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Russ Allbery: Review: Number Go Up

Planet Debian - Mon, 2024-12-23 22:21

Review: Number Go Up, by Zeke Faux

Publisher: Crown Currency Copyright: 2023 Printing: 2024 ISBN: 0-593-44382-9 Format: Kindle Pages: 373

Number Go Up is a cross between a history and a first-person account of investigative journalism around the cryptocurrency bubble and subsequent collapse in 2022. The edition I read has an afterward from June 2024 that brings the story up to date with Sam Bankman-Fried's trial and a few other events. Zeke Faux is a reporter for Bloomberg News and a fellow of New America.

Last year, I read Michael Lewis's Going Infinite, a somewhat-sympathetic book-length profile of Sam Bankman-Fried that made a lot of people angry. One of the common refrains at the time was that people should read Number Go Up instead, and since I'm happy to read more about the absurdities of the cryptocurrency world, I finally got around to reading the other big crypto book of 2023.

This is a good book, with some caveats that I am about to explain at absurd length. If you want a skeptical history of the cryptocurrency bubble, you should read it. People who think that it's somehow in competition with Michael Lewis's book or who think the two books disagree (including Faux himself) have profoundly missed the point of Going Infinite. I agree with Matt Levine: Both of these books are worth your time if this is the sort of thing you like reading about. But (much) more on Faux's disagreements with Lewis later.

The frame of Number Go Up is Faux's quixotic quest to prove that Tether is a fraud. To review this book, I therefore need to briefly explain what Tether is. This is only the first of many extended digressions.

One natural way to buy cryptocurrency would be to follow the same pattern as a stock brokerage account. You would deposit some amount of money into the account (or connect the brokerage account to your bank account), and then exchange money for cryptocurrency or vice versa, using bank transfers to put money in or take it out. However, there are several problems with this. One is that swapping cryptocurrency for money is awkward and sometimes expensive. Another is that holding people's investment money for them is usually highly regulated, partly for customer safety but also to prevent money laundering. These are often called KYC laws (Know Your Customer), and the regulation-hostile world of cryptocurrency didn't want to comply with them.

Tether is a stablecoin, which means that the company behind Tether attempts to guarantee that one Tether is always worth exactly one US dollar. It is not a speculative investment like Bitcoin; it's a cryptocurrency substitute for dollars. People exchange dollars for Tether to get their money into the system and then settle all of their subsequent trades in Tether, only converting the Tether back to dollars when they want to take their money out of cryptocurrency entirely. In essence, Tether functions like the cash reserve in a brokerage account: Your Tether holdings are supposedly guaranteed to be equivalent to US dollars, you can withdraw them at any time, and because you can do so, you don't bother, instead leaving your money in the reserve account while you contemplate what new coin you want to buy.

As with a bank, this system rests on the assurance that one can always exchange one Tether for one US dollar. The instant people stop believing this is true, people will scramble to get their money out of Tether, creating the equivalent of a bank run. Since Tether is not a regulated bank or broker and has no deposit insurance or strong legal protections, the primary defense against a run on Tether is Tether's promise that they hold enough liquid assets to be able to hand out dollars to everyone who wants to redeem Tether. (A secondary defense that I wish Faux had mentioned is that Tether limits redemptions to registered accounts redeeming more than $100,000, which is a tiny fraction of the people who hold Tether, but for most purposes this doesn't matter because that promise is sufficient to maintain the peg with the dollar.)

Faux's firmly-held belief throughout this book is that Tether is lying. He believes they do not have enough money to redeem all existing Tether coins, and that rather than backing every coin with very safe liquid assets, they are using the dollars deposited in the system to make illiquid and risky investments.

Faux never finds the evidence that he's looking for, which makes this narrative choice feel strange. His theory was tested when there was a run on Tether following the collapse of the Terra stablecoin. Tether passed without apparent difficulty, redeeming $16B or about 20% of the outstanding Tether coins. This doesn't mean Faux is wrong; being able to redeem 20% of the outstanding tokens is very different from being able to redeem 100%, and Tether has been fined for lying about its reserves. But Tether is clearly more stable than Faux thought it was, which makes the main narrative of the book weirdly unsatisfying. If he admitted he might be wrong, I would give him credit for showing his work even if it didn't lead where he expected, but instead he pivots to focusing on Tether's role in money laundering without acknowledging that his original theory took a serious blow.

In Faux's pursuit of Tether, he wanders through most of the other elements of the cryptocurrency bubble, and that's the strength of this book. Rather than write Number Go Up as a traditional history, Faux chooses to closely follow his own thought processes and curiosity. This has the advantage of giving Faux an easy and natural narrative, something that non-fiction books of this type can struggle with, and it lets Faux show how confusing and off-putting the cryptocurrency world is to an outsider.

The best parts of this book were the parts unrelated to Tether. Faux provides an excellent summary of the Axie Infinity speculative bubble and even traveled to the Philippines to interview people who were directly affected. He then wandered through the bizarre world of NFTs, and his first-hand account of purchasing one (specifically a Mutant Ape) to get entrance to a party (which sounded like a miserable experience I would pay money to get out of) really drives home how sketchy and weird cryptocurrency-related software and markets can be. He also went to El Salvador to talk to people directly about the country's supposed embrace of Bitcoin, and there's no substitute for that type of reporting to show how exaggerated and dishonest the claims of cryptocurrency adoption are.

The disadvantage of this personal focus on Faux himself is that it sometimes feels tedious or sensationalized. I was much less interested in his unsuccessful attempts to interview the founder of Tether than Faux was, and while the digression into forced labor compounds in Cambodia devoted to pig butchering scams was informative (and horrific), I think Faux leaned too heavily on an indirect link to Tether. His argument is that cryptocurrency enables a type of money laundering that is particularly well-suited to supporting scams, but both scams and this type of economic slavery existed before cryptocurrency and will exist afterwards. He did not make a very strong case that Tether was uniquely valuable as a money laundering service, as opposed to a currently useful tool that would be replaced with some other tool should it go away.

This part of the book is essentially an argument that money laundering is bad because it enables crime, and sure, to an extent I agree. But if you're going to put this much emphasis on the evils of money laundering, I think you need to at least acknowledge that many people outside the United States do not want to give US government, which is often openly hostile to them, veto power over their financial transactions. Faux does not.

The other big complaint I have with this book, and with a lot of other reporting on cryptocurrency, is that Faux is sloppy with the term "Ponzi scheme." This is going to sound like nit-picking, but I think this sloppiness matters because it may obscure an ongoing a shift in cryptocurrency markets.

A Ponzi scheme is not any speculative bubble. It is a very specific type of fraud in which investors are promised improbably high returns at very low risk and with safe principal. These returns are paid out, not via investment in some underlying enterprise, but by taking the money from new investments and paying it to earlier investors. Ponzi schemes are doomed because satisfying their promises requires a constantly increasing flow of new investors. Since the population of the world is finite, all Ponzi schemes are mathematically guaranteed to eventually fail, often in a sudden death spiral of ever-increasing promises to lure new investors when the investment stream starts to dry up.

There are some Ponzi schemes in cryptocurrency, but most practices that are called Ponzi schemes are not. For example, Faux calls Axie Infinity a Ponzi scheme, but it was missing the critical elements of promised safe returns and fraudulently paying returns from the investments of later investors. It was simply a speculative bubble that people bought into on the assumption that its price would increase, and like any speculative bubble those who sold before the peak made money at the expense of those who bought at the peak.

The reason why this matters is that Ponzi schemes are a self-correcting problem. One can decry the damage caused when they collapse, but one can also feel the reassuring certainty that they will inevitably collapse and prove the skeptics correct. The same is not true of speculative assets in general. You may think that the lack of an underlying economic justification for prices means that a speculative bubble is guaranteed to collapse eventually, but in the famous words of Gary Schilling, "markets can remain irrational a lot longer than you and I can remain solvent."

One of the people Faux interviews explains this distinction to him directly:

Rong explained that in a true Ponzi scheme, the organizer would have to handle the "fraud money." Instead, he gave the sneakers away and then only took a small cut of each trade. "The users are trading between each other. They are not going through me, right?" Rong said. Essentially, he was arguing that by downloading the Stepn app and walking to earn tokens, crypto bros were Ponzi'ing themselves.

Faux is openly contemptuous of this response, but it is technically correct. Stepn is not a Ponzi scheme; it's a speculative bubble. There are no guaranteed returns being paid out of later investments and no promise that your principal is safe. People are buying in at price that you may consider irrational, but Stepn never promised you would get your money back, let alone make a profit, and therefore it doesn't have the exponential progression of a Ponzi scheme. One can argue that this is a distinction without a moral difference, and personally I would agree, but it matters immensely if one is trying to analyze the future of cryptocurrencies.

Schemes as transparently unstable as Stepn (which gives you coins for exercise and then tries to claim those coins have value through some vigorous hand-waving) are nearly as certain as Ponzi schemes to eventually collapse. But it's also possible to create a stable business around allowing large numbers of people to regularly lose money to small numbers of sophisticated players who are collecting all of the winnings. It's called a poker room at a casino, and no one thinks poker rooms are Ponzi schemes or are doomed to collapse, even though nearly everyone who plays poker will lose money.

This is the part of the story that I think Faux largely missed, and which Michael Lewis highlights in Going Infinite. FTX was a legitimate business that made money (a lot of money) off of trading fees, in much the same way that a casino makes money off of poker rooms. Lots of people want to bet on cryptocurrencies, similar to how lots of people want to play poker. Some of those people will win; most of those people will lose. The casino doesn't care. Its profit comes from taking a little bit of each pot, regardless of who wins. Bankman-Fried also speculated with customer funds, and therefore FTX collapsed, but there is no inherent reason why the core exchange business cannot be stable if people continue to want to speculate in cryptocurrencies. Perhaps people will get tired of this method of gambling, but poker has been going strong for 200 years.

It's also important to note that although trading fees are the most obvious way to be a profitable cryptocurrency casino, they're not the only way. Wall Street firms specialize in finding creative ways to take a cut of every financial transaction, and many of those methods are more sophisticated than fees. They are so good at this that buying and selling stock through trading apps like Robinhood is free. The money to run the brokerage platform comes from companies that are delighted to pay for the opportunity to handle stock trades by day traders with a phone app. This is not, as some conspiracy theories would have you believe, due to some sort of fraudulent price manipulation. It is because the average person with a Robinhood phone app is sufficiently unsophisticated that companies that have invested in complex financial modeling will make a steady profit taking the other side of their trades, mostly because of the spread (the difference between offered buy and sell prices).

Faux is so caught up in looking for Ponzi schemes and fraud that I think he misses this aspect of cryptocurrency's transformation. Wall Street trading firms aren't piling into cryptocurrency because they want to do securities fraud. They're entering this market because there seems to be persistent demand for this form of gambling, cryptocurrency markets reward complex financial engineering, and running a legal casino is a profitable business model.

Michael Lewis appears as a character in this book, and Faux portrays him quite negatively. The root of this animosity appears to stem from a cryptocurrency conference in the Bahamas that Faux attended. Lewis interviewed Bankman-Fried on stage, and, from Faux's account, his questions were fawning and he praised cryptocurrencies in ways that Faux is certain he knew were untrue. From that point on, Faux treats Lewis as an apologist for the cryptocurrency industry and for Sam Bankman-Fried specifically.

I think this is a legitimate criticism of Lewis's methods of getting close to the people he wants to write about, but I think Faux also makes the common mistake of assuming Lewis is a muckraking reporter like himself. This has never been what Lewis is interested in. He writes about people he finds interesting and that he thinks a reader will also find interesting. One can legitimately accuse him of being credulous, but that's partly because he's not even trying to do the same thing Faux is doing. He's not trying to judge; he's trying to understand.

This shows when it comes to the parts of this book about Sam Bankman-Fried. Faux's default assumption is that everyone involved in cryptocurrency is knowingly doing fraud, and a lot of his research is looking for evidence to support the conclusion he had already reached. I don't think there's anything inherently wrong with that approach: Faux is largely, although not entirely, correct, and this type of hostile journalism is incredibly valuable for society at large. Upton Sinclair didn't start writing The Jungle with an open mind about the meat-packing industry. But where Faux and Lewis disagree on Bankman-Fried's motivations and intentions, I think Lewis has the much stronger argument.

Faux's position is that Bankman-Fried always intended to steal people's money through fraud, perhaps to fund his effective altruism donations, and his protestations that he made mistakes and misplaced funds are obvious lies. This is an appealing narrative if one is looking for a simple villain, but Faux's evidence in support of this is weak. He mostly argues through stereotype: Bankman-Fried was a physics major and a Jane Street trader and therefore could not possibly be the type of person to misplace large amounts of money or miscalculate risk.

If he wants to understand how that could be possible, he could read Going Infinite? I find it completely credible that someone with what appears to be uncontrolled, severe ADHD could be adept at trading and calculating probabilities and yet also misplace millions of dollars of assets because he wasn't thinking about them and therefore they stopped existing.

Lewis made a lot of people angry by being somewhat sympathetic to someone few people wanted to be sympathetic towards, but Faux (and many others) are also misrepresenting his position. Lewis agrees that Bankman-Fried intentionally intermingled customer funds with his hedge fund and agrees that he lied about doing this. His only contention is that Bankman-Fried didn't do this to steal the money; instead, he invested customer money in risky bets that he thought would pay off. In support of this, Lewis made a prediction that was widely scoffed at, namely that much less of FTX's money was missing than was claimed, and that likely most or all of it would be found.

And, well, Lewis was basically correct? The FTX bankruptcy is now expected to recover considerably more than the amount of money owed to creditors. Faux argues that this is only because the bankruptcy clawed back assets and cryptocurrencies have gone up considerably since the FTX bankruptcy, and therefore that the lost money was just replaced by unexpected windfall profits on other investments, but I don't think this point is as strong as he thinks it is. Bankman-Fried lost money on some of what he did with customer funds, made money on other things, and if he'd been able to freeze withdrawals for the year that the bankruptcy froze them, it does appear most of the money would have been recoverable. This does not make what he did legal or morally right, but no one is arguing that, only that he didn't intentionally steal money for his own personal gain or for effective altruism donations. And on that point, I don't think Faux is giving Lewis's argument enough credit.

I have a lot of complaints about this book because I know way too much about this topic than anyone should probably know. I think Faux missed the plot in a couple of places, and I wish someone would write a book about where cryptocurrency markets are currently going. (Matt Levine's Money Stuff newsletter is quite good, but it's about all sorts of things other than cryptocurrency and isn't designed to tell a coherent story.) But if you know less about cryptocurrency and just want to hear the details of the run-up to the 2022 bubble, this is a great book for that. Faux is writing for people who are already skeptical and is not going to convince people who are cryptocurrency true believers, but that's fine. The details are largely correct (and extensively footnoted) and will satisfy most people's curiosity.

Lewis's Going Infinite is a better book, though. It's not the same type of book at all, and it will not give you the broader overview of the cryptocurrency world. But if you're curious about what was going through the head of someone at the center of all of this chaos, I think Lewis's analysis is much stronger than Faux's. I'm happy I read both books.

Rating: 8 out of 10

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