How Crypto Became the New Subprime

[Hydrogen]

If the stock market isn’t the economy — which it isn’t — then cryptocurrencies like Bitcoin really, really aren’t the economy. Still, crypto has become a pretty big asset class (and yielded huge capital gains to many buyers); by last fall the combined market value of cryptocurrencies had reached almost $3 trillion.

Since then, however, prices have crashed, wiping out around $1.3 trillion in market capitalization. As of Thursday morning, Bitcoin’s price was almost halfway down from its November peak. So who is being hurt by this crash, and what might it do to the economy?

Well, I’m seeing uncomfortable parallels with the subprime crisis of the 2000s. No, crypto doesn’t threaten the financial system — the numbers aren’t big enough to do that. But there’s growing evidence that the risks of crypto are falling disproportionately on people who don’t know what they are getting into and are poorly positioned to handle the downside.

What’s this crypto thing about? There are many ways to make digital payments, from Apple Pay and Google Pay to Venmo. Mainstream payment schemes, however, rely on a third party — usually your bank — to verify that you actually own the assets you’re transferring. Cryptocurrencies use complex coding to supposedly do away with the need for these third parties.

Skeptics wonder why this is necessary and argue that crypto ends up being an awkward, expensive way to do things you could have done more easily in other ways, which is why cryptocurrencies still have few legal applications 13 years after Bitcoin was introduced. The response, in my experience, tends to take the form of incomprehensible word salad.

Recent developments in El Salvador, which adopted Bitcoin as legal tender a few months ago, seem to bolster the skeptics: Residents attempting to use the currency find themselves facing huge transaction fees. Still, crypto has been effectively marketed: It manages both to seem futuristic and to appeal to old-style goldbug fears that the government will inflate away your savings, and huge past gains have drawn in investors worried about missing out. So crypto has become a large asset class even though nobody can clearly explain what legitimate purpose it’s for.

But now crypto has crashed. Maybe it will recover and soar to new heights, as it has in the past. For now, however, prices are way down. Who are the losers?

As I said, there are disturbing echoes of the subprime crash 15 years ago.

Crypto is unlikely to cause an overall economic crisis. It’s a big world out there, and even $1.3 trillion in losses is only about six percent of U.S. gross domestic product, a hit that’s an order of magnitude smaller than the effects of falling home prices when the housing bubble burst. And activities like Bitcoin mining, while environmentally destructive, are economically trivial compared with home-building, whose plunge played a large role in causing the Great Recession.

Still, some people are being hurt. Who are they?

Investors in crypto seem to be different from investors in other risky assets, like stocks, who consist disproportionately of affluent, college-educated whites. According to a survey by the research organization NORC, 44 percent of crypto investors are nonwhite, and 55 percent don’t have a college degree. This matches up with anecdotal evidence that crypto investing has become remarkably popular among minority groups and the working class.

NORC says that this is great, that “cryptocurrencies are opening up investing opportunities for more diverse investors.” But I remember the days when subprime mortgage lending was similarly celebrated — when it was hailed as a way to open up the benefits of homeownership to previously excluded groups.

It turned out, however, that many borrowers didn’t understand what they were getting into. Ned Gramlich, a Federal Reserve official who famously warned in vain about the growing financial dangers, asked, “Why are the most risky loan products sold to the least sophisticated borrowers?” He then declared, “The question answers itself.” Homeownership dropped sharply once the bubble burst.

And cryptocurrencies, with their huge price fluctuations seemingly unrelated to fundamentals, are about as risky as an asset class can get.

Now, maybe those of us who still can’t see what cryptocurrencies are good for other than money laundering and tax evasion are just missing the picture. Maybe the rising valuation (although not use) of Bitcoin and its rivals represents something more than a bubble, in which people buy an asset simply because other people have made money off that asset in the past. And it’s OK for investors to bet against the skeptics.

But these investors should be people who are both well equipped to make that judgment and financially secure enough to bear the losses if it turns out that the skeptics are right.

Unfortunately, that’s not what is happening. And if you ask me, regulators have made the same mistake they made on subprime: They failed to protect the public against financial products nobody understood, and many vulnerable families may end up paying the price.

https://www.nytimes.com/2022/01/27/opinion/cryptocurrency-subprime-vulnerable.html

....


I've never agreed with anything Paul Krugman said. He has always been a company man doing right by the demographic he represents. With concerns of public interest a distant second. Posting this as a contrarian piece to make everyone aware of the oddball perspectives floating around out there.

While the headline reads: "how crypto became the new subprime". In the 3rd paragraph Krugman admits cryptocurrency isn't a large enough chunk of the economy to threaten the financial system. That's how far someone would need to read to realize Krugman's claims and views are inconsistent. And the legitimacy of his piece only declines from there.

Paul Krugman is like a slightly better version of Jamie Dimon back when Dimon condemned bitcoin and crypto. That was before JP Morgan entered the business of buying and selling BTC and Jamie Dimon was left to wonder why the banking institution of which he was CEO was doing business in the asset class he had condemned only months before.

I don't think anyone here on this forum will agree with Paul Krugman or support his claims. But perhaps it makes for interesting reading.

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[Poker Player]

I don't think anyone here on this forum will agree with Paul Krugman or support his claims. But perhaps it makes for interesting reading.

Normally, I was not very convinced by Krugman because I see his arguments as rather leftist. And I am not convinced when he talks about economics in general. Regarding this, he may be partly right that there is a bubble especially in shitcoins, but calling it the new subprime in the title seems exaggerated, although he later qualifies it. I guess it's a bit of a sensationalist way to attract the reader's attention.

[Upgrade00]

What’s this crypto thing about? There are many ways to make digital payments, from Apple Pay and Google Pay to Venmo. Mainstream payment schemes, however, rely on a third party — usually your bank — to verify that you actually own the assets you’re transferring. Cryptocurrencies use complex coding to supposedly do away with the need for these third parties.

Skeptics wonder why this is necessary and argue that crypto ends up being an awkward, expensive way to do things you could have done more easily in other ways, which is why cryptocurrencies still have few legal applications 13 years after Bitcoin was introduced. The response, in my experience, tends to take the form of incomprehensible word salad.

Bitcoin does not supposedly do away with the need for third parties, it actually does. All on chain transactions has been conducted without the need for banks or any other third party.
This is necessary to give financial users freedom and create a purely peer-to-peer system.
Bitcoin already has lots of legal practical applications. Legal goes with regulations and it has already been established that bitcoin functions without the need for a third party.

So crypto has become a large asset class even though nobody can clearly explain what legitimate purpose it’s for.

• Creating a decentralized network which offers privacy and pseudo anonymity,
• a borderless network,
• a fast and efficient means of transacting,
• a network that gives full control to the user.

And activities like Bitcoin mining, while environmentally destructive, are economically trivial compared with home-building, whose plunge played a large role in causing the Great Recession.

It has already been proven that bitcoin is not environmentally destructive.

Now, maybe those of us who still can’t see what cryptocurrencies are good for other than money laundering and tax evasion are just missing the picture.

Exactly!

But these investors should be people who are both well equipped to make that judgment and financially secure enough to bear the losses if it turns out that the skeptics are right.

Unfortunately, that’s not what is happening. And if you ask me, regulators have made the same mistake they made on subprime: They failed to protect the public against financial products nobody understood, and many vulnerable families may end up paying the price.

Who determines who is well equipped, is that decided by a college degree?

[mk4]

"The growth of the Internet will slow drastically, as the flaw in 'Metcalfe's law'–which states that the number of potential connections in a network is proportional to the square of the number of participants–becomes apparent: most people have nothing to say to each other! By 2005 or so, it will become clear that the Internet's impact on the economy has been no greater than the fax machine's." — Paul Krugman himself.

This dude was exceptionally wrong with his prediction concerning one of the biggest technological shifts in this century that I really don't know how he still got the confidence to keep talking about tech.

[NeuroticFish]

I don't think anyone here on this forum will agree with Paul Krugman or support his claims. But perhaps it makes for interesting reading.

Freedom of speech allows people publish their (sometimes debatable whether it's theirs, but here may not be a problem) thoughts, no matter how wrong they are

Now, since banks started investing into crypto and crypto related (derivative) products/funds, anything can happen, including some fall. (Just look at fillippone's topic on how bad/misleading ES Volcano Bond is).
Bitcoin price may not grow forever. It had its periods of "crypto winter" and those may come back. Since the banks count everything in fiat, the (unrealized?) loss when the price falls may hurt their balance and may easily become actual loss, hence troubles.

It all depends on how the price looks like when they buy/bought vs how low with the next bear market get. And their exposure, obviously.


But I don't think that on long term this is a problem for the entire banking system, hence comparing with subprime crash is a bit far fetched.

[fillippone]

The delusional part in the original article is the following:

Unfortunately, that’s not what is happening. And if you ask me, regulators have made the same mistake they made on subprime: They failed to protect the public against financial products nobody understood, and many vulnerable families may end up paying the price.

Just tell me when authorities have been successful protecting investors from SCAMS, and even if it were tru, how many times they haven’t allowed investors into successful trades, protecting the market incumbent.

We have an example here: the SEC not allowing a spot Bitcoin ETF for the US investor: a disgrace for the US investor, a gift to Grayscale.

The rest of the article, classic Paul Krugman.

[paxmao]

I think this is quite nonsensical. Krugman should try to find better things to do than to consider Crypto something that can actually damage the system at large, firstly because the size is negligible, secondly because it has nothing to do with debt (unless you count margin trading and the like and thirdly because it is largely unlinked from the stablished banks and institutions and cannot make them fall.

[el kaka22]

The fact that banks collapsed and hurt the economy of few nations along with it just from some wall street greedy corporate leads, is enough proof that it is not similar. The text itself states that it is not big enough to collapse the economy, and then talks about how it is similar. Without collapsing the economy, how could it be even similar?

Leaving that aside, we had a mortgage crisis where plenty of high default rate classes all combined and then places that should check them and rate them gave fake AAA classes to high default rate places so it was all a lie. When you have something this clear, you need to realize that crypto is not even remotely close to that. Don't get me wrong, if you want to see some parallels then you can by seeing how it made some people lose money in both cases but that is a very broad understanding of parallels and nothing more.

[hatshepsut93]

I don't think anyone here on this forum will agree with Paul Krugman or support his claims. But perhaps it makes for interesting reading.

Of course no one, aside from some stray nocoiner trolls, would agree to all of the statements, but a lot of people are quite skeptical towards altcoins, tokens, NFTs, DeFi in this community. And he's right when he says that the poor will suffer the most, because the middle class and the rich can afford to experiment with new investments and just accept some losses, but poor people usually invest their last available money, so when it crashes to the ground, it's catastrophic for them.

[d5000]

Bitcoin does not supposedly do away with the need for third parties, it actually does. All on chain transactions has been conducted without the need for banks or any other third party.

You're completely correct, but Krugman is talking about "cryptocurrencies" in this part, not "Bitcoin". And he is right here about 99,9% of all cryptocurrencies - there IS a third party there who is in control.

The reasons are the massive premines that are common in, 99,9% of all altcoins - let's call them "shitcoins" right away - including Ethereum. These establish an entity (we often call it "the devs", but often they do not really develop much, it's more of a management/marketing team) which de facto has control about the funds of the users of this "cryptocurrency". Because they can, like it occurred in the TheDAO hack, threaten to use their financial power to change the protocol at their will. And de facto their software products are also often the only option for a wallet/client, at least for the "reference implementation" (or, as shitcoin managers call it: "official client").

DeFi tokens are often even worse because their smart contracts have an explicit "owner".

So I partly agree with Krugman about this specific aspect, and I would also say: "premined shitcoins are the new subprime". But of course, he should have been more precise here, and not have included Bitcoin.

The rest of his article is very, very biased and weak - it's not very "academic" that he's trying to appeal to emotions when he talks about the "poor" who have lost their money. Those with really heavy losses are currently, with Bitcoin at 40-50K, only those who really invested at the very peak (let's say above $60000) and these are very few.

What he's right about is that the community should care more about educating crypto investors. I think the Bitcointalk crowd is doing well here, but many Telegram/Twitter groups are driven mostly by greed and delusion, scammy intentions are frequent there.

[fiulpro]

I think it's taking a bit too far calling it a *crash*
Considering how Bitcoins have been there why don't we consider for a second that *Volatility* is it's nature. Cryptocurrencies as a whole are not just bitcoins there are others as well which are making things much more complicated. Summing them up all in once is not the right thing to do.

When you talk about bitcoins and Bitcoins alone. It has shown tremendous growth overtime and at the same time it's creating its own era, things might go up and down by 3-5% every once in a while but that's just an amazing time to buy more coins.

Crash is a bit too harsh, only suitable for the shitcoins.

[stompix]

I'm 101% sure I've seen this discussion and the subprime comparison just a few months ago in a topic but I can't find it and I don't remember what's the name of the analyst that made it.

I wonder what made them compare it exactly to this crash, the subprime crisis was far more complicated it involved property, mortgages, loans, and the scale of those loans was insane compared to what we might have now in crypto, why would even the mother of all sell-off trigger a never-ending crash? Ok, it might kill a lot of long positions and drive a lot of traders penniless but it's not an event that will affect you even if you're not in speculation like some unfortunate people found themselves then.
He sounds all the alarms bells everything reminds him of the subprime crisis but he hasn't managed to single out at least one clear common thing the two have in common.

Normally, I was not very convinced by Krugman because I see his arguments as rather leftist.

Well, he managed to throw in some things about how this crisis will affect the lower middle class and mostly not the "affluent, college-educated whites", so we can slide the bar all the way to the left without any doubt.

So I partly agree with Krugman about this specific aspect, and I would also say: "premined shitcoins are the new subprime". But of course, he should have been more precise here, and not have included Bitcoin.

Rather than the subprime, I would say the Dot-com bubble fits far better with the shitcoin ecosystem turning to dust, that one killed all those companies that only made promises, rendering them useless as any overvalued project with no real application will suddenly end.
The one resemblance I see would be the NFT and the P2E models, the first companies collapsing in the mortgage crisis where the ones profiting directly from the sale of the mortgage, so they were a bit like the first players, needing a continuous inflow of new players to keep their volume and income steady, a flow which was almost completely cut by 2007.

I think he is trying too hard to find an event that spread fear to the common poeple, the average Joe rather than an accurate comparison.

[Fortify]

....


I've never agreed with anything Paul Krugman said. He has always been a company man doing right by the demographic he represents. With concerns of public interest a distant second. Posting this as a contrarian piece to make everyone aware of the oddball perspectives floating around out there.

While the headline reads: "how crypto became the new subprime". In the 3rd paragraph Krugman admits cryptocurrency isn't a large enough chunk of the economy to threaten the financial system. That's how far someone would need to read to realize Krugman's claims and views are inconsistent. And the legitimacy of his piece only declines from there.

Paul Krugman is like a slightly better version of Jamie Dimon back when Dimon condemned bitcoin and crypto. That was before JP Morgan entered the business of buying and selling BTC and Jamie Dimon was left to wonder why the banking institution of which he was CEO was doing business in the asset class he had condemned only months before.

I don't think anyone here on this forum will agree with Paul Krugman or support his claims. But perhaps it makes for interesting reading.

It feels like whoever the author is went into this article with a certain mindset and in many ways fails to understand how cryptocurrency works, so opts to take a stance against it out of ignorance. When he mentions things like "supposedly do away with the need for these third parties" it is clear that he has never seen a wallet on someones personal device that is in no way connected to an exchange which many casual users will use. He confuses coding to a standard that he cannot comprehend, to it being an impossibility that such a decentralized system could ever exist - which is clear nonsense as the last 13 years have shown. Fees have also dropped substantially over time, unlike banking systems, which at least in certain countries, are always looking to squeeze out extra charges in very underhand and imaginative ways.

[d5000]

I'm 101% sure I've seen this discussion and the subprime comparison just a few months ago in a topic but I can't find it and I don't remember what's the name of the analyst that made it.

I wonder what made them compare it exactly to this crash, the subprime crisis was far more complicated it involved property, mortgages, loans, and the scale of those loans was insane compared to what we might have now in crypto, why would even the mother of all sell-off trigger a never-ending crash?

I agree, maybe he is referring to the general tendency of less-affluent people to participate in highly risky markets, apart from the cryptocurrency market the stock market (see Gamestop et al.) and distinct types of derivatives made all accessible by the "microinvesting" trend. If we take all these trends together, then perhaps we have some dangerous cocktail, and all these markets are currently bearish, if not "crashing" - but again, I would take out Bitcoin of this, because I consider it (not only for selfish reasons ) to be a solid, albeit volatile, investment - what most shitcoins instead are not.

Rather than the subprime, I would say the Dot-com bubble fits far better with the shitcoin ecosystem turning to dust, that one killed all those companies that only made promises, rendering them useless as any overvalued project with no real application will suddenly end.
The one resemblance I see would be the NFT and the P2E models, the first companies collapsing in the mortgage crisis where the ones profiting directly from the sale of the mortgage, so they were a bit like the first players, needing a continuous inflow of new players to keep their volume and income steady, a flow which was almost completely cut by 2007.

You're of course right with the Dot-com comparison being even more fitting, although shitcoins, particularly ICO/IEO-based ones, definitively have some things in common with subprime loans - people invest in them even if their managers do not really prove that they will give a return and not be a total loss. In the case of the DeFi lending market even the type of return the investors expect (an interest rate) are similar, and a "default" can be compared to the infamous "rugpulling". P2E seems to me to have directly ponzi-like characteristics.

The difference mainly is that the subprime crisis was unleashed by banks and other institutional investors who had invested in subprime, and not the general public. The crypto market - and the shitcoin market in particular - instead is more driven by retail, thus the dynamic is of course different.

[Gyfts]

I don't see an issue with the current "crypto crash," let's be honest - the growth that happened earlier this year was unsustainable and highly speculative. A correction was needed. Consider what a crypto recovery would actually look like, though, then compare it to the housing crisis. The recession the U.S. faced was prolonged because the government decided to interject themselves in the recovery. You can look at quantitative easing and how it related to the housing crisis and come away with the fact it was damaging. Too much money printing, high inflation predictable result. Crypto doesn't have this issue, so any regression can be returned back to whatever "normal" state it was at without the government driving it into a ditch.

You don't need to protect investors from a crypto crash, just let the recovery happen hands off. Krugman thinks the government needs to be in charge of crypto to save people from themselves...funny.