What If: The Blockchain Economy
Exactly one hundred years after the Securities Exchange Act of 1934, Congress passed a new ’34 Act granting blockchain-based asset transfer full legal recognition, with an unusually broad definition of “securities” that upended the earlier classification of cryptocurrencies as commodities by the CFTC. This followed a number of years of updates to state Blue Sky laws and banking regulations, many of them modeled on Wyoming’s early innovations in this space. Close to a decade of regulatory enforcement actions and court rulings on top of the patchwork of state regulation in the U.S. had at this point become an impediment to interstate commerce, and it was clear something had to be done. FINRA quickly followed by launching the Series 67 Digital Asset Trader Representative and Series 34 Digital Asset Principal exams, with mixed reception: in a decentralized world which had seen self-directed trading via DeFi for over a decade, a license to trade or supervise trading could not be imposed, though some saw it as a useful form of self-regulation in the industry.
On the technical front, in 2027 the IEFT approved Blockchain Interchange Protocol (BIP), inspired in part by earlier work in Cosmos IBC and LayerZero. The major blockchains had all adopted the standard, and the Internet of Blockchains fully came to life. Blockchains differentiated themselves primarily in their innovations at the smart contract layer and the applications they attracted, though experimentation continued on scaling, resilience and performance. To say that your average user cared about which blockchain his or her favorite application used was kind of like expecting a TikTok influencer to care about whether the packets traversed a Cisco or Huawei router: most understood only the applications and the features they provided, not the substrate.
The debate over public vs. permissioned blockchains was also more or less settled by this point: public had won, with interchange across CBDC’s transiting the public blockchains like armored cars on the interstate. The irony was that as volumes and the money at stake grew, nobody was willing to trust anything other than a fully open and decentralized protocol subject to public scrutiny, and the major building blocks on top, the decentralized applications, only ever achieved scale on the public blockchains. Geopolitical factors came into play as well: the public blockchains came to be perceived as neutral ground and enabled international asset interchange; incorporation of the digital yuan, digital euro and finally the digital dollar into the BIP fabric also meant the differences between the CBDC networks and public networks were not relevant.
The one-two punch of BIP enabling broad adoption of blockchain globally and the new ’34 Act sent further shock waves through the traditional finance industry, which was already suffering from the evaporation of retail flow in the stock and options markets as DeFi went mainstream in the latter half of the 2020’s and investors switched to protocols like Synthetix to track their favorite stocks — though, to be fair, those who optimistically expected this all to happen in the early 2020’s had gone bust after 2022’s great crypto crash. NFT’s, previously dismissed as people trading pictures of rocks, became much less funny after the first aircraft leasing deal was executed via smart contract. Regulatory clarity unlocked a wide array of real-world assets, particularly large and illiquid ones: commercial & residential real estate; fractional shares in private jets; NYC taxi medallions; intellectual property rights; artwork; and more. As the notional value on-chain skyrocketed the risks also grew, and blockchain providers and the new breed of economists trying to tune their tokenomic models to avoid abuse or collapse struggled to stay ahead of the hackers, front runners and other bad actors. Very briefly rights to 17% of the Empire State Building were stolen by North Korea, leading to a frantic phone call by New York’s governor to the head of the foundation running the blockchain that held the smart contract.
Immediately after the ’34 Act the status of so-called synthetics that mirrored traditional financial assets was still in question, despite their popularity with retail investors. They were illegal under the old regulations but Congress had been reluctant to wipe out the entire U.S. stock exchange industry with a single act of legislation and so had fudged it: traditional financial assets would continue to trade on listed exchanges, while other digital assets would be legalized and the process of listing on blockchain regulated separately: an IPO on NYSE became different from an IPO on blockchain, with the world on- and off-chain existing side-by-side, though stock settlement had already moved to blockchain-based mechanisms. Volumes linked to U.S. assets continued to grow though, and threatened to destabilize the stock market given the mismatch between synthetics trading 24x7 and stock exchanges still having fixed hours. And then in 2035 all hell broke loose: a lower court ruled that equity-linked tokens were legal under the new ’34 Act. Shares in all publicly-traded exchanges tanked immediately, followed by major investment banks. All of a sudden, DeFi could be legally applied to the remaining universe of assets that did not exist on-chain. Within several years, the NYSE would be converted to a museum. Tourists could for a small fee ring the opening bell, but no company would do so again.
The consequences for Wall Street were mixed, and the slow change had bought many companies time to adjust. Hedge funds and market makers found it easier to adapt to the new world, and in fact the disintermediation was favorable to them in terms of reduced execution costs and a greater variety of assets. The goldmine of what was now highly-relevant real-time economic indicators on the blockchain helped propel a quant trading revolution, to a degree at the expense of traditional market data providers, who struggled to adapt to the changing meaning of what was market data in the new world. Blockchain-native oracle data and analytics providers had a significant edge; Bloomberg acquired several to reinforce its business once it became clear that it needed to be a core part of their offering. Generic securitization rails based on NFT and DeFi had widened the universe of what could be traded and empowered common building blocks that could be applied to any asset in the world. You could execute a smart contract VWAP against an Airbus plane, be a market maker on a Monet, or hedge your house price with options.
But despite this dramatic expansion of financial markets, investment banks struggled because the same tools drove unbundling of services for institutional investors. Prime brokerage desks collapsed as hedge funds worked directly with custodians and exchanges. Many institutional investors found that the same tools they used at home for retail investment could be adapted to institutional usage, and smart contract fintechs sprung up to help them do just this. DMA agency execution no longer made sense once a seat on the exchange or co-location no longer existed, though OTC execution of very large and illiquid positions and baskets was still a viable business: smart execution and risk management ruled, while the race to zero for low-latency execution evaporated. Derivatives trading was well and truly dead for all but the most exotic structures which were still too complex to risk manage on-chain. Quality research was still valuable — even more so with the explosion in the investable asset universe — but without bundling it was hard to support economically and small, nimble boutique research firms could build entire businesses around this function given the ease of pay-per-access models on blockchain. Similarly, the issuance process still commanded fees, albeit lower, but for years prior to the ’34 Act a number of specialists had sprung up to guide this process, and at this point they had a better grasp of the market and much longer track records of underwriting on-chain offerings.
In all, the migration to the Blockchain Economy took much longer than anyone could have forecast in the early 2020’s. The early WEF forecast in 2018 of 10% of GDP on blockchain by 2027 was premature, but a decade after that it proved not radical enough, with 63% on blockchain by 2037, and rising fast. The savings from reduced intermediation costs, smart contract automation of paper-based processes, greater price transparency and greater liquidity had all come to pass, with devastating impact on many firms — but it took significant regulatory change to make it happen, and many forgot how slow this process can be with Congressional deadlock. And it did not come for free: as the new economy’s development was ad-hoc, based on constantly-evolving and immature technology operating in the regulatory shadows, the 2020’s and 2030’s saw a succession of systemic shocks, frauds, crashes, hacks and more that made LTCM, Knight Capital and the 2013 NatWest ATM network crash look like nothing — as the danger was compounded by their linkage with the real world economy. But by the late 2030’s the revolution was finally over, and blockchain had simply become the way the economy works.