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cryptocurrency market

The Cryptocurrency Market’s Transparency Problem

· 24 Nov 2018 in Analysis

“We have an opportunity to reform the financial system, to turn it into the public utility that it’s supposed to be — a level playing field that everyone can indiscriminately use in their bid to get ahead. Let that be the standard for the coming age of cryptocurrency.”

  • Paul Vigna, Challenging the Global Economic Order.

The first quarter of 2018 saw crypto companies raise an incredible $4.6 billion through Initial Coin Offerings. The numbers don’t lie. It is clear that this new way of startup funding is exceptionally successful. So, what is the problem with ICOs? After all, this sort of crowdfunding is popular with contributors with good reason.

Why Are ICOs Are Essential To Crypto Projects?

Funding an idea or early stage tech is seen by many as a worthy cause. After all, if brave pioneers did not push the boundaries of human knowledge then humanity would never make progress. The truth of the matter is that new technology and innovation have always required funding to develop the underlying tech. Put simply, people have bills to pay and most people cannot afford to work for free. ICO contributors are funding cryptocurrency teams to build the ecosystems and products outlined in their whitepapers. They allow some of the smartest developers on the planet to innovate in the blockchain space instead of working in traditional employment opportunities.

What’s even better is that crypto projects raise all the money they require to build their product/ecosystem in one go. Sometimes this is even 10 years into the future. This means that crypto projects are not susceptible to the problems faced by traditional tech startups, where participants in initial funding rounds may pull funding and kill the project. The result is that innovation is allowed to flourish in the cryptocurrency space, without funding concerns or having to appease venture capitalists. Instead, technological innovation can be pursued for the sake of knowledge and we think that’s a great thing.

However, as much as we think that ICOs are crucial to the cryptocurrency space, there are undoubtedly areas where crowdfunded projects can improve. Whether you like to admit it or not, the cryptocurrency space is not currently a level playing field and the big cause of this is the lack of transparency rife in the crypto markets.

Cryptocurrency’s Lack Of Accountability

It is now exceptionally common for popular crypto projects to raise anywhere between $10M and $50M during their ICO. Sure, this is a lot of funding. However, the contribution amounts are not really the issue. The big issue right now is that almost every cryptocurrency project doesn’t disclose how the funds raised are spent or the assets the project has acquired.

This means that ICOs are incredibly susceptible to abuse. How do ICO contributors know that the funding is being spent properly and not all being diverted to the founders? The truth is that only the project teams know where the funding is being spent and that creates trust issues.

From an ideological perspective, cryptocurrency was all about solving the trust problem present in traditional finance. Satoshi Nakamoto, the anonymous creator of Bitcoin, puts it best in the Bitcoin white paper:

“What is needed is an electronic payment system based on cryptographic proof instead of trust”

Satoshi’s quote was referring to the technology Bitcoin was built on. However, do you think that Satoshi would approve these new trust issues present in the crypto space?

What Other Issues Does A Lack Of Transparency Cause?

The truth of the matter is that most ICO contributors simply have no idea how project funds are being spent or how long the team can afford to keep working on the project. Nearly every cryptocurrency project out there doesn’t release basic information such as monthly burn rates, balance sheets showing the assets held or expenditure. Why is this a big deal? Well, crypto projects only raise funding once and that funding is meant to last them to completion. What do you really think will happen if they run out of money? Would their development stop? This means that ICO contributors are completely in the dark on how the project is doing financially and are unable to properly assess the performance of the crypto company.

Lack of financial data also means that crypto project contributors find it almost impossible to fairly value crypto companies. You could think that the tokens you buy are a reflection of the overall health of the company, but that is not necessarily correct. Because financial data is almost never released by companies in cryptocurrency markets, this lack of transparency contributes to mispricing. If information like assets, costs and bank balances were declared, it would certainly help to reduce this issue.

From an ethical perspective, don’t crowdfunded companies owe their contributors a duty of candour in reporting how funds are spent?

The cryptocurrency industry is certainly full of shades of grey. What’s for certain is that standards need to be raised for the coming age of cryptocurrency to really take root. Commentators like to point out how institutional money will rush into cryptocurrency markets. This may be true, though consider what a better proposition this industry will be if all crypto projects were fully transparent.

Crypto Projects Have No Incentive To Be Transparent

We think everyone would agree that there is a direct link between the price of a cryptocurrency and it’s popularity. Why is this? Well, most cryptocurrency companies are developing new technology, do not produce any cash-flows and do not publically share key financial information. This means that tokens are exceptionally susceptible to speculation and price discovery.

What is price discovery? Well, it’s when the public doesn’t properly understand a technology or its true worth. This means that the proper mechanisms are not built into the market and the result is wild swings in the assets popularity. If cryptocurrency projects actually released transparency reports and disclosed key financial information, this could play a key role in reducing volatility and speculation.

However, the truth is that price discovery is actually beneficial to the founders of crypto projects. This is because it is human nature to overestimate the potential and true worth of new technology (just look at the 1997 – 2001 Dotcom Bubble). Because it is common for cryptocurrency teams to own around 20% of their tokens total supply, the workers are actually incentivized to encourage speculation. What’s even worse is that cryptocurrency founders have an informational advantage over other crypto users. This is because they have access to the key financial data of their project and everyone else does not. This, unfortunately, leaves the door open for practices like insider trading.

Some Crypto Projects Are Raising The Standard For Transparency

The truth is that no one knows where cryptocurrency might go or which projects will succeed. The dawn of a new economy may just be on the horizon or cryptocurrency could be consigned to the history books as a failed experiment. However, if cryptocurrency is as disruptive and world-changing as so many believe, we all have a responsibility to think about how that future would look and the principles it is built on. That’s why cryptocurrency projects everywhere should be thinking about values seriously.

“New technology is not good or evil in and of itself. It’s all about how people choose to use it.”

  • David Wong

If cryptocurrency is really the disruptive force that so many think it is, then the cryptocurrency community surely have a responsibility to ensure that crypto is a force for positive change in the world? If we sit by and just wait for adoption, then it’s probably going to be too late to change the principles on which this space was built. That’s why crypto companies should act now to set the standard for the coming age of cryptocurrency by actively promoting values such as transparency, social benefit, and integrity.

The good news is that there are already a few cryptocurrency projects leading the charge for greater transparency. Both Nimiq and TenX have recently released transparency reports, detailing breakdowns on how funds were used, assets and their current holdings. It is important to note that these reports are unaudited. However, audits are notoriously difficult for startups to conduct and these types of reports are certainly a step in the right direction.

The Crypto Project’s Leading The Transparency Charge

TenX

What is TenX? The project’s mission is to allow you to spend cryptocurrency anywhere. So, how precisely would this work? The plan is to create a physical debit card and crypto wallet. This means that you could use your TenX card to spend crypto at any merchant accepting Visa card payments.

With TenX, it gets even better. The project has also revealed that it doesn’t intend to charge any transaction or exchange fees. Removing these hidden fees should make using TenX a lot more transparent than traditional card providers. Instead, the project intends to charge card issuing and annual fees:

  • Virtual card fee: $1.50.
  • Physical card fee: $15.
  • Physical or virtual card annual fee: Free (or $10 if the user spends less than $1,000 in the year).

The TenX app is already available to download for iPhone and Android. It allows users to receive and send cryptocurrency. In the near future, the app will also enable users to spend cryptocurrency on in-store items, a bit like how ApplePay works for fiat currencies.

It should be noted that before January 8th, 2018, TenX had 200,000 users and 100,000 issued cards. However, on this date, TenX’s card issuer Wavecrest lost their Visa license. Since the Wavecrest incident, TenX has been without a physical card. However, reports claim that the company is working closely with another card issuer and that TenX cards will be rolled out again as soon as possible.

Nimiq

Nimiq is the first browser-based blockchain and the NIM token is intended to be used as a transactional cryptocurrency like Litecoin. Sure, there are many payment systems out there in the cryptocurrency space. However, what makes Nimiq special is its accessibility and good user experience.

Many newcomers to the cryptocurrency space have problems understanding how to use crypto. Part of the reason for these issues is that the user experience for many cryptocurrencies could be more intuitive. Nimiq has identified this problem and has built their payment system around this guiding principle. A great example of this attention to user experience is PayNIM, which allows users to send NIM to an email address. This means that users can receive NIM without having to learn about cryptocurrency wallets. From a senders perspective, sending the cryptocurrency is as easy as sending an email.

Being browser-based has numerous accessibility advantages. Consider that most people in the developing world, don’t have access to laptops or desktops. However, almost everyone will have a mobile phone. This means that the only way a significant proportion of the world’s population can actually participate in the crypto economy is by using a mobile device.

Accessibility issues in developing nations become even more apparent when you consider that 1GB of mobile data in Africa can cost as much as $35. When you consider that the typical wallet download for different cryptocurrencies is around 25MB, you can probably see why adoption levels are so low in developing nations. After all, would you be willing to spend half a days salary to download a crypto wallet?

Nimiq has helped to solve this accessibility problem by being browser-based. This means that no downloads are required and users can use NIM by only consuming browser data. This removes a massive pain point for crypto adoption in emerging markets and shows how NIM is more accessible than other cryptocurrencies.

Final Word

Transparency is currently a big issue in crypto markets and will likely become a much bigger problem as the market becomes more heavily regulated. Right now, the cryptocurrency industry is not a level playing field and team members of projects have a vast informational advantage over regular contributors.

Without transparency and public accountability, there is simply no way for the public to truly know how projects are spending funds. To build a better financial system, we should be thinking about the ideals and principles on which this coming age of cryptocurrency should be built on. A better system is probably going to be built on the ideals of transparency and integrity. The solution is for cryptocurrency projects to release quarterly transparency reports and for these to be fully audited.

We are currently a long way from that standard and innovation does need space to thrive. However, long term this shift towards transparency should increase levels of trust and that can be only a good thing for cryptocurrency markets in general.

That’s why more cryptocurrency projects should consider following the example of TenX and Nimiq by increasing transparency today and take the necessary steps to avoid potential embarrassment and failure tomorrow.

Disclosure: The author holds some NIM in their portfolio and is compensated in a long-term independent consulting capacity by Nimiq. This article must not be construed as investment advice. Always do your own research.

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