The promotion of stability in the alternative cryptocurrency market is more often used as a marketing trick to ‘pump’ prices in the short term than provide true stability. Currently, price ‘stability’ generally revolves around ‘buy walls’ that are promoted to build momentum and then pulled. True currency stability would unfortunately draw no real attention because the majority of this demographic consciously seeks and feeds off volatility. For these reasons, we explore two distinctly different angles: price support and price stability.
7.1: Guaranteed Marketplace Exchange Rate
The first method of providing price support is by guaranteeing a minimum exchange rate on the marketplace for goods and services. Doing so ensures that if the value of the colored coin drops below the minimum exchange rate they become more attractive as a method of payment due to the savings that come with spending them. Once trade of bullion is confirmed it is very important to clarify with regulatory bodies that this feature cannot be defined as indirectly backing the colored coins with precious metals (see Section 6.3). Otherwise, a guaranteed marketplace acceptance rate is straight forward provided funds exist to match orders.
The important question is then how do we determine a fair discovery of guaranteed exchange rate that provides current and future price support in a transparent and pre-determined manner? Averaging the monthly all time high (ATH) and all time low (ATL) is one possible approach but falls victim to ‘pump and dumps’ in a volatile market lacking liquidity. If the price of a colored coin fluctuated between five-thousand (5,000) satoshi and fifty-thousand (50,000) satoshi during a large market move, guaranteeing an exchange rate of twenty-seven thousand and five-hundred (27,500) satoshi for a period of thirty (30) days would drain the resources of the guarantor. Instead, it is considered prudent to guarantee the marketplace exchange rate at the initial coin offering crowd funded rate. Every thirty (30) days, we adjust the guaranteed exchange rate to an average of the ATH/ATL with a maximum of 10% deviation from the previous rate.
7.2: Precious Metals Trade
The act of trading and selling gemstones and precious metals from Australia over traditional channels with cryptocurrency is possible provided one abides by current business, legal and licensing practices. The three elements required (see Figure 6.2) are a) business registration for financial activity, tax and reporting1, b) a verified Perth Mint Australia trading account that allows the dealing of precious metals from one of the world’s most reputable suppliers2 , and an Australian dealer/pawnbroker license. It’s also important to note that one can establish themselves as an unofficial affiliate and sell bullion products from other reputable bullion dealers and jewelers.
The Pawnbrokers and Second-Hand Dealers Act 1996 (PSHD Act) aims to reduce the trade in stolen goods by providing a licensing regime with record keeping and proof of identity (PoI) requirements, constrain the exercise of market power in respect to the provision of pawnbroking services, and provide a mechanism to facilitate the return of stolen property to rightful owners quickly and equitably.3 While it is not envisioned that such a token would be used initially for the business of pawnbroking, the license also covers the trading of precious metals in Australia and provides an extra layer of accountability to the process when involving cryptocurrency. A second-hand dealer license is required if one intends to buy or sell prescribed goods that have been used, or are represented by the vendor to be goods that have been purchased by a third party but are unused. Prescribed goods include gemstones and precious metals and items of jewellery that contain gemstones and precious metals. While it could be argued that a license may not be necessary if one is only advertising and acting as an intermediary for prescribed goods, it is best to cover all bases possible when in uncharted territory.
7.3: Pegging (or Indirectly Backing) Cryptocurrencies with Precious Metals
The second stage of pegging is hypothetical and progress must be achieved within current regulatory frameworks in regards to money and currency. To begin, it is important to note that current consensus is that cryptocurrency is not classified as money or currency in Australia. The Corporations Act 2001 (Corps Act) provides no clear definition of ‘currency’ and clarification is needed on whether cryptocurrency could be deemed to be a currency for the purpose of a foreign exchange contract under the Corps Act.4 The Financial Transactions Reporting Act 1988 defines ‘currency’ as ‘coin and paper that is legal tender of Australia or of a foreign country’. Until these definitions are revised to broadly reflect current digital finance, it can be determined that cryptocurrency is not legally considered ‘currency’ or ‘money’ under both Acts.
However, when we examine legal definitions of ‘money’ and ‘currency’ under The Anti-Money Laundering and Counter-Terrorism Financing Act (“AML/CTF Act”) we see the implications of pegging (or indirectly backing) a cryptocurrency to precious metals and bullion. While the AML/CTF Act does not define ‘currency’, it recognizes two distinct forms of ‘money’. Physical currency is defined as a coin and printed money of any country that is designated as legal tender and is customarily used and accepted as a medium of exchange in its country of issue. E-currency is defined as an internet-based, electronic means of exchange that is backed by precious metal and is not issued by a government body.5
The AML/CTF Act’s definition of e-currency is where legal and regulatory work would be focused. The act of pegging a colored coin to precious metals would essentially bring it under the scope of the AML/CTF Act as an e-currency. Furthermore, it is possible that the definition of e-currency is broadened, removing the precious metals aspect and bringing all cryptocurrencies under the AML/CTF Act. It is important to be proactive, licensed and compliant to ensure entities are not caught on the wrong side of the fence should this happen. Possible identified elements of pegging a colored coin or cryptocurrency to bullion in the future include an Australian Financial Services (AFS) license or a more industry-specific license similar to the New York BitLicense (an Australian Cryptocurrency License (ACL)). Should this be the case, the price of entry to the cryptocurrency space and/or pegging an existing token to bullion may be significantly higher.
Once the specific licensing and regulatory issues surrounding cryptocurrency and bullion are resolved, pegging is straightforward. The central body guarantees redemption of the cryptocurrency for a fixed amount of precious metal(s) from within their own platform. If a central body were to back one (1) colored coin with one (1) ounce of gold, and assuming it kept full auditable reserves (investors will demand this), one-hundred (100) units would require one-hundred (100) ounces or approximately one-hundred and thirty-nine thousand, eight-hundred ($139,800) AUD to fully back. The concern at this point is who and more importantly why would a central body volunteer their own resources in this environment?
There is however the problem that the value of the colored coin is defined and tied exclusively to the price of the underlying asset(s), making natural price realization complicated. It is important to keep in mind that pegging colored coins (or cryptocurrencies) to real-world assets remains at best a grey area that can be operated within and at worse a potential legal and regulatory minefield. There will be a consistent effort made with legal and authoritative bodies on the evolution of regulations and laws allowing legitimate pegging of cryptocurrencies to precious metals as we enter 2015.
7.4: Stabilization Funds
To date all proposed stabilization funds have been marketing gimmicks, failed completely or missed the point. A stability fund working as intended at this point in time in the alternative cryptocurrency market would attract zero interest from traders and speculators because it would reduce volatility and potential for insider trading/profit markedly. Currently the focus is on placing large buy walls at set intervals to promote growth in the price of a currency or informing of vague market moves that have no consistency or transparency. Something often conveniently overlooked is currency stabilization should work both ways, protecting against both positive and negative fluctuations.
If someone were truly drawn to using an alternative currency and seeking stability, of course they do not want the value of the currency to plummet 40%. Likewise, although the technology is rarely used for loans, if they were to borrow $1,000 USD worth of a cryptocurrency with repayment due in two weeks, they do not want that loan to become the equivalent of $2,000 (appreciation by 100%) two weeks later. It does not appear so far that any cryptocurrency has had a dependable ‘plunge protection program’ or ‘upside shock absorbers’ to date: volatility is far too high.
One problem with cryptocurrency stabilization funds is how such a system would work in a ‘battle of the bankers’ situation. Let’s imagine a situation where the fund ‘authority’ wants to keep a price stable in the one (1) dollar range but a group or individual with greater resources wants to push the price five to tenfold (remove stability). It is within their power to do this if they are happy to purchase all supply currently available as well as any sold as the price is pushed higher. Because the supply of a cryptocurrency is mathematically fixed and enforced, a ‘malicious’ actor with enough resources can control supply and break any semblance of stability, sending the price in either direction at will.
The only way to combat such actors is to a) have more resources than they, forcing them to sell out using stabilizing buy walls and b) artificially increase the supply and lay down ‘sell walls’ until their resources are used up – deflating any pump. Since cryptocurrency mathematically forbids the force behind a stabilization fund to increase supply, a resourceful actor determined to outbid all sell orders (artificial or otherwise) and intending to push prices sky high cannot be stopped by a central stabilizing body. Unless the authority behind a stabilization fund has the ability to match an increase in buying power at will with a ‘freshly minted supply’, true stability of price cannot be guaranteed. A force with more money will always have the ability to purchase the entire supply and effectively control the price.
7.5: Scarcity via Activity (SvA)
By issuing a fixed amount of colored coins and removing mining or staking from the security equation we already change the dynamics of supply and demand over time. We galvanize this approach and enforce the ‘cycle process’ (see section 2: Distribution) by ensuring that every activity undertaken on infrastructure or related services means an increase in colored coin scarcity.
For example, the crowd funding process helps establish a service that allows cryptocurrency to be used to pay rent or buy a product typically available only in fiat. In order for an alternative cryptocurrency or group to gain access to such a service they pay a ‘listing fee’ in the colored coins rewarded during the crowd funding distribution stage. Once colored coins return to the original issuer a certain percentage is taken off-market indefinitely and left at an address that can be monitored (the chest). Another example may be that for every marketplace order, 10% is taken off market permanently. Full service fees and a percentage of all infrastructure orders taken off-market are the two initial key means of increasing scarcity.
If the services are in general self-sufficient (productive – not draining the ecosystem of funding and resources) they can work to remove the colored coins slowly from supply. With a focus on delivering services that provide value to the cryptocurrency scene, we have a system that returns all distributed coins over time to the issuer and ready for a new cycle.
Our price support and price stability plan can be divided into two distinct areas: elements we provide on release and an element we want to seriously explore with financial and government regulators as we enter 2015. Elements that will be in effect from release are:
The critical element that will be the legal, regulatory and government focus for 2015 is the pegging (or indirect backing) of a cryptocurrency with precious metals (6.3). It is also important to note that legal and regulatory clarification needs to be sought for allowing bullion trade on the marketplace at a guaranteed exchange rate. This feature cannot afford to be misconstrued as one that classifies NOXT as an e-currency before licensing/regulatory work is done.<< 6. Incentive to Participate8. Thought Leadership>>