00:00:07
Welcome everyone. This is uh Wharton Finance the future of finance podcast. This is our second season and in the
00:00:16
second season we are talking about digital assets, cryptocurrencies, tokens, uh decentralized finance and
00:00:24
everything related to that space. I am Mitai Goldstein. I am professor of finance here at Wharton and I'm
00:00:30
currently the chair of the finance department and I'm hosting this uh podcast and today we're going to devote
00:00:36
the episode to thinking about the economics of tokens, the economics of tokenization. Uh this is a term that is
00:00:44
now known as tokconomics. We're going to try to understand what are the fundamental forces that are driving the
00:00:52
market for tokens and coins and how these forces are different from some of the other markets financial assets that
00:01:00
we are used to and that we have been thinking about in the past. I have the perfect guest today to think about those
00:01:07
issues and this is uh Shimon Kogan. Shimon Kogan has been with us at Walton for the last 10 years or so where he has
00:01:15
been uh teaching uh the fintech course. Uh he was one of the first movers into the area of uh fintech when few places
00:01:25
had fintech courses. Uh he already designed one and came to teach it for us and has been doing it uh since then uh
00:01:33
with great success. He also worked on uh related issues in his own uh research and we're going to talk about that as
00:01:40
well. Uh welcome uh Shimon. It's great to have you. >> Thank you. It's a pleasure being
00:01:46
invited. I I'm I'm a I'm a fan of the podcast. Was listening to the to the
00:01:51
first episode. So uh looking forward to the conversation. >> So let's uh dive uh right in and try to
00:01:58
understand uh some of the terms that we are talking about. Uh c can you take a step back and maybe help us understand
00:02:06
help the audience understand what do we think about when we think about uh tokens and uh coins? What are the common
00:02:14
uses uh for them? Uh how are they potentially going to change the financial system? And you know a lot of
00:02:23
it is maybe just a pipe dream things that we are aspiring to but have not been realized yet. So the question is
00:02:30
how much is real and how much is still just a fantasy. May maybe it's too much
00:02:35
for the first question but uh you you can start wherever you want. >> I'll try to deliver on that at least at
00:02:41
a sort of at a high level because I'm sure that we're going to dive into some
00:02:44
of the more specifics um during the conversation but but it's it's a it's a
00:02:48
it's a good place to start kind of at the top because there are there lots of
00:02:51
terms in this field and it gets uh it gets quite confusing. So let's start at the top. So in in kind
00:02:59
of the world of crypto I think it's important to distinguish between different class of assets because it
00:03:04
tells you something about the underlying technology and the underlying uh structure right so kind of at the core
00:03:11
level we have cryptocurrencies right in each of these cryptocurrencies is associated with a particular blockchain
00:03:18
so you know blood is of course familiar with BTC right that's not to be confused
00:03:24
with Bitcoin right so Bitcoin is the blockchain protocol BTC is the native currency for that. Here as well, I think
00:03:32
it's helpful to distinguish between transactional only blockchains like Bitcoin or Litecoin where the primary
00:03:39
use case of the coin aside for paying for basically the security. So, it kind of actually came out of of of true and
00:03:48
um um legitimate kind of need. But the primary use case in these kind of blockchains is kind of payments, right?
00:03:58
um and um and want to separate that from kind of the the second generation if you
00:04:03
will of blockchains and those are programmable blockchains like Ethereum, Salana and
00:04:09
there there are many other competitors where the primary use case of the native digital um coin is actually to pay for
00:04:16
the execution of smart contracts. Okay, so we have cryptocurrencies as sort of the main type of asset. Now notice and
00:04:25
that's important too that when we talk about cryptocurrencies lots of cryptocurrencies because each of them is
00:04:31
sort of native to its own blockchain you cannot take you cannot take Bitcoin and
00:04:36
transact in Ethereum and vice versa without some third party offering kind of like bridge services and we can talk
00:04:43
about that if if if you're interested. Now on programmable blockchains lots of
00:04:49
things that you can do but as it turns out um you can create tokens right so we want to distinguish between again the
00:04:57
cryptocurrency like Ethereum and tokens build or that live on Ethereum and so those are assets that are created by
00:05:04
applications around various use cases some of them could be payments for services could be
00:05:09
voting could be control we can we'll come back to it when we talk about tokconomics right So in fact the fact
00:05:17
that uh this is sort of touring complete um programming language means that you can create lots and lots of different
00:05:25
varieties of contracts and we see that uh in practice that also introduces vulnerability. So what um say Ethereum
00:05:35
I'm going to many of my examples are going to be from Ethereum because it's
00:05:38
simply the largest uh programmable blockchain. they kind of created templates of uh types of tokens just to
00:05:47
make developers life easier, right? So you don't have to sort of figure out from scratch all the features uh and
00:05:54
open yourself up to um security vulnerabilities. So they designed kind of templates of tokens. So um you may be
00:06:01
familiar with ERC20 which is kind of the the the funible token uh standard that was behind the ICO boom or heavily used
00:06:10
during the ICO boom. we have ERC 721 tokens. So that's kind of the template often times used for nonf fungeible
00:06:17
tokens. More recently we have ERC400 which is now advanced as a as a kind of format to offer tokenization of offchain
00:06:27
assets. Okay. So again we have token we have we have cryptocurrencies we have tokens. Now those tokens
00:06:35
inherent the security of the blockchain on which they were developed. So as a developer, you have to ask yourself um
00:06:44
where you want to develop your application and where these tokens are going to live because again they don't
00:06:48
port from one protocol to another. And so naturally there's a lot of competition around kind of eyeballs and
00:06:55
attention of developers um by these what we call layer ones by these programmable
00:07:00
blockchains. >> But if you want to think about the main economic uh uses for them, how would you
00:07:06
classify that? The first is and that's a very specific type of token but it it's
00:07:10
so specific that it has its own name and those are stable coins right so stable coins are tokens
00:07:16
um that are designed to sort of keep a peg to typically US dollar but could be in principle anything it's a big
00:07:24
business you know circle went public went from like 30 to 200 bucks overnight um so that's it's a real big business
00:07:32
there's another uh big business around and some some real traction around tokconization. Okay. because that's the
00:07:39
idea of representing um non kind of non-cryptonative assets um um on on crypto infra or blockchain infrastructure right
00:07:51
so black rockck uh for example partnered with securize to offer its money market
00:07:56
fund biddu so basically what you're saying is taking financial assets and putting them
00:08:03
on token and and then what what is what is the what is The advantage of of doing that
00:08:10
>> there could be few advantages right now the use case that we are seeing first of
00:08:15
all what you get is instantaneous settlement right um so even if you're institutional player once you have
00:08:22
stable coins and you have um these these crypton native securities right uh or or representation
00:08:32
of them then you have 247 instantaneous settlement which we still don't have
00:08:39
even if you're even if you're a large um sort of corporation say right I mean you
00:08:45
still if you're moving money about settlement takes time depending on on what kind of asset um you're looking at
00:08:53
but there's there's obviously sort of the ambition is is much bigger than that
00:08:57
Robin Hood announced I think I think last week uh that they're going to offer
00:09:03
tokens associated with private equity right so they're going to take I don't
00:09:07
SpaceX and OpenAI etc. and represent them as tokens and people are talking about what's called real world
00:09:15
tokenizing real world assets. So those are not securities at all. This could be anything from your um you know I don't
00:09:22
know collectibles to real estate. >> So it allows us to trade on things that
00:09:28
otherwise we would not be able to trade and things that we could trade it allows
00:09:32
us to do it more efficiently. >> That's right. and and for example I mean
00:09:36
and and you know look look this is not a pan of I mean and and I have a lot of conversations with people in the
00:09:41
industry about this I mean I think that it you know there are parts of it that make sense there are parts of it that I
00:09:46
still are kind of people are um I'm not thinking carefully through like for example there are fundamental
00:09:54
reasons why some of these assets are illquid right that ili liquidity I don't
00:09:59
think is going to go away by creating a digital representation and offering ing people to trade it 24/7. That that's
00:10:07
that's not a solution to the fundamental problem that causes these assets to be
00:10:11
uh non-tradable. But and you know, I'll take the other side of this, but you can
00:10:16
take assets that have a fairly infrequent kind of price discovery and you know, you're still not going to
00:10:24
solve the problem of of of that price being being um stale, but you can you can now and and again, this is not
00:10:33
fiction. this is this is happening. You can allow owners of these assets to pledge them as collateral and that that
00:10:40
could be kind of a partial solution for for the liquidity problem. Right. >> Right. Yes.
00:10:45
>> So, so I I have an asset that you have a hard time valuing. Right. And you're
00:10:50
saying, look, I don't know if it's worth 80 or 90 or 100, but you know, it's
00:10:55
presumably worth, you know, you know, the probability that it's worth less than 20 is very low. So I'll lend you
00:11:02
I'll if you if you if you basically lock this asset in a smart contract I'll lend
00:11:08
you 20 bucks against this right with with appropriate uh interest. So again you know I think I think it's sort of an
00:11:17
interesting solution of kind of indirect way of giving some liquidity and by making these assets at the very least
00:11:24
pledgeible >> right so when we are thinking about tokconomics the economics of tokens we
00:11:30
would like to understand the supply the demand how prices are formed if we are thinking about other financial assets
00:11:37
like stocks I think we have uh very wellestablished frameworks uh you're thinking about uh future earning
00:11:44
earnings, future cash flows, you're discounting them and so on. Uh those uh rules are not working exactly like that
00:11:52
when it comes to tokens and and this is what makes the economics a little richer
00:11:56
and and more interesting. So what what do you think are the other forces and how should we think about uh the the
00:12:04
economics here? >> No, it's a it's a great question. Um yeah, first of all, let me say that, you
00:12:10
know, it should be obvious from from from our discussion so far that this flexibility uh allows us to create uh
00:12:17
all sorts of tokens with lots of different features, right? Uh and so I think one of the challenges of of this
00:12:24
industry is that at least from what I see there's mostly there's very little
00:12:28
theory. uh there's actually not that much even empirical work from academia sort of to guide say new platform
00:12:36
builders for how do they structure so they they often come and ask these questions like well you know how should
00:12:41
I control supply you know what is the emission rate um burn rate um how should etc so lots of different so basically
00:12:50
the dimensions along which they have choices are are are are quite broad right um and so first of all I want to
00:12:58
point out that that there's I think that there's more that we don't understand
00:13:02
about sort of optimal kind of contract design if you will in the context of economics um and um than we do that
00:13:11
that's at least my my personal opinion on this now um I think it's helpful to
00:13:16
sort of draw parallels to equities right um so there are some similarities and some
00:13:23
differences right so the the obvious difference so They kind of look a little bit like uh like each other because both
00:13:32
under some circumstances give you some control rights and ownership rights and and some of them kind of although they
00:13:40
don't declare that give you some cash flow rights. Um but but but let's understand where kind of what world each
00:13:49
of these live in right. So in the world of securities right or equities um essentially what you have is sort of a
00:13:57
legal structure that um that safeguards the holders of securities against um expose bad behavior uh by by managers
00:14:11
or or controllers, right? Um so obviously you do not have that legal protection when it comes to tokens,
00:14:19
right? um at least not under I think on under the current uh legal framework. What you do have with tokens is the
00:14:27
ability to sort of what we call pre-commit, right? So what what you can what you can do for example with tokens
00:14:34
that you cannot do uh with uh with equities is to say you know I'm going to I'm going to program in the rate by
00:14:43
which new tokens are going to be issued and it's going to be a function of these
00:14:48
conditions like in take bitcoin for example right it's purely a condition like it's a function of time right
00:14:56
there's no the price of bitcoin doesn't affect the emission of of Bitcoin, you
00:15:01
know, how many miners there are, it's like all all these um they don't matter.
00:15:06
So that's a particular choice that you can do in in in in kind of crypto world
00:15:12
that you cannot uh easily implement with equities. >> This kind of leads me to something
00:15:17
related that uh people would think maybe is on the fringe but is getting a lot of
00:15:22
attention which is uh meme coins. Um and you have coins that are kind of based on
00:15:29
nothing. Uh if you think about uh dodgecoin or uh uh shea you know others uh you you you b you you basically have
00:15:39
uh a token that has value just because other people think it has value and not because it represents anything that is
00:15:48
underlying it that would be uh uh valuable. So would you think about that also uh using the same framework or do
00:15:55
you think this is something completely different? >> So I think I think um that's a good
00:16:00
question. Well I mean you know if you want to be provocative you can ask whether Bitcoin is a memecoin as well.
00:16:05
>> Do you think that Bitcoin is a is a memecoin? >> No. But but what I'm saying is that I I
00:16:10
I personally don't >> but but >> no because at least with Bitcoin in the
00:16:14
beginning there was this idea that it's going to be kind of a new currency. people are going to use it to buy things
00:16:20
and so on. Um I don't think it really panned out this way so far, but there was some uh use case.
00:16:28
>> Absolutely. I I I I'm not suggesting that Bitcoin is a memecoin. All I'm
00:16:33
saying is that if you sort of step officially like if you if you kind of take a few steps back and kind of look
00:16:38
for from a kind of high kind of high level perspective, you can ask yourself, well, what is the what is what is sort
00:16:44
of the tangible utility? You're absolutely right. By the way, you know, with with some of the meme coins, the
00:16:50
process kind of it was kind of a faking until you make it in some sense. I don't
00:16:54
think it was designed, right? But, you know, Dodgecoin now is Alan Musk is suggesting that it's going to be the
00:17:01
payment rail maybe for for X, you know, and you have you have now kind of a mini
00:17:08
ecosystem around Shibaino. Again, I don't think it was there in the first place. I do want to mention and and I
00:17:17
and I do think that um there there are there's a lot of other factors that are
00:17:24
at play here uh that are more coming from behavioral finance than anything else in terms of kind of thinking about
00:17:32
uh valuation. But I I do want to mention something that that we found that that I think is
00:17:38
relevant for this uh discussion in a paper where we um we had access to a really interesting data set uh from it
00:17:47
Toro. So Tor is publicly traded companies is basically retail broker that has um operations in over 100
00:17:55
markets. And one of the neat features of it is that kind of from from the from the get-go um and they offered um retail
00:18:05
investors the ability to uh invest in lots of different types of assets. So they were one of the first to actually
00:18:12
embrace crypto. Um and the question that we asked was really simple. is like do people you know so take the same
00:18:18
individual um do they seem to behave different in cryptos than in in say equities or gold?
00:18:26
So we wanted to ask that very simple question and more specifically what we we're interested in is how expectations
00:18:34
of future returns of these asset classes actually respond to prices which is kind
00:18:39
of what what you're getting at right um and so um you know under some assumptions what you can do is you can
00:18:48
back out um the share in your in the portfolio for users um dedicated to each of these asset classes and you just
00:18:57
basically s you can estimate how these um portfolio shares how they respond to past returns. Essentially what we find
00:19:07
is that a very robust finding right lots of different specifications. We find that when you look at equities um people
00:19:17
have retail investors at least in our sample have contrarian beliefs right so equity uh prices go up people believe
00:19:26
that future returns are going to be lower than they were before right and by the way that's true for gold as well but
00:19:32
not for crypto okay so they they appear to have kind of momentum like beliefs um
00:19:39
in crypto and we try to understand where is coming from. Um and and so for example, we looked at kind of lottery
00:19:49
like stocks to see whether people behave in kind of whether people have sort of momentum beliefs in when when you when
00:19:57
you focus on lottery like uh stocks. So those are stocks that have positive skewess you know maybe young stocks
00:20:06
smaller ones lower like there there various known proxies for this and interestingly we don't find that like we
00:20:12
don't find we still find contrarian beliefs even in these lottery like uh stocks so there's sort of something
00:20:19
specific about crypto >> yeah and this is the role of adoption and coordination I think this speaks
00:20:26
very clearly to that and and you say this can also support uh meme coins that might not have any underlying value, but
00:20:34
the value is just coming from the fact that others are are using it. >> That's true. Although I think that with
00:20:42
memecoins it's it's you know it's it's kind of like a a very extreme case
00:20:47
because um because there's basically no at least as you pointed out like there's
00:20:52
no even a pretense by the way I think it's for regulatory reasons right so part of it started joke part of I think
00:20:59
started as as a as a way of avoiding being classified as security there's no
00:21:04
pretense of anything being underpinning its value right so very kind of extreme a case of not where we push fundamentals
00:21:14
to to the future where we have no fundamentals at all. And um >> and you know and and I think it's
00:21:21
interesting and and you know there there's there's some really interesting
00:21:25
studies done in the 70s and 80s looking at experimental markets where they try to do this like they try to basically
00:21:34
see what happens when you push fundamentals further out into the future. And then they found two things
00:21:39
that could be actually relevant for this these markets, right? They found that actually first of all you can you can
00:21:45
create these bubbles in a lab like in a very controlled very simple environment in a repeatable way. But they found two
00:21:54
two things. They first of all they found that expectations are adaptive right. So
00:21:59
when these bubbles happen and you ask traders what they think the price is going to happen like they they they many
00:22:05
of them understand that prices get detached from fundamentals but these fundamentals are not going to be not
00:22:11
going to kind of show up until later in the future and so they exhibit these adaptive expectations. The second thing
00:22:18
is that they underestimate how quickly the bubble will burst on average, right? Um because it's sort of
00:22:26
it's it's clear that you know because of the fundamental at some point there's
00:22:30
something anchoring prices. >> There is some parallel also to mean meme stocks, right? So we talked in the
00:22:38
previous uh season uh I talked to Matt Lavine about uh meme stocks and social behavior in the financial market and uh
00:22:46
clearly that is a very strong force here as as well maybe even more extreme because with meme stocks there is a
00:22:54
grain of fundamental whereas here there isn't. So these are uh may maybe the the
00:23:00
same the same underlying forces but uh even more extreme that we see them here in in tokconomics.
00:23:07
I I agree, you know, so so with with with you know, GameStop, AMC, you know, um you you you know,
00:23:16
you would you you would think that at some point, right, the fundamentals that are going to anchor the the price of a
00:23:21
stock with memecoins, it's not obvious what that anchor is. And so, yeah, I think I think they they really lean on
00:23:27
on on sort of similar uh drivers for for for users, right? I mean in this sort of sense of community,
00:23:36
shared narrative um in some cases this this idea that um they're collect collectively rebelling against
00:23:44
traditional uh powers. Um and and I think that's that's very important to to
00:23:49
note as well and we see this elsewhere. It's a great appetite for gambling. Right. So, so I want I want to go back a
00:23:55
little bit to uh ICO initial coin offerings and you mentioned that uh for uh you know a few years ago there was a
00:24:05
wave of ICOs and I think at that point there was hope that there is real economic value behind it because those
00:24:14
are firms that instead of issuing equity they are issuing coins and that is a way
00:24:18
to raise capital and it also supports the products of of the firms but Unfortunately, there was also a lot of
00:24:24
fraud that was associated with that and then it came in to a halt and you know now there's a lot of regulatory
00:24:31
uncertainty where it's going to go. Um so where do you think we are headed with
00:24:35
that? You think there is still a future for this? >> When you say future for this what what
00:24:40
exactly do you mean? >> Will we see the revival of ICOs? Uh is it going to go back to the same uh
00:24:47
volume and momentum that we had in the initial phase? I very much agree uh wi with your uh with your assessment uh and
00:24:57
u but I I also want to point out that there are some legitimate um legitimate platforms uh that were uh built around
00:25:05
that. >> Yeah, absolutely. No, I I think that there were some of them that were
00:25:08
certainly legitimate, but there was also a lot of uh fraudulent ones around them
00:25:13
and and and and the fact that it was hard to tell which is which, I think this is what caused uh the the crash in
00:25:21
activity. >> I agree. I mean it it it was sort of combination of that and um and you know
00:25:28
it kind of coincided not exactly but you know roughly around the same time like it the Teraluna debacle, the FDX Celsius
00:25:38
there there are a bunch of like notable um basic cases of of what you would legally
00:25:46
or otherwise probably classify as uh as as as fraud. And so that that led to an obvious response by the regulator, the
00:25:55
SEC. We kind of know what it looks like under the current administration. I I think the regulatory environment now
00:26:01
looks very different in the US. Um and I think that's worth mentioning. And I
00:26:06
think that there's hope that under that sort of new um framework there there
00:26:13
will be ways in which uh in which you can actually do this with proper disclosure and and guidelines and uh um
00:26:24
and basically consumer protection right and that that's what that's what we are
00:26:27
concerned about right so um you know now um D may be familiar with the genius um genius act which is standing for
00:26:40
guiding guiding and establishing national innovation for us stable coin act okay
00:26:46
um which is basically a framework for how do you issue payment stable coins and etc again I'm happy to talk more
00:26:56
about that if if you're interested in but it and there's another even actually
00:27:01
more ambitious and and broader um attempt to sort of clarify um what is a security, what is a commodity, right?
00:27:11
Um under the clarity act and um and provide safe harbor to developers and sort of establish market rules and and
00:27:20
compliance rules etc. So um then these two may actually get combined eventually, right? And that's that's
00:27:27
part of the political uh discussion that's taking place right now. And we see very very kind of different
00:27:34
framework slightly but uh we see Europe actually um being a bit ahead of the US in in that way through Mika framework
00:27:44
which it's actually quite I mean it doesn't cover everything but it's quite
00:27:47
comprehensive and and talks about again guidelines for how do you um issue tokens and stable coins and what custody
00:27:55
services look like etc. Right. So I think that yes in the US the um I think everywhere right we we've seen
00:28:05
some regulatory lag because this the industry move very very quickly um I think it's actually kind of fascinating
00:28:11
to see how quickly um the the the evolution cycle in this industry are um and there are some legitimate issues
00:28:21
around that or concerns around regulatory capture and and regulatory arbitrage but you know like I work as an
00:28:27
expert witness for for a number of cryptoreated cases and and I and I see how the level of um
00:28:36
sort of basically the level of understanding um on the on the on the supervisory and regulatory um sides.
00:28:44
It's it's it's very different from what it was a few years ago. So I so I think
00:28:48
that you know there's some catching up to do. Um but u but I'm hopeful that it
00:28:55
it's happening and I think that this can can actually um lead to at least from
00:29:01
from from from an entrepreneur's perspective a more sensible framework that's based on activity and not based
00:29:06
on type of institution. Right? There's certainly a lot more to talk about, but
00:29:10
I think we touched on the important aspects of the economics of tokens and what are some of the unique features uh
00:29:18
some of the uh complications uh some of the regulatory uncertainty and it also touches on some of the things that we
00:29:24
discussed in the other episodes this uh season. Uh so thank you very much uh Shimon for joining us.
00:29:32
>> It was a pleasure. Thanks for inviting me. >> Okay. Thank you and thank you everyone
00:29:36
for listening. [Music]