Is a Subway Token a Security? and other non-legal advice.

In 2003, I had the best business idea ever. The MBTA had recently announced an upcoming increase in the price of Boston transit tokens, from a dollar to $1.25. The change would not be effective until the following January, which meant that any T tokens acquired before then would be guaranteed a 25% return. I had just over a month to hoard as many tokens as possible.

I wasn’t the only one with this strategy; many of my classmates did the same. But after a month-long buying spree, it became clear that realizing those profits would be a pain in the ass.

We could never use all those tokens ourselves, and there was no secondary market because all our friends had made the same brilliant investment. If only T tokens were tradeable on the blockchain!

How many potential buyers were discouraged by the lack of a convenient aftermarket? Without the liquidity limitation, the MBTA could have held a far bigger token sale. Maybe it could have paid for a new railway. Maybe another Big Dig. Maybe even a hyperloop!

Why don’t we finance all our infrastructure projects with token sales? Is Trump still looking for ways to pay for that wall? Issue a Wall Token and put it on the blockchain! Each Wall Token confers the right to one border crossing.

But it turns out such Tokens might constitute a security.

Here’s a 1977 paper about property developers who finance their facilities by selling usage licenses before construction. Two fun examples:

    In the case of Holloway v. Thompson, a landowner raised money for a cemetery by selling certificates entitling the holder to a future burial spot. After the cemetery was constructed, an elderly couple sued the developer because they were unable to resell their unused spots. They had purchased 31 spaces, hoping to flip ‘em for a quick profit. The court determined that the burial rights were unregistered securities, and buyers were refunded.

    In Forman v. Community Services, Inc, a property developer sold “shares” of a low-income housing project, which could be exchanged for a three-year lease on a future apartment. After construction, the lease agreements were less valuable than expected, and the shareholders sued. The Supreme Court determined that the housing shares, despite being explicitly sold as “shares”, were not securities. The case was dismissed. It helped that the defendant was a non-profit housing co-op trying to do a civic good.

There are many more cases, and every shade of grey in between. In the 1970s, a spate of country clubs raised money through initial membership offerings, at which point the SEC directed its staff to stop issuing no-action letters in this area and advised that past letters should not be relied upon: “The Commission is concerned that inferences may be drawn from the issuance of no-action letters in this rapidly-evolving area.”

That was 1976. Forty rapidly-evolving years later, the Commission is still fumbling to crank up its Gatling guns. Meanwhile, token offerings spring up every day, each one scammier than the last. It’s tough to be a regulator! The SEC is a massively underfunded agency that was established as part of a New Deal effort to create make-work jobs. For half a century its purpose was to hire people to push papers and write rules. In 1984, Congress expanded that role by giving them the authority to enforce their rules, but without the actual budget to do so. The SEC ought to consider an ICO.

Donald J. Regan. Securities Regulations: When is a Club Membership a Security, 10 Loyola of L.A. Law Review, 356 (1977).

White Bread Software

Never trust a raisin.

At the turn of last century, industrial improvements made it possible to produce food at scale. Where a local bakeshop once served a five-minute walking radius, a commercial bakery could feed an entire city.

There was just one problem though: food production scales, but trust does not. We trust our friends and neighbors not to feed us garbage, but we don’t take candy from a stranger.

Until the rise of industrialization, local bakers sold whole wheat bread. Brown bread is nutritious and has been shown to reduce the risk of heart disease and obesity, according to the first Google result on the internet. Unfortunately, whole grains also cover up dirt and dead bugs, which was a big deal in the age of typhoid and tuberculosis. To convince consumers of the purity of their product, commercial bakeries began baking white bread. Worms and weevils can’t hide in white.

Sunlight is the best disinfectant.

In the absence of a trusted relationship, consumers can either demand radical transparency, or outsource their trust to a government agency. White bread got boring after a few decades, so we opted for the latter.

Today, no one has a clue what’s in the black fuzzy liquid we call Diet Coke, or the crispy-fried critters KFC serves in a bucket. But thanks to the FDA, we can consume artisanal avocado toast without worrying whether some substance is really just marmalade.

3-letter agencies have become a stand-in for trust. The FAA inspects airplanes, the DOT ensures roadworthiness, and the NSA works with technology companies to establish encryption standards for computer security. And sometimes that doesn’t work out so well.

Sometimes our goals are not totally aligned with those of government agencies. Maybe we want private communications, or censorship-resistant financial transactions. If we can’t trust the cops to protect these rights, we have to fall back on transparency as a substitute.

Decentralized digital currencies only work because they’re transparent – not only does everyone have a copy of the blockchain, but all the software is open source. We might not trust our counterparties, but we can verify that they haven’t double-spent us. We might not even trust the developers, but we can see for ourselves that the software isn’t uploading private keys to a Russian server.

Strangely, there’s this new trend where people treat transparency as a signaling device instead of an opportunity to perform due diligence:

If it’s open source and on the blockchain, it can be audited, and if there were any bugs to be found, someone else would have said something! Wisdom of the crowds leads to diffusion of responsibility.

(Or maybe people assume that as long as it’s on Ethereum, there’s a central authority looking out for them.)

Tulips and Token Mania

Consider the tulip. This is Semper Augustus, the flower behind 17th century Tulip mania. Ordinary tulips are solid in color and were sold by the pound, but the multicolored ones commanded ridiculous prices because they were rare. At peak demand, a Semper Augustus bulb went for 6,000 guilders, or two years’ salary for a wealthy merchant.

Ah, such beauty and vigor! Such grace and debonair! Such radiance and majesty could only have come from the wings of an angel, who perhaps flew too close to the sun and caught on fire and died and came back to earth in this glorious bloom!

But what if I told you that the stripey color was caused by a virus?? That’s right, the Tulip maniacs were really chasing a byproduct of the mosaic virus, a disease transferred by aphids that affects pigment distribution in the bulb. The mosaic virus is the same disease that destroyed tobacco crops in the late 1800s. Those flaming petal patterns are about as marvelous as cowpox.

The pathogen-induced colors propagate through bulb division, but multicolor tulips were scarce because the mosaic virus weakens the plant to the point where its bulbs cannot propagate. Just look at the Semper Augustus: the flower is so messed up it can’t even hold its head together like a proper tulip. Semper Augustus became a diseased dead-end and no longer exists today.

Tulip bulb propagation. The bulb splits, like a garlic or a blockchain.

The tulip bubble was more confined than stories suggest. Prices rose on a scarce commodity, which is normal. After a price correction in 1636, a number of Dutch mayors found themselves on the losing end of some futures contracts. Unwilling to take a loss, the officials declared that futures contracts were in fact options, and could be canceled for a small fee. They effectively gave themselves a bailout.

Nov 1, 1636 was the original start date for contract cancellations, but the Dutch officials secretly changed the start to Dec 1 so they could have an extra month to trade on that knowledge.

After tulip contracts became unenforceable, traders wrote all sorts of deep out-of-the-money call options. The options were longshot bets that didn’t materialize, but somehow the Tulip Bubble came to be defined by their unexercised strike prices.

People keep comparing the cryptocurrency madness to Tulip mania. Sure, they’re similar in that market participants are treating a commodity flaw as a feature. And yeah, there are nonstop stories of how much blockchain projects have raised through token sales — over half a billion dollars this year, supposedly!

But the money is about as real as unexercised tulip options. Tokens aren’t sold for dollars; they’re sold for ether. It’s more accurate to say that the token offerings have collected 1.6 million ETH. A year ago, the same amount of ether was worth only $24 million (ETH is up 4900% this year).

Today’s impressive half-billion dollar value is an impractical conversion — You can’t liquidate 1.6 million ETH without crashing the market. The two biggest exchanges only have 4.4M and 3.6M apiece in cold storage.

I suspect that puffy token sales are primarily driven by early speculators reinvesting paper gains — maybe last year’s bailout convinced them that tokens are a risk-free place to park their profits. Still, it’s a really a small parking spot. The total amount of ether funneled into tokens is but a fraction of the 11.8M ETH dumped into the DAO.

An illiquid market where gamblers trade large paper gains for out-of-the-money options doesn’t create a bubble, but it only takes a few obnoxious voices to get people freaked out about one.

See Also:
Thompson, Earl A. The tulipmania: Fact or artifact? Journal of Public Choice, 130, 1, 2007.

The Wokeness Treadmill

In today’s episode of People are Pissed at Uber, the internet is full of sound and fury because Uber’s CEO went into a company lactation room to meditate.

I had to Google “lactation room” to learn what that was, because I wanted to be properly pissed about it too. It’s basically a safe space where mothers can breastfeed. Oh, okay. Doesn’t Uber get some credit for installing a lactation room in the first place? None of my employers ever provided workplace lactation rooms.

It seems only months ago that people were complaining about Uber not hiring enough women. Now the company has shored up its staff, it’s got employees capable of lactation, it’s gone so far as to provide those employees with lactation rooms — and yet the internet is still unhappy.

At this point we’re pretty much scraping the bottom of the barrel for allegations of moral failing. Here are people freaking out because an Uber exec acquired the medical records of a customer who was assaulted by a driver (The file was initially obtained by the company’s law firm). In other news, here is a long list of all the companies that buy patient medical records, and here are the data brokers who match, identify, and resell those records. But we’ll save that ruckus for another day.

Humans are herd animals, and right now the herd is stampeding at Uber. The directed outrage began earlier this year, when a former employee aired a public chronicle of all the ways the company had wronged her. Other tales of sexism soon followed, culminating in an Atlantic treatise asking: “Why is Silicon Valley so Awful to Women?

Some might call that a loaded question. I’m gonna go out on a limb here and assume that none of the characters involved in these stories ever had to wait tables in college or volunteer as candy stripers to fill high school graduation requirements. The service industry, the health care industry – basically any industry that spends a lot of time interacting with humans – sees far more sexism than Silicon Valley.

Silicon Valley is awful to women for the same reason Sweden is the rape capital of the world. Sweden is in fact doing fine; in 2005 the country broadened its definition of rape to include any act where the defendant cannot prove consent, including mental violence.

If you keep lowering the bar for what constitutes unacceptable behavior, then there’s going to be more and more unacceptable behavior. You can similarly ask why college campuses suffer so much hate speech, or why Sarah Silverman encounters so many Nazi symbols.

No matter how woke the tech industry gets, the babbling heads of the fourth estate will always be there to assert their moral superiority. I suspect it stems from repressed feelings of aggression. In earlier years we’d simply throw chairs and punches at each other, but it was an uneven match and the weak ones complained. So now we’ve turned to morally whaling on the unwoke.

Have we gotten so caught up in complaining that we forget how much progress we’ve made? Maybe there’s something nice to be said for the four months’ paid maternity leave offered by Uber and most other tech companies. Maybe Uber deserves some credit for accommodating the needs of a lactating workforce. Maybe we should applaud the work-life balance that must entail. Whatever happened to gratitude?

See, now I’m doing the exact same thing. I’m engaging in my own moral posturing by pointing out how ungrateful the critics are. Life was easier when we could simply punch the smug.

Mules and other Non-Productive Assets

In early pastoral societies, cattle served as the prevailing currency. Draco’s law code measured fines in oxen. In Latin, pecus means livestock, and is the root word for “pecuniary”.

If cattle is money, then the idea of interest rates is intuitive. Cows are productive assets. In the beef industry, a pregnant heifer commands a premium over an empty cow, and the premium increases the closer she is to calving. A very pregnant cow is like a bond that’s near maturity.

The Sumerian word for interest, mass, is the same as the term for calves. The Egyptians use a similar word, ms. In ancient Greek, τόκος means usury as well as offspring. If I lend you a cow, you’d better return a cow plus a baby cow.

But what if I lend you a mule? A mule is the sterile progeny of a horse and a donkey. If the mule cannot reproduce, should it bear interest?

Hittite records show that while the price of an ox was equal to ten sheep and a horse was twenty sheep, the price of a mule was equal to sixty sheep. A donkey was only three or four sheep.

It seems that the nonproductive mule ought to trade at a discount to its peers, given that it has no cash flow, earnings, coupons, or yield. Assuming the Hittites understood interest rate parity, the only rationale for buying a mule would be that it was a better store of value than the rapidly debasing ox.

Maybe we can think of the mule as a collectible – it commands a higher price than other livestock because it is rare. A mule has a sort of unforgeable costliness: In order to make one, you have to restrain a female horse while she’s mated with a donkey, which doesn’t sound very nice now that I think about it.

I’m kidding! A mule is not a collectible and it’s silly to examine its fundamentals. A mule is an incredibly useful animal that combines the load-bearing capacity of a donkey with the temperament of a horse with the smooth sweet ride of a barcalounger. Mules have been used to transport things from military equipment to narcotics to the family of King David. The fact that they were more expensive than other livestock is a reflection of how much value they created.

Bitcoin is at an all-time high and is bound to surpass $3000 by the end of the night. It has no intrinsic value or cash flow, but it’s not just a store of value either. Bitcoin’s job in life is to move assets around, just like a mule. This isn’t a glamorous job, but it sure is a valuable one.

zonkey mule