{ "episodeId": "SLP198", "speakers": { "stephan": { "name": "Stephan Livera", "role": "host", "tag": "STEPHAN" }, "caitlin_long": { "name": "Caitlin Long", "role": "guest", "tag": "CAITLIN" }, "guest_2": { "name": "Guest 2", "role": "guest", "tag": "GUEST" } }, "segments": [ { "speaker": "stephan", "time": "00:09", "start": 9.01, "text": "Hi, you're listening to the Stephan Livera podcast, a show about Bitcoin and Austrian economics. Today for episode one hundred and ninety-eight, my guest is Caitlin Long, CEO and founder of Avanti Financial Services. This show brought to you by Swan Bitcoin. If you're in the US, absolutely get your auto-stacking on with Swan. It's so simple, even a no-coiner could do it. Step one, order Auto fund USD from your bank account 2. Auto stack Bitcoin 3. Auto withdraw to your cold storage. Swan doesn't charge withdrawal fees, they want you to follow Bitcoin best practices and hold your own keys. Swan crushes Coinbase's fees for recurring buys by up to eighty percent and beats Cash App's fees by up to fifty-seven percent. Set and forget, enjoy your life, just Swan and chill. Go to swanbitcoin dot com slash livera to start auto stacking with Swan today. Be sure to use my ref link, swanbitcoin dot com slash livera to get ten dollars of Bitcoin dropped into your account when you start stacking with Swan. This episode also presented to you by Unchained Capital, a Bitcoin native financial services company empowering customers with unprecedented financial freedom and control. Have you set up multi-signature? Are you thinking about what's happening over this next few years? Well, now's a great time to start improving your security, and the Unchained Capital team have now created the Vault Concierge onboarding package. So there's three different options you can either, from ranging from one thousand to fifteen hundred, depending on if you want to Get two hardware wallets, one hardware wallet, or you've already got the hardware wallets. That you select the package, the concierge team will walk you through the setup, provide guidance, build the vault, and then as part of that deal, you'll get a thousand dollars in the vault. So if you need a hand getting set up, go to the website, it's Unchained Dash Capital dot com, and on that website, they've also got a range of other educational material, such as Parker Lewis' series, Gradually Then Suddenly, that's a great one to read or to send to your" }, { "speaker": "stephan", "time": "02:00", "start": 120.08, "text": "This is the Cipher Wheel by Cipher Safe. If you've invested in a Bitcoin hardware wallet or if you have a seed, are you just keeping that on a piece of paper? Well, make sure you've got it backed up in a way that's fireproof and waterproof, and won't rust, and also you want to think about, is it gonna be evident if somebody's tried to tamper with your backup? Look into the Cipher Wheel. It comes in a wheel shape, it masks the words of your seed, you get those tiles and you basically slide them in, and you can get a padlock tam" }, { "speaker": "stephan", "time": "02:30", "start": 150.06, "text": "access to your bitcoins if an accident occurs. Orders are going out now, go to ciphersafe dot io and use the code livera for ten percent off. Alright, so with this interview with Caitlin, she's extremely knowledgeable about the financial services industry and she also has a lot of knowledge about Austrian economics as well. And so we have a fascinating chat, I really enjoyed discussing with her about Bitcoin, banking, rehypothecation, and we also get into this idea of what are Austrian economists potentially missing, what additional money is being created out there in the shadow? Auto banking system. What about this concept of moniness? And we also discuss Caitlin's IMF working paper and the recent OCC interpretive letter. Here is the interview. Caitlin, welcome to the show." }, { "speaker": "caitlin_long", "time": "03:11", "start": 191.01, "text": "Stefan, it's an honor to be on your show. I've, I've followed you for years, and, and here we are. It's good to be, good to connect." }, { "speaker": "stephan", "time": "03:17", "start": 196.79, "text": "Yeah, it's glad, I'm glad we finally made it happen. I am very interested in the work that you've been doing. I, I think you've given some excellent presentations, as well as offering so I'd love to, to start with a little bit around, you know, why you got into Bitcoin." }, { "speaker": "guest_2", "time": "03:36", "start": 216.42, "text": "Well, it does, relate to the financial crisis actually. I was at Morgan Stanley and, had had a, you know, classic economics education, hadn't really questioned anything, and then all of a sudden I started seeing things that just didn't make sense, and, that really got me going on a deep dive. ultimately found the Austrian school, but I did a lot of reading of all the various schools of economic thought, modern monetary theory Before it became hip, because I knew it was at the opposite end of the spectrum, and, and then, and then, you know, the further end of the spectrum is, is the Austrians in there, then essentially everybody else is in between, in, as, as I like to put it, some may disagree with me on that, but, but I read a lot about all of it to try to figure out what was really going on because I knew that the mainstream explanation didn't make sense, and I'd like to point to one of the, Made a comment on Charlie Rose's show that interest rates were too low going into the financial crisis, and that was definitely a cause of the financial crisis, and then not even, you know, a week later or so, he was interviewed arguing that the Fed should cut interest rates. So that logical inconsistency to me made me realize there was more to the story, and sure enough." }, { "speaker": "stephan", "time": "04:53", "start": 292.56, "text": "Yeah, and then you got into all this. So let's talk a little bit about what you see, Bitcoin, you know, fixing about About, that financial system." }, { "speaker": "guest_2", "time": "05:03", "start": 303.0, "text": "Well, i-it's a very practical reality that we are essentially forced into owning IOUs in all of our financial assets. Many people don't realize that, certainly I think the, the Austrian-oriented folks would realize that vis-a-vis the dollars we deposit in a bank, but where most people wouldn't realize it is, that's also true of the securities in our brokerage accounts, and, it's a vestige of history I don't think there's anything nefarious per se about the way the securities industry evolved. It, it, it, it, it-- we just didn't have the ability to settle the volume of transactions on a gross basis without creating huge paperwork problems back when, when Wall Street, when stocks traded literally in paper and bonds. you used to literally clip the coupon and take it down to the, the bank for, to, to redeem a bond coupon. It used to be all done physical Basically. And as, as tech-- as, as transaction volumes increased, and then technology came onto the scene, it just wasn't capable of handling the volume of transactions. Storage was expensive, processing power was expensive, and so it made sense to net transactions, so all the buys and sells of your IBM stock were netted within your broker, and then your broker netted against other brokers, and so you just reduced the amount of transactions that needed to be processed. But- What it also did was essentially copy the centralized structure of the banking system. The Fed, as you know, came into effect in nineteen thirteen, and, the Depository Trust Company is the equivalent, or the analogy rather of, of the Fed. It's a central clearing house, for the securities industry, and it does much of the same thing, and just like you've got in the banking industry, commercial banks, correspondent banks, and then your money center banks, and, and, and your primary dealers. In the securities industry, you've got that similar, layers of intermediaries as well, different layers of brokers, and then you've got your custodians, and then, and then you've got, the depository trust company. So in each, the banking and securities industry, you've got basically the same structure, and they're both designed to help facilitate transaction processing. Now, probably in the last, certainly fifteen years, the technological constraints That made it make sense for those systems to, to evolve that way, no longer have been constraints. So why haven't we actually, really fixed things? The, and the answer is there are, there are a lot of people who have an incentive not to fix things, and, and, and so, you know, the incumbents have, have, are earning, you know, rent, on, that they wouldn't be earning if the structure of the markets were different. And, it's, you know, we've made some strides, and when I In 1993, full time in '94, stocks traded on a T plus five, trade date plus five days. Then I went to T plus three, and then just last year, I went to T plus two. We should be at T plus zero. There's no reason why we shouldn't have at least same-day settlement of stock trades. And the reason that we're not is because, again, you know, with securities lending, there's just so much activity happening that you don't see behind the scenes in your brokerage account. Where your brokers and all the other intermediaries are making a lot of money off your assets and, unless they explicitly agree to, they're not paying you for it. And so that's the sort of thing that, that, creates an impediment to change." }, { "speaker": "stephan", "time": "08:44", "start": 524.15, "text": "Right. And I, I wanna touch a little bit on the payment latency part, or, I guess settlement latency as well, because, I was reading one of your recent papers, it was actually an IMF paper, and you touch on this idea around contrasting between RTG- Yes, real time gross settlements, I believe, versus, say, delayed settlements. Could you elaborate a little bit on the differences there?" }, { "speaker": "guest_2", "time": "09:07", "start": 546.92, "text": "Sure. Well, well, first of all, it's, it's really an honor to be, invited to be published with Dr. Manmohan Singh. Yeah. Not the same name, well, same name as the, Indian prime minister, but different person. Dr. Singh is an a, is a career staff economist at the IMF. and I've been following his work. He's the one who," }, { "speaker": "guest_2", "time": "09:30", "start": 570.14, "text": "Collateral rehypothecation and reuse, around about the time of the financial crisis, so long before digital assets, became, you know, on the radar screens of the mainstream, he and I were, I, I was reading his work and we finally connected, several years ago, and then our work has evolved to talking about digital assets because we're, we're talking about some of the same things. I, we certainly don't agree on everything, but, you know, it's kind of, it's just fun to have been invited to, Co-publish on, on that, what an honor. and it's again, one of the things I, I said when, when I went down this path of starting a bank, there are gonna be some strange bedfellows. There're going to-- There's gonna be some cognitive dissonance beca- because when you're trying to build bridges between two financial systems, the purists in both sides are gonna come after you, and that's exactly what's happened. but, but that, that is a valuable bridge. We can, we can come back and talk about why" }, { "speaker": "guest_2", "time": "10:30", "start": 630.0, "text": "In a perfect world, yeah, I, I like to use the, the analogy of trading baseball cards as kids. Kids have it right that, you know, when you're trading a baseball card, you both hold onto the baseball card and you let go at the same time, and so you don't have settlement risk because you're both, the, the transaction settles, the, the, the buy settles at the same time as the sell. And the, the problem is the adults screwed it up. We haven't, we, we, we, we went and put all these Settlements and frankly, a lot of it is what we talked about in the very beginning, which is that there are layers of intermediaries, and each intermediary has to settle separately, unless there's some sort of a shared infrastructure, aka a blockchain. you can't settle the trade, with multiple, parties at the same time. And, a-a-and so what happens is each intermediary has to settle in sequence, and this is one of the big reasons why we have- Haven't been able to speed up settlement cycles to, to a faster cycle, because so many different layers of intermediaries are settling and, until probably ten years ago, maybe even as recently in some cases as five years ago, the payments were still batched. And so, you know, and settled after, after business hours. So you just really had, in-inherently a sequential settlement process. That's that delayed net settlement process that I was referring to. Real- Time-gross settlement is what's natural. There, there really shouldn't be any delays in the payment system. You should be able to exchange your goods for money at the same time and not have unsettled transactions. But that's not the way the systems work, and we'll get there. and when we get there, frankly, there are enormous efficiencies that will be unleashed, and that is what I think is one of the big powerful aspects of Bitcoin and the-- and blockchain technology is just the efficiencies that will be unleashed in And allowing for real time gross settlement of payments, but it's certainly not the way the traditional system is set up, and those two things are very, very different, they're antithetical to each other. You can't inject a real time gross settlement payment method into a system where the whole thing is designed on delayed net settlement, and that's part of the reason why I think the, the, the crypto financial sector is, is expanding independent of the traditional financial sector. You've got to have connectivity In order for, for it to grow, right? Because people mostly get paid in dollars, mostly save in dollars in the US, of course, other fiat currencies elsewhere. So you've gotta have those connection points in order for value to flow into, in, and out of both systems. But, but they're, they're, they're fundamentally going to stay separate because the, the, the nature of the systems is so different." }, { "speaker": "stephan", "time": "13:25", "start": 805.06, "text": "We might naively think, \"Well, okay, the bank has X number of dollars on reserve,\" and I think the, the person on the street isn't really thinking deeply about, \"Okay, am I operating in a full reserve system versus a fractional reserve system?\" They're just, you know, \"I've just got this many US dollars or this many Australian dollars in my bank account. That's, that's the amount of money that I have.\" but then I guess the people who- Don't see that, that, that we're actually operating in like a fractional system and that there's actually rehypothecation occurring. Could you outline a little bit around how that rehypothecation occurs?" }, { "speaker": "guest_2", "time": "14:01", "start": 841.17, "text": "Well, I'll, I'll start by saying, you're right, the, the average person on the street doesn't understand it, but the people who control the majority of flows in the payment world are actually businesses. It's the treasurers of businesses and CFOs of businesses. They control a lot more flow than, than, you know- You know, the hedge fund managers who are interviewed on CNBC, for example, but because they work for businesses, you just never see them on CNBC. But, but they definitely understand this, and the reason they, they understand this is because they've never been protected by deposit insurance. Deposit insurance is really meant to protect individual depositors, not, not, you know, significant businesses. So if you're a mid-sized to large business, you've probably got more than two hundred and fifty thousand dollars in the bank, and therefore, you- You have to do the work on understanding the counterparty credit risk of your bank. but I think the nature of your question is more for the securities industry, and that's where I've found in the last few years talking about this, that the vast majority of even folks in the Austrian school who you would think would be sensitive to this hadn't thought about it before, and i-i-i-a lot of it is because the terminology is hard to understand. If you didn't independently read what rehypothecation was and you read- That, if you bothered to read the gigantic, you know, pages and pages of terms and conditions with your brokerage account, you'll see the word rehypothecation there. You, you are consenting to rehypothecate your securities. All the brokers make you do that. and, and, and, even if you have what's called a separate account, they're still gonna rehypothecate your securities because they hold them in what's called an omnibus account where they pool everybody's, everybody's securities, you know, out, out of, From that. But, I, I, you know, candidly, I think this is one of those things that if the SEC were truly, adhering to its consumer protection mandate, it would be all over this, because that isn't a consumer friendly h- way to handle this. If you ask the average person on the street, \"Do you think your Apple shares should be lent by your securities custodian without your consent and without you earning any income from it?\" Of course they're going to say no. and, And, and, and yet that's what the vast majority of us have agreed to without understanding it, because that's what's in the fine print. It's not explained. There was an interesting court case in Wyoming, my native state, where we were working on the blockchain bills, and the president of the Senate, super sophisticated guy, he, he said, \"You know, there's a Supreme Court case in Wyoming that says rehypothecation is fraud.\" And, and I went, looked at the Supreme Court case, and sure enough, and that was a case of somebody re Phococating in an industrial diamond where he, he had pledged it as collateral for a loan and then turned around and pledged the same diamond as collateral for a separate loan without telling the second, without telling either bank. the difference I think is that the securities industry would say it's not fraud because we've all, we've all consented to this practice, whereas in that case there was no consent. But, the problem is that does anybody really understand what that means? I think the vast majority of people don't. even smart people, they've just never taken the time to dig in and realize that's fractional reserve banking on your Apple shares. That is absolutely what happens every day in the securities industry, and it's normal, and, and, and, without it, the structure the, of the securities industry would be very different than it is today because the profit potential would be very different than it is today. But I, I don't think this is fair. you know, we don't have no, no rehypothecation companies in the securities industry because of the way the regulations work. It just, it's the way the industry works. And so, if you wanna own your own securities, get the paper stock certificate, but good luck getting it because the SEC has done such a, a, a big job trying to get it all electrified and put in these centralized structures. that, that, that your broker will, will not probably give you your paper stock certificate if you ask for it." }, { "speaker": "stephan", "time": "18:16", "start": 1096.33, "text": "Right. And maybe if we were to tease apart some of the reasons why this is occurring, in some cases, as people talk about, it's, it's, that it may be being lent to somebody who wants to take out a short position, and in other cases, it's more like they need it because they, they don't wanna-- it, it's just kind of the way it moves around in the system, and they need somebody to be able to to them in a short period of time, that kind of aspect?" }, { "speaker": "guest_2", "time": "18:42", "start": 1121.81, "text": "Well, yeah, it, it started out as securities lending, is exactly what you were talking about, is, is just, lending the securities so that someone could borrow them and put on a short position. But it's moved well beyond that now. all the different demands of, of, of, for securities lending, they're, they're, they're, they're var- varied. the biggest one is, this is the way the broker-dealers finance themselves. They don't have- Depositors, like the big banks do for, for US dollars. And so what they do is they actually pool all the customer securities and their own securities, and they'll just put 'em out for securities lending. So all the things that you've read about collateralized loan obligations, that's just pooling and lending against loans. Collateralized debt obligations, that's pooling and lending against bonds. and even the ETF world, how do you think you get the leverage in ETFs? It's, it's, it's basically all through this securities lending market. so these markets are just gigantic, and they, they are exactly how the securities, you know, industry works. With, without securities financing, which would include repo, margin lending, and, and, and the like, there, there are a whole bunch of different products, but it's really all the same thing. It's secured lending using your securities as collateral or your, or your bonds or your loans as collateral, and you just put those up. it, these are typically one-day loans. So typically they mature overnight, and then, then the next morning, you just take out the loan again. But in the last, as, as I left the securities industry, there was a lot more, and that was in 2016, there was a lot more term repo happening now where, where you were actually having a, a match on, on the financing, the secured financing, instead of it being overnight, you would, it, it would be seven day or sometimes it would be multi, multi-year, and, the, you know, of course Because we saw what happened to Lehman Brothers, it, it lost its overnight financing as soon, and as soon as it was out of the overnight financing market, it was done. It couldn't fin- fund itself anymore. So these, these games only work as long as the banks can continue to fund themselves. but these things are enormous markets, and it is-- these, that is literally the beating heart of the securities market, is, is, they now call it securities financing, and, it's, it's how the big banks finance themselves." }, { "speaker": "stephan", "time": "21:06", "start": 1266.15, "text": "Right. And it That were it not for some of these systems, the costs actually might be higher to the consumer. They might be paying a higher fee to use an ETF service or something like that because part of how that ETF service is making its cut is, say, that taking advantage of that, that time, that time difference, right?" }, { "speaker": "guest_2", "time": "21:27", "start": 1287.02, "text": "One hundred percent. And, and I think the rise of passive investing, you know, the, the, index funds had a, had a lot to do with that. We've now s- we now see the The concept of a no fee mutual fund. Well, the, the, your, your asset manager has costs. There's a lot of cost to running a mutual fund. So how, how is it that they have a no fee fund? Where are they making their money? This is where they're making their money. They're taking your securities and they're turning around and lending them, and they're probably not giving you a cut. and so as fee competition increased, especially with pass-- the rise of passing and passive investing, this is what happened. Everybody essentially was forced Into this, which is why it's so ubiquitous. This is the only way they make money. And this is, you know, now, I, I think everybody's in a pickle with this because nobody realized that it was gonna become the tail that wags the proverbial dog. I mean, you have ETFs that actually trade much greater volume than the underlying. And so imagine, you know, how, how closely those ETFs actually track the underlying if, if the ETF volume is much greater than the underlying, they're not tracking it very closely. And so- So, it, it's, it's a real problem, I think this, this has, has become a challenge, and I think it's also a challenge in the way the securities markets work, we definitely-- there were a number of people who were warning Greenspan in the '80s that you don't want to have The, the government financing happening through the securities industry. And indeed, Europe didn't go that way. Europe doesn't have that big of a bond market relative to the bank markets. The banks in Europe are much more dominant than the, than the bond market. and in the US, we went with securities market. The bond market, you know, became dominant relative to the banks, and so that's when we saw the rise of shadow banking, and that's when things started to get really difficult from a monetary policy perspective. It, it used to be in the '70s That when the Fed injected new, new money in the monetary base, within six months, you, you, you pretty much knew what the money multiplier was, and you pretty much knew what, therefore, what the inflation rate was gonna be. There was a direct causation between the Fed injecting new reserves into the system and CPI going up. But that's not the case anymore. now we, we, we actually see the opposite, and, and a lot of that has to do with the very different mechanism of credit creation that happened in the securities market I would say going, it really goes back to nineteen eighty-three, which was during the Volcker Fed, you know, the Austrians tend to, of all the Fed governors, like him the best, of all the Fed governors in recent years, because he actually did, you know, shrink the money supply, raise interest rates, you know, try to, try to actually, put a halt on this, on, on the, unconstrained growth of money and credit. and he did succeed a little 1983, which was when instead of tar-- the Fed targeting the money supply, they decided to start targeting the price of borrowing money. You can, you can target one but not both. You can either manage the supply, which is what they did in the '70s after going off the gold standard in '71, or you can manage the price of money and let the supply float. when they were managing the, the supply, the price floated, and, and of course, that's one of the reasons we got, you know, interest rates at twenty-one percent but, but in particular, in nineteen eighty-three, when, when the Volcker Fed allowed this switch, they never announced it. It was you had to go through the, the, the minutes of the FOMC meetings to, to find when they announced it. And of course, ever since nineteen eighty-three, to put a puzzle piece together for you, the Fed has been targeting what's called the Fed Funds Rate, and therefore they just let the money supply float. But what that did was hand over the keys, the proverbial keys to the kingdom, to the financial industry To try to determine what the supply of money should be. If the Fed was only managing the price, then the supply was the floating variable, and the securities industry figured out a way to Really increase the supply of money and credit through the shadow banking system without impacting the Fed funds rate, and I think that was a colossal mistake. And as history, as, as time goes on, e-economists, I think will look back on that and, and realize that that was as, almost as meaningful as, as letting go of the gold standard, i-i-in the post-war period, and then, letting go of the gold exchange standard in 1971. Letting go of the, of, of the su-money supply targeting standard in nineteen eighty-three was also a very important, inflection point in US monetary history." }, { "speaker": "stephan", "time": "26:20", "start": 1580.45, "text": "That's some really fascinating comments there, Caitlin, and I, I'd love to touch a little bit on this idea of privately created money, right? So because in the Austrian framework, we're thinking, okay, the central bank has expanded the, you know, the money supply or has, Rather has permitted a certain amount of, by having a low reserve ratio, et cetera, et cetera. right? We're thinking, \"Oh, okay, that just, that means the banks can lend out all this additional money.\" But I think the point that you're trying to get to there is also that it's not just central bank-created money, it's privately created money. Totally. And I, I think also, Jeffrey Snyder has been very vocal on this topic as well, talking about the eurodollar system. Yes. So could you What's, what's this privately created money that we're speaking about?" }, { "speaker": "guest_2", "time": "27:09", "start": 1629.31, "text": "Well, the privately created money comes from the private financial sector. So, as we know, the, the, the Fed controls the monetary base, and then the, banking and securities industries create credit on top of that. one thing is, you and I were chatting before we started the podcast that I, I, I think, the Austrians wouldn't have misunderstood this as much had Murray Rothbard still been alive, because I think he would have written A sequel to the mystery of banking, which is the mystery of shadow banking. He would have been all over the, the mechanisms through which credit, money and credit is created that doesn't have that, that impact on the, on the CPI rate that it, that it used to have, and it, it basically created the illusion of some free lunch, and we've had a few decades of, you know, free lunch where we've had massive expansion in money and credit in the private sector, that didn't sh-- that didn't cause an increase in CPI, and a The other reason for that was the rise of the Eurodollar market. So you and I both follow Jeffrey Snyder, he's, he's one of the smartest macro analysts out there. and he's, he, like Dr. Manmohan Singh at the IMF, have, have been all over this, from, coming at it from a slightly different perspective, which is that, you know, that we really shouldn't be watching the Ms anymore, M zero, M one, M two, because the action is outside of the traditional banking sector, it's, it's in, it Included in the shadow banking market is securities, so all the rehypothecation that Dr. Singh is such an expert on, as well as the eurodollar market. Now, the eurodollar market does have some overlap with, with, with the repo market, but what it is is, is, typically thought of as dollars issued offshore. so these are issued by non-US banks, and this is another one of the mistakes is we look at monetary history, and when you look at the, when, when the Fed sort of really, truly gave the keys to Right about nineteen eighty-three, that's when the securities market started to take off, but something else happened back then as well, which is that the eurodollar market started to take off, and we started to see a big increase in the volume of US Treasury issuance, so the, so to finance, deficits, and it was all financed in the securities industry instead of the banking industry. But then we also saw the, the, the Fed allowed the non-US banks to carry dollar balances and issue dollar balances. It used to be that all- Only US banks could issue dollar balances, and now because of global trade increasing, they allowed non-US banks to issue dollar balances as long as they had a correspondent relationship with a US bank. So it all ultimately settles back to the Fed. But the problem, as you know, is that there's a velocity of the monetary base, and the Fed doesn't, doesn't measure unless they're directly regulating and measuring the US monetary base inside the traditional, financial industry. This is the M zero to M two multiplier, they don't- We don't know what the multiplier is in the euro dollar market because they don't have insight into it. There have been a number of people who have tried to estimate it, but, but the other piece that got, that complicated matters further is that Other assets took on a, a so-called munniness. this is Doug Nolan's concept, and I really like that concept as well, that, that the monetary base isn't the only base money in the financial system anymore. U.S. Treasuries are also base money in the financial system, and, and, and, and so, this is one of the other reasons why the-- those who are predicting a dollar collapse as the Fed increased its balance sheet, or those who were concerned to your question about the banks no longer having a reserve requirement, I'll come back, come back to that in a moment, and it didn't show up as a dollar collapse or, or as hyperinflation, because the mechanism is so different. It turns out that the base money of the, of the system is really- At, at, as much US Treasuries and other effectively US government guaranteed securities like, Fannie Mae and Freddie Mac and Ginnie Mae mortgage, mortgage backed securities, et cetera, all that paper is really viewed as fungible and is viewed as the same as US dollar cash. And in fact, actually, just to bend your mind a little bit, in some markets it's viewed as more valuable than US dollar cash. Why? Because you can't rehypothecate cash. Only the banks can do that. That's called fractional reserve. Reserve banking, but you can rehypothecate securities. And so this is where Dr. Singh's work at the IMF is so interesting. He's, he has estimated how many times a US government bond, US Treasuries included, has been re-used. That's just the securities industry's equivalent of fractional reserve banking. And so you see why some people in the securities industry much prefer to have a US Treasury than to have cash, because they can multiply it, whereas with cash, only the banks, can multiply it. So yeah, I know this is a bit of a mind bender, we're going into some pretty esoteric stuff here, but, what I'm trying to convey is that there is a lot of complexity here, and that helps explain why the traditional simple model of every time a dollar got injected of M zero, it turned into ten dollars of M two, that just doesn't apply anymore. and let me come back and an-and answer the question about, reserves, bank reserves going to zero. There were a lot of people who were crying foul over Over that, and actually it makes no difference because no one has been, no bank has been, worried about their reserves since two thousand and eight. The, the banks have shifted instead of regulating reserves To regulating capital, and the capital buffers are what matter. The whole Basel III, capital requirement and, and all the Dodd Frank supplemental capital requirements, those are all based upon the capital of the bank, not the reserves of the bank, the equity capital of the bank. And, and so, actually when that, when the Fed relieved that, it didn't actually have an impact on, on whether the banks would lever themselves up more. and that was, again, one of these subtleties that if you were thinking in the, in the simplistic model of the '70s that once worked so well and applied so well, then you missed it, based on what was happening today, where the action is off, off-field, and it's frankly much, much greater and much, much bigger concern, frankly, than, than, than the way the old model used to work." }, { "speaker": "stephan", "time": "33:42", "start": 2022.15, "text": "I guess just to replay some of that. So you, you were mentioning how essentially banks haven't been constrained by the reserve requirement. Yep. They're actually being nowadays being, in practice, more, they are constrained by things like the Basel requirements, which means they have to hold a certain amount of, let's say, bonds or a certain, they have to hold a certain number of assets. Yep. In relation to the amount of loans that they have issued out, and I think there's, there's kind of into the technical weeds, there's things like risk-weighted assets and so on, and that, that, that sets the actual amount. but I guess, I suppose the, the point is the- Kind of the initial naive understanding, if you will, of just simply rehypothecating above from M zero to M two and M three and so on, that's not the biggest factor anymore because of these other factors, such as the eurodollar market, the, and the, this concept of moniness as well. I'd love to talk a little bit more about the moniness idea. So my understanding there is, it's sort of like different- Assets in the financial world, people have an incentive to try to sell them and push them to people as saying, \"Yeah, look, this is actually even closer to money than you first thought, because it gives them more of a, more power in some sense, right? Because it, it, yeah, they're trying to say, \"This is really, really good, collateral. Like, I'm good for it, right?\"" }, { "speaker": "guest_2", "time": "35:15", "start": 2114.68, "text": "Yes. Oh, yes. Well, I mean, you saw that with the CDOs of, of 2008, and guess what? They're back. I, I actually think that the ETFs are probably the, modern, you know, equivalent of that, that you're, you're, you're gonna con- you're gonna, it's gonna work until it fails spectacularly, and we're gonna see that, I think. We've seen it in a couple of times. There's been some ETF, problems where, where the, the, the net asset value diverged drastically from the underlying, and it tends to happen in the, in the leveraged ones. but again, the a lot more money to go into the, into the trackers than the actual assets themselves, and eventually those two have to, ha-ha, have to, have to hold it. It, there's an old saying in the, in the financial market, you can stay liquid longer than you can stay solvent, and that's what can happen, that, that's what can happen with ETFs. They can, as long as people are continuing to trade them, it's, it's just a game of musical chairs, if, if the ETF doesn't and there are lots of different things. So, I was talking earlier about all the securities financing. there's, there's, the, the phrase oftentimes is naked shorting, where, where ETF issuers, read the fine print, go pick up the prospectus of your ETF. Market makers are allowed to create ETF units, and again, the way the lawyers phrase this, it doesn't make it obvious what it really is, but this is what it is. They're allowed to issue ETF, more ETF units than they have collateral. Those particular market makers who are Stowed with the ability to go naked short, that, that asset, have the ability to earn extra rents, because they're, they're, they're allowed to create more, more assets than there is collateral to back it up. Doesn't this sound familiar? This is another, just another version of rehypothecation, of fractional reserve banking, where you don't have a hundred cents of collateral backing your obligations, and it's just another version of it. There's so many of those. Versions of it, and, and I, I should have added back on the, on the size of the eurodollar market, as you know, 'cause I know you've been following this, nobody knows how big that is, you know, the, the amount of dollars that are borrowed offshore where, where the Fed doesn't directly regulate the banks, the amount of, of bonds issued in US dollars by non-US companies, and most especially the amount of payables in trade that are payable in US dollars, because think of- About it, you know, oil, Saudi Arabia sells oil to China in US dollars. There's no US party to that trade, but there are payables, which are effectively short-term US dollar-denominated debt that get created there. No one knows how big those are because we just don't have a way to, to measure it. and, and, and what that does, and this is really important as well for those who are really worried about a dollar collapse, Raul Poll has been really good on this topic, that, the gigantic US dollar short that's been created, that, that really The Greenspan Fed is responsible for, authorizing back in the eighties, that gigantic dollar short means that there is demand to buy the dollars at any price because when somebody needs those dollars, they have to get them in order not to default on their contract. And so there's, there is price insensitive, price inelastic demand for the US dollar out there, and that has kept the US dollar supported a lot longer than a lot of folks had thought. So be careful, shorting the dollar. you, you know, certainly we all look at this economic environment and say, \"This isn't sustainable, this isn't real. We are way outliving our, what, what, what we're consuming a lot more than we've produced. We've been doing that since 1968. In fact, that's the was ended in nineteen seventy one, because we were borrowing more than we were producing. and so, you know, this can't go on forever, and you know what? That's right, it can't. But be careful, because the, the short squeeze that's gonna come in the US dollar is gonna be staggering. And, here, I, I, I would point to the book When Money Dies by Adam Ferguson, talking about the short squeezes in the German, currency right before the hyperinflation, between World War World War, World War One and World War Two. and, and it, it just was staggering how the, the volatility that happened and the magnitude of the short squeezes that occurred in, in, in, in Germany, in, in the, in the mark against the dollar, sorry, not against the dollar, against, against a French franc back then, as well as against gold and also against the stocks. You would see, you know, five percent moves in the stock market and then the amplit- the amplitude of the moves Of the currency against stocks, gold and other currencies that were sounder, went from ten per-- from five percent to ten percent, and then to twenty percent, and then towards the end, you'd see fifty percent intraday moves. And so we're not there yet in the US dollar because we're not seeing that kind of volatility. We started to see five percent daily moves back in March, but the Fed was able to get, you know, to get this revved up again. There's still some balance sheet left that the US has to sup- Supports, continued issuance of claims on US dollar denominated assets, clearly, because it hasn't hit a wall yet. But at some point it will. We're, we're, we're living on borrowed time, and, and actually what we're really specifically living on is the equity capital that our grandparents and their parents and their parents bequeathed to us because we had a pristine balance sheet in this country until 1968, and we've been living off that accumulated equity ever since. That's how we've been financing, you know, writing, writing the, writing the A check, so to speak, to consume more than we've produced." }, { "speaker": "stephan", "time": "41:12", "start": 2472.43, "text": "We're coasting on fumes, I, I'm also interested to just chat about, from an Austrian perspective, the term money substitutes. And I think that is where, the Austrian masters might, speak of it in terms of, you know, the money substitute theoretically, if it's, if it's perfectly secure, it's immediately convertible, and it's a par value claim to standard money, right? That's kind of the idea, right? So I guess, you know, let's say that, you know, you're, you're a banker and you've got a certain number of pe- gold pieces in your vault and you've issued, you know, a certain number of paper tickets that are, that are immediately convertible for that gold. I guess that's kind of the high level way of thinking about it, just a quick, I guess, example. But in, in your mind, how does that change? Where are some of the pieces in the modern day financial system falling down from that" }, { "speaker": "stephan", "time": "42:09", "start": 2528.69, "text": "Represent some kind of a money substitute, for example, like US Treasuries. Yes," }, { "speaker": "caitlin_long", "time": "42:13", "start": 2533.44, "text": "of course. But," }, { "speaker": "stephan", "time": "42:14", "start": 2534.26, "text": "but they're just-- Is it just that it falls down in not, in not being immediately convertible, or is it just kind of not par value? Or how would you think about that?" }, { "speaker": "guest_2", "time": "42:22", "start": 2542.43, "text": "Well, a, a, a US Treasury is really just a dollar that pays an interest rate. you know, some would quibble with that and say, \"Wait a minute, the Fed is a separate legal entity. It's, you know, owned by the banks.\" legally, that's true, it's not owned by the US government. but, but the market doesn't see a distinction. The market looks at them both as risk-free assets, and that's how they're both treated under the, under the Basel III framework and the liquidity coverage ratio. so, so yeah, that, that, that's the most obvious money substitute. and Securities can be, can be re-rehypothecated by a non bank, the-- they are actually more valuable than cash, because a non bank can't rehypothecate cash, only a bank can create fractional reserves against cash. So, so that's part of it, and, and, and other US government, guaranteed or implicitly guaranteed, you know, the GSE paper, it, it also fits into that exact same category. Where I think it's-- we're seeing something really interesting develop, though, is in stable coins. Because those are backed by US government obligations, usually treasuries, and they're, they're meant to be backed one for one, and this is where the, the paper, the IMF paper with Dr. Singh is so interesting, because he's an expert on collateral reuse. And one of the things that's so-- that's, that's, that, that's, that's challenging to central banks is that when you create collateral silos where the collateral is squirreled away and can't be reused, what you're really doing is freezing the ability of the big banks to rehypothecate, they're to fund themselves through, through rehypothecation, through fractional reserving on securities. And that is a major part of how monetary policy is affected these days. And so, this, this is one of the reasons why the ECB wrote a very interesting paper about Facebook Libra and said this could become a three trillion dollar de facto money market fund that isn't going to be rehypothecating collateral at the center of the European capital markets. And you know what? They're right. It's- It's true. And so you think about a collateral silo, what that does is it freezes the fractional reserve banking. You can't do it anymore because that's supposed to be backed one for one. And so that, the, the whole stablecoin phenomenon is interesting, but if, if the Fed were still following M3, stablecoins would absolutely have to be in there. And I, I, I'm not sure how many folks really understand how much the stablecoin growth has- As, as just flourished in the, since the spring. Tether now has more than eleven billion outstanding, which doesn't sound like much, but its annualized on-chain volume is about five hundred billion. Well, that starts to become, yeah, pretty interesting. But the off-chain volume That's reported by all the crypto exchanges who are crossing Tethers off the chain, so it's not an on-chain fi- figure that we can verify. That annualized volume is north of fifteen trillion. Fifteen trillions, a lot. That's, that's enough to catch everybody's attention, right? So what's going on here? We actually have what is effectively a money substitute, it's being treated like that in capital markets, or well, at least in, in crypto markets, but increasingly businesses are starting to use this because it, it is a superior US dollar equivalent settlement system. So in a way, it's almost like a, a new version of the Eurodollar market, except it's outside of the banking market, is, is, is, is cropping up, and what's About it is, it is siloing collateral, it is squirreling away these US treasuries, which, you know, it's, it's, it's counterintuitive, but because the US government is issuing so many of these right now, but there's a shortage of them. And why is there a shortage of them? Because there's a gigantic short position in the offshore markets, the eurodollar markets, and, and, and, and the banks need to get a hold of those in order to be able to satisfy their obligations. And so you start squirreling away" }, { "speaker": "guest_2", "time": "46:28", "start": 2787.76, "text": "I, I, I think there's an interesting opportunity for the Fed though. You, you, at, at the time that Facebook Libra came out, about this time last year, President Trump was, was-- this is when he issued his infamous anti Bitcoin tweets, and he told Facebook, \"Go get a bank charter.\" And, a-and actually, I think this is one of the interesting ways that the Fed can pull all this back in, because they, they don't have the ability to directly control, those, those collateral silos, and this is, this is a real concern Fed, you know, if, if, if, if collateral gets squirreled away and siloed, that's gonna impact their ability to, to, effectuate monetary policy, and it's gonna mean that their balance sheets are gonna have to expand, and I will say the Austrians might get it wrong again if the balance sheets expand to offset a, a falling multiplier in the- Repo market, because now instead of four people having the same bond, and, and so basically the base money got multiplied by four, now it's only three. Well, how are you gonna offset that if you're affecting monetary policy? You're gonna have to increase the monetary base, ergo, the Fed's balance sheet's gonna grow. but the, but the Austrians, I think, unless you understand that piece, you'll, you'll, you'll miss, you'll miss it by saying, \"Oh, that's hyperinflationary, the Fed's printing money again,\" It's not gonna happen if what the Fed is doing is backfilling for a, for a credit deflation in the private sector. So all this stuff, you really have to be careful, monitoring it all, and, and stable coins are absolutely part of this whole equation now. They have become material, and especially when and if Facebook Libra gets going, this is gonna become, or it's gonna pose a real challenge to, to central banks all around the world." }, { "speaker": "stephan", "time": "48:15", "start": 2895.44, "text": "Right, and I'm sure we'll hear the same stories about, \"Oh, see, but...\" Bitcoin price is being pumped up by Tether and so on, right? I'm sure you've heard that story." }, { "speaker": "guest_2", "time": "48:23", "start": 2902.51, "text": "Yeah, yeah. You know, I, I, I don't know. I mean, the exchanges are-- they certainly don't have to comply with the-- there, there are some good consumer regulations that, that stock exchanges have to comply with, that relate to, you know, getting the best price, and best execution and not trading against your clients. and, and, you know, those kind of practices that have been shut down in the securities exchanges Have not been shut down in the crypto exchanges, so there's definitely manipulation going on in the crypto markets, so buyer beware." }, { "speaker": "stephan", "time": "48:55", "start": 2935.23, "text": "Yeah, look, I think this is an area where, truthfully, I don't understand it as well as you do, but I, I suppose as I understand it, it's also that w-we might, if you naively look at money supply on, say, the Fed's, you know, Fred, that, charting site, you might be missing the full picture because you're not seeing the eurodollar part, you're And so the reality of it is, we're just looking at one part of the picture, and it's this kind of problem that very few people even understand. And as I listen to someone like Jeffrey Snyder, he says, \"Look, it's, it's not that he even knows the solution, it's just he's trying to figure out what's the problem, and people don't even know what the problem is to begin with.\"" }, { "speaker": "guest_2", "time": "49:38", "start": 2977.52, "text": "Well, right, because you can't manage what you can't measure, as, I think it was Deming who said that. you know, and Because you shouldn't be managing the economy, you should just let the, let markets work. but, but if your, if your job is to manage something, you're supposed to be measuring and you can't measure it, then how do you think you're gonna be able to do your job? and so that's the challenge that the FOMC has right now, for sure. And I'm sure they understand that. They're, they're, they're smart people, and, and generally speaking, I would also say they're good people. They are, they I've met her a couple of times, I, I suspect a lot of folks in, in the, in this, in your listener base have and have followed her as well. So she ends up, on the FOMC. It's, it's gonna be interesting because she's got a very different worldview and, and, and, and, and I think the way she articulates it is, is also really effective because she depersonalizes the debate and, so it'll be interesting to see if she can get through Senate confirmation." }, { "speaker": "stephan", "time": "50:43", "start": 3042.78, "text": "Bringing it back to the The of fractional reserve banking, they might say something like, \"Well, it's, it's because more claims have been issued to money than the actual money existing, that's what drives the malinvestment, or rather, it drives this kind of false-- well, yeah, it drives a false signal of interest rates and of, you know, to entrepreneurs to go out there and borrow and do projects, and what that does is creates the malinvestment, and that creates the, the boom-bust cycle.\" So I guess that's kind of the high-level way of thinking about it, but I guess it's- Just that, it, it, it's sort of understanding where the malin-- or where that additional money is coming from is the part that not everyone is really understanding yet. Would that, would that be kind of a good summary?" }, { "speaker": "guest_2", "time": "51:30", "start": 3089.75, "text": "Yes, the Aust-- that is exactly what the Austrians have missed because they, they didn't, or we, collectively didn't articulate, very well that the traditional banking system isn't where the action is, it's in the shadow banking system, and there hasn't been much Austrian scholarship, even- Within the academic Austrian world related to, to this. And so I feel badly for, for the Austrians. I've actually, donated a lot of money to, try to get, to, you know, to sponsor folks who would study these things, and, and help educate on, on these things within the Austrian, academic world, because I do think they have a lot to contribute. And, and I do think that the Austrians are painted with the wrong brush by the mainstream because the res- Results haven't been right. There were a lot of people who were claiming the dollar would collapse the moment that the Fed, or that, that, that Nixon took us off the gold standard, and it didn't happen. And then two thousand and eight, hyperinflation around the corner, and it didn't happen. And so the, the Austrians are painted with a brush of, of, you know, wrong all the time. And they're gonna be wrong until they're one hundred percent right, is, is how I think about it. And, and, and, and point is, but in figuring out the mechanisms by which this system was, was, was allowed to perpetuate as long as it has, that's where, that's where I think there's a, a lot of misunderstanding, and, you know, that's, that dollar short that, that's out there is gonna perpetuate the, the dollar for a lot longer than any, anybody realizes. This could, it could be not even during our lifetimes, where we see a regime change. I think it will be during our lifetimes because eventually the borrowed- Borrowed time, the borrowed-- literally the, you know, grandparents' equity that, gave us the ability to write checks and, and cash them, to outlive our means, that eventually is gonna run out, but I just don't know when, and it's very, very, very hard to measure. so I don't know if I answered your question very well on that. But, yeah, I, I, I ultimately, the, the other piece that I would, that I would say, it, when, when you described the Austrian business cycle theory, which to me is, is what's so powerful about the Austrian world, is it's actually even simpler, than the description that you gave. It, it's, it's basically that we shouldn't control the most important price in the economy, which is the price of borrowing money. That the price of borrowing money is the interest rate, and it is, it is, it is the Between time and between industries, and that's how capital gets allocated. And as long as we have a controlled price of borrowing money, then we will have misallocation of capital. And, I, I also like the way the Austrians lay it out that the other piece that, that- That the mainstream can't explain is why there are clusters of errors. Why is it that entire industries make the same misjudgment in their capital planning at the same time and in the same direction? There is no other explanation for that. Markets always have buyers and sellers, free markets do. So why is it that we have these clusters of errors? And the only explanation for that is that the interest rate was manipulated, and you don't know whether the capital that you invested was going to earn a return higher than your cost of capital because you don't know what your cost of capital is. And as an entrepreneur, that's a daunting concept. If you don't know what your cost of capital is, then you don't know how to allocate it, and you don't, you don't know if you're Return on it, or if you're destroying value. And the, the word \"malinvestment,\" put another way, is destroying value. You're earning a return less than your cost of capital. That's a project you never should have invested in, but because of the bad interest rate signals telling you to invest, you did, and you lost money because of it. And this is why you saw the entire home builder sector in two thousand and eight lose money at the same time, in the same direction. and, and I would say that the energy industry is, is, is sort of the poster child This correction, massive overinvestment, massive malinvestment, in the shale, boom, and, and, and, and related, energy projects that, that relied on gas prices being too high, but they had a cheap, cheap cost of funding because interest rates were held artificially low, and a whole lot of money got, got invested in a sector where it otherwise clearly in retrospect should not have been. And so here we are, we've, we've, we've, you know, burned some of our cash. Capital, and, and as a result, we're all poorer for it, we just don't know it yet." }, { "speaker": "stephan", "time": "56:17", "start": 3376.66, "text": "Yeah, I think that was a great explanation. so if we were to think about what might be, you know, what kind of monetary world we might live under if we lived under, let's say, a Bitcoin standard, and there were to be more, something closer to a full reserve banking system, I suppose part of the reason why is people today don't acknowledge that, but, but I think, and it really- Interesting point you were touching on earlier, and I'd love to chat a little bit about this, is how corporate treasurers are actually conceiving of that credit risk more, much more so than an individual depositor, right? So I guess let me just play, just for the, yeah. Yeah," }, { "speaker": "guest_2", "time": "56:54", "start": 3414.06, "text": "sorry. And I just-" }, { "speaker": "stephan", "time": "56:56", "start": 3415.82, "text": "No, no, that's totally fine. I, I just wanted to give a quick explanation. So I guess the way an Austrian might explain it or think of it, just for listeners who aren't as familiar, you might be thinking, well, as a retail individual, You would say, \"Hey, is this bank legitimate? Are they really gonna be good for the money when I want it?\" but it's sort of like the government allays that fear by saying, \"Hey, we'll put in the FDIC or an equivalent in other countries, saying, 'Look, you are, you will be made whole. You don't have to worry.'\" And so then they now just kind of put their hands up and say, \"Well, I'll just put my money into any bank that has an FDIC, blah, blah, blah, right?\" But I think" }, { "speaker": "guest_2", "time": "57:40", "start": 3459.73, "text": "Well in excess of the, of the, of the insured limit, and it's not just in the US, there's similar FDIC type insurance in other countries, and, I'm not an expert in all of those other countries, but in most of them, my understanding is that there's a cap, and so if you're a big business who's managing, you know, tens of millions or hundreds or, or even billions, tens of billions of cash, right? then, then you're, you're obviously, you know, the two hundred and fifty thousand dollar FDIC The insurance cap isn't meaningful to these tech companies and healthcare companies that are sitting on all these, on all this cash. They absolutely have to pay a lot of attention. And, and I watched it, you know, and, and there's a lot going on in the, in the capital markets behind the scenes, that never gets talked about in, in, in the press because corporate treasurers aren't talking about any of this. But one of the things that happened in the two thousand eleven, two thousand twelve timeframe, was when, the, the, the euro started to really concerned that the euro might not survive. It was before Draghi came in and, and, and, basically gave his, \"whatever it takes,\" speech and, but- in probably the six to nine months before all that happened, you saw, corporates, US corporates, I saw, pull, pulling their cash deposits out of their European banks and, putting them in US money market funds or US banks and swapping back to euros. So what did that do? Economically, they still had euro exposure 'cause they couldn't take the accounting volatility, they didn't wanna bring it back to dollars, but that meant that their credit exposure was not to the- European banks, it was to the US banks or to US money market funds, and they just, got the euro accounting benefit by swapping it back. So, yeah, I'll, I've seen that very behavior a number of times. there was also another example, right after the financial crisis, the large corporates, ha-had a benefit of unlimited FDIC insurance, and that was extended into, I think maybe even two thousand eleven, two thousand twelve, something like that. and, and so for those few years, corporates could actually have unlimited FDIC insurance. What effectively the US government did was guarantee the banks, at that point, because it, it offered unlimited FDIC insurance, and the FDIC is guaranteed by the US Treasury. So the FD-- the FDIC, if you look at its balance sheet, is really small. It really couldn't handle a run on the whole US system. So what that really is, is a US government guarantee. and, and, and they ended up taking that off in like two thousand eleven or two thousand normal. But I remember at the time, there was just billions of dollars of corporate stashed, corporate money stashed in those non-interest bearing, one hundred percent FDIC insured accounts at US banks. and then, you know, the, the, the announcement was made with maybe six months notice or so that that was gonna be discontinued and all the treasurers then had to move their money into other, other types of accounts. But that just goes to show you, back then, everybody was really worried about the creditworthiness of the system and the creditworthiness of their banks. And Take no interest on their cash just to know that their cash wasn't going to be defaulted upon." }, { "speaker": "stephan", "time": "01:00:57", "start": 3657.04, "text": "Yeah, right. And as you were, as we were coming back to, it also reminds me again of that idea of the moniness idea. So US Treasuries are obviously closer to money than, you know, physical cash and coins, let's say. But in, in that example where the corporate treasurers were swapping, via foreign currency swaps, but you, you were mentioning that they were holding balances inside money market funds. So that is also arguably a form of, But moniness." }, { "speaker": "guest_2", "time": "01:01:23", "start": 3683.19, "text": "Yep, yep, absolutely. Well, and, and those have had their, their string of problems too, right? Because it used to be that they were allowed to report that their value was one dollar, and then you started to see the reserve asset fund was, I think, the first money market fund in two thousand and eight that so-called broke the buck. It was no longer worth one dollar, but it was always reported, up until that point, that, that money market funds were always worth a dollar. It's- They're kind of like stablecoins. I just see the same, you know, trends repeating. Stablecoins are supposed to be worth a dollar, but are they really backed one hundred percent by, by quote unquote, risk-free assets? Right? We saw in Tether's case, they weren't, and yet, the market frankly looked through a lot of that and didn't seem to care, during that time period. but you can see a pretty meaningful divergence. They don't always trade at a dollar, and so one of the problems with stablecoins is that, They're probably capital assets for tax purposes. I'm big disclaimer, I'm not giving tax advice, I'm repeating what I've read. talk to your tax advisor if you have a question. and the same thing is true on the accounting side. They're not considered a cash equivalent because they're not issued by a bank. and so again, fair warning, go get an accounting opinion from an accountant. but they suffer from some of the drawbacks of, of being volatile assets. so you should- You've still gotta do the tax reporting, again, big disclaimer, but, you know, if Tether's trading at one point o one, that one penny is actually a capital gain, and because there's no exclusion, on capital gains, then, you have to report that one penny, and it doesn't add up to much in, in terms of value potentially, unless you trade a lot, but, it creates a huge tax reporting headache. And so, again, the IRS hasn't- Totally clarified all this, and the same thing on the accounting side, you're marking it to market, it's not a big mark to market, but, we, we had that same issue with money market funds. Are they actually, are they treated as cash equivalents for tax purposes and for accounting purposes? And it turns out that some of them are and some of them aren't. And indeed, I think that's what's gonna happen with stablecoins. some will be treated as cash equivalent and some won't, but it remains to be seen. But you can see that this is a whole new category of dollar equivalent, assets and, they're making their way into capital markets, they're making their way in as collateral and what they, what they really are, which is most likely securities." }, { "speaker": "stephan", "time": "01:04:01", "start": 3841.55, "text": "Right. I see. Yeah. So it's, it's a, it's kind of this funny blurred line between being a security versus trying to be a money or be considered on that money spectrum. And I'm also curious to get your thoughts, so people might be thinking, well, as Bitcoin grows up and becomes bigger, there is this increasing financialization. And speaking to a point you were mentioning earlier around the tail wagging the dog. So, I guess a quick example, let's say someday a Bitcoin ETF comes, and it, it would-- do you perceive that that could be a risk there in terms of the tail wagging the dog, where let's say the ETF has been so much more- More subscribed or so many more people are buying or selling that ETF than people who can actually deal in the underlying real Bitcoin. Do you have any views on that?" }, { "speaker": "guest_2", "time": "01:04:49", "start": 3889.58, "text": "Oh, it's already happening, Stefan, and, and, and this is, you know, one hundred percent a problem. I've, I w-wrote a lot about this, back, two years ago, on, on Forbes dot com, a series of pieces on, on the bad type of financialization. There's good type of financialization, which is real, true liquidity coming in from a new And then there's the bad type of financialization, which is where it gets fractionally reserved, and we are absolutely seeing fractional reserving of Bitcoin happening, full stop. And it is suppressing the price of Bitcoin, full stop, just like rehypothecation and other fractional reserving tools suppress the price and frankly the interest rates, i-in the dollar, that is absolutely the case. And, a-and so it's gonna create, you know, an unwind at some point, but, as much as I'm concerned about re-h-rehypothecation And, all the fractional reserving that is happening, the bad type of financialization that is happening in Bitcoin, I'm not worried about Bitcoin itself, just to be clear. Oftentimes I get that question, is, is, is this, does this mean it's bad for Bitcoin? No, it just suppresses the price in the short term, and it means that when the unwind comes, it's gonna be spectacular. And so you want, you know, you wanna be long, you know, if somebody wants to suppress the price in the short term and, and let me buy" }, { "speaker": "guest_2", "time": "01:06:10", "start": 3970.1, "text": "I think it's a dynamic that we can't escape. And, I, I, I will say I respect the companies that are at least outright acknowledging that they're doing it, BlockFi, Celsius, and, and, and o-and others. I don't mean to single them out 'cause there are others as well, but I do know that the two of them have admitted this is the case. It's in, it's in their terms and con- and terms and conditions, and it's outright there. It's this-- they're operating the same way that your brokerage firms do And, the interesting thing about those companies is they're not regulated and they're not audited and there's no visibility into their balance sheets. So it's, it's an interesting question, what's the counterparty risk of those counterparties and does the market have any idea how to price it? We'll only know in retrospect, yeah." }, { "speaker": "stephan", "time": "01:07:02", "start": 4022.18, "text": "Yeah, I see. Alright, also wanted to chat about the OCC interpretive letter one one seven zero. It's cryptocurrency custody for customers, so I'm sure you'll have some views on this. So, Caitlin, perhaps you just wanna summarize a little bit, what are they getting at in this interpretive letter?" }, { "speaker": "guest_2", "time": "01:07:18", "start": 4038.44, "text": "Well, it is allowing national banks to provide custody services around digital assets. It's a, it's a clarification of the type of assets that national banks can provide custody services for. and so it's not a change in the law, they didn't need to Congress to get a, get, to get a change in the law, they had the, the, the authority to issue the interpretive letter. it's not a change in the rule either, it doesn't have to go through any public comment period. So in the US, we've got laws, rules, and then interpretations of those rules. so three different layers. What an agency can do, i-i-without having to go get public comment or change the law, is release an interpretive letter. in the SEC, they're typically called no action letters You see, they're called interpretive letters. They do have the force of, of, of, of, of, of, of, guess I'm mixing terms here when I say force of law, but they, they absolutely are effective, and they typically aren't reversed. and so, you know, this was a big deal, when I saw some of the announcements that Brian Brooks had, early on, that they, they were gonna create a national fintech charter, a national special-- sorry, a national special purpose bank charter, which was exactly I knew that that wasn't real. They, he was gonna need to go to Congress to get that changed. But this interpretive letter, he didn't have to go to Congress, and he didn't have to do a new rulemaking process with a, you know, public comment period and getting it published in the Federal Register. This is effective immediately. So he, he did a, he did a, a big favor to the institutional adoption of crypto. And I think from, from the everybody's perspective, the real impact of this, alongside the blog post that Visa released Released on the same day, endorsing Bitcoin and stablecoins as powerful payment technologies. All this means that the big incumbents are here and this narrative that's been persistent, persistently wrong but persistent, that the US government was gonna shut down Bitcoin somehow. you and I know that wasn't possible, that ship sailed a long time ago, but the narrative was still there. I think at this point, anytime anybody raises that narrative with you, you just push out, you just laugh. I mean, it's At this point, with the big banks and Visa getting in and endorsing this, you know, that ship sailed. It's good for Bitcoin." }, { "speaker": "stephan", "time": "01:09:41", "start": 4181.45, "text": "Yeah, that's fantastic. So, I suppose up until this interpretive letter, it, it remained a little bit unclear what normal banks could do, correct?" }, { "speaker": "guest_2", "time": "01:09:52", "start": 4192.09, "text": "Oh, yes. no bank was going to try to provide custody services without getting express approval from the regulators. That is something you, you, you, you pretty much do need as a bank to go get permission from. You, you have an open dialogue with your regulators, and heaven forbid if you're doing something they don't know about, it's gonna be a problem for you when they find it out. So, this is one of those situations where clearly some national bank went and applied to, to do this, and, as a result, Now all national banks can do this. there's one other interesting aspect of it though that's a bit challenging, which is that the smaller banks will need to go through a full regulatory review before they can do this, the smaller national banks. The gigantic ones, the JPMorgans, the Citigroups, the UBSes, the banks, Bank of America's. It, their digital asset activities are probably not going to be deemed material in size, and therefore they wouldn't rise to the level of affecting the safety and soundness of the bank. Therefore, they can be in digital assets as of the, as of July 22nd, literally. and it's unfortunate because those who are concerned about the power of the big banks, this is one of the, one of the ways that the rules work in their favor, is that if they wanna do something new and it's not material relative to their overall business They can do it immediately when they get an interpret-- an interpretive letter like this." }, { "speaker": "stephan", "time": "01:11:18", "start": 4278.84, "text": "Right. So what sort of services could we see banks offer in terms of cryptocurrency? I mean, are we talking, safe custody, vaults to people can hold their hardware wallets in it, or are we talking more like they might literally start just offering, you know, Bitcoin accounts alongside other kinds of accounts?" }, { "speaker": "guest_2", "time": "01:11:38", "start": 4298.66, "text": "Who knows? all of the above. Those, those would both be considered custody businesses, safekeeping of, of assets. so yeah, who knows? There is going to have to be some degree of back and forth with the, supervisor of whoever this bank is, that wants to get into Bitcoin. They, they are, they are probably, you know, not literally waiting in immediately, but, For a big bank to put in a request for an interpretive letter like this and make their regulators, you know, jump, they wouldn't do it if they weren't serious. having started three businesses inside new banks, ins-inside these big banks previously, I know what it takes to get that done. It's a very heavy lift, and for a regu-for a bank to ask its regulator for approval to do something, they have their ducks in a row before they even ask the regulator. so, you know They've got a plan, whoever this is, and, it, it's, yeah, they're, they're coming, and it's gonna be interesting because I think it's gonna shake up the existing crypto industry, and generally speaking, I, I think it's good for the venture capital firms because, my guess is that there will be a land grab, there will be an M&A wave, and this might make some of your listeners cringe, but I, I think a lot of the native crypto companies are gonna end up owned by banks before this is over," }, { "speaker": "guest_2", "time": "01:13:06", "start": 4386.6, "text": "the other, the other, the other side of this is that, the crypto companies could go get a bank license, and I shared this with Anthony Papiano on, on his podcast as well. we, we-- this industry definitely tends to, to be critical of banks, and I think it's more for monetary policy reasons than, than other reasons. I think, I don't think the banks would disappear even if fractional reserve banking went away. We would just go back to a money warehouse service provider type of, you know, fee-based service provider relationship. That will always and, and so, the, the here's the punchline that I think is important for everyone to carry away from this part of our conversation. The banks have licenses that enable them to do certain things that non-banks can't do, and so putting a bank wrapper around a crypto business makes a lot of sense. And so this, the notion of just a broad brush, you know, anti-bank approach to the world isn't actually the right way for this industry to be thinking about things. It's the particular- Particular particularities of the way the banks have, banks business has evolved, the traditional banks, that I think we can be critical, critical of, and I am critical of, but the, but the bank license itself and actually working with, with, the bank regulators, which are by the way, an entirely separate part of the Fed than the FOMC, those, those are different and, should not be painted with that same broad brush. I think even if James Grant's view of the world, which is, you know, privatize the Fed. even if that were ever to happen, what, what the Fed would effectively become, the vast majority of, of employees at the Fed work in the bank supervision division, and that would essentially become a, a self-regulatory organization. so it wouldn't go away, it wouldn't disappear." }, { "speaker": "stephan", "time": "01:14:52", "start": 4492.74, "text": "I see. so let's chat a little bit about Avanti. What's, what's the latest there?" }, { "speaker": "guest_2", "time": "01:14:57", "start": 4497.78, "text": "Well, we're applying for a bank license. This, this is a wrapper around," }, { "speaker": "guest_2", "time": "01:15:04", "start": 4504.64, "text": "About who our tech team is, and, and we want to, to build a compliant bridge between the traditional banking industry and the, digital asset world. we are gonna be very different than a traditional crypto company. most of the traditional crypto companies are, are what I would call sell side focused. you know, they, they collect fees for listing someone's cryptocurrency. we won't do that at Avanti. We, we are buy side focused. We are customer focused. And so we'll go where customers want us to go. And right now, the, the, no question, the biggest level of interest from a digital asset perspective is in Bitcoin. So I'll, I'll be working to get new institutional investors into Bitcoin. I know a lot of your listeners are purists and think, \"Why on earth do we need any service providers, any intermediaries in crypto?\" And you know what? You're a hundred percent right. if you don't wanna have an intermediary involved in your crypto transactions, Godspeed, you don't have to. And that's The beauties of, of Bitcoin, it's, it is about personal financial freedom. it is a bearer asset if you're willing to take that, take that responsibility. But for those who choose not to, or for those institutional investors that can't, by law, self-custody their assets, they need a third party custodian, and until there is one that's deemed institutional quality, they won't come in. And so, you know, again, a lot of folks think the pension funds and mutual funds and the like- you know, doesn't matter to Bitcoin, and, and in the long run, it doesn't matter to Bitcoin whether they come in or not, but it's certainly gonna be good for the ecosystem if they do. These are, these are not the big bad institutional investors, these are, these are the cream of the crop, and frankly, I think they'll help clean up when they come in. They'll help clean up some of the bad practices that are happening, like all the front running that's happening at the exchanges, like the bad terms and conditions," }, { "speaker": "guest_2", "time": "01:17:04", "start": 4624.04, "text": "in, Go read the terms and conditions of your, of your crypto service providers and, some of the things in there will make you scratch your head. they aren't consumer friendly. And, you know, one of two things causes, causes the financial industry to be consumer friendly, either they're forced into it by their customers, which hasn't happened in this industry yet, or they're forced into it by regulators. And I, you know, that, I think that's coming. I think there's definitely gonna be some crackdown, there, there already has been at the CFT Crackdown on some of the, some of the consumer unfriendly behavior. but one example that I'm alluding to here is, there's one major institutional player that defines Bitcoin, quote unquote, as a digital asset. Well, if all of a sudden that, that firm decided that it was in their interest to call Bitcoin cash Bitcoin, there is nothing that you would be able to do about it. Because they have defined that term so broadly that you wouldn't have any, a legal remedy if you sued them and said, \"No, Bitcoin Cash isn't Bitcoin, Bitcoin is Bitcoin.\" They're going to-- the judge is going to say, \"Well, then you should have negotiated a better contract.\" so the, the, the power is with the existing intermediaries in this space. They haven't been pushed to real, institutional quality terms yet, and I think that that's coming, and that's gonna be good for-" }, { "speaker": "stephan", "time": "01:18:29", "start": 4709.51, "text": "That's fascinating, Steph. I really enjoyed chatting with you, Caitlin. Yeah. I think it's probably a good time to, close it off here. But, before we let you go, Caitlin, where can listeners find you online?" }, { "speaker": "guest_2", "time": "01:18:40", "start": 4720.44, "text": "Well, Twitter's probably where I'm most active, LinkedIn as well, and caitlin-long dot com, and then of course, Avanti Bank, we'll be making some more announcements in the coming months and, hopefully getting over the finish line and getting ready to open up," }, { "speaker": "guest_2", "time": "01:18:58", "start": 4738.15, "text": "That was great fun." }, { "speaker": "stephan", "time": "01:18:59", "start": 4739.45, "text": "Find the show notes at stephanlivera dot com slash one nine eight and remember, if you wanna get in touch with me, my Twitter DMs are open or you can email me at stephanlivera at pm dot me. Thanks for listening, and I'll see you in the citadels." } ] }