In 1999, a hot startup drove consumer adoption of Internet shopping.
Flooz.com was an online gift certificate company that allowed users to buy virtual money without putting their credit cards at risk.
Late 1990’s Internet shopping was like web3 today: a bit of wild west and a lot of scamming potential.
To combat this negative perception, Flooz (“money” in Persian) released a series of holiday-themed TV commercials in late 1999 featuring Whoopi Goldberg.
Here she is efficiently celebrating Kwanza, Christmas, and Hannukah in the same ad:
As a launch, Flooz was a success — 125,000 people opened accounts by January 2000. (By comparison, it wasn’t until March 2013 for Bitcoin wallets to reach 125k known users world-wide.)
The benefits of Flooz were many, per Mental Floss:
For businesses, it was a way of driving traffic to sites; for consumers, it was a way to keep credit card transactions limited to one vendor; for Flooz.com, being the intermediary meant taking a 15 to 20 percent of completed transactions on the selected retail sites, which ranged from Godiva Chocolates to Barnes & Noble and Tower Records.
And then, Flooz came tumbling down thanks to a money laundering crime ring from Russia.
Crypto x Instability
Modern cryptocurrency was born in the midst of the financial crisis of 2008-2009. That period was also marked by a divide between financial market failures and the inability of politicians to regulate those markets.
The 2008 financial crisis drove a sub-movement of deep distrust of the government-backed banking system – the sarcastic term “fiat currencies” was first coined then. Fiat means an arbitrary order to decree; fiat currency is a way of denouncing the faith-based economic systems which had long since gone off the gold standard.
Bitcoin “launched” in 2008 and ever since, its rapid price ascent and repeated shifts downwards have been studied. Especially since, unlike traditional securities, there are no fundamentals undergirding price movements - the cost of oil, for example, can swing thanks to production, demand, or geopolitical uncertainty.
Numerous models have been applied in research papers to understand Bitcoin price projections, without a singular conclusion.
Something just happened in crypto markets that was unexpected.
And it has everything to do with the Russian invasion of Ukraine and the booming Russian black markets.
The Fall of Flooz
Flooz was both a company and a protocol. It worked as a system of temporary storage — here’s how the company explained its process, which is amusing to think about today:
At the time, the idea of Internet money tied to an email was radical. Frictionless payments were uncommon and the fear of theft kept many from purchasing goods online.
This innovation attracted scammers, notably a ring of Russian thieves who dealt in stolen credit cards. They racked up $300k in 90 days by laundering the money via Flooz’s website.
Because Flooz had to guarantee purchases to vendors for them to accept the currency, it acted like a credit card company, floating vendors temporarily while it reconciled payments.
Because credit card companies fronted Flooz the money, the bad charges allowed them to take action and demand payments.
As the NY Times reported:
To cover any future refund requests from those credit card customers, the processor withheld daily reimbursements to Flooz.com from credit card sales and froze other accounts until it held $1 million of Flooz.com's money by the second week of August, the person close to the company said. Because customers were still redeeming thousands of dollars' worth of flooz daily at online merchants, ''it created an untenable cash flow situation,'' the person said.
Within weeks, Flooz filed for bankruptcy protection. It suffered a massive liquidity problem, even though its utility was growing.
Russia & the Black Market
In 2019, the size of the black market in Russia totaled a staggering $315.9 billion.
That’s 20% of the Russian economy GDP.
Right now, economic sanctions have hit both the Russian stock market and its currency, devaluing both by 30%+. The last time Russia faced a rapid market pullback, the size of their black market increased by 50%.
As Russia is more economically and politically isolated, the black market will increase in size and importance. There is a lengthy history, going back to the Soviet Union which we discussed previously:
Today, Russia is being disconnected from the rest of the world, leaving it with reduced economic options. The balance of trade between countries and Russia — its income from exports, the cost of imports, what its government spends, what its people save — will be quickly reset.
The net consensus is that Russian government will need to sell gold reserves to prop up its currency while the average Russian citizen will need to find a way to buy, sell, and store value.
Bitcoin is not a safe haven, but sure feels like one
Bitcoin is peculiar since there is a public, knowable, finite supply of coins; a common criticism of fiat currency is that government bodies obscure the true amount in circulation in order to achieve policy objectives.
(This is especially going to be true in Russia in the coming weeks.)
Because Bitcoin’s supply does not change, price fluctuations are always shifts in demand. In fact, the only reliable predictor of Bitcoin price is if the price increased yesterday.
Whether crypto actually works as a hedge is a question I’ve researched. This will be a bit nerdy, so bear with me, or just skip the next two paragraphs:
During the period 2010-2015 BTC run up, several academic papers noted that BTC was an effective hedge against currency inflation. Most recently, Su et al (2020) investigated “whether Bitcoin currency can hedge the risks associated with geopolitical events.” Their research concluded, in the face of geopolitical risks, it could.
However, White et al (2020) directly studied BTC price moves against a variety of currencies and found no predictable pattern. Further, White noted that “contrary to its common classification as a commodity, Bitcoin remains most closely related to option indices and inversely correlated to major currencies.” This study was the clearest and most direct on the matter of currencies, concluding that “Bitcoin fails as a unit of account, despite its rapidly appreciating physical and transactional value” (White et al, 2020).
Long story short, we don’t know.
What we do know was that Bitcoin decoupled from the US stock market this week, which is a surprising move.
All available research shows BTC is highly correlated to US Stock market growth, so what gives? Are Russian people buying bitcoins?
Barron’s opined today (March 3rd) on just this subject:
Bitcoin has been rising on expectations that demand will surge in Russia as the ruble plunges and the Kremlin restricts capital outflows from the country—potentially prompting citizens to buy Bitcoin as a haven…
Bitcoin purchases in rubles have spiked to their highest levels since May 2021. But they remain relatively small. Russians have bought an average 210 Bitcoins a day with rubles over the past week, according to Citi group. At recent prices around $44,000 per coin, that would amount to $9 million a day.
Daily volume of Bitcoin in the spot market averages about $5 billion worth of coins.
The black market exists in Russian because it has less friction than the “official” market. The short history of virtual currencies that they wear down wherever economic friction occurs, whether legal or not, but the gains always find their way back to fiat.
This Bitcoin rally is a significant move away from the US economy, meaning crypto’s global adoption continues to accelerate. Unlike Flooz, there isn’t a single company who will face liquidation issues, but the prices for crypto and NFTs are going to be especially volatile in coming weeks as either a) the predictions of new buyers comes true or b) expectations don’t meet reality, and prices falter.
All available evidence points to 20-30% corrections in the crypto market when demand drops. Since you can’t muck with the supply, you’re stuck with demand.
The most hopeful news, of course, is the ardent outpouring of support for the Ukrainian people enabled by the frictionless quality of crypto.
Crypto will be far more useful for a country trying to rebuild itself than for one self-isolating from the 21st century.
May this season pass quickly for us all.
Tweet of the Moment
As always, I have so much more to tell you,
Paul
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More on Bitcoin, Russia, and crypto here:
https://apnews.com/article/russia-ukraine-vladimir-putin-cryptocurrency-technology-business-d6a6d1bb3f664a555a2871eef3cd0e8c
https://www.barrons.com/articles/bitcoins-breakout-may-hinge-on-russian-demand-51646257287
https://www.newsweek.com/russia-black-market-shadow-economy-gdp-recession-poverty-1340510
Su C.-W., Qin M., Tao R., Shao X.-F., Albu L. L., & Umar M. (2020). Can Bitcoin hedge the risks of geopolitical events? Technological Forecasting and Social Change, 159, 120182. https://doi:10.1016/j.techfore.2020.120182
White, R., Marinakis, Y., Islam, N., & Walsh, S. (2020). Is Bitcoin a currency, a technology-based product, or something else? Technological Forecasting and Social Change, 151, 119877. doi:10.1016/j.techfore.2019.119877