Before we embark on the ICO and Crypto analyses, we will need to understand the proper concepts of value and money because ICO and Crypto developers are trying to portray their digital tokens as cryptocurrencies that are tantamount to monies.
What is a value?
Value in financial term is just a monetary worth but value by itself has 2 inherent meanings: Extrinsic and Intrinsic values.
Basically, an extrinsic value is a perceived value of an item and it differs from person to person because a perceived value is something very subjective and is affected by our want(s). An extrinsic value is usually highly volatile because it is affected by an elastic demand. Therefore, the extrinsic value (price) is affected by demand and supply.
For example, you may perceive $10 of an item as cheap but I may value it as expensive because our perceived values and wants are different.
Conversely, an intrinsic value is an essential value, which is vital for our survival and is commonly defined as a need. An intrinsic value has low volatility because it has an inelastic demand. Therefore, intrinsic value is not affected by the demand and supply.
For example, water has an intrinsic value to us because we need water for our survival and we will consume water regardless of the water price.
Please let me digress a bit to explain the demand-supply concept because I feel that it is important to get the concept right.
Many people have the wrong notion of the demand-supply concept. Demand and supply concept is premised under a perfect world condition. That was what I learnt in my economics class aeon ago. A perfect world is defined as an environment with no alternatives and is ceteris paribus. However, we live in an imperfect world. For example, I can travel to Kuala Lumpur from Singapore in a budget airline like Airasia, which has some direct competitors (direct alternatives) like Scoot, Jetstar, etc., and the indirect alternatives will be to travel in a train, car or coach. Thus, Airasia cannot keep its fare prices high by reducing its supply. Subsequently, I will use my own bar diagram to illustrate the flawed demand-supply concept of bitcoin instead of the standard demand-supply curves graph. Likewise, bitcoin has many competing alternatives.
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Currently, about 17m of bitcoins are mined insofar but the price is hovering at US$4,500m on 20 November 2018. Cryptocurrency was developed based on a flawed demand-supply concept because the developer(s) didn’t have a proper understanding of economics. Please see the bar diagram below.
If the demand-supply concept conceived by the crypto developer(s) works in reality, bitcoin price will be approaching a record high level as there is only about 4m of bitcoins (21m in total) left to mine but the bitcoin price is at US$4,500 (Nov 2018) instead of its peak of US$20,000 (Dec 2017). The bar diagram has revealed that bitcoin is developed on a flawed demand-supply concept because bitcoin price does not follow the demand-supply principles.
Let us get back to the analysis again.
Generally speaking, a product with an intrinsic value will have an existing or future extrinsic value but a product with an extrinsic value may not have an intrinsic value.
For example, the air we breathe in has an intrinsic value but no existing extrinsic value. However, when there is any serious air pollution, we will put an extrinsic value on the air by buying an air purifier within our monetary means because we need clean air to stay healthy.
Water has both extrinsic and intrinsic values because we only drink water for our survival. There is no added benefit for drinking more water because we will get water poisoning when we drink excessively.
A luxury item has an extrinsic value but no intrinsic value because it is just a want and we can do without it since it does not affect our survival.
Next, we will need to understand the functions of money in order to analyse any cryptocurrency. Money is an economic concept and serves 3 primary functions.
3 Functions:
1. A medium of exchange
2. A store of value
3. A unit of account
As we can see, money is not created by technology because the aforesaid functions need not be fulfilled by technology. Let us look at the functions in more details.
A medium of exchange is an intermediary instrument to facilitate transactions. Therefore, it has to be something that is easily transferrable and money serves this role better than barter trade. Cryptocurrency also fulfills this function well because of the ease of transfer.
A store of value is an asset that has a relatively stable value over time so that it can be saved and used in the future. In a nutshell, it is an asset with an intrinsic value and has a low volatility for change. Money has an intrinsic value not because it is backed by a country’s reserves but rather its legal tender status that is passed in the parliament. This legal tender act allows the government to impose upon users to use the stipulated money as a medium of exchange and the state money cannot be rejected. In short, we need to use the state money for any transaction in the country. Thus, this legal tender status is not affected by the financial reserves of a country and is recognized to have a low volatility for change unless the government declares it as void.
For example, cowry shells were recognized and used as monies 3,000 years ago. Why? This was because cowry shell was declared as legal tender in the past and not because it was backed by the financial reserves of the involved countries. However, cryptocurrency does not fulfill this function because any user can reject it as a medium of exchange since it is not protected by the legal tender act and it has high price volatility. Consequently, cryptocurrency does not have an intrinsic value, that is, a real need to use it.
A unit of account is a monetary unit of measure that is divisible. For example, a 100gram gold ingot is non-divisible for $2.75. Conversely, money is easily divisible. Cryptocurrency also serves this function well because it is in a digital form, which is easily divisible.
Since money has to serve the aforesaid 3 functions in order to be widely accepted, cryptocurrency cannot be classified as money as it does not fulfill the basic requirements. Therefore, the proponents who try to portray cryptocurrency as money is doomed to fail. Furthermore, bitcoin is also not suitable to be a payment system because of its structural design flaws and volatile processing fees.
An ICO is an issuance of specific digital tokens based on another cryptocurrency. In other words, the ICO is piggybacking on a specific cryptocurrency, which is based on a public blockchain. This ICO infrastructure exposes ICO investors to higher risks than necessary but the issuer will not discuss these risks with the investors.
A responsible and ethical organization will not use a public blockchain to process and store sensitive data because of confidential and privacy issues. When a company uses a public (decentralized) blockchain, it has to allow external nodes to access its data using public keys. This kind of decentralization will renegade the company’s confidential and privacy terms. Let me ask you this question: How many people are comfortable to show their bank statements to strangers even though the strangers cannot alter their bank account information? I believe you get the whiff of my drift now. Therefore, the reputable financial institutions, medical facilities, etc., will not use public blockchains for their data processing and storage. I will not discuss the security of blockchain because it is irrelevant in our financial analysis. For your information, blockchain security is hackable by using a method known as 51% attack (plus double spending technique).
Next, an ICO has a higher risk because it is riding on another dicey cryptocurrency, which will derive a lower success rate in the end. This lower success rate can be fully explained by the binomial probability theorem. For example, if an ICO has a probability of 80% success rate but it is piggybacking on another crypto, which also has a probability of 80% success rate, the ensuing outcome for the ICO success rate will decrease to 64% (0.8 x 0.8 = 0.64). A mathematics theorem is always a working theorem unlike a business or philosophy theorem and I will prove the working binomial theorem with some applicative examples.
A bi-nomial theorem involves 2 coefficients (Bi) which is what the name is known for. A binomial theorem is often used in the calculation of probability, financial derivative, factorization, etc. For example, (x-2) is a binomial expression because it has 2 coefficients that consist of (+1)x and (–2).
The simple binomial probability (P) methodology will be:
PAB = P(A) * P(B)
The other common binomial probability (P) methodology will be:
PAB = P(A1B1) + P(A2B2) + P(A3B3) +…………+ P(AnBn)
As an example, we will apply the above pascal’s triangle to solve the factorization of (X-2)3.
Using normal factorization method:
(X-2)3 = (X-2) (X-2) (X-2)
= (X2-2X-2X+4) (X-2)
= (X2-4X+4) (X-2)
= X3-4X2+4X-2X2+8X-8
= X3-6X2+12X-8
Using binomial factorization method:
Since (X-2)3 has an exponent of 3, we will use (1 3 3 1) in the pascal’s triangle as the X coefficients to solve the factorization. The first coefficient will have decreasing exponents while the 2nd coefficient will have increasing exponents in the working expression.
(X-2)3 = (1)X3 * (-2)0 + (3)X2 * (-2)1 + (3)X1 * (-2)2 + (1)X0 * (-2)3
= (X3 * 1) + (3X2 * -2) + (3X * 4) + (1 * -8)
= X3 + (-6X2) + 12X + (-8)
= X3-6 X2+12X-8
The binomial theorem is able to solve the binomial factorization with the same answer as the normal factorization method. Therefore, binomial is a valid theorem.
2017 was a superb year for the ICO industry because many billions were raised. Since most of the ICOs are using ERC20 infrastructure and Ethereum cryptocurrency, this phenomenon makes Ethereum highly vulnerable and volatile. As the ICO issuers take between 1 to 2 years to fully develop their ICO eco-systems, ICO investors are already suffering from the crypto carnage now because they exchanged their Ethereums at higher prices in 2017 for the ICOs. Furthermore, there will be a rush to cash out of their ICOs in 2019 and this will depress the Ethereum prices.
2017 was a superb year for the ICO industry because many billions were raised. Since most of the ICOs are using ERC20 infrastructure and Ethereum cryptocurrency, this phenomenon makes Ethereum highly vulnerable and volatile. As the ICO issuers take between 1 to 2 years to fully develop their ICO eco-systems, ICO investors are already suffering from the crypto carnage now because they exchanged their Ethereums at higher prices in 2017 for the ICOs. Furthermore, there will be a rush to cash out of their ICOs in 2019 and this will depress the Ethereum prices.
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