Liquidity or Leakage: Crypto’s Plumbing Problems


The following has been written and contributed by Long Finance’s Rodney Greene and Bob McDowall.

Long Finance’s Distributed Futures research programme is pleased to announce the publication of the report, “Liquidity Or Leakage – Plumbing Problems With Cryptocurrencies”, the latest in a series of exciting projects in the programme. The report, sponsored by the Cardano Foundation, was written by Rodney Greene, Quantitative Risk Professional, and Bob McDowall, Advisor to the Cardano Foundation, and includes a Foreword from Professor Michael Mainelli, Executive Chairman, Z/Yen Group.

Cryptocurrencies are another application of Smart Ledgers. Smart Ledgers are based on a combination of mutual distributed ledgers (aka blockchains) with embedded programming and sensing, thus permitting semi-intelligent, autonomous transactions. Smart Ledgers are touted as a technology for fair play in a globalised world. There are numerous projects building trade systems using this technology with announcements from governments, shipping firms, large IT firms, and the like. Cryptocurrencies often exhibit high price volatility and wide spreads between their buy and sell prices into fiat currencies. In other markets, such high volatility and wide spreads might indicate low liquidity, i.e. it is difficult to turn an asset into cash. Normal price falls do not increase the number of sellers, but should increase the number of buyers. A liquidity hole is where price falls do not bring out buyers, but rather generate even more sellers.

If cryptocurrencies fail to provide easy liquidity, then they fail as mediums of exchange, one of the principal roles of money. However, there are a number of ways to assemble a cryptocurrency, as well as a number of parameters, such as the timing of trades, the money supply algorithm, and the assembling of blocks, which might be done in better ways to improve liquidity.

The “Liquidity Or Leakage – Plumbing Problems With Cryptocurrencies” report is trying to help the governance of cryptocurrencies, by more clearly tying their novel money supply algorithms to traditional economic and financial analysis. The report includes:

  • Cryptocurrency Mutual Distributed Ledgers – Introduction And Security Risks
  • Cryptocurrency Liquidity And Market Risk Factors
    • The Crypto-Market’s Liquidity Risk
    • So What’s Creating Crypto-Illiquidity?
    • Crypto-Market Risk Factors
  • Smart Contracts – The Legal Risk
  • Conclusions

The report concludes that there is little correlation between cryptocurrency liquidity and other asset classes’ liquidity, so far. Cryptocurrency liquidity is low, extremely low, due to a number of factors including high failure rates among crypto-exchanges, taxation on conversion from crypto to fiat, and speculation due to high price volatility. Digital fiat currency may have a bright future, while cryptocurrency liquidity will only improve with better ‘backing’ by physical assets or a move to much higher real-economy transactions.

Professor Mainelli concludes the Preface with “My sincere hope is that much of the analysis in this report helps improve the governance and regulation of cryptocurrencies by showing that traditional problems have not changed their spots that much in the wonderful new world of Smart Ledgers.”

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