Welcome back, everyone. I am Cass PNC and I'm joined as
usual, by my partner in crime, Mr. Bennett Tomlin.
How are you? I'm.
Doing well. How are you, Cass?
Hanging in there? We're joined by a very special
guest today, Patrick McKenzie, writer and expert in financial
infrastructure and the author and operator of the newsletter,
Bits About Money. Patrick McKenzie, how are you
today? I'm doing very well everybody
and before I get started, have to make the obligatory
disclaimer. We're going to be talking a lot
about payments today. I previously worked at the
company Strike, which does, as many of you know, quite a bit of
payments for six years. But I'm speaking entirely on my
own behalf, even though I'm still an advisor there in some
capacity. I think it'd be a good place to
start just in payments, payments, payment
infrastructure, like financial payments infrastructure, You're
an expert in that. Do you want to talk about how
you think cryptocurrency fits into payments and finance in
general, and perhaps some of the issues that you see with it?
So let's take a step back for the moment to talk about
payments. Generally speaking, the economy
is this overwhelmingly complex machine that includes a lot of
various actors that are bouncing off of each other and exchanging
value. Typically a transaction will
involve one business and generally a customer.
Of that business whether that is a business customer or a
consumer customer like you know these three handsome blokes that
are doing a podcast about cryptocurrency transaction
typically takes multiple steps and that that exchange of value
is actually like kind of complicated when you get into
the the details about it. You might think like some are
pretty simple, simple you go up to a cafe, you get a cup of
coffee and hand over your money. But some of them, you know they
involve an invoicing process, a multiple month contract
negotiation etcetera, etcetera. And so a payment happens.
As an important part, that is very much not the whole of the
part which is an adjunct to these transactions, an adjunct
to these customer relationships and all payment is, is a message
between the customer, the pay and the business.
That tells the business something that is useful to know
about whether they will ultimately receive money for the
good or service that that is under issue.
Typically the form of the payment encodes some information
as to the level of certainty the business should have that will
ultimately be paid about this and kind of like the most
interesting thing that payments as a field has ever done is
convincing people that a payment is actually much more than a
promise that there's, you know. Math and infrastructure and
yadda yadda. And there is math and
infrastructure and yadda yadda. But at the end of the day, all
payment is is a formalization of a promise that could have been
made on words or paper or via smoke.
Signal, could you walk us through an example or
prototypical payment just to show how like the payment itself
is a promise and how that works kind of in practice?
I will disclaim at the at the start that everybody who works
in payments or crypto or the finance field.
I grew up in a particular place, perhaps many places, and they
often filter. Through their views on the
field, through the experience of that particular place.
And when you look at payments worldwide, the various different
payment methods have very, very different user experiences and
sort of ergonomics associated with them.
Let's use like the world's most terrible payment method and you
can make a long list of payment methods that are vying for that
for that crown. But I would claim that the the
system of checks in the United States is.
A system of payments that nobody would invent in 2023 because it
is unsafe for all possible use. But it's a good thing to like
sort of get a mental model for how payments used to work.
And so back in the day you like, go into a grocery store, you
pile up a basket full of groceries, you take them to the
counter and when you pay it a check, all you are doing is
saying, hey grocery clerk, the total comes to.
Well, it was back in the days, so it was probably like $16.00.
And I promised to pay the grocery $16.00 for this year
basket of groceries. And actually, prior to checks
being at being much of a thing, that was the end of the payment.
Because the promise was literally that.
It was a promise. The grocery store would just
increment your account by, OK, you owe $16.00 more than you
used to. And then a few months later you
would go there and pay cash or specie or you know, Beaver Peltz
or whatever it was. But.
When the grocery stores largely tried to get out of the
extension of credit business, they would say Okay, give us a
check and the check is still an extension of credit.
All it says is okay that verbal promise that we used to make,
that I will pay the $16.00. I'm gonna write that promise
down here on a piece of paper. And this promise and this piece
of paper are magic because you can take this here piece piece
of paper and this promise on it and hand it to my bank and my
bank will have will hand you 16 actual American dollars in
behalf of this. And importantly, Despite that
being the transaction, the grocery store almost never
actually did that. What the grocery store would
actually do is take the the promise over to their bank,
which is typically not the customer's bank.
And they would say, hey this person has paid, has promised to
pay me $16.00 and the customer's bank would say, well golly Gee,
it looks like another bank has promised the bearer of this
instrument here $16.00. You can deposit that in your 16
in your account. I will credit you $16.00 perhaps
today, perhaps 5 days from now doesn't really matter.
And then I the the bank that you bank at am going to go to the
customer's bank and say, hey the customer has.
Made a promise for $16.00. I would like to collect on that
promise in satisfaction of this credit extension that I have
made to my customer. And then you layer on that like
fascinating Rube Goldberg contraptions of the
infrastructure built to to support.
This used to be back in the days that there were massive, massive
Courier operations between different banks attempting to
carry like literally 10s of thousands of checks a day.
Between them because the check was only actually good at the
particular institution written on the check.
And then we developed this clearing house infrastructure
where everyone said, you know, it is crazy that every bank
needs to send out 4000 couriers a day to 4000 other banks.
Why don't you send all the couriers to just one place in
the middle and they will do the math and handle this for
everybody And then. They made that that
clearinghouse system electronic. If you've heard of ACH, it's the
automatic clearinghouse. The automatic stands for a
computer is involved and we've had, you know progressive layers
of infrastructure built on top of that, like fundamental,
terrible. The check is a promise written,
physical paper infrastructure. By the way, why is the check a
absolutely terrible payment method We would never design?
A payment method in 2023 that had all the secrets necessary to
steal all the money printed on the face of the payment method.
But check factually does have all the secrets necessary to
steal all the money printed on the face of it.
And so anytime you give a check to anyone, both the person you
are giving it to and anyone who even glances at that check for
one moment, can debit all the money in your bank account.
And the reason that doesn't happen constantly is because
banks are extremely aware of this terrible, terrible decision
made several decades ago, and like, constantly squashing
attempts to do that. Anyhow, that's a brief
simplified method, simplified understanding of like.
The huge amount of societal effort that goes into the back
office of simply trying to buy $16.00 worth of groceries now
scaled that up to there are many, many different competing
payment methods. You're probably very familiar
with credit cards. You're very familiar with
various forms of bank payments, they under grid, all the
essentially all the economic activity in the economy.
One can quibble on whether cash is a payment method used in this
in this case, but cash is a relatively small portion and
decreasing portion of payments in the economy and getting
smaller every year in most markets.
There's a variety of reasons for that so I'm happy to go into
them, but payments is this like giant multi faceted
infrastructural beast which is hugely interesting to do deep
dives in. I heard crypto got mentioned
somewhere in this podcast that we should talk a little bit
about crypto. I do want to delve into that a
bit. I think that's a a good a good
statement right there because I am actually a huge fan of
physical cash. I I resolutely mention this like
all the time on Twitter. And Bennett, when he when he
visited me out here knows that I was using it to pay for like
gasoline and and things that most people do not use cash for.
Why is cash dying? What do you think and and what
do you think will come to take its place?
What are the downsides to cash? Why so one?
Why is Cash Cash dying? The fundamental reason cash is
dying is because every payment method exists in competition
with every other payment method for business.
They want to get business from the businesses that are selling
things. They want to get business from
the customers that are paying for things.
And the reason cash is losing share against other payment
methods is because other payment methods give people a variety of
benefits that they can't get from using cash.
Other payment methods, you know, credit cards will offer to give
you a reward points. So the cost of doing a
transaction is literally negative where most customers
would say that the cost of doing a transaction in cash is 0.
It's not actually true, but from the perspective most customers,
that rounds to true. The ergonomics of using cash are
painful. You know, you have to count out
change, et cetera, et cetera. The cost of using cash for
businesses is much higher than people believe it to be, because
you need to actually count it. Make sure it's not stolen and
cash doesn't have a. Most payment methods have built
in infrastructure to track the relationship between a payment
and between the customer who made the payment and the
transaction that the payment was made for.
Cash doesn't have that built in infrastructure and so every
business in the economy that touches cash needs to build
their own software, accounting and contractual infrastructure
in place of the stuff that they would ordinarily buy from, you
know, Visa or their bank or PayPal or any other provider of
a payment method in the economy. So that that is fundamentally
the reason why cash is being out computed.
I don't expect cash to go away. Some people like like it two
thumbs up you do you the but people often say oh it's a
conspiracy the government wants to get rid of cash.
One the difference between conspiracy and policy goal is a
matter of degree. Like if you were to go to Japan
and say is it a conspiracy that the government wants to get rid
of cash. They would say, oh, there's a
actually, you know, a position paper that we have on this exact
subject. Where currently the percentage
of cashless transactions in the economy is ±20%, our goal is to
get that to 40% within the next five years.
Here are the initiatives that we have going on with the financial
industry to do this goal. The reasons why we have this
goal are, one, we think it will decrease the tax gap,
particularly with regards to small businesses.
Two, we think that this will help modernize Japan and allow
us to engage more international commerce. 3 dot dot dot dot so.
But the fundamental reason why you know any businesses fortunes
go up or down is their position in relation to competitors.
And cash is just, you know, not what you would come up with in
2023 for a a payments experience that is destined or you know
designed to gain share versus monitor payment systems.
I mean this leads us into the cryptocurrency debate.
I think a bit here is that with the with the death of cash in
general, not for a multitude of reasons that are totally fair
and reasonable when it comes to the future of money and the
current state of money. Do you think that the future is
closer to let's say in China they I know everyone uses like
WeChat or some sort of centralized social media app to
usually pay for things. The way anyone is known as a
tourist is less whether they know Chinese, no Mandarin and
more if they have like WeChat and a a bank in China that they
can use to pay for this stuff. If they're using cash, they're a
tourist. Or do you think it's something
closer to cryptocurrency where you have it decentralized to an
A degree or centralized kind of stable coins, which are
cryptocurrency I guess, right? I think one of the interesting
things that. Looking at payments will like
give you for a glimpse on the future is that there isn't one
future for the world of payments.
We are likely have multiple different equilibria in multiple
places. It's always difficult to look in
the crystal ball and predict the future, particularly for a
country where one is less invested.
But if I were to, you know, be in the crystal ball business, I
would say, oh, it does look like China will increasingly go in
the direction of a very small number of payment systems that
are nominally, privately administrated.
Which are as nominally privately administrated as anything else
that exists in China. And those systems will probably
be fully electronic, not touch cash, and be relatively separate
from the formal banking system unless and until the Chinese
government decides that it would be.
More advantageous for them to be in the formal banking system, in
which case they'll be in the formal banking system
immediately. That equilibrium doesn't prevail
in other places. So in many markets there is an
like a Cambrian explosion of competition between payment
methods happening right now. And so I am something of gamer.
Until recently I lived in Japan, and if you were to go to Steam
right now, Steam lists 15 different ways you can pay that
for, you know, video games in Japan.
And 15 is actually like a small segment of the Japanese payment
market at the moment. If you do go to convenience
store, the number of logos they have indoor will be ±40.
And 40 does not touch the entire market.
That's just like the teams that were smart enough and big enough
to get the largest convenience store chains in the world to
accept their money. That's a very different
experience from what we have here in the United States, where
for the longest time the payments industry thought in the
United States that the credit card was the final evolution of
payments in the United States. And that all interesting work in
payments heretofore would be like different variations on
let's make it a reward card, let's put different credit terms
on it, maybe we can make a credit card and take off the
credit part and call it a debit card and that will allow us
access to a new market, et cetera, et cetera.
And then just in the last few years, there's been innovation
both within the United States and coming from places outside
the United States, greatly impacting the US market.
With respect to things like buy now, pay later as an offering
where they said, you know we can entirely like take out the
credit part of this or rather take out the card part of this.
Make it palatable for the merchant to underwrite the
credit extension and knock down the cost of credit to 0 for the
customer and work the numbers such that this works out for
everybody. And we see, you know, different
things in places like India where India has a public private
partnership that has. Sort of like the Platonic ideal
of what people who say central bank digital currency.
Like most people who say central bank digital currency care
probably less about the slow database involved and more about
like the fundamental user interface involved.
Where like any person in the economy should be able to pay
any other person in the economy at an arbitrarily low cost.
And India rolled that out with their.
Sort of public private partnership payment method that
is tied to individuals, identity cards and et cetera, et cetera.
Brazil also has an option called Pics, which is spiritually
similar, although it has some important under the hoods
differences. And in India, like virtually no
one has a credit card and you know, given a like really strong
publicly endorsed alternative payment method I think.
One would probably be bearish on the perspective of like India.
You know, credit cards in India as a payment method, capturing
the majority of sharing that country.
But who knows what the future holds?
What do you think the largest unsolved problems in the
payments industry still are? Oh, there's so many of them.
This surprises a lot of people. But the largest and most
sophisticated businesses in the world hate money.
And why do I say they hate money?
It's because they have a team that's in charge of payments.
The team is in either an organizational backwater at
their company or in many cases doesn't work for their company
and they work for a middleman or a systems integrator or an
Accenture or similar. And the actual interface where
their customers come and pay them, literally all of the money
is like. In some cases, it's literally a
particular webpage you can click on.
In many other cases, there's a million different interfaces,
all flawed in their own way, but that, like the the actual
experience of a customer attempting to pay is broken
profoundly in so many different ways.
Like, in the same fashion that science can demonstrate that
cigarettes cause lung cancer, this webpage causes you to lose
billions of dollars and that persists and so that like.
The high level biggest problem in the world for payments is
that the adoption story of it for businesses is just
tremendously suboptimal relative to their goals for it.
You can also say the same about the adoption story for
individuals, you know be quite a bit of the like.
The general distaste for banks and etcetera is ultimately
transactional friction around like routine transactions in the
economy that. The parties expected to go well,
that didn't go well for various reasons.
And then, you know you need someone to blame for that going
badly. And for whatever reason, the the
banks end up carrying the ball, sometimes extremely deservedly,
but other times it's just because we haven't figured out a
way to add a societal level. Deal with conflicts between
renters and landlords, for example, in a way that doesn't
bring the payment method into it.
And indeed, that is actually one of the things that payment
method offers to the world. We have this gigantic society
wide system for resolving disputes between people involved
in commerce. It's called the legal system.
It is galactically slow and galactically expensive.
And the thing that payment methods offer is to say, OK, you
will always retain the right to go to the legal system to argue
over the $16.00 basket of groceries, but neither you nor
the grocery store wants that to happen.
And so if you use your debit card to pay for the groceries
and an apple spoils and you go to the grocery store and can't
get a happy resolution with regards to your apple, call the
1800 number on the back of the debit card, debit card and say I
am unhappy and you get your money back.
And there is this, like massive machine and capitalism that
exists to guarantee you that invariant for you, You don't
have to care about that machine at all.
You just have to know. Call the 1800 number on your
debit card and your problem goes away.
And you don't have to pay $600.00 an hour for a lawyer to,
like, fight this case in court for four months, because no one
wants that to happen. How much are these experiential
problems in payments tied to the infrastructure choices that have
been made so far the building it up from checks?
To this automated clearing house?
To this various small kinds of credit on top of it.
How are those related to these experiential problems?
Or are they related? They're extremely related the
the word we like to use a lot as path dependency.
Many people in the United States and many people in the crypto
industry who are heavily exposed to the United States think that
transfers between bank accounts they take forever.
And to the extent that they don't take forever, they still
take like way too long for computerized transaction and
then cost a lot of money if you're doing wires.
And all of those are path dependent.
They're because transfers between banks and the United
States is ultimately based on this model of like sending
checks from one end of the country to another of like
various iterations we've made on top of that model.
There are reasons why those iterations persist.
The banking industry does not lack for smart people.
It turns out that when you're dealing at the scales of the
economy, things that you could do that would make like certain
aspects of these better for some people also create losers.
And society has both, like, you know, negotiations between firms
and also negotiations at a society wide level through the
government. And like, you know, we want a
compromise here because we, you know, do want to allocate like
the winners and losers in a way that achieves society's desired
political slash, moral slash ethical goals for them.
And so as an example of that, one reason that payments is slow
in the United States isn't because anyone is pounding the
table and saying slow payments, man, that is what we need for
the world. What they're actually saying is
community banking, man. That is really important for the
world. It is like extremely important
that a person in, you know, rural Nebraska has a point of
presence nearby that they can ask questions of about the
financial system and about their relationship to the government,
which is brokered through the financial system.
That requires community banks to exist.
For various reasons, community banks would find it very
difficult to continue existing in a world where all payments
were substantially instantaneous.
That would result in lots of them going under due to
operational risk and technical risks that they can't take on
right now. We can't bankrupt 1/3 of the US
financial system and so we need to have due deliberation in
having instant payments being available, which is one reason
for many of the negative news stories regarding Zell.
And it's one reason why Fed now, the real time net settlement
payment method that the Federal Reserve has had in the cooker
for a while now has been sardonically referred to as Fed
later for the last couple of years.
I'm hit with two questions here and feel free to answer
whichever 1. You think is more reasonable,
but one, I think we're talking about the payment infrastructure
and I wonder if the payment infrastructure is also hindered
by something that we've all kind of accepted as normal now, which
is KYC AM L, but KYC AM L was only really introduced within, I
mean my lifetime like I I in 2001.
After after 911. So KYC AM L is a relatively new
construct. I wonder if that actually does
slow things down on purpose as a policy goal or the other side of
this that I think is relevant to what you were stating is that
you're talking about community banks, you're talking about kind
of the banking structure of the United States.
And I know that we have a lot of banks here or things that are
close to banks and I wonder if. We're watching that kind of
collapse now and if that indeed will change the payments
infrastructure in America, one it is not to the case that Know
your customer KYC or AML, anti money laundering regulations
started in 2001. They were refined by the Patriot
Act in 2001 in the wake of the 9/11 attacks.
But the sort of legislative history of them dates back to
you, I believe the late 1970s in the United States under what's
called the Bank Secrecy Act or BSA.
And the Bank Secrecy Act basically says, like banks
please have less secrecy from government.
But originally encodes the notion that banks are required
to have for there are accounts which have an ongoing
relationship with the customer. You need to discover what you
believe the true identity of that customer to be and persist
information about that customer and their identity for the
lifetime of the account. And sometime after.
And all KYC kind of flows from that original fountain in the
United States. In an international point of
view, it's kind of complicated because there are these super
national quasi judicial, quasi private organizations that
promulgate KYC standards which are like somewhat rubber stamped
by various international treaties and government policy
making and sometimes sort of like adopted by the banking
infrastructure. Less because their government
has said you, you know, legally must adopt this thing and more
because they don't want their wires like the physical, you
know, copper wires to other nations getting yanked out at
the source. So there's a big ball of wax
there, but so clarifying that, I think it is useful for more
people that are involved in cryptocurrency.
An example, for example to like understand that the the genesis
of KYC and AML that dates back to a while ago, does that
intentionally make payments products worse than they would
be? This is a complicated topic.
One thing that I and if folks haven't followed me for a while
and haven't like gotten this impression already.
I'm something of a crypto skeptic myself, more than
something of a crypto skeptic. Remember back when Bitcoin was
$17.00 saying that it was overpriced by $17.00?
And I have not seen any evidence over the course of the last 10
years to chase me from that point of view.
Be that as it may, the thing that the crypto folks are like,
fundamentally right about is that AML and KYC regulations are
a matter of choice for society. Society should choose them.
To the extent that it believes that it advances societies
instrumental goals and achieves our values, and to the extent
that they don't achieve our instrumental goals and values,
we should like change the AML slash KYC regime.
AML slash KYC creates winners and losers.
One of the things that you hear over and over again in talking
to people who are unbanked or underbanked and that you will
see in the scientific literature about this sort of thing is that
the, you know, difficulty of formally verifying one's
identity to a bureaucratic process causes people to not be
able to open bank accounts. And that's one of the reasons
that they remain unbanked or underbanked.
That's negative to the extent that we want everyone to, you
know, be able to partake in the economy on equal footing and to
be able to like trivially do things like order from, you
know, DoorDash that both is true.
But it's not like the entirety of the story.
Often that gets blamed on AML slash KYC where it is not
actually required in the regulations that it be difficult
to demonstrate your your identity to a bank if if you are
for example a an immigrant in under documented circumstances.
But banks are like kind of OK with a maximally sort of risk
averse version of their AML slash KYC policies because it
turns out that you know, sort of tightening the dial on AML slash
KYC improves their metrics with regards to operational losses
and fraud losses by the way is another thing like independent
of any. So obviously nobody is in favor
of tax fraud and nobody is in favor of terrorism.
Goes kind of without saying. But AML, KYC don't only impact
tax fraud and terrorism. And in fact, they probably
impact those a little bit less than the drafters of the
policies think. But they the notion that like
every credit card has a, you know, an identity attested to
with like some degree of credence to it causes having a
credit card to be an excellent risk signal for a variety of
businesses throughout the Academy.
Whether that is a e-commerce merchant that is sending you a
PlayStation Five in the mail or whether it's a hotel that you're
checking into which is trying to like run a process on every
customer that checks in. Are you going to be the one who,
like you know, invites in a prostitute and then sets the bed
on fire and, like you coming up with a credit card and checking
to the hotel, says fairly persuasively to most hotels on
the basis of a whole lot of historical evidence that this
will not be the person that burns the hotel down?
We're watching the collapse of regional banking or we did see a
minor, minor, no, not minor significant collapse of regional
banking in the United States with First Republic Silicon
Valley Bank. We saw Silvergate go under, We
saw signature. It seems like this hasn't quite
finished yet, that they're still going to be more banks that
suffer more banks that come to the same realizations that maybe
they've got a balance mismatch. And I'm just wondering if you
think that could change the the fact that there could be a shift
in community banking services and regional banking services in
the United States in the next few years?
Do you think that could alter payment processing services?
They're supposed to be the concrete what we actually expect
to see in the United States spool out over the next couple
of years version of this. And then there's also kind of
like the if everyone were a spherical cows like we have in
physics classes, what would you expect?
The spherical cows version is that society, society ultimately
has goals for the structure of the banking system.
One of the goals for the United States having such a vibrant
community banking sector is that it helps bank the, oh, I forget
the numbers off the top of my head, plus or minus like 50% of
the United States who lives outside of a major metropolitan
area. That might actually be like 20
or 30% but helps them get access to a local point of presence for
the financial system and through their government which
interfaces with them through the financial system.
When I when I say that kind of glibly that means like you know
your bank is the place where you pay taxes and your bank is the
place where you get government benefits, taxes etcetera,
etcetera. I'd say it is another branch of
government in all but name in a lot of ways.
Historically, it was broadly believed that if there was not a
physical bank branch within a reasonable travel distance from
your house or workplace that that was a bug the system should
fix in the same way that the system, you know, the United
States of America decided as a policy priority.
We don't care where you live in the United States of America,
you are going to get a phone line and you are going to get
electricity because the standard of living that we expect for
Americans will in the future include a phone line in
electricity. And that happened in people's
living memory, by the way. They'd be very old at the
moment, but the real electric Patient Rural Electrification
Act, there are some people who were alive before the passing of
that act. What if it is not actually true
about the world that we need a physical bank branch around you
to give you banking or bank like services?
What if that can be delivered more efficiently through the
Internet? What if the thing that people
have wanted for forever and the advocacy space, postal banking.
Let's put a bank in every post office can be delivered much
more efficiently. Let's just put a bank in every
iPhone and every Android, and that will be like the basic bank
account available to people. And they can later on like more
complicated banking services, potentially including a branch
if they want them. But from a perspective of like
the bare minimum thing you need to exist in a society exists on
every phone, I think that that in, you know, a spherical world
is like a very reasonable thing to expect that most banking,
particularly at the lower ends, is going to be intermediated by
various players like, for example, cash app, which cash
app is not a bank. I'd be a very bad financial
technologist to I said Cash App is a bank.
Let's say Cash App is from the perspective of an
unsophisticated consumer of banking services, a whole lot
like a bank if you squint at it. That isn't criticism by the way.
I think Cash App is a wonderful thing to exist in the world that
that it's probably one of the best things in the technology
industry has shipped in the last 20 years.
I don't work for Square or Block or whatever they call themselves
these days and never have. They're just that existing like
2 thumbs up guys. Now let's talk about, like in
the world we actually live in, what will happen over the next
couple of years. Community banks aren't going
away. Regional banks aren't going
away. And I do believe we're in a bit
of a banking crisis at the at the moment.
Banking crisis crises are not good things for the world.
Nobody should celebrate them. But this one seems to be less
severe in scope than previous ones that we have weathered and
you know come out the other side as a nation slash economy sort
of addition to issues such as the you know retail facing
experience for like basic payments and you need some place
that isn't your mattress to hold money based off often sorry.
They also have a very important credit creation and monetary
creation function inside the United States economy And those
functions aren't going away and they can't conveniently be
substituted by any other player at the moment.
So you know every apartment building, every dentist office
etcetera, there is a capital stack behind that.
And that capital stack in almost all places outside the big
cities for almost all buildings materially involves community
banks or regional banks. And it would be a catastrophic
outcome for the United States of America if that was not true
because of the way that we have our banking system set up.
Now again there are many equilibriums that you can, you
know, imagine different countries falling into in the
world. Like if we look over at our
friends in the UK, the UK is in a lot of ways a New York period
to the United States and the UK has like basically four banks
and they're cool with that. And you know that's one way to
do it. Japan has a system that is
closer to the United States in character in that there are sort
of like large money center banks and also smaller community
focused institutions. But these, quote UN quote, small
community focused institutions are much larger than they are in
the United States and they're far less numerous on a per
population basis. But you know these are multiple
equilibriums that we ended up in due to a variety of like
straight up geographic factors, due to historical factors, due
to this path dependence that we're on.
And the transition the United States would have to undergo to
go from having more than 6000 financial institutions to having
like, let's say 200 financial institutions would be basically
cataclysmic and unthinkable. So I don't expect
cataclysmically unthinkable things to happen in the course
of the next 5-10 twenty years. The thing I hope to kind of get
at with this episode is. Why?
Cryptocurrencies, at least generally, don't solve most of
the problems people have with payments.
And I think what I've been hearing from you over these last
30 minutes is that most of our payments infrastructure is built
around managing the trust of various actors in this entity
and making sure that things behave in a.
Repeatable way that is reasonably acceptable to most of
the participants in the system. As we've been going over that,
it has just been reiterating in my mind how different that is
from the goal of like cryptocurrency is a payment
method. All of this infrastructure
you're talking about isn't really about transferring the
actual dollars from point A to point B, at least.
Most of the stuff built on top of it isn't.
It's about managing the expectations about everyone who
needs those dollars or has them. And cryptocurrency people always
focus on the actual transfer and specifically focus on trying to
make that a transfer that can happen to anyone, like at any
time, for no reason. And I think what's becoming
clear to me as you're talking through to this or becoming more
clear to me is. How often that would fail for
most payments use cases. You were discussing the example
with the grocery store, and just a normal person trying to buy a
card of groceries discovered the card of groceries was not up to
their satisfaction for whatever reasons.
In a world where cryptocurrency is the default payment method
and you're using it in the way most crypto advocates would
expect. You don't have that option to
call the 1800 number. You need to go back to the
grocery store and try to convince them they should give
you your money back. So what it really looks like to
me in a lot of ways is cryptocurrency.
People saw one of the problems of the financial system, meaning
that sometimes these entities slow payments, stop payments or
will not allow you to be one of their users who makes payments.
And decided that that was the largest problem in payments
instead about solving that and assuming once that was solved
everything else was solved. Does that match up with kind of
the tension you see between what crypto advocates think is wrong
with payments and in your experience, what is actually
wrong with payments? I tend to think people think
that I deserve more trust than I have, so you shouldn't take my
point of view as gospel on this one.
Like, I don't like McDonald's burgers flat out.
I would do many things to avoid eating at a McDonald's burger.
But we, you know, we can observe the universe outside of us and
see that a lot of people like McDonald's burgers for a lot of
purposes. Now we can observe the universe
of crypto payments which exist in like crypto.
People have been saying, yeah, adoption is coming any year now
for about 10 years and you know, buy now, pay later could say the
same thing and yet buy now, pay later.
Like you can actually use that to pay for stuff to separate.
If you walk into separate today, you can't use Dodge Coin.
You can't use USDC, etcetera, etcetera.
Why is the market telling crypto?
Thanks for this cool, slow database.
It doesn't solve problems for me.
I will not put it on my payments website.
I will not use it to transact with Google, with Delta, with
Hilton, with all the other, with McDonald's, with all the other
businesses I transact with. Because crypto, kind of like
maniacally focuses on that settlement part of the payment
experience and not on the many, many other things that payments
have brings to the table. Some of those are about money
movement. Frequently payments is bundled
with things that are not directly about money movement or
the software and contracts that make money movement go.
And so a pitch from the credit card companies to every other
user in the ecosystem since time immemorial has been The reason
you pay for credit cards is not simply a convenience fee for
getting cash from their pocket into your pocket.
It is because if people use our plastic, the people that come in
burying our plastic will be the most desirable customers, and
they will spend more money on our plastic than they would if
they were using something else. And since you prefer more money
to less money, you should be willing to pay a convenience fee
for that, just like you're willing to pay for, for example,
advertising. And the thing that many people
don't appreciate is like different credit cards have
different prices for different businesses in the economy.
So for example, if you use not an endorsement, et cetera, et
cetera, not using any private information, if you use the
Chase Sapphire Reserve. Chase Sapphire Reserve is like
sort of the credit card of choice for you know
professionals in the Bay Area. Why?
Because they give a lot of points and are very nice to
their customers. Creating the Chase Sapphire
Reserve required chase to get in touch with I believe Visa and
say look you've got existing tiers for like different Visa
cards and they get more expensive for businesses.
You go up in tiers. We need an entirely new tier
because we're bringing an entirely new, like Primo
experience to the Visa ecosystem.
And that tier is like materially more.
It's like I can't remember how many basis points it is, but
that is Google and it's like 60 basis points.
So 6/10 of a percent or 1% more expensive for businesses to take
a Chase Sapphire Reserve then take the next tier of Chase
card. Why?
Because like they successfully got into hands of a bunch of
rich people in New York and San Francisco and many other places.
And when those people like pull out the the card at the top of
their wallet, they spend a lot of money.
And businesses like transacting with rich people for a lot of
money and that is the thing that can be bought and sold in the
economy. I don't know that I realized
that before today that like credit card fees were different
for different tiers of credit cards because normally when I've
been seeing it, it's abstracted away, right?
I'm looking at say Stripes example and they're charging
2.9% + 30 cents or whatever, but that then is like an aggregate
with their margin based on like the distribution of fees they're
paying to the credit card networks specifically.
A good like heuristic for for thinking about is that this is
like, what is the price of coffee?
Well, coffee is like $0.25 if you buy it at a diner, or it's
free if you get it on an airplane.
Or it's like $6 if you get it from a Starbucks.
But if you buy like 50 gallons from Starbucks at a time, they
will cut you a deal. But if you buy those 50 gallons
in the specific context of, you know, delivering them to a hotel
event space, it will suddenly cost you like five times more
than Starbucks would have charged you.
And this is all just like built into those various commercial
relationships and ways to deploy it.
So what is the underlying cost of, like, charging a credit
card? Well, it kind of depends like
you know who you are in the economy, what sort of
relationship you have, what other things are getting bundled
into that transaction. If you are Walmart, you don't
pay the same amount for charging even a Chase Sapphire reserve As
for example. I do if someone uses that to buy
my newsletter. And partly that's due to like
different levels of negotiating power.
Partly that's due to things like you know providing financial
services and involves like a variety of different goods like
you know you need a 24/7 phone team and OPS team etcetera,
etcetera. And it's difficult to bill for
those things directly. And the economy went away from a
model in which most. That company said, OK, it starts
like it's $100 a month for your basic card, basic charge to get
hooked up to international financial rails and then we
charge you like a per percentage fee and mostly with like some
holdouts. The financial system has said
actually like that $100 a month. We're going to absorb that and
you know we will, we will pay for the OPS team, we'll pay for
the customer support people etcetera, etcetera.
We will adjust our our percentage rates in various
places. To be to like have the entire
business work off of transactional fees or software
fees or et cetera, et cetera. That pricing story would be an
entirely different podcast, hopefully by an entirely
different person who isn't constrained by having like
written so many documents about it but say useful thing no in
the world by the way. So probably not new information
for you, but will be new for many of your listeners.
The. There is a greatly different
cost in the cost to process credit cards versus the cost to
process debit cards. And that was created largely due
to financial regulation in the wake of the 2008 banking crisis.
More or less. And I don't know if this would
be endorsed by many other people as a way of saying, darn it,
Banks, you screwed up, we're going to hit you back as a
result of that. And again.
And when you know our electric representatives were saying
banks you screwed up, we are going to like punch you in the
face and like decrease the amount of money that you can
earn from debit cards. The community banking
association put their hands up and said okay, you can do that
to Bank of America. You can do that to Chase.
They will continue existing but. We find it extremely, extremely
useful to have like material interchange fees.
They're called for swiping debit cards because that is like built
into the cost model providing banking services in middle of
America at the moment. And if you take away that will
collapse and society, society wide, calamity will follow.
And so there was the Durban amendment to the legislation
about this, which said basically there's a threshold.
Above that threshold, you are a big bank and you are not allowed
to charge very much at all for swiping debit cards.
Below that threshold, you are a Durban exempt bank and you're
allowed to charge quite a bit for swiping debit cards.
And that was a choice society made through our elected
representatives. And the choice is not gone.
Consequences like if you for example use cash up.
Cash App has a debit card offering available.
I would guarantee you that that debit card is issued by a Durbin
exempt bank because Cash App likes the idea of being paid a
lot of money for doing their debit cards.
And indeed if you look at almost any fintech offering their their
debit card will be issued by a Durbin exempt bank because of
money. And people like hear them and
think, oh that's right, regulatory arbitrage that nobody
expected that to happen. True.
No one explicitly expected that to happen.
Not necessarily a bad thing though.
I mean if to the extent that we believe that like cash app
banking underbanked people throughout the United States or
I can't believe it's not. Banking underbanked people
throughout the United States actually provides societal value
that like in economic model which makes that possible for
cash app to do without charging the end user of cash app
directly for it is like positive in some respects and the like
flurry of additional fintech financial technology products.
That are where material part of the model is underwritten by
these Durbin exempt debit card charges.
It has provided some amount of you know customer perceivable
value in the last couple of years.
And so, you know, if you were hypothetically A regulator or a
the staff at a congressional office looking at like, oh,
there's this. Like weird little thing that
happened in the Durban amendment to this legislation back in the
day, which seems to have these like huge knock on consequences
that weren't intended. Should we maybe like poke at
that a little bit? Like you'd have to understand
that. OK, that.
Due to this past dependence, that has also created like a
huge amount of things that are now hanging off that amendment
and like just mixing it, would cause consequences in the real
world. You brought up like a Chase
credit card as an example of like, well, people in the Bay
Area like the specific things that they get with this card.
You know, you're talking about regulatory arbitrage.
Now I wonder if everyone doesn't wish that they could also
provide those same kind of. Offers to their customers if
every bank doesn't wish that they could do that they're just
not able to. And I and almost like I think
about what happened with Silicon Valley Bank and it's like they
it's almost like they were desperately trying to get to
become Chase like that was the end goal of of their business
model. Sort of like this idea of if we
just keep we just need to keep growing and I guess I I wonder
if. That's like if that's a pitfall
because then the only real business model for these smaller
banks is to constantly grow and like is that what we want in
our. In in the the community banks,
in these smaller organizations that are supposed to be for the
people that they're around, the community that they are centered
around, I'm a. Little bit constrained in what I
can say about like any individual bank in the banking
system, partly due to, you know, reasons of being exposed to them
to to prior employment and partly due to like the
unfortunate social reality that banking is a very small world
when you get down to it and there's like probably someone
who is. Control effing all mentions of
their bank today and we'll send out nasty grams to anyone who
says the wrong things while occupying the wrong social
position. That's not a conspiracy theory
by the way. I was one of those people in
prior life. One the United States has had a
number of bank failures in the course of 2023.
The banks that failed were largely not community based.
They were largely not tiny institutions.
That bank grandma and the Little League team.
They were large regional banks with 1/2 exceptions.
That would, on a global scale, be among the largest banks in
the world. And you know some banks prefer
growth there. Many large, sophisticated
businesses prefer growing versus not growing.
Financial regulators and bank CEOs at community banks would
say that they prefer measured studies, sustainable growth, and
that growth which is not measured or steady is likely
unsustainable and likely concealed risk for the banking
system. And so you know that should be
dis preferred smarter people than me will look at the actions
that regulators took over the last couple of years with
respect to some banks that are no longer with us and say was
there an identifiable person in an identifiable office who could
have made certain identifiable choices that are different that
would have resulted in like the United States having a different
number of banks in 2023 than it factually does and.
Maybe some of some decisions that were made in prior years
will be, you know, rethought in that light script of euphemism.
There was a bit of failure to go around there.
There are banking management teams that did not apparently do
a great job of banking management.
There are banking supervisors who should not be captured by
banking management. That's the entire point of being
a supervisor who did not do a very good, good job by society's
lights, with respect to, you know, the goals that we have.
And we were. We required extraordinary
intervention to ameliorate the societal fallout of failures of
banking supervision. Also failures by, you know, the
banking teams, the risk departments.
Yeah, yeah, yeah. There's also like external to
banking supervisors and the banks.
Can one look at the Fed and say, hey, we understand that it is a
important societal goal to get inflation under control?
Because obviously Americans, as of many people worldwide have
been really feeling in the pension, the pocketbook the last
couple of years. So that's important.
However, you also must not collapse the banking system
while you are doing this. And if you look at the written
record, we told you that if you keep moving rates up very, very
quickly, you will collapse the banking system.
Do you remember reading those documents?
And that, like smarter people than us will have, will have to
have those discussions. But society does have to have
those discussions at some level. I know you can't speak to
specific banks. I'm not going to ask you to.
I know Cass can't speak to specific banks.
I might ask him one like specific bank that we have
covered was Farmington State Bank up in Washington state.
And this was a small local bank. Like their primary function was
extending credit to like farmers in the local area who needed it
to fund a piece of equipment that had like a predictable
impact on their business. And like this bank being
embedded in the community was better able to provide that
services than others. And it was taken over by a new
management team who had ambitions to transform this
small community bank into something much grander.
And they believed that with the appropriate partners in the
right investment from Alameda Research, they would be able to
take this bank and the deposits from Alameda Research and turn
it into like the future of online banking and all those
things. And so when Cass was talking
about banks that felt compelled to grow, that was of course the
example I was thinking about. And I couldn't help but think
about the Federal Reserve cease and desist letter issued to
Farmington State Bank A. Wonderful document I would
recommend to everyone. Yes.
Issued months after they had already discharged the
problematic deposits in question and it already begun the process
of being acquired by a different, slightly larger bank
in that region, the Federal Reserve finally got around to
issuing their cease and desist. That says, wait a second, you
guys did a whole bunch of things over those years without telling
us, well, that's not OK. And it was a funny document to
read, both because it highlighted how many things that
this bank was doing that was apparently against the rules
without anyone realizing it, and like the fact that the regulator
didn't issue this document until months and months after any
danger from Farmington's behavior was already passed.
And that tension just that case has always been one that's stuck
in my mind. Since we've covered it, I could
see that you have thoughts on this case, Cass.
Well, yeah, I I want to let Patrick jump in here, but I I
just wanted to say that it's funny that you brought up the
cease and desist order because I.
I reached out to Bank of Eastern Oregon.
I think that's the one that bought them.
Or Farmington got purchased by this bank.
I reached out to that bank on the day of the cease and desist
letter and. They basically were like, yeah,
well, this is no surprise. We knew this.
We knew this letter was coming. Yeah, it was filed like
explicitly with their like knowledge and consent or
whatever like it was said, as they've already consented to as
agreed by whatever. And I think this is my my point
just being that Farmington knew this cease and desist was coming
as well, right. Like everybody intimately
involved with the bank itself or the purchase of the assets of
the bank or, you know, whatever it was, whoever was intimately
involved. Knew that the cease and cease
and desist was coming long before anyone in the public did,
which almost speaks to the weird regulatory nature of the Federal
Reserve where you go like so who was this?
The war, let's step back from the specific example of a
specific, specific bank that might have been puppeted by a
specific bank that does what happens.
Maybe I'm letting a little too much show there.
But back from the specific example and talk more broadly
about banking regulation. So one example of like, who is
this regulatory action for? It's like every regulatory
action will have an address on the top of like who is supposed
to, you know, get it and take immediate action based on it.
But it's also like essentially CCD to every other bank in
America. And so if your bank gets killed
for misdeeds and misstatements that you have made the the the
document ordering, the execution of your bank that gets CCD to
every other bank in America is basically a like a not so quiet
instruction. Like this shit will not fly.
Do not do it. You don't need to hear us tell
you explicitly. Do not do it.
Because if you do it, we will kill your bank signed the Fed
and every other investigative agency.
People have had like an interesting sort of background
belief that like regulators are naturally in kind of an
antagonistic relationship with a regulated where actually they're
in like a quasi partnership and like a quasi trust relationship.
And a thing I said on Twitter is that like big CE OS and Specific
are kind of like the the old British Empire sea captains in
that at Sea is master and commander.
They they have been bred into this role.
They have the full trust of the government and no action of
theirs on any Tuesday will be countermanded, however, if they
screw up. The Empire will descend with its
full force upon them in a, you know, like let's snap your Saber
over our knee or etcetera, tribunal later.
It is not factually the case that there is in most small
institutions the regulator watching every e-mail or every
wire or etcetera, etcetera that happens at the bank.
They they don't have the resources to do that.
They don't want to do that. The banks don't want them to do
that. A lot of regulation is ex post
and a lot of regulation, it involves like an ongoing
dialogue with respect to you know, regulators like largely
are above the level of particular commercial
relationships in bank cast. They they expect the bank to
have a portfolio of commercial relationships.
They want to heavily inform the banks, thinking of how the bank
assembles that portfolio and manages that portfolio.
Versus like getting into the weeds of like I noticed on
August 2nd that you paid out this money to this like 1
customer. I'm not very happy about that
payout. Now they will get into that
level of detail, but in the context of a larger quarterly
inspection that says Okay. I'm going to sample a couple of
transactions from your bank and you're going to walk me through
how this this shows that this plan that we've agreed upon
together is getting followed on a day-to-day basis.
And if that sampling comes through OK then and we're OK
with this plan like EA Plus Plus.
Or maybe we're not entirely OK with the plan, maybe we're not
entirely OK with what we've seen coming out of the bank in the in
the last couple of months. But we certainly don't want to
kill the bank because there's a community dependent on you.
And you haven't done anything that is like egregiously out of
bounds yet. And we'll say, OK, you know,
here's a like, here are some comments that we have.
Some of those comments are like kind of on an optional basis and
maybe we'll put them in a spreadsheet here.
And here's some like mandatory issues and timeline associated
with them. We want those addressed by the
mandatory timeline, like an example of a mandatory issue
they can. You know, many of these records
are public, but like a bank might be told, hey, we took a
look at your Chief Risk Officer. And that guy, that's not the
guy, well you you need you need some you know more seasoning in
your risk department. It takes a while to hire a chief
risk officer. We understand this.
So you got nine months. Come back in nine months and
show us more seasoning in your in your risk department.
I'm the pain of our displeasure. And displeasure can mean a
variety of things and the like. You know, the nuclear option in
the case of displeasure is we close the bank immediately.
Which is what cease and desist letter did in that one
particular case. And that happens very, very
infrequently. It will happen very, very
frequently if you like, hypothetically sell your bank to
an offshore crypto exchange like and part of the like.
Purpose of the cease and desist letter is like hey, things no
bank should ever contemplate, in case you do this spelled out
explicitly. This would be a bad idea.
Well, it's interesting that you're you're talking about how
regulators maybe are inclined to move in afterwards, but it's
like in in and you know like you said this it doesn't necessarily
have to be this bank that we're discussing but in this case of
of Farmington and Moonstone is you have.
A bank that according to the Federal Reserve, if we believe
what they are suggesting, when they moved their regulatory
oversight from the FDIC to the Federal Reserve, they told the
Federal Reserve, look, we're not going to change our business
model. We're not going to do anything
crazy. Nothing silly is going to
happen. We promise.
And then they did it anyway. And I guess if they're making
this promise and it's the only promise they have to make, you
would expect especially an entity as as.
Large and important as the Federal Reserve to be like, OK,
well let's monitor that one thing then, but they didn't and
you you go like, OK, so is the only time that they do this when
it's too late is that is that really just that's the only
time. In banking, I think that often
happens is that there's various layered controls and the promise
itself is a form of control like the.
Like every contract in existence, you know, even if
there was no legal system to enforce a contract, just forcing
people to come to the table and agree, this is the thing we will
do and this is the thing we will not do.
That creates value because there's now mutuality of
understanding as to what the expectations are.
And so even if a promise is not monitored, that promise creates
value. Even if the promise is not later
for enforced, that promise creates value.
It is factually not the case that this promise will not be
enforced and. I would hate to doom cast like
any particular person, but you know, I think that the like
again using that the Master and Commander example, a British sea
captain doesn't have to be explicitly told the British
Empire. Not a fan of piracy now,
privateer if you wander. Into piracy And by the way, we
will check. If you wander into piracy you
will be dealt with most severely.
That is the most basic thing that anyone who is a British sea
captain. You know who has grown up in the
English countryside at their family estate and has the proper
breathing to walk into a court of Admiralty understands about
the world that they live in. But if piracy is actually
discovered on behalf of a behalf of a Navy ship that is flying
the flag of the British Empire, everyone involved will be dealt
with. Most freaking severely so that
for 1000 years no one forgets that one does not do piracy
under the British flag. Now what could possibly happen
to bankers who have wandered into doing extremely non
prudential things with with banks under their control?
One could only speculate. They're ex bankers.
They just don't do banking, just don't do banking in the US
anymore. I think is the real solution
here. That has not historically been
the only punishment that can get handed out to people who have
done not wonderful things to the banking system.
Yeah, but it's been a while since we sent anyone to prison
for that drug. Yeah, you want to do the like 5
minute versions of stable stable coins as payment method
technology. My anti crypto cryptocurrency
bias because I prefer my databases to be vast databases
and not slow databases. Let's like factor out
cryptocurrency out of the stable coin discussion entirely.
Let's say we live in the Harry Potter universe and someone
comes up with a way to compete with like physical exchange of
Nuts and Galleons. And they say there's new spell
and you can wave your magic wand and it instantly transfers money
from point A to point B at a arbitrarily low cost.
Isn't this going to like outcompete the Wizards who use
their Visa credit card? And the answer is, well, it
competes on like multiple dimensions with Visa credit
cards and with bank transfers in the UK or elsewhere in the
wizarding world. And with buy now, pay leader and
all the other things that wizard has access to, including
potentially other magic spells that could be developed in the
future. And just the fact that it's
instant and just the fact that it is low cost is not
competitive with some of the other things.
Because like a credit card can make your cost of using it
actually negative when you factor in rewards.
You know the magic spell doesn't have like explicit semantics
around getting refunds. And you like plausibly if you
are buying something from a company that you've never used
before where you just googled the name of the product, ended
up on this random shop. It looks like a website, but can
I trust them? Really.
Then you wouldn't be inclined to like magically wave your wine at
them and transfer money over. Or we define the semantics of
the spell as being like you wave your magic wand and money moves
from point A to point V Is there a subscription capability built
into this magic spell? No, because we didn't put that
in the magic. And like being able to build
someone on a subscription basis is enormously useful for a huge
variety of commerce, from like, you know, buying magazines to
storing a payment method so that your checkout experience in the
future doesn't have to involve like, explicitly invoking that
payment method at all. And indeed, some of the best
payment methods in the world. A lot of axes don't do very well
with respect to the store thing and they introduce friction.
And again, like we can science out that friction, how much it
costs businesses and it turns out it costs a lot of money.
And so, like there are businesses that would say, even
if you like, hypothetically had the magic wand available, we
would get more money supporting Visa and paying for the payments
via the payments ecosystem than we would in taking free magic
wand payments. The free magic wand isn't free.
You have to be a member in good standing of Wizarding Wizarding
Britain to get a magic wand issued to you.
And it turns out that the number of people in the world we have
magic wands is canonically like very small, and the number of
people who have payment instruments available to them is
very large and the like. If you are, you know, Amazon,
and you have a team of very smart people that are in charge
of like prioritizing 800 payment methods in the world and saying
which one of these should actually make it on to the
Amazon.com website? Like plausibly you would think
like magic wands. There's like 10,000 people in
Britain that have them. Those are very small portion of
our book of business relative to like buy now, pay later.
I will prioritize magic wands very low on my stack.
And then the people holding magic wands are like, well this
kind of sucks. I can't use it to pay money on
Amazon even if it were free and instant.
I can't use it to buy a burger at McDonald's even if it were
free and instant etcetera, etcetera.
I guess I should use the other 800 things that are competing
for my attention. So that is the problem with
stable coins in a nutshell. It has been reported that
stablecoin volumes are increasing massively and this is
a sign of real user adoption. I often think that
cryptocurrency says our slow databases are publicly available
and this allows you to verify facts about them is greatly
oversold. If this is true, then we are
getting information about without loss of generality, like
the FTX bankruptcy at a time which is not the same time as
those relevant facts were published to the relevant
blockchains, which should give people some pause about how
reliable the information is and how comprehensive and how many
people are looking at it, et cetera, et cetera.
But let's say, hypothetically, many people involved
professionally in stable coins believe that stable coins are
helping to bank people who are on the edges of the, you know,
global financial system. Like maybe they are being used
quite a bit for dollar denominated transfers of value
in various countries and without loss of generality, Africa.
That's the thing that exists in the world.
The edges of the financial system are kind of the edges of
the financial system by nature. And sort of the oldest story in
tech is that things start at the edges of the ecosystem.
This is Clayton Christensen's creative destruction thesis.
Like work it worse is better happens in various places and
existing incumbents don't look at those various places.
And then eventually the thing that was was worse becomes
better in almost all the places and takes all the market share.
You can believe that stable coins are going to take all the
market share and payments in the United States.
There are some pretty huge, like, structural reasons why
that is extremely unlikely to happen.
Not least of which the United States government has an
enormous stake in payments in the United States and would like
viscerally oppose that in a of ways and would be a competitor
that has a lot more advantages going to it than any random
stablecoin team has. And often you hear like central
bank digital currency like OK, a government backed stablecoin
would be a really commanding entrance in the, you know in the
payments market in a particular country.
You say OK well a government backed payment payment method
like sometimes they are and every payment method is
government backed to a greater or lesser extent because every
banking system is government backed to greater or lesser
extent. Brock it out for a moment.
In some countries like the government has either through
first party or through public private partnership brought
brought a really compelling payment method to market and
that payment method has gained a lot of share.
We talked about India, Brazil for example.
In other countries the government has like brought out
a payment method and nobody cared and nobody came and you
still use, you know, debit cards or interbank payments or yada
yada. In those countries, does the
slow database make government payment method better or worse?
I contend that anywhere you can use a slow database, you can use
a fast database and it will have all the benefits of the slow
database but be faster. People in crypto have often
said, Patrick, you are being unfair.
The slow database allows you to have this be an entirely
trustless system and trustless, and this is a good thing.
Trustlessness is not generally considered a good thing by the
kind of people who make central bank payments systems.
So it seems extremely unlikely to me that the like product
features around trustlessness or product features around an
intense concern for privacy will be features of like future
central bank delivery payment systems in most countries that
are of interest to listeners. That bit about privacy is
interesting. Plausibly we care a lot about
privacy and you know, but plausibly society cares a lot
about other things too. And so you know, like every
other concern and value and instrumental will that we have
these existing trade-offs with each other.
People in crypto don't believe this, but the, you know,
institution that is credit cards in the United States are fairly
privately protecting by default relative to a lot of other
things you could do. Like for example, you can buy
things on a credit card without necessarily having to give your
address that didn't used to be true about checks.
They had your address printed on them by default.
And you can you know, often have like semi pseudonymous
identities using various payment methods where that did not used
to be very capable. And so in like future payment
methods that got lots of share in the world, like privacy will
be one thing you can offer to users.
Candidly, I think the financial industry is largely going to
say, well, we shouldn't, we certainly shouldn't do stupid
things With regards to privacy, Actually, I don't know that all
teams will necessarily decide that there apparently are some
payment methods that broadcast every transaction to a world
rebuild feed by default. That strikes me as a extremely
crazy decision. But like firms have made it in
the past but like most users their revealed preference is
that they don't make decisions in life based on what maximizes
for like privacy advocates view of their privacy.
They use Google for their for their e-mail not because they
believe that nobody will ever be able to read their e-mail at
Google but because like Gmail has a better client because
Google is a trusted brand name. I think privacy advocates
probably don't appreciate the fact that like Google is better
at securing your e-mail from both a random hacker and from
you know, a legitimate government authority than Jay
random host is from as securing your e-mail in those cases
because they will have Google's resources backing up the
response to a subpoena versus like Jay random host.
But so stable coins at taking over the world of payments.
I don't see it willing to be wrong willing to look at
evidence. You know, TikTok guys, we are 10
plus years into this and a lot has happened in payments in the
last 10 years and very little has happened in the, you know,
10s of billions of dollars invested effort to make slow
databases the future of it. So if you want to change my
mind, you are welcome to publish evidence to the Internet and I
will look at it. But you got to get people
actually using the thing. And if you don't, well then, you
know there's a lot of fun toys in the world.
I like computers built out of Redstone in Minecraft as much as
the next guy. They will have 0% market share
in all Cloud Workshop workloads in the future.
It's actually funny because we are almost exactly today, four
weeks out from the very first from the nine year anniversary
of the first stable coin being issued.
The very first tethers were issued in November of 2014, like
November 9th or something. We're almost exactly 4 weeks out
from the nine week anniversary. They used to have a merchant API
that was taken out at like month 6 for their stable coin.
Yeah, and don't forget the ability to trade Bitcoin for
U.S. dollars. I never forget gas.
So I think we are all peas on the pod with respect to our
views on Tether here. But just for those in the
audience who don't know, I once said that Tether is the internal
accounting system for the largest fraud since Bernie
Madoff. I think I wrote that in 2019
after years of looking into them.
That is obviously untrue right now.
They're bigger than Madoff approvals.
But yeah, I don't know the tether was necessarily the first
stable coin. I think there were a few
abortive attempts at like basis coin, etcetera before that.
But be that as it may, they're far and away the largest stable
coin. To the enduring irksomeness, how
do you say that in English? It irks legitimate businesses
that are attempting to bring stable coins to market.
That like the largest stable coin in the world that's
operated by criminal conspiracy. And that the largest stable coin
in the world is per the people at the legitimate competitors.
Like essentially counterfeiting the US dollar and then
exchanging that for the reserves of the people who are attempting
pretending a little bit of both at different times to comply
with all the rules. So yeah, I don't expect Tether
to continue being the largest stable coin in the world for
forever. I also don't expect them to stay
out of present for forever. Madoff got what, 17 years before
getting substantially more years as a guest of the United States
government. I expect they will eventually
get what is coming to them and it won't be a 5.025% on a two
year T bill on the reserves. I think that wraps us up.
Thank you very much for joining us, Patrick.
I highly recommend everyone listening check out Patrick's
newsletter, Bits About Money, which we'll link in the
description and on the website. And just one more time, thank
you very much for joining us. Thanks so much for having me,
folks. You can find me around the
Internet, send Patio 11 in most of the places, including
Twitter, Slash X and whatever they call it these days.
And if you like these topics, I write weekly or biweekly about
them at bits about money.com.