generated between $1.45 and $2 million in sales in its first five days, and electronic musician Grimes sold digital artwork for around $6 million (€5.1 million). [6, 7, 8] The National Basketball Association (NBA) and its players union (NBPA) partnered with Vancouver-based blockchain company Dapper Labs to develop NBA Top Shot, a new digital platform where fans can buy, sell and trade NBA moments, which are packaged highlight clips that operate like digital trading cards. To date, the platform has generated around $500 million in sales. The most valuable NFT was that of LeBron James dunking against the Houston Rockets, which sold for a reported $387,600. [9] Jack Dorsey, the CEO of Twitter, offered his first tweet, which was published on March 21, 2006, for sale as an NFT. It was sold in late March 2021 for 1,630.58 ether, a cryptocurrency that was equivalent to about $2.9 million. [10] How can artists benefit from NFTs? According to a report published by Citi GPS, the potential revenue of the music business in 2017 was $43 billion, only 12% of that amount flowed to artists. Indeed, the aggregate revenue of the industry is shrunk by various costs including retailer mark-up for music sales (digital or physical), the cost to put on a concert, the costs of running various distribution platforms (e.g. Spotify), and EBITDA, etc... Fees from royalty collection entities, costs for the artist’s manager, record producer, concert promoter, concert agents, and record labels must also be subtracted. The remaining balance is then the only revenue for the artist. [11] In this context, NFTs could become an important and independent revenue stream for musicians by cutting out the middlemen in an industry rife with them. [caption id="attachment_7252" align="aligncenter" width="554"] 2017 Allocation of Music Revenues ($ billions). Source: Citi GPS, 2018[/caption] Digital artists face a major challenge, which lies in the very definition of their work. Digital art is by nature infinitely reproducible. NFTs, which work as public ledgers, offer a technological solution. Collectors can now buy an NFT that essentially acts as a tamper-proof digital receipt, which allows the artist to retain a percentage of the revenue each time their work is sold. NFTs can thus benefit established and emerging digital artists alike by providing additional revenue streams. [12] A double-edged sword It is important to note that the NFT boom also has its drawbacks. Many artists around the world have been reporting the theft and sale of their work on NFT sites without their knowledge or permission. Automated technology, such as a tweet-mining bot which is at the center of many reports of theft, can “tokenize” a tweet or an image in an instant. [13] Another major concern surrounding NFTs is the negative impact they have on the environment. Indeed, they are built on the same blockchain technology used by cryptocurrencies which are yet to solve the issue of their high energy consumption. For instance, a single NFT transaction on the Ethereum network consumes as much as the daily energy used by two American households. [14] [caption id="attachment_7254" align="aligncenter" width="629"] Ethereum energy consumption. Source: Digiconomist, Ethereum Energy Consumption Index[/caption] Most of today’s blockchain networks function on security systems based on special computers called “miners”, which compete to solve complex math puzzles. Mining requires a significant amount of computational power, which in turn causes high electricity consumption. Ethereum’s technology is said to be moving towards a design that would be less computationally intensive to try to compete with more efficient blockchains. The speed of this transformation into an eco-friendlier version of blockchain technology may decide the future of the NFT market in the short term, as some artists feel strongly about climate change trends and are opposed to NFTs because of their environmental impact. [14] With these drawbacks in mind, and considering the recent plunges of Bitcoin and Ether [16] which may scare away potential investors not familiar with the market, it remains an open question whether NFTs can truly become the next form of art and entertainment monetization, or become the next financial bubble to burst. Sources: [1] NonFungible, Non-Fungible Tokens Yearly Report, 2020 [2] Euronews, What are NFTs and why are they suddenly so popular?, 2021 [3] CB Insights, NFTs: Is The Spotlight-Stealing Blockchain Tech A Cash Grab Or The Next Big Thing?, 2021 [4] Digital Trends, A brief history of NFTs, 2021 [5] Medium, The History of Non-Fungible Tokens (NFTs), 2019 [6] Reuters, Explainer: NFTs are hot. So what are they, 2021 [7] NME, Kings Of Leon have generated $2million from NFT sales of their new album, 2021 [8] Cointelegraph, ’Breaking new ground is never easy’ — Kings of Leon's NFT release takes in $2M, 2021 [9] SportsPro, What is NBA Top Shot? Dapper Labs’ Caty Tedman explains the NFT platform everyone is talking about, 2021 [10] CNBC, Twitter CEO Jack Dorsey’s first tweet NFT sells for $2.9 million, 2021 [11] Citi GPS, Putting the Band Back Together - Remastering the World of Music, 2018 [12] UCLA, For digital artists, NFTs are promising – and problematic, 2021 [13] ABC News, Artists report discovering their work is being stolen and sold as NFTs, 2021 [14] The Conversation, How nonfungible tokens work and where they get their value – a cryptocurrency expert explains NFTs, 2021 [15] Digiconomist, Ethereum Energy Consumption Index [16] CNBC, Bitcoin’s wild price moves stem from its design, 2021 [17] Christie’s, EVERYDAYS: THE FIRST 5000 DAYS, 2021
Over the course of history, humans have been trading goods and services using different means. All these means have something in common - the agreement of their value, and thus their use in operations. One example of an ancient form of human exchange was witnessed in Micronesia where they used an exchange method called the ‘yap’ which were massive ray stones. These ray stones were so big that people were unable to move them, however they were still being used as a means of exchange just by knowing who was the owner of which part of the ray stone. The idea behind this is simply that ray stones or any other exchange mean does not have any intrinsic value apart from the fact that people came to an agreement of their value. Cryptocurrencies could be interpreted as the digital version of the ‘yap’ ray stones. Just like internet has changed the way we communicate in modern day, cryptocurrencies are about to change is a modern, digital means of exchange with an agreed upon value. Cryptocurrencies are digital currencies that are not ruled or governed by any institution. They are designed to be used outside of the intermediary rule that is applied today by financial and governmental institutions. It introduces a very independent, yet very secure system. According to the Coinmarketcap, as of August 2017, there were 843 currencies, where Bitcoin, Ethereum, Ripple, Bitcoin Cash and Litecoin remain the best ones mainly based on their value in USD and their circulating supply. Bitcoin alone has on average daily transactions of 288,953 which is the equivalent of 150 million USD. In addition to that, it is important to mention that Bitcoins are released through a process of mining. In the cryptocurrencies system, accounts given to the users are similar to simple blank sheets of paper. In these sheets, every user has to write down any transaction they were part of. What is special about this system is that any transaction written by any user appears in every other users’ sheet. This essentially gives any user the access to transactions happening in the whole system. The only difference is that the users are connected through a computer code network rather than paper sheets. The rationale behind this system of sharing everyone’s transactions is having everybody else confirm their ownership of coins following the basic and historical exchange system rule. The list of all the transactions is called the blockchain system. This blockchain technology works like a database in which all the transactions are stored, and that automatically performs calculations right after any transaction to update the users’ account and show each users’ balance. Cryptocurrencies are growing in popularity and increasingly been used in African nations. According to an article written by Rainer Michael Preiss, an Adjunct Researcher at NTU_SBF Center for African Studies, digital currencies, primarily bitcoin are increasingly taking roots in countries like South Africa, Ghana, Kenya, Botswana, Zimbabwe and Nigeria. Various factors make Africa a potential platform for a successful blockchain economy yet one of the main possible reasons for its growing popularity would be that Africa has a need for an alternative to its local fiat money mainly due to its lack of reliability and accessibility. Bitcoin and cryptocurrency systems in general suggest not only a better alternative to fill these existing gaps but also an opportunity for the population to control their wealth and enhance transparency, giving birth to a new era of stronger social justice in Africa. This innovative means of trade is about to update the way humans exchange and perform transactions. It suggests a practical and transparent way of doing so. These advantages are simplifying the process of trading and could potentially solve certain social and financial issues faced within societies. Tareq Amhoud, Analyst at Infomineo. Sources: https://coinmarketcap.com/ https://www.howwemadeitinafrica.com/cryptocurrency-great-african-opportunity/59402/