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Monetary Engineering

580

Monetary Engineering

Sixth lesson for the Bitcoin and Blockchain Technology course of Milano Bicocca and Politecnico di Milano Universities

www.ametrano.net/bbt/

2017 Video (in Italian) available at https://www.youtube.com/watch?v=Wu_7RVwoV84&list=PLrVvuryXHYTdzvtpzrj4wvYEhCwF6G82b&index=2

Ferdinando M. Ametrano

April 03, 2019
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Transcript

  1. Bitcoin and
    Blockchain Technology
    Monetary Engineering
    v2019.04.03
    Comments, corrections, and questions: https://drive.google.com/open?id=1T2z4vfRvEv_wooerJI7FgD8IkxeTihlj
    © 2019 Digital Gold Institute

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  2. The Information Economy
    ▪ Data is transferred with zero marginal cost
    ▪ Why pay a fee to move bytes representing wealth?
    ▪ Why only 9-5, Monday-Friday, two days settlement?
    ▪ Who (and when) will gift humanity with a global instantaneous
    free p2p payment network?
    BAN
    K
    © 2019 Digital Gold Institute 2/93

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  3. Reliable Internet eCash Will Be Developed
    “The one thing that's missing, but that'll soon be developed, is a
    reliable eCash, a method whereby on the internet you can transfer
    funds from A to B, without A knowing B or B knowing A, the way I
    can take a 20 Dollar bill and hand it over to you”
    Milton Friedman, 1999
    https://www.youtube.com/watch?v=ZoaXLzFhWIw
    © 2019 Digital Gold Institute 3/93

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  4. Table of Contents
    1. Cash, Electronic Money, Central Bank Money, eCash
    2. About Money
    3. Private Money and the Centralization Dilemma
    4. The Double Spending Problem
    5. Bitcoin as Digital Gold
    6. Hayek Money: Elastic Non-discretionary Policy
    7. Hayek Money: Dual Asset Ledger and Proof-of-Payment
    © 2019 Digital Gold Institute 4/93

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  5. Cash vs Electronic Money
    Cash
    ▪ Universal access: users are not
    identified or authorized
    ▪ Bearer asset: it cannot be
    recovered if lost
    ▪ Physical instance only:
    banknotes and coins
    ▪ Privacy preserving
    ▪ Usually issued by a central bank
    Electronic Money
    ▪ Identified eligible users: Know-
    Your-Customers (KYC)
    ▪ If credentials are lost, money
    can usually be recovered
    ▪ Purely digital
    ▪ Traced for Anti Money
    Laundering (AML) and Contrast
    to Terrorism Financing (CTF)
    ▪ Issued by both central and non-
    central banks
    © 2019 Digital Gold Institute 5/93

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  6. Cashless Society
    ▪ Ban cash in favor of electronic money
    ▪ Recently and frequently proposed to contrast the crime that
    uses cash
    ▪ Pervasive controls would be dangerous when used by illiberal
    governments: cash defends privacy
    ▪ Cash stands in the way of the state Leviathan: it protects
    citizens from the fiscal aggression and the confiscation of wealth
    via negative interest rates
    © 2019 Digital Gold Institute 6/93

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  7. Central Bank Money
    ▪ Only selected financial institutions have access to electronic
    central bank money in the form of central bank accounts
    ▪ Everybody else has access only to non-electronic central bank
    money in the tangible form of cash
    ▪ A bank account balance is not central bank money: just the
    promise of a private company that the account owner will be
    able to redeem the balance for central bank money
    ▪ Not even true, if everybody wants to redeem their amounts at
    the same time (bank run)
    © 2019 Digital Gold Institute 7/93

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  8. Central Bank Digital Currency? 1/3
    “[… it would be] appealing […] it would mean people have direct
    access to the ultimate risk-free asset [...] it could exacerbate liquidity
    risk by lowering the frictions involved in running to central bank
    money [...] it could fundamentally and perhaps abruptly re-shape
    banking”
    Mark Carney, Governor of the Bank of England, June 2016
    http://www.bankofengland.co.uk/publications/Documents/speeches/2016/speech914.pdf
    © 2019 Digital Gold Institute 8/93

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  9. Central Bank Digital Currency? 2/3
    “Allowing the public to hold claims on the central bank might make
    their liquid assets safer, because a central bank cannot become
    insolvent. This is an feature which will become relevant especially
    in times of crisis – when there will be a strong incentive for money
    holders to switch bank deposits into the official digital currency
    simply at the push of a button. But what might be a boon for
    savers in search of safety might be a bane for banks, as this makes
    a bank run potentially even easier”
    Jens Weidmann, President of Bundesbank, June 2017
    https://www.ft.com/content/414072b7-0de5-3864-9493-14438eab30ae
    © 2019 Digital Gold Institute 9/93

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  10. eCash: Goals, Security, and Guarantees
    ▪ Reduce the cost of managing physical cash
    ▪ Provide with fast electronic cash
    ▪ Central bank or private issuer
    ▪ Coin issuance backed by fiat currency reserves
    ▪ Entrance/exit gateway (fiat currency → digital cash)
    monitored with KYC and AML processes
    ▪ Electronic trails for investigators
    ▪ Issuer/admin able to confiscate coins to any address if
    needed/required
    © 2019 Digital Gold Institute 10/93

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  11. eCash: A Proof of Concept
    ▪ Bitcoin core codebase
    ▪ Mining, i.e. transaction finalization, reserved to vetted nodes
    (e.g. block signing from Elements)
    ▪ Thousands transactions per second
    ▪ Apps: wallets (iOS, Android, Desktop), blockexplorer, issuer
    dashboard
    © 2019 Digital Gold Institute 11/93

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  12. eCash: Regulators’ Feedback
    Transactions must be attributed to known customers
    → electronic money, not cash
    Allowed applications must be certified, i.e. closed network
    → client-server approach, not peer-to-peer
    © 2019 Digital Gold Institute 12/93

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  13. Central Bank Digital Currency? 3/3
    “It doesn’t only matter how central bank money is created, but
    also to whom it is issued.
    From today’s perspective, there are no clear benefits from allowing
    the general public to hold digital central bank reserves, in
    particular in economies where demand for cash remains robust,
    such as in the euro area. This assessment includes considerations
    related to the potential impact of central bank digital currencies on
    financial structures in general, and the stability of bank deposits in
    particular.”
    Benoît Cœuré, ECB Executive Board, May 2018
    https://www.ecb.europa.eu/press/key/date/2018/html/ecb.sp180514_4.en.html
    © 2019 Digital Gold Institute 13/93

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  14. Centralized eCash Does Not Need Blockchain
    ▪ Client-server solutions can be explored, e.g. SatisPay, even with
    bitcoin-like cryptographic transactions
    ▪ What is relevant is which reserve asset is backing the digital
    currency (if not issued by a central bank)
    ▪ If customers are identified, then it is electronic money, not cash
    © 2019 Digital Gold Institute 14/93

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  15. Table of Contents
    1. Cash, Electronic Money, Central Bank Money, eCash
    2. About Money
    3. Private Money and the Centralization Dilemma
    4. The Double Spending Problem
    5. Bitcoin as Digital Gold
    6. Hayek Money: Elastic Non-discretionary Policy
    7. Hayek Money: Dual Asset Ledger and Proof-of-Payment
    © 2019 Digital Gold Institute 15/93

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  16. Money As A Social Relation Instrument
    ▪ Human beings are born into a gift economy
    ▪ Enlarged relationship circle requires exchange economy
    ▪ Barter economy: coincidence of wants
    ▪ Trade economy: money as medium of exchange
    ▪ Global information economy: supranational digital money
    © 2019 Digital Gold Institute 16/93

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  17. Properties of Money:
    1. Medium of Exchange
    ▪ Swappable and fungible
    ▪ Portable
    ▪ Divisible
    ▪ Easily recognizable and resistant to counterfeiting
    © 2019 Digital Gold Institute 17/93

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  18. Money Comparison
    Medium of Exchange
    Live cattle
    Diamonds
    Gold
    Fiat coins and notes
    • swappable
    • fungible
    • portable
    • divisible
    • recognizable
    • resistant to
    counterfeiting
    © 2019 Digital Gold Institute 18/93

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  19. Properties of Money:
    2. Store of Stable Value
    ▪ Reliably saved, stored, and retrieved
    ▪ Retain usefulness and storage properties over time
    ▪ Non-perishable and with low preservation cost
    Its value stability does not depend on the storage properties,
    but on its unit of account quality instead
    © 2019 Digital Gold Institute 19/93

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  20. Money Comparison
    Medium of Exchange Store of Stable Value
    Live cattle
    Diamonds
    Gold
    Fiat coins and notes
    • swappable
    • fungible
    • portable
    • divisible
    • recognizable
    • resistant to
    counterfeiting
    • reliably saved,
    stored, and
    retrieved
    • retain usefulness
    over time
    • Maintain its
    storage properties
    • non-perishable or
    with low
    preservation cost
    © 2019 Digital Gold Institute 20/93

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  21. Properties of Money:
    3. Unit of Account
    ▪ used as numeraire, i.e. relative worth unit of measure: unit of
    account against which the value of every other good is
    measured
    ▪ the price system measures the value of goods relative to the
    value of money
    To best perform its role as unit of account, good money should
    have stable value allowing for a reliable analysis of the price
    dynamic and homogeneous comparisons
    ▪ Money supply must be controlled in some way
    © 2019 Digital Gold Institute 21/93

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  22. Money Comparison
    Medium of Exchange Store of Stable Value Unit of Account
    Live cattle
    Diamonds
    Gold
    Fiat coins and notes
    • swappable
    • fungible
    • portable
    • divisible
    • recognizable
    • resistant to
    counterfeiting
    • reliably saved,
    stored, and
    retrieved
    • retain usefulness
    over time
    • Maintain its
    storage properties
    • non-perishable or
    with low
    preservation cost
    • relative worth
    unit of measure
    • stable value for
    stable price
    comparison
    • supply must be
    controlled in
    some way
    © 2019 Digital Gold Institute 22/93

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  23. The Holy Grail of Stable Prices
    ▪ Gold standard, bimetallism, symmetallism
    ▪ Fixed value of bullion (Aneurin Williams 1892)
    ▪ Compensated dollar (1911-20 Irving Fisher)
    ▪ Commodity Reserve Currency (1932 J. Goudriaan, 1937-44 B.
    Graham, 1942 F. Graham, 1951 M. Friedman)
    ▪ ANCAP basket (1982 Robert Hall)
    ▪ Futures contracts (1984 Miles, 1989-95 Sumner)
    ▪ Quasi-futures contract (1994 Kevin Dowd)
    ▪ Price index option (2000 Kevin Dowd)
    © 2019 Digital Gold Institute 23/93

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  24. Trade Economy: From Gold Standard to Fiat
    Money
    ▪ Gold: the commodity money standard
    − scarce
    − pleasant color, i.e. resistant to corrosion and oxidation
    − high malleability
    − relative easiness of its purity assessment
    ▪ Gold purity certification
    ▪ Representative money
    ▪ Fractional receipt money
    ▪ Fiat money and legal tender
    © 2019 Digital Gold Institute 24/93

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  25. Gross US Public Debt
    © 2019 Digital Gold Institute 25/93

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  26. Gross US Public Debt as GDP Percentage
    © 2019 Digital Gold Institute 26/93

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  27. Take Money out of the Hands of Government
    “I don't believe we shall ever have a good money again before we
    take the thing out of the hands of government, that is, we can't
    take them violently out of the hands of government, all we can do
    is by some sly roundabout way introduce something that they can't
    stop.”
    Friedrich August von Hayek
    https://youtu.be/EYhEDxFwFRU?t=19m23s
    © 2019 Digital Gold Institute 27/93

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  28. Hyperinflation
    © 2019 Digital Gold Institute 28/93

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  29. USD has lost 96% of its Purchasing Power
    since Federal Reserve establishment in 1913
    $0.00
    $0.10
    $0.20
    $0.30
    $0.40
    $0.50
    $0.60
    $0.70
    $0.80
    $0.90
    $1.00
    US Dollar Purchasing Power
    © 2019 Digital Gold Institute 29/93

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  30. Friedrich August von Hayek
    “Denationalisation of Money”
    ▪ history of coinage is an almost uninterrupted story of
    debasements; history is largely a history of inflation engineered
    by governments for their gain
    ▪ why government monopoly of the provision of money is
    regarded as indispensable? It deprived public of the opportunity
    to discover and use a better reliable money
    “Blessed will be the day when it will no longer be from the
    benevolence of the government that we expect good money but
    from the regard of the banks for their own interest”
    A Free-Market Monetary System, Gold and Monetary Conference, New Orleans, Nov. 1977, https://mises.org/daily/3204
    Denationalisation of Money, The Institute of Economic Affairs, http://www.mises.org/books/denationalisation.pdf
    © 2019 Digital Gold Institute 30/93

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  31. Table of Contents
    1. Cash, Electronic Money, Central Bank Money, eCash
    2. About Money
    3. Private Money and the Centralization Dilemma
    4. The Double Spending Problem
    5. Bitcoin as Digital Gold
    6. Hayek Money: Elastic Non-discretionary Policy
    7. Hayek Money: Dual Asset Ledger and Proof-of-Payment
    © 2019 Digital Gold Institute 31/93

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  32. Permissionless Innovation:
    Gentle, Fast, and Effective
    ▪ No centralized security mechanism, no barrier to enter, no
    editorial control
    − Email has not been designed by a consortium of postal
    agencies
    − Internet has not been developed by a consortium of telcos
    ▪ Will a new money and its decentralized transactional network be
    designed by a consortium of banks?
    © 2019 Digital Gold Institute 32/93

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  33. Private Monies
    ▪ A medium of exchange issued by a non-governmental body,
    without legal privileges
    ▪ Private monies do not have to be generally acceptable; they
    merely have to be accepted in a given economic community
    ▪ Public demand for private currencies:
    − hold them in the expectation that they will not diminish in
    purchasing power as state money has
    − wish to be part of a movement against increasing state
    control of economic and personal behavior
    − conduct illegal activity
    − just want better money
    © 2019 Digital Gold Institute 33/93

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  34. A Cypherpunk’s Manifesto
    “Privacy in an open society also requires cryptography […] We
    cannot expect governments, corporations, or other large, faceless
    organizations to grant us privacy out of their beneficence. […] We
    must defend our own privacy if we expect to have any. […] We are
    defending our privacy with cryptography, […] with digital
    signatures, and with electronic money”
    Eric Hughes, A Cypherpunk's Manifesto
    https://www.activism.net/cypherpunk/manifesto.html
    Cryptography is the slingshot that David, the little man, can use to
    kill Goliath, the dystopian Big Brother
    © 2019 Digital Gold Institute 34/93

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  35. Bitcoin Precursors
    ▪ Ecash, David Chaum, 1982 (blind signature)
    ▪ Hashcash, Adam Back, 1997 (Proof-of-Work)
    ▪ B-money, Wei Dau, 1998 (distributed database)
    ▪ Bit gold, Nick Szabo, 1998 (distributed database, sequential
    money creation)
    ▪ Anonymous Electronic Cash, Tomas Sander and Amnon Ta-
    Shma, 1999 (anonymity)
    ▪ Reusable Proof-of-Work, Hal Finney, 2004
    © 2019 Digital Gold Institute 35/93

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  36. Liberty Dollar: 1998-2009
    ▪ Private mint that issued gold and silver coins; also issued notes
    redeemable in precious metals
    ▪ Periodically revalued against USD: the value of the latter fell
    over time against precious metals
    ▪ Specifically designed to function in parallel with and in
    competition to USD
    ▪ Never marketed or represented as official US currency
    ▪ Highly successful: it became the second most popular currency
    in the US
    ▪ Its use declared a federal crime by the US government
    ▪ Its founders convicted for counterfeiting, fraud and conspiracy
    against the United States
    © 2019 Digital Gold Institute 36/93

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  37. E-gold: 1996-2007
    ▪ Digital payment system with gold as unit of account
    ▪ User accounts backed by gold reserves
    ▪ By 2005, e-gold had grown to be second only to PayPal in the
    online payments industry: 1.2M accounts and $1.5B
    transactions
    ▪ Indicted in April 2007 by US law enforcement services
    ▪ Charges: unlicensed money-transmitting entity and a means of
    moving the proceeds of illegal activities
    ▪ Never proven and even the judge expressed major doubts
    ▪ ‘Offshore’ payment system rather than a money transmitter or
    bank as defined under then-existing regulations, not least
    because gold was not legally ‘money’
    © 2019 Digital Gold Institute 37/93

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  38. The Centralization Dilemma
    ▪ To remove the weakness of a central point of failure, distributed
    technologies seemed promising (e.g. BitTorrent)
    ▪ Anyway, in digital cash schemes a single digital token, being
    just a file that can be duplicated, can be spent twice: a
    centralized trusted party is required to avoid double spending
    © 2019 Digital Gold Institute 38/93

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  39. Table of Contents
    1. Cash, Electronic Money, Central Bank Money, eCash
    2. About Money
    3. Private Money and the Centralization Dilemma
    4. The Double Spending Problem
    5. Bitcoin as Digital Gold
    6. Hayek Money: Elastic Non-discretionary Policy
    7. Hayek Money: Dual Asset Ledger and Proof-of-Payment
    © 2019 Digital Gold Institute 39/93

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  40. Double Spending Problem
    ▪ To securely transfer value using digital means has been possible
    for decades
    ▪ In digital cash schemes, a single digital token, being just a file
    that can be duplicated, can be spent twice
    ▪ How can we forbid Alice from spending the same bitcoins a
    second time to Carol’s address? Which transaction should be
    valid: the one to Bob’s address or Carol’s address?
    ▪ A centralized trusted party has always been required to prevent
    double spending
    © 2019 Digital Gold Institute 40/93

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  41. Bitcoin Network: A Distributed Back-office
    ▪ All network nodes validate and clear all transactions
    ▪ Mining nodes provide the additional computational power
    required for transaction settlement
    ▪ Without a central trusted party, how do they reach distributed
    consensus on the transaction history? How does the Bitcoin
    protocol reach consensus on transaction history ledger?
    ▪ Consensus in a distributed asynchronous network with faulty (or
    malicious) nodes is a very hard problem: Computer Science
    even provides impossibility results
    © 2019 Digital Gold Institute 41/93

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  42. Bitcoin's Public Ledger: A Chain of Blocks
    ▪ Transactions are bundled in blocks (about one block every 10
    minutes) and sequentially chained
    ▪ The cryptographic link between blocks requires computing
    power to be created
    ▪ A block is valid only if it includes valid transactions
    © 2019 Digital Gold Institute 42/93

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  43. Mining
    ▪ Miners compete to finalize (settle) a new block of transactions
    ▪ The winner providing proof-of-work for the finalization of a new
    block is rewarded with the issuance of new bitcoins in a special
    coinbase transaction included in that same block
    ▪ Miners solve the double spending problem:
    − A double spending transaction would invalidate the block
    − an invalid block would be rejected from the network
    − the bitcoin reward would be removed from transaction history
    − the winning miner would have wasted his work
    © 2019 Digital Gold Institute 43/93

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  44. Nakamoto Distributed Consensus
    Practical Byzantine Fault Tolerant (PBFT) distributed consensus is
    achieved using (game theory) economic incentive for the mining
    nodes to be honest
    ▪ Double spending is solved without a central trusted party
    ▪ Bitcoin can resist attacks of malicious agents, as long as they do
    not control network majority
    ▪ Miners are compensated for their proof-of-work using
    seigniorage revenues, i.e. issuance of new bitcoins
    ▪ Seigniorage revenues subsidize the network
    © 2019 Digital Gold Institute 44/93

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  45. Seigniorage Revenues Cover Consensus Cost
    ▪ Seigniorage revenues subsidize the network, making transactions cheap
    ▪ 144 block/day, 365 day/year, 12.5 BTC/block
    ▪ About $7 billions per year (as of November 2017, BTC=$10,000)
    © 2019 Digital Gold Institute 45/93

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  46. Virtuous Cycle
    hash
    power
    Bitcoin
    security
    bitcoin
    price
    mining
    reward
    © 2019 Digital Gold Institute 46/93

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  47. Proof-of-Work
    ▪ Resources consumed as proof-of-work make bitcoin valuable
    ▪ Miners are willing to destroy resources to acquire bitcoins: they
    are the first to recognize bitcoin value!
    © 2019 Digital Gold Institute 47/93

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  48. Table of Contents
    1. Cash, Electronic Money, Central Bank Money, eCash
    2. About Money
    3. Private Money and the Centralization Dilemma
    4. The Double Spending Problem
    5. Bitcoin as Digital Gold
    6. Hayek Money: Elastic Non-discretionary Policy
    7. Hayek Money: Dual Asset Ledger and Proof-of-Payment
    © 2019 Digital Gold Institute 48/93

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  49. Validation Process: Block Generation
    The proof-of-work difficulty is adapted about every 2 weeks (2015
    blocks) to the overall available computing power ensuring about
    one block every 10 minutes
    © 2019 Digital Gold Institute 49/93

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  50. Bitcoin Monetary Rule
    ▪ 2009: 50BTC per block, every 10 minutes
    − halving every 4Y
    ▪ This is the only way new bitcoins are released
    ▪ It is called mining because of its similarity with the progressive
    scarcity of gold extraction
    ▪ Supply is free of discretionary intervention
    © 2019 Digital Gold Institute 50/93

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  51. Bitcoin Inelastic Supply:
    Deterministic Decreasing Rate
    2029: 96.88%
    of all BTC
    issued
    2141: last
    satoshi
    (0.00000001
    BTC) will be
    issued
    © 2019 Digital Gold Institute 51/93

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  52. What after 2141?
    ▪ We are all dead ;-)
    ▪ Gradually switch over to a fee-based system: as block space is
    limited, market is already requiring a growing satoshi/byte fee
    for transactions to be included into a block.
    After all it is only natural that transacting on the most secure
    network in the world will command high fees
    ▪ Switch to a different paradigm? We have about 120 years to
    evaluate alternative solutions
    © 2019 Digital Gold Institute 52/93

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  53. What Makes Bitcoin Special?
    ▪ Digital and scriptural: it only exists as validated transaction
    ▪ Asset, not liability
    ▪ Bearer instrument
    ▪ It can be transferred but not duplicated (i.e. it can be spent, but
    not double-spent)
    ▪ Scarce in digital realm, as nothing else before
    ▪ It mimics gold monetary policy of decreasing incremental
    extraction
    © 2019 Digital Gold Institute 53/93

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  54. What Makes Bitcoin Special?
    Bitcoin is digital gold
    with a secure uncensorable embedded
    settlement network
    ▪ More a crypto-commodity then a crypto-currency
    ▪ This is the groundbreaking achievement by Satoshi Nakamoto,
    not blockchain “technology”
    © 2019 Digital Gold Institute 54/93

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  55. Bitcoin Relevance
    If one thinks about the role of physical gold in the history of
    civilization, money, and finance
    the digital equivalent of gold could be disruptive
    in the current digital civilization and the future of money and
    finance
    Bitcoin can be the new global reserve asset
    It is disconcerting that people are still, continuously,
    underestimating bitcoin
    © 2019 Digital Gold Institute 55/93

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  56. Explain Money to an Alien
    Traditional (fiat) money
    ▪ No intrinsic value (social
    contract)
    ▪ Currency security based on
    paper/ink
    ▪ Discretionary governance
    ▪ Wicksellian interest-rate
    approach
    ▪ Coerced upon everybody
    with legal tender
    bitcoin
    ▪ No intrinsic value (digital
    gold)
    ▪ Currency security based on
    math/cryptography
    ▪ Algorithmic governance
    ▪ Deterministic supply
    ▪ Available as free non-
    binding choice
    © 2019 Digital Gold Institute 56/93

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  57. Different Opinions
    Alan Greenspan
    “It’s a bubble. It has to have
    intrinsic value: you have to
    really stretch your imagination
    to infer what the intrinsic value
    of Bitcoin is. I haven’t been able
    to do it. Maybe somebody else
    can. I do not understand where
    the backing of Bitcoin is coming
    from”
    Lloyd Blankfein
    “The list of things that are
    conventional today that I use
    every day that I thought would
    never make it is a very long list.
    If bitcoin works, I say to
    myself… 'Hmmm, maybe that
    was a natural progression from
    hard money to fiat money to
    consensus money.' So who's to
    say…”
    © 2019 Digital Gold Institute 57/93

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  58. The Schelling Point of Consensus Money
    ▪ In game theory Schelling point is: “focal point[s] for each
    person’s expectation of what the other expects him to expect to
    be expected to do”
    ▪ E.g. two people unable to communicate are urged to select a
    square among a series of similar squares and rewarded only if
    they select the same one
    ▪ They will look for a choice that might seem more natural,
    special, or relevant: the red one
    Bitcoin is the Schelling point of consensus money!
    © 2019 Digital Gold Institute 58/93

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  59. Bitcoin Transactions Are Not Taking Off
    ▪ There is evidence that bitcoin is not really used for transactions
    ▪ Max number of transactions per second
    − VISA: 60,000 tx/sec
    − Bitcoin: 7 tx/sec
    ▪ Bitcoin can only scale with second layer solutions, e.g. Lightning
    Network, Sidechain (Liquid)
    © 2019 Digital Gold Institute 59/93

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  60. Two Pizzas for 10,000 Bitcoins… really!!
    https://bitcointalk.org/index.php?topic=137.msg1195#msg1
    © 2019 Digital Gold Institute 60/93

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  61. The Ultimate Fate of Bitcoin:
    To Serve as a Reserve Currency
    https://bitcointalk.org/index.php?topic=2500.msg34211#msg34211
    Hal Finney (1956–2014) was a noted cryptographic activist. He was the second PGP Corporation developer
    hired after Phil Zimmermann. He created the first reusable proof-of-work. He was an early bitcoin user and
    received the first bitcoin transaction from bitcoin's creator Satoshi Nakamoto.
    © 2019 Digital Gold Institute 61/93

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  62. Unit of Account: Money as Numeraire
    ▪ Relative worth unit of measure: money is the unit of account
    against which the value of every other good is measured
    ▪ The price system measures the value of goods relative to the
    value of money
    To best perform its role as unit of account, good money should
    have stable value allowing for a reliable analysis of the price
    dynamic and homogeneous comparisons
    ▪ Money supply must be controlled in some way
    © 2019 Digital Gold Institute 62/93

    View full-size slide

  63. Money Comparison
    Medium of Exchange Store of Stable Value Unit of Account
    Live cattle
    Diamonds
    Gold
    Fiat coins and notes
    Bitcoin
    • swappable
    • fungible
    • portable
    • divisible
    • recognizable
    • resistant to
    counterfeiting
    • reliably saved,
    stored, and
    retrieved
    • retain usefulness
    over time
    • Maintain its
    storage properties
    • non-perishable or
    with low
    preservation cost
    • relative worth
    unit of measure
    • stable value for
    stable price
    comparison
    • supply must be
    controlled in
    some way
    © 2019 Digital Gold Institute 63/93

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  64. Bitcoin is Digital Gold, Not a Good Unit of
    Account
    ▪ no salaries, no
    mortgages, no
    stable purchasing
    power
    ▪ successful at
    getting rid of a
    centralized
    monetary authority,
    bitcoin has given up
    the flexibility of an
    elastic supply of
    money
    © 2019 Digital Gold Institute 64/93

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  65. Bitcoin as (Digital) Gold
    in the History of (Crypto)Money
    gold
    ▪ Its adoption was not
    centrally planned
    ▪ For centuries it has been
    the most successful form of
    money
    ▪ It has bootstrapped all
    monetary systems we know
    of
    ▪ It has been surpassed by
    other kind of money without
    becoming obsolete
    bitcoin
    ▪ Its adoption has not been
    centrally planned
    ▪ It is the most successful
    form of cryptocurrency
    ▪ It is bootstrapping new
    monetary systems
    ▪ It might be surpassed by
    more advanced type of
    cryptocurrencies without
    becoming obsolete
    © 2019 Digital Gold Institute 65/93

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  66. Bitcoin Is Not Loved… Gold Too!
    ▪ 1933 Gold Act "forbidding the hoarding of gold coin, gold
    bullion, and gold certificates within the continental United
    States".
    ▪ 1966 Greenspan: “This is the shabby secret of the welfare
    statists' tirades against gold. Deficit spending is simply a
    scheme for the confiscation of wealth. Gold stands in the way of
    this insidious process. It stands as a protector of property
    rights. If one grasps this, one has no difficulty in understanding
    the statists' antagonism toward the gold standard.”
    ▪ 1972 Nixon shock: unilateral cancellation of the convertibility of
    the United States dollar to gold.
    © 2019 Digital Gold Institute 66/93

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  67. IMF Special Drawing Rights
    ▪ Special Drawing Rights are international reserve assets, created
    in 1969 to supplement existing official reserves of member
    countries
    ▪ SDRs address the lack of a non-national currency to be used as
    reserve asset
    ▪ F. Saccomanni: “cryptocurrencies could be an effective
    monetary policy instruments [...] we should pay more attention
    to the geniuses working on them, try to understand what of
    interest they could teach us”
    https://it.finance.yahoo.com/notizie/saccomanni-non-bisogna-demonizzare-cripto-valute-172912255.html
    http://www.ufficiostampa.rai.it/pdf/2014/2014-10-09/2014100928490498.pdf
    ▪ IMF sponsored token: possible, but unrealistic as it would
    severely undermine US dollar predominance
    © 2019 Digital Gold Institute 67/93

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  68. Geopolitical Implications
    ▪ To challenge the USD supremacy as reserve asset is hard
    ▪ Monetary engineering might be not only the next cypher-punk
    frontier, but a weapon of geopolitical «wars»
    © 2019 Digital Gold Institute 68/93

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  69. Table of Contents
    1. Cash, Electronic Money, Central Bank Money, eCash
    2. About Money
    3. Private Money and the Centralization Dilemma
    4. The Double Spending Problem
    5. Bitcoin as Digital Gold
    6. Hayek Money: Elastic Non-discretionary Policy
    7. Hayek Money: Dual Asset Ledger and Proof-of-Payment
    © 2019 Digital Gold Institute 69/93

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  70. Hayek Money:
    A New Generation of Cryptocurrencies
    ▪ The cryptocurrency monetary standard of elastic non-
    discretionary supply
    ▪ Price stability paradigm with respect to a given reference basket
    ▪ Bitcoin can be used as reserve asset
    ▪ Concurrent cryptocurrencies competing in monetary policy
    definition and reference basket choices
    ▪ Private monies competing with legal tender monies: separation
    of Money and State?
    © 2019 Digital Gold Institute 70/93

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  71. Fixed USD Exchange Rate
    ▪ USD/BTC: 15-Apr-11 1.0, 29-Mar-14 500.0
    ▪ x500 increase for BTC demand relative to USD
    ▪ 29-March-14: 12.5M bitcoins in circulation
    ▪ Inflate their number 500 times to 6250M
    ▪ On 29-Mar-14 it would have been equivalent
    − to own BTC1 worth $500
    − or (rebased) RBTC500 each worth $1
    © 2019 Digital Gold Institute 71/93

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  72. USD-Parity (Daily) Rebased Bitcoin
    ▪ Adopting the USD Consumer Price Index
    ▪ 6% inflation in the period March 2011-2014
    © 2019 Digital Gold Institute
    1.06
    72/93

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  73. Avoid USD Monetary Policy:
    Brent-Wheat Commodity Price Index
    © 2019 Digital Gold Institute 73/93

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  74. Brent-Wheat Commodity Price Index
    Rebased Bitcoin
    © 2019 Digital Gold Institute 74/93

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  75. USD/RBTC vs USD/EUR Exchange Rate
    © 2019 Digital Gold Institute 75/93

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  76. Rebasing Bitcoin?
    No, not really!
    ▪ Bitcoin has been used for the sake of discussion, basically to
    leverage its historic price time series
    ▪ Bitcoin is good as it is: more a cryptocommodity than a
    cryptocurrency, bitcoin is digital gold
    © 2019 Digital Gold Institute 76/93

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  77. Hayek Money:
    This First Simplistic Implementation
    ▪ Results:
    − Price stability
    − Salaries, mortgages, forward payments are now possible
    ▪ Problems:
    − Number of coins in a wallet changes without direct in/out flows
    − Purchasing power of a given wallet is not stable
    − Coins still have speculative investment appeal and so
    enjoy limited transaction usage (do not buy pizza with
    them)
    © 2019 Digital Gold Institute 77/93

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  78. Table of Contents
    1. Cash, Electronic Money, Central Bank Money, eCash
    2. About Money
    3. Private Money and the Centralization Dilemma
    4. The Double Spending Problem
    5. Bitcoin as Digital Gold
    6. Hayek Money: Elastic Non-discretionary Policy
    7. Hayek Money: Dual Asset Ledger and Proof-of-Payment
    © 2019 Digital Gold Institute 78/93

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  79. ▪ Split transactional and speculative money demand with two
    non-fungible assets
    ▪ Blockchain technology tracks ownership and transactions for
    both: dual asset ledger
    ▪ A Reserve Asset Bank act as issuer, issuing both
    − (stable) transactional coins
    − (unstable) speculative shares
    ▪ The market will assign respective prices
    and
    © 2019 Digital Gold Institute
    Hayek Money Dual Asset Ledger
    79/93

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  80. Monetary Policy Target
    ▪ Make the coin stable in purchasing power with respect to a
    given reference basket
    ▪ The coin is pegged to parity:

    ≅ 1 unit of the reference basket
    − corridor: 1 − ϵ <
    < 1 + ϵ (e.g. 0.95 <
    < 1.05)
    ▪ Coins must not be inflated/deflated arbitrarily
    © 2019 Digital Gold Institute 80/93

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  81. Monetary Policy Goal
    If
    ≅ 1 always, coins lose any speculative appeal!
    ▪ Money velocity and transaction volume increase
    =
    Where:
    − M is the money supply (total amount of money in circulation;
    − V is the velocity of money for all transactions in a given time frame;
    − P is the price level;
    − T is the aggregate real value of transactions in a given time frame.
    © 2019 Digital Gold Institute 81/93

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  82. Reserve Asset Bank: Market Operations
    ▪ The Bank needs reserve assets to enforces the coin price
    corridor 0.95 <
    < 1.05 by market operations
    ▪ Floor enforcement: existing coins are always bought (then
    burned, destroyed, or removed) at 0.95 using reserves (until
    completely depleted), avoiding
    < 0.95
    ▪ Ceiling enforcement: newly minted coins are always available
    for sale at 1.05 (increasing reserves), avoiding
    > 1.05
    ▪ The enforcements should be algorithmically deterministic, not
    discretionary
    © 2019 Digital Gold Institute 82/93

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  83. Reserve Asset Bank: IPO
    ▪ Raises bitcoins as reserve asset in quantity
    Better to avoid non-crypto reserve assets:
    a custodian legal entity would be required, re-introducing centralization
    ▪ Issues in return coins and shares
    ▪ ∙ 0.95 ≪ at IPO
    ▪ Hopefully, ∙ 0.95 < at every later time
    ▪ The market will assign prices
    and
    ▪ The monetary base being backed by , at equilibrium:

    + ∙
    =
    © 2019 Digital Gold Institute 83/93

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  84. Seigniorage: profit made by a currency issuer, especially the difference between the
    face value of coins and notes and their production costs
    ▪ Shareholders are in charge of reference basket maintenance;
    it is only fair: it is their coin, they backed it with their capital
    ▪ The share price is free to float
    ▪ Share value = assets - liabilities

    = − ∙ 0.95

    = Τ
    − ∙ 0.95
    ▪ Shareholders absorb monetary policy’s profits and losses,
    shielding coin holders from volatility
    ▪ No compelling reason to ever burn/destroy existing shares
    © 2019 Digital Gold Institute
    Reserve Asset Bank: Seigniorage Shares
    84/93

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  85. ↑ . : Profits for Shareholders
    ▪ Ceiling enforcement: newly minted coins are always available
    for sale at 1.05 (increasing reserves), avoiding
    > 1.05
    ▪ For every new minted coin:
    − Reserve assets increase by 1.05
    − Coin liabilities increase by 0.95
    − Net effect:

    ▪ Seigniorage shares enjoy seigniorage revenues
    © 2019 Digital Gold Institute 85/93

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  86. ↓ . : Losses for Shareholders
    ▪ Floor enforcement: existing coins are always bought (then
    burned, destroyed, or removed) at 0.95 using reserves (until
    completely depleted), avoiding
    < 0.95
    ▪ If the selling pressure does not stop:
    − If < ∙ 0.95:
    coin is dead, Bank defaults,
    = 0
    − If > ∙ 0.95:
    coin is dead, Bank does not default,
    > 0
    i.e. there is no interest for stable coins; shares are equivalent
    to bitcoins
    © 2019 Digital Gold Institute 86/93

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  87. Leverage Bitcoin As Reserve Asset
    ▪ Bitcoin is the first and most successful instance of an
    intrinsically scarce digital asset: it’s digital gold
    ▪ When used as reserve asset, its qualities are magnified!
    ▪ Its limits are lessened. No more need for:
    − scaling to huge (cash + bank accounts + credit cards)
    number of transactions
    − supporting economically inefficient micropayments
    − lowering confirmation time
    The Reserve Bank IPO raises bitcoins,
    issues seigniorage shares and stable coins
    © 2019 Digital Gold Institute 87/93

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  88. The Ultimate Fate of Bitcoin:
    To Serve as a Reserve Currency
    https://bitcointalk.org/index.php?topic=2500.msg34211#msg34211
    Hal Finney (1956–2014) was a noted cryptographic activist. He was the second PGP Corporation developer
    hired after Phil Zimmermann. He created the first reusable proof-of-work. He was an early bitcoin user and
    received the first bitcoin transaction from bitcoin's creator Satoshi Nakamoto.
    © 2019 Digital Gold Institute 88/93

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  89. Transaction Validation: Proof-of-Payment
    ▪ Block generation is rewarded with the issuance of a new share
    ▪ Instead of the hardware and electric power expenses of proof-
    of-work, bitcoins are irrevocably paid to the Reserve Asset Bank
    by validating nodes (proof-of-payment)
    ▪ Chances of being appointed for the next block generation are
    proportional to the overall submitted payments, i.e. to the
    accumulated proof-of-payment
    ▪ When a node is picked up for block generation its proof-of-
    payment resets to zero; other nodes are not affected
    © 2019 Digital Gold Institute 89/93

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  90. ▪ If a node is not picked up, its payments are not discarded: they
    are valid for the next lottery, but never reimbursed
    ▪ Since
    = Τ
    − ∙ 0.95 , that should be the price a
    rational agent is willing to commit as payment
    ▪ Share price estimation in bitcoin is obtained as by-product of
    the lottery
    ▪ Existing shareholders are not really diluted: for the issuance of
    each new share, increases accordingly
    © 2019 Digital Gold Institute
    Transaction Validation: Proof-of-Payment
    90/93

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  91. Bibliography
    ▪ Satoshi Nakamoto, Bitcoin: A Peer-to-Peer Electronic Cash
    System (2008) https://bitcoin.org/bitcoin.pdf
    ▪ Saifedean Ammous, The Bitcoin Standard: The Decentralized
    Alternative to Central Banking (2018)
    ▪ Bitcoin as Digital Gold (2018), United Nations Department of
    Economic and Social Affairs; video: https://goo.gl/NkEC9w;
    slides: https://goo.gl/szzBXh
    ▪ Blockchain Needs A Native Digital Asset (2016),
    https://www.finextra.com/videoarticle/1241/blockchain-needs-
    a-native-digital-asset
    ▪ Pedro Franco, “Understanding Bitcoin”, Wiley
    − chapter 3 «Economics»
    © 2019 Digital Gold Institute 91/93

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  92. Stable Coins: Bibliography
    ▪ Ferdinando M. Ametrano, Hayek Money: the Cryptocurrency Price
    Stability Solution (2014), http://ssrn.com/abstract=2425270
    ▪ Massimo Morini, Inv/Sav Wallets and the Role of Financial
    Intermediaries in a Digital Currency (2014),
    http://ssrn.com/abstract=2458890
    ▪ Robert Sams, A Note on Cryptocurrency Stabilisation: Seigniorage
    Shares (2014),
    https://github.com/rmsams/stablecoins/blob/master/00-main.pdf
    ▪ Vitalik Buterin, The Search for a Stable Cryptocurrency (2014),
    https://blog.ethereum.org/2014/11/11/search-stable-cryptocurrency/
    ▪ Ferdinando M. Ametrano, Cryptocurrency Price Stability With
    Seigniorage Shares And Reserve Bank (2016),
    http://ssrn.com/abstract=2508296
    ▪ Ferdinando M. Ametrano, Bitcoin: crittovaluta di riserva per nuovi
    standard monetari (2018), http://bit.ly/2NQg9VJ
    © 2019 Digital Gold Institute 92/93

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  93. Takeaways
    ▪ Central bank digital currency is not going to happen anytime
    soon
    ▪ Private digital cash backed by fiat currency reserves is possible
    ▪ In both cases blockchain technology is not really needed
    ▪ Bitcoin solves the double spending problem relying on
    seigniorage revenues
    ▪ Bitcoin, being digital gold, could be as relevant as physical gold
    for history of civilization and future of money & finance
    ▪ Bitcoin is bootstrapping new monetary systems: price stability
    can be achieved with a Hayek Money implementation using Dual
    Asset Ledger and Proof-of-Payment
    © 2019 Digital Gold Institute 93/93

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  94. Ferdinando M. Ametrano
    Executive Director
    [email protected]
    Paolo Mazzocchi
    Chief Operating Officer
    [email protected]
    www.github.com/dginst
    www.facebook.com/DigitalGoldInstitute
    www.twitter.com/DigitalGoldInst
    www.dgi.org/feed.xml
    [email protected]
    www.dgi.io
    www.linkedin.com/company/digital-gold-institute
    "Scarcity in the Digital Realm"

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