Cryptocurrency Competition from the Internet Monopolists

Everyone living on planet Earth should worry about whether Jeff Bezos is coming after their company, industry, profession, or livelihood. Amazon has demonstrated a willingness to make big and risky bets on numerous industries and products, and a Bitcoin-like cryptocurrency would certainly be within Amazon’s skill set. Bitcoin is Internet-based and requires large amounts of computational capacity. Amazon understands both of these areas very well, especially due to its cloud services business, in which it is believed to have roughly a third of global market share.¹⁸⁹

At first glance, it’s surprising that Amazon hasn’t already launched a competitive cryptocurrency. With every credit card sale it makes on its website, Amazon loses percentage points of revenue to the credit card processors. All Amazon would have to do to recapture some of that lost margin would be to launch a new “Bezosbucks” cryptocurrency. Amazon might achieve near-instant adoption of Bezosbucks by tens of millions of people since the high-volume subset of Amazon’s customer base, represented by its Amazon Prime membership list, exceeds 100 million people.¹⁹⁰

With roughly 2.4 billion active users,¹⁹¹ Facebook has an even bigger user base than Amazon, and Facebook has announced its intent to launch both a semi-decentralized cryptocurrency called “Libra” and a “wallet” system that will allow transfer of this currency.¹⁹² The proposed system is creative and potentially very profitable for Facebook. As proposed, the system is a partially decentralized consortium. Facebook has already lined up 28 different organizations, including Visa, Mastercard, eBay, Spotify, Uber, and Vodafone, and aims to increase the number of consortium members to 100 by the target launch date in the first half of 2020. The new cryptocurrency is designed initially as a “stablecoin” that would have far less short-term price volatility than Bitcoin, at least until Bitcoin gains much wider adoption.

In some respects, it’s shocking that Facebook has taken so long to launch its own payment system. The two largest non-American Internet giants, Tencent and Alibaba, have built huge businesses in peer-to-peer payments via their WeChat Pay and Alipay apps. Between them they have split the payments business in China almost 50/50 into a cozy duopoly.¹⁹³ Facebook therefore appears to simply be following in the footsteps of other very successful social network and Internet-native companies with respect to getting into the payments game.

Governments (not just China’s) love this sort of outcome because it allows for close surveillance of payments. However, Facebook’s proposed plan is more audacious than the WeChat Pay and Alipay systems because it does not rely exclusively on its domestic national currency. Its use of a basket of multiple assets poses an explicit long-term challenge to the U.S. dollar and an even greater threat to weaker fiat currencies, especially those of some developing countries. Moreover, the set of assets backing the currency will include interest-bearing bank accounts and government securities. This implies that Libra will function like a money market fund, but with shares that can be transferred among different users. However, instead of the currency holders collecting the interest on the basket of assets, the returns will accrue to the consortium backing it. Consortium members will pay $10 million each to operate a node and vote in the governance of the system.

The organization has stated that “An important objective of the Libra Association is to move toward increasing decentralization over time… As discussed above, the association will develop a path toward permission-less governance and consensus on the Libra network. The association’s objective will be to start this transition within five years.”¹⁹⁴ Considering the audacious goal of creating a payment system based on a brand-new currency and given Facebook’s poor track record with respect to public trust in recent years, it’s not surprising that government is already pushing back. On June 18, 2018, Congresswoman and Chairwoman of the House Financial Services Committee Maxine Waters issued a statement “requesting that Facebook agree to a moratorium on any movement forward on developing a cryptocurrency until Congress and regulators have the opportunity to examine these issues and take action.”¹⁹⁵

I expect plenty of government pushback against Facebook’s new currency, which will appear to some to be an aggressive attempt to reach deeper into the lives of its users. It’s too early to know how this will play out, but if Libra does end up launching—an outcome that I put at about 50% probability—it will most likely be (1) censorable, (2) seizable, (3) unlimited supply (non-scarce), and (4) fully surveilled (non-private). Discussions of such a currency competing with Bitcoin are a little like discussions of a boat competing with a car. They’re both modes of transportation, but they’re so different from each other that they solve completely different problems. I personally think that Libra will accelerate adoption of Bitcoin because some portion of Facebook’s 2.4 billion active users globally that were either skeptical or ignorant of Bitcoin will be introduced to a “cryptocurrency,” adopt it, and then learn why an actual (scarce, unseizable, censorship-resistant) cryptocurrency like Bitcoin is so much better than Facebook’s product.

Both Amazon and Facebook have had ample opportunity to launch their own cryptocurrency products. Bitcoin has been known to portions of the tech-savvy public for years. Amazon’s and Facebook’s strategy teams have probably waited this long because of some significant potential drawbacks. Perhaps the most obvious are politics and government scrutiny. President Trump managed to catch the populist wave of disenfranchised people who have seen their living standards fall in recent decades as their jobs disappeared. He apparently managed to convince a portion of his supporters that it was offshoring and immigration that took those jobs. Once these folks realize that the current primary driver is actually technology via automation (robotics, artificial intelligence), the substitution of online sales channels (Amazon) for physical stores that employ people, and the gig economy, the tech giants are likely to face much more political and regulatory heat. Some presidential candidates are already talking about going far beyond hitting them with fines as the Europeans have already done. The possibility of regulating or even breaking up these Internet monopolists is now being discussed.¹⁹⁶

Additionally, although profit margins at U.S. companies have remained much higher than the long-term average for many years, it has taken a long time for people to realize that consolidation and monopoly behavior have reached near-record highs not seen for at least half a century and possibly since the Gilded Age over a century ago.¹⁹⁷ The Democratic Party is finally focusing on this issue, and voters will be paying attention in the next election. This struggle could take years to play out, but Bezos and Zuckerberg are known to play the long game, and these dynamics will surely shape their strategies.

The European regulators have already been working for years to contain the Internet monopolists. Witness the multiple fines levied against Google totaling over $9 billion.¹⁹⁸ I expect such actions to eventually come from the United States government also, whether in the form of much more serious fines than have been leveled or in more substantial regulatory action, though they may have to wait until a Democratic administration. So the Internet monopolists must decide whether they want to bring additional scrutiny to themselves and risk adding to the tech industry’s history yet another case of using market power (via distribution through their huge online sales channels) to attempt to launch a new product (a “cryptocurrency”) that may increase government scrutiny on their overall activities. To a competent regulator, an Internet monopolist launching its own currency could look a lot like (1) Microsoft’s successful attempt in the 1990s to take the Internet browser market away from Netscape by bundling Internet Explorer with Windows, or (2) Google’s prioritizing of its own shopping services in its search results (for which it recently received a multi-billion-dollar fine from the EU).¹⁹⁹ Amazon may have concluded that so far it’s not worth the potential political and regulatory backlash.

The risk of one of the Internet monopolists attempting to compete with Bitcoin reminds me of a trade I made back in 2012 in Netflix stock. Netflix had recently been “Amazoned” when Amazon launched its competing online video service. Netflix had also been “Comcasted” and “Hulued” (both companies had announced expanded video services). Then, compounding its problems, Netflix lost one of its major sources of content when Starz refused to renew its contract. In one year (summer 2011—summer 2012) Netflix stock fell by almost 80%.

I decided to take a flyer on it. I didn’t think the company would die. I bought 1,000 shares at about $60 per share. A few months later the stock traded up to $90 and I sold it. I made a 50% gain and $30,000 pre-tax profit in the span of a few months. Not a bad trade, right? Wrong. If I had held that investment until today (almost seven years), my $60,000 would now be worth roughly $2.4 million. Would I have held it all the way up? No, I would have trimmed the position along the way. Nevertheless, selling Netflix when I did was the worst trade of my life so far.

Every investor who’s been at the game for at least a decade has one of these stories, but what makes this one salient to Bitcoin is that it involved the misunderstanding of network effects’ potential for investment upside. The reason Netflix is as valuable as it is now is that the user base is global and growing, and the more users there are, the more Netflix can spend on good content, and the more valuable the content, the more users join the system. This feedback loop creates a network effect. Moreover, Netflix benefits directly from advances in bandwidth, storage, and computation that power the Internet. It is Internet-native. Does this sound familiar? The same factors apply for Bitcoin.

So what did I miss seven years ago when I sold my Netflix stock for a measly 50% gain? At the time, I hadn’t realized that network effects would apply to Netflix. And I also didn’t realize that in the game of network effects, being the first to get to scale is crucial. Can a latecomer unseat the first mover if the latecomer is backed by a big enough player? Yes, but it’s tough.

Facebook managed to unseat Myspace because Facebook arrived early enough and had a better product. But later, Google tried to catch Facebook with its social networking product and failed, despite having over $200 billion of market capitalization and some of the world’s best software talent behind the effort. Do you know what Google’s social network is called? Me neither. Facebook managed to get to scale in time to repel an attack by Google, one of the strongest companies in the world.

With over 10 years of dominance in the cryptocurrency market, time is getting late for potential Bitcoin competitors to catch up. Moreover, any “cryptocurrency” launched by the Internet monopolists risks regulatory backlash. And it will also be unattractive to users who want to put their money into a cryptocurrency that can’t easily be controlled. I have learned from my Netflix mistake, and I’m not going to miss an attractive chance to buy into a network effect–driven investment like Bitcoin.