Tuesday 13 April 2021 11:08 am CFA Institute Talk

Will ESG turn Bitcoin into a digital ‘stranded asset’ or monetary MySpace? (Part II)

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These are articles written by professionals for investment professionals. They are contributions from external subject matter experts who do not work for CFA Institute, but may be a CFA charterholder as well as a member of a CFA Society. All are experts in their field and strive to deliver useful insights that help investment professionals make better decisions.

In this second instalment of a two-part piece, Ben Ashby, Derek Usher and Gerard Fox explain why environmental, social and governance (ESG) factors will undermine Bitcoin’s eye-catching rise, here focusing on the ‘S’ and ‘G’.

We at Good Governance Capital (GGC) are enormously enthusiastic and supportive of innovation and competition in finance.

As former mainstream bankers, we see many opportunities for fintech to creatively disrupt. We are very sympathetic to – some – of the motivations of those looking to alternative assets to protect their privacy or wealth in the face of substantial post-global financial crisis (GFC) fiscal and monetary intervention.

However, we are very sceptical that crypto currencies, in their current form, present an immediate solution to this investor dilemma.

We believe that the recent mania to bring into the mainstream or ‘regularise’ first-generation crypto currencies reveals substantial gaps in environmental, social, and governance (ESG) approaches to tech in general and to the fintech sector’s grasp of the operation of the global financial system in particular – hence the high failure rate.

We see Bitcoin and Ethereum as probable casualties of these failings. Despite recent pro-crypto announcements by the likes of Tesla and BNY Mellon, we have difficulty seeing any mainstream future for such early generation products.

Visit Part I of this blog where we summarised four themes shaping our crypto thinking.

The ‘S’ and ‘G’ case against crypto

The social and governance argument against cryptocurrencies relates to what the European Central Bank (ECB) president, Christine Lagarde, has called “funny business” or US Treasury secretary Janet Yellen more specifically called “illicit financing”.

Naturally, the scale of these activities is harder to quantify. Crypto based company Chainanalysis published a report that claimed criminal activity accounted for just 2.1% of all transactions, or $21.4bn in 2019. They believe this fell to just $10bn in 2020 despite a large increase in overall transactions.

This needs to be contrasted against illicit financing in ‘traditional’ forms of money where the UN calculates between 2-5% of global GDP ($1.6trn–$4trn). So, ‘nothing to see here’ surely? It would be odd for the authorities to be concerned about cryptos given such estimates of the relative and absolute scale of criminal activities?

Yet, even if we assume that Chainanalysis’s calculations are accurate (which we have doubts about), it misses the issue. This issue begins to touch on the governance and purpose of the monetary system within a society that has made democratic decisions as to levels of taxes or what actions and activities should be illegal.

While we appreciate the desire for privacy it should not be at the expense of undermining society. As such, we have seen a constant increase in anti-money laundering (AML) and know-your-customer (KYC) regulation over the past few years in traditional finance. This is not a trend that is going to reverse.

We have seen major central banks even going to the lengths of outlawing high denomination traditional bank notes. So, it seems very unlikely that alternative payments systems will be overlooked where anonymity and the lack of central control are key features.

Mines’ geographic footprint isn’t a good look

Furthermore, some of the major Bitcoin mining centres are in China, Russia, Kazakhstan and Iran. These are all countries with serious human-rights questions hanging over them as well as, in many cases, sanctions.

Other than the obvious ethics questions of doing business with miners located in these regimes, there are the obvious environmental standards linked to how the energy is produced (an issue we covered in part I). It is inevitable that where there are sanctions around traditional financial channels, sanctions around alternative ones will be introduced.

On these grounds alone, we cannot see how any mainstream financial institution committed to ESG – or indeed KYC and AML – can justify having connections with systems having deep roots in these parts of the world.

Finally, we ask the question again: why would fiat currency issuers in a heavily indebted world, permit or empower a competitor digital currency, over which they have no control, to become dominant? Why would they also let an effectively unregulated system become systemically important where it could form a systemic risk to financial stability?

Bitcoin, Tesla and problems with ‘traditional’ ESG approaches

Tesla’s decision to buy $1.5bn-worth of Bitcoin and start accepting Bitcoin as a payment method highlights several issues inherent with traditional ESG that we at GGC continue to see.
The recent success of ESG investment management has in many cases relied on the operational performance and share-price rises of technologically advanced companies. Yet both the environmental issues related to the actual operations of these businesses, as well as the wider social and governance issues, have largely been overlooked.

What the entire cryptocurrencies debate does highlight is the knowledge gap between the various parties involved in understanding of each other’s world.

Many of those with technological backgrounds don’t seem to understand the vast complexity of the financial system and its long organic development. While those with more traditional finance backgrounds (along with parts of the ESG community) often seem to overlook the engineering and societal ‘side effects’ from all the innovation that is going on.

This shouldn’t be seen as a criticism, rather just pointing to the realities of trying to make sense of a vast, complex and evolving system.

Given the large gaps still inherent in ‘conventional’ ESG evaluation it should be perhaps no surprise that investors are even less able to appreciate the inherent issues with new technologies and only later come to the realisation of what they have effectively financed in. In the race to embrace the ‘new’, investors have employed an old, limited lens with which to view new issues.

So, what’s next?

We believe that the new – private sector – crypto champion hasn’t yet emerged and is more likely to be a fusion of stablecoin and exchange-traded funds (ETFs). But that is a discussion for another time. In any event, the prospect of central bank digital currency (CBDCs) could render the whole debate redundant.

This highlights a key point that is often overlooked: that the whole area of crypto assets is still, to all intents and purposes, an infant technology and might yet to prove to be a technological dead end.

Yet proponents of Bitcoin and its ilk would like to believe that they have perfected it first time and it is ‘future proofed’. We believe this is highly improbable.

Despite the recent frenzy in Bitcoin activity these inherent and huge ESG hurdles seem very unlikely to be either overcome or accepted by most countries.

So perhaps this is the final irony; those that claim to be forward-looking technologists and claim crypto forms part of a future financial system, cannot see that it may well be a digital stranded asset and is already a relic of the past.


Part I of this article, which focuses on the ‘E’ of ESG, can be accessed here.


Originally published at the CFA Society United Kingdom Professional Investor blog.


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By Ben Ashby, CFA Partner at Good Governance Capital. Previously Ben was a Managing Director in JPMorgan’s Chief Investment Office & Treasury.

Derek Usher, Consultant at Good Governance Capital. Previously Derek was Manging Director of Cabot Credit Management. 

Gerard Fox, Consultant at Good Governance Capital. He is a Director of the Regulatory Policy Institute. A member of the Corporate Programme Advisory Group for the Institutional Investors Group on Climate Change (IIGCC).

All posts are the opinion of the author. As such, they should not be construed as investment advice, nor do the opinions expressed necessarily reflect the views of CFA Institute or the author’s employer.


Image credit: ©Getty Images / Andriy Onufriyenko

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