Small investors have already fled, their profits or life savings decimated. The moneyed venture capitalists, badly burned by each successive breakout, will wash their hands of it and move on to the next shiny object. the side hustle crypto-ambassadors (insert any big name in professional sports here, please) will glide backstage. And regulators, as is their wont, will eventually issue their overdue rules, long after the damage is done.
However, there is a fundamental difference with cryptocurrencies, compared to previous bubbles: it had virtually no intrinsic merit.
before and after your bubble broke out in the mid 1600s, tulips were still pretty flowers. America’s railroads spawned massive (and positive) change long before the panic of 1873 and they are still vital almost 150 years later. The promise of email in the 1990s, and its dot com derivatives, was real and momentous. Even badly abused subprime mortgages were a woeful innovation in hard-to-get loans for homebuyers, a market that survived the 2008 financial crisis.
“Crypto,” a still-misunderstood catchphrase for digital currencies and other securities not controlled by a government, will not be able to make the same claim. Cryptocurrencies were supposed to be a haven in inflationary times, as hard metal commodities like gold often are. However, sweets like bitcoin and ethereum have tumbled as inflation has skyrocketed. They promised a way to store value. Clearly, they don’t.
Most notably, cryptocurrencies were supposed to have all sorts of other uses, from simple cross-border remittances to setting a value for newly created digital art forms. None of this has come to fruition on any scale worth bragging about.
In our system, entrepreneurs and the investors who back them provide a valuable service by taking risks with unproven ideas. Without them, we wouldn’t have Apple or Google, or Post-it notes. But we now know that the crop of braggart financiers who dreamed up the new investment category known casually as web3 have been kidding themselves.
A common justification for these investments has been that they captured the fascination of software coders and entrepreneurs, leading to the dreamy conclusion that a real market for digital assets of all kinds was emerging.
What has emerged instead is another example of one of the worst ills afflicting Sand Hill Road, the heart of Silicon Valley’s venture capital industry: confirmation bias. The enthusiasm that venture capitalists mistook for an investment thesis was often just the result of too much cash chasing too few really good ideas.
Nerds aren’t stupid: if someone offers them lots of money to follow a trend, they’ll start programming. Therefore, crypto.
The last 15 years or so of VC investing can be explained in many ways by the low interest rate environment in which it exploded. With endowments and pension funds (and many ordinary billionaires) unable to earn safe returns on bonds for more than a decade, their money managers chose to take riskier bets.
Consider the Ontario Teacher Pension Plan, the third largest in Canada. Three years ago, he created a special fund to make investments in the venture capital stage. invested $95 million at FTX, a leading cryptocurrency trading platform. On Thursday, he noted that “not all investments in this early-stage asset class perform to expectations.” He added that his investment in FTX, presumably none of which he will ever see again, represents a small percentage of the total investments.
For years now, the madness of such investment strategies has essentially translated into free money for entrepreneurs. It didn’t take a genius to start a business when the cost of capital was close to zero.
Now, that era is over. Higher interest rates will allow pension funds like the one in Ontario to seek safer investments. As a result, the flow of funds to venture capitalists and start-ups will slow. Only the best companies and venture capitalists will emerge on the other side.