WBD567 Audio Transcription

Bitcoin, The Critical Money Layer with Nik Bhatia

Release date: Friday 14th October

Note: the following is a transcription of my interview with Nik Bhatia. I have reviewed the transcription but if you find any mistakes, please feel free to email me. You can listen to the original recording here.

Nik Bhatia is Author of Layered Money and founder of TheBitcoinLayer.com. In this interview, we discuss Jeff Snider’s Eurodollar ideas: how all money is credit money; why Bitcoin will be a check, but will not replace, fractional reserve banking; and how Bitcoin will complement the dollar as a generational store of value.

“All of that monetary profligacy over the last 10 years put the Fed’s reputation on watch; everybody and their mother knows about the Fed and its willingness to just do QE infinity, and so in a post-pandemic world where they got caught, basically, without a plan, now they have to preserve their reputation.”

— Nik Bhatia

Interview Transcription

Peter McCormack: Nik Bhatia, welcome back to What Bitcoin Did, mate.  How are you doing?

Nik Bhatia: I'm doing great, Pete.  It's great to see you, great to be here.

Peter McCormack: It's always great to see you.  And anyone watching, if you can see, Nik's got some brand-new Jordans he wants you all to see.  Show them up, show them to the camera.

Nik Bhatia: Actually, they're not new, but they are my favourite 4s right now.

Peter McCormack: Do you know I collect trainers?

Nik Bhatia: I didn't know that.

Peter McCormack: Yeah.  I've got I think one pair of Jordans, I'll show you them later; they're pretty cool.  Anyway, man, how have you been?

Nik Bhatia: I'm doing great.

Peter McCormack: It's been a few months since I've seen you.  Saw you Miami, no, Malibu last time.

Nik Bhatia: Yeah, Malibu, yeah.

Peter McCormack: All right, well listen, last couple of years have been very exciting for you.  I've known you since I came to LA that time, popped up to the OpenNode office.

Nik Bhatia: 2019.

Peter McCormack: 2019.  You'd written a couple of articles, then you wrote a book, and now you've got a whole goddamn business; you're killing it, you've got employees, or employee.  Tell me about that, how's it been going, man?

Nik Bhatia: It's been going great.  So, we've launched The Bitcoin Layer, well I launched The Bitcoin Layer in September 2021, so it's been just about a year now, and I started it as just a research publication once a week, writing my thoughts on macro, what's going on with Bitcoin and the Fed and that whole relationship.  I was writing that for, I don't know, about six, nine months.  And then I realised that I was loving it so much and I wanted to turn it from, let's call it a hobbyist newsletter into a full research media company. 

So in May, June, I hired two people, Joe Consorti and Matthew Ball.  So, Joe helps me with the research, and he helps me write, do charts, things like that.  And Matt is helping with the YouTube side, so we launched a YouTube channel in June, and we're doing videos that are along the lines of what we're writing about in the publication, Bitcoin macro, but a little bit more on the educational side, so really breaking things down and explaining them to, let's say, a non-finance background type of person; whereas, the Substack publication is definitely more for people that are invested across asset classes and are looking for the high-signal macro content.

So, I've got Joe, Matt; we've got a great little team of three and we're building the Substack and the YouTube channel, and everyone can go find us at thebitcoinlayer.com.

Peter McCormack: We will shout all of that in the show notes.  We have Joe with us; do you want to say hello, Joe?

Joe Consorti: Hello.

Peter McCormack: We have Joe with us.

Nik Bhatia: And, Pete, before I forget, I have this hat for you.  I know you like to wear hats, so The Bitcoin Layer.

Peter McCormack: I do like to wear hats.  That's amazing, thank you.  If I'd have known, I'd have brought a Real Bedford hat for you.  That's very cool, that's very kind of you.

Nik Bhatia: Well, next time.  I've got my TBL merch going on right here.

Peter McCormack: I'm going to wear this at one of the interviews this week.  Thank you, that's very kind, man.  Are you selling merch?

Nik Bhatia: Yeah, absolutely.  At thebitcoinlayer.com, we've got the merch section as well, so T-shirts, hoodies, hats, everything like that.

Peter McCormack: Danny, they're ahead of us.

Danny Knowles: They are ahead of us.

Peter McCormack: This is what the competition does.

Danny Knowles: What, beats us?

Nik Bhatia: I thought back to 10, 12 years ago when I started getting into macro, and I actually purchased a ZeroHedge hoodie in the year 2010 or 2011, and when we were deciding to do merch, I had these flashbacks of, "Yeah, people will wear their favourite macro publication merch.  I did it, so why not other people?"

Peter McCormack: Well, ZeroHedge is a very cool brand as well, so you have to develop up.

Nik Bhatia: And it's changed a lot over the years, but I always try to credit ZeroHedge with being one of the first publications on the internet that was really focused on Fed transparency, letting us know what the Fed and the primary dealers were up to, in the intricacies and in the details, and not just what we were getting on CNBC or Bloomberg.  And that was before I had access to sell-side Wall Street research.  So, ZeroHedge was pretty much the only place I could go to get truth and facts about the Fed, but it's evolved into more of a pay-to-play platform with a lot of junk, but still there is signal in there if you look close enough.

Peter McCormack: What a journey, man, from traditional finance into now, our world of Bitcoin finance, the cross-section of macro and Bitcoin and your own business; it's incredible, I've loved watching it.  I feel like I've been with you across the whole journey, and it's incredible to see, so congratulations, amazing work.

Nik Bhatia: Thank you so much.

Peter McCormack: Okay.  As you know, we did an interview with Jeff Snider recently, and it was quite well received, in that not everyone agreed, it caused a lot of debate and a lot of discussion.  As ever, there were some concepts in there that have been hard to get around.  I mean, me and Danny have discussed this eurodollar thing relentlessly since, because it is such a complicated subject, it doesn't make any sense, and it's a really weird part of the finance world that I didn't know existed, and I feel like it impacts our lives negatively.

Then, you reached out to us and you were like, "Pete, I want to come and respond to this".  It's not anti-Jeff, I know he's influenced you a lot, but do you want to explain why you reached out; what was it about that show that made you want to come back on?

Nik Bhatia: Well, my readers and listeners reached out to me after that show, and they said, "Nik you've got to respond.  We want to know what you think about some of these concepts that Jeff is talking about", and I don't know if they were looking for me to strongly agree, strongly disagree, or just comment on it.  But Jeff Snider's eurodollar research was integral in my research for writing Layered Money.

So, chapter 5 of my book, where I get into a little bit of the history of the eurodollar and its evolution, I took a lot of Jeff's research and learned from it, and then used it as a springboard to learn more about the system.  So, I want to start with just acknowledging that Jeff's research about the eurodollar, like ZeroHedge, it brought a lot of these concepts that were in the dark corners out into the public, and especially this idea that the eurodollar system, as a parallel system, has an outsized impact on the world, the way that global markets work and the economy as well.

So, I want to start with that, but more specifically, I think that the way that Jeff describes the eurodollar system, there's more to be said there.  And, what I like to think about the eurodollar system is that we have this dollar, right, that's the denomination of the world; but we have onshore dollars and offshore dollars, and the offshore dollar system has actually grown to the point where it has now the most impact on the global economy relative to what the Fed is doing, for example.

Peter McCormack: Well, can we jump back a touch, because some of the people listening to this won't have listened to the Jeff Snider show.  We'll encourage them, we'll put it in the show notes, but it might be a good idea to just go to the basics of what the eurodollar system is; because, prior to doing the show with Jeff, I'd heard of the eurodollar, I assumed it was just some exchange rate measurement, I didn't actually know it was this system of offshore dollars.  But it would be good to just give the absolute basics to people what it is and why it exists, why did it come about.

Nik Bhatia: Sure.  And that's another thing about Jeff's interview; because the eurodollar system is opaque, there's an unwillingness to say where it came from, what it is, and he played around with the words a little bit.  But we really can trace the origin of the eurodollar system to the post-Bretton Woods world, in which the dollar is the reserve currency, but dollars didn't exist enough outside the United States.  So, people needed to borrow dollars to do trade finance, they also needed to find a place to store their dollars outside New York, so the Soviets storing their dollars in London and Paris banks, and let's say Germany, France companies trying to rebuild Europe and needing to borrow in dollars in order to get the economy moving again.

So, it's just this need for dollars outside of the United States once the dollar had become the currency that was agreed upon.  So, it wasn't any conspiracy or even planning by the banks; it's just a natural evolution of money that if you need to finance your trade, we will lend you dollars to do that, because the company you're purchasing from, they'll only accept dollars.  They won't accept Italian lire, they won't accept French francs, they only want dollars.  And so, how do you get those dollars outside of the United States?  A bank has to lend them into existence.

Peter McCormack: So, there's a couple of questions I have with that.  Firstly, as a point, I didn't actually realise at the time with Jeff, one of the things that wasn't really clear to me was what's this existence of dollars outside of the US; but I hadn't made the connection it's because the dollar was the global reserve currency, and I don't even know if he mentioned that it was a post-Bretton Woods thing.  But it hadn't clicked for me that this was it, this was the fact that especially in trade and finance, the dollar is the world's reserve currency, so that was why it was required.

But the question I really had was, if I want to go to a bank in the UK and borrow pounds, I can be lent those pounds, but those banks have to have a banking licence to do that, they have to operate within the infrastructure of the UK.  For banks to be able to accept and use dollars globally outside of the US, do they have to have a similar licence with the US?

Nik Bhatia: That's where the eurodollar system got out of control, because, no.  There are two things here.  There's the issuance of dollars outside the US, and then there's the question of fungibility of those outside-the-US dollars and onshore dollars.  So, the first question is, the answer is no basically.  If a British bank wants to lend dollars, it doesn't have to adhere to any dollar reserve ratios, it can just issue those dollars and lend those dollars into existence.  And that's what happened over the course of the 1950s to 2007, is that you had an issuance that was unregulated and basically unwatched and totally opaque.  As that issuance grew over half a century, it finally busted. 

So, from 2007 to 2009, when that system went bust, what Snider's talking about in terms of deflation and contraction, that is what we have in the offshore dollar system post-2007, is we have a contraction of this activity, which dollars get lent into existence outside the United States with no reserve requirements or no reserve ratios.  That has tapered itself over the last 15 years.  But before that, from the 1950s to 2007, it was completely out of control, unregulated, opaque, and it ended up being so much, I mean the quantity of dollars ended up being so much, that it put all this concentrated banking risk in Europe, for example, and that problem of bad debts on the books.

Lyn talked about this as well in the post-Snider episode.  It's not that they don't have any reserve requirements; it's that when they lend those dollars into existence, the assets that they have that they've marked are loans.  So, if the loans are good loans, then they'll get paid back that money, plus interest, and everything is fine.  But if they're bad loans, then the assets that they have have to be written down from 100% to 80% to 60%, then they're taking losses on the asset side of their balance sheet, and then they're facing solvency issues.  So, that's what we've seen with European banks basically since 2009, is that European banks have a lot of bad debt on their books, and they're not really able to get out of that situation.

Peter McCormack: Right, let me explain the bit I don't understand, see if you can help me with this.

Nik Bhatia: Sure.

Peter McCormack: Okay, so Danny, what are the reserve ratios for UK banks; do we know what they are?

Danny Knowles: I don't know, I can have a look.

Nik Bhatia: Just call it 10%.  I mean, that's a pretty global standard.

Peter McCormack: Okay.  So, the way I understand fractional-reserve banking is, I go to my bank, I want to buy a house, they lend me £500,000, knowing they have collateral themselves of, say, £50,000 that allows them to do that.  Great, that's fine, I can borrow that money.  And in that fractional-reserve system, as long as everything's okay, it just kind of works. 

But in a scenario whereby, say, there's fears over a bank maybe has bad debts, there's just questions about it, we always hear of a run on the bank, where people are going in to try and get their money, historically, or you've even seen it on the TV recently with banks in various countries, where they want their cash.  I understand that, when there's a run on the bank, there isn't enough cash, the bank can default and you can lose your money; I fully understand that scenario.  But they do have those reserves that allows them to make the loans. 

What I don't understand in this eurodollar system, if there's no reserves or no reserve ratio, what are they lending against?  Are they literally just printing numbers?  And when they do, say this bank prints $1 million because they want to lend it to you, Nik; when they transfer it to you, what is the settlement between them and the bank receiving it?  Do you understand my question?

Nik Bhatia: Sure, so let me try to explain it.  So, the first question about reserves; the bank, when it lends £500,000, or let's say a British bank is lending dollars, so they're eurodollar lending, that bank is likely to own US Treasuries, maybe to 10% of the amount that they're lending in dollars, so they have their own reserve ratios and their own risk management.  So, it's not like they don't have any reserves; they are likely to have some US dollar cash, some US Treasury securities, other US dollar-denominated assets, so they do have some reserves there. 

But let's go to the 2000s real quick.  It wasn't just the lending that we're talking about that got out of control, it wasn't just lending to people against their homes and all that kind of stuff; it was the underwriting of derivatives and credit default swaps, for example, foreign exchange swaps, all these contracts basically.  These are contracts, when they get agreed upon by a bank and a counterparty, there's no money that exchanges hands at the beginning of that contract, there's just exposure now.  So, when rates move or when currencies move, then that contract has a mark-to-market loss or gain for the bank.

They wrote so many contracts during the 2000s that it almost didn't matter how much they had lent in the normal offshore dollar economy.  They had all this derivatives exposure, the notional amount was about $10 trillion, which is a little bit of a misnomer; but the actual market value of all these contracts was almost $1 trillion.  This was according to the Bank of International Settlement's numbers.  So, all of those contracts made them exposed to dollar losses without reserves, because if you're just writing derivatives contracts left and right, those banks, during the 2000s especially, were not reserving anything against those losses, they weren't even hedging them properly.

Peter McCormack: So, you're essentially issuing a form of credit?

Nik Bhatia: That's right.  It's a form of credit, and even those derivative contracts are forms of credit.  And so, I think then, listening to the last couple of episodes talking about the eurodollar, I think what you need to understand about when, let's say, Barclays lends $1 million to a British company, that British company -- that $1 million didn't exist before and now it exists.  The British company has $1 million in their chequing account now, right, the liability of the bank, but the asset of the company, because now they have $1 million.  The company also has $1 million in debt; they owe $1 million back to the bank, but they have $1 million in their chequing account.

Now, if that company wants to grow their business, let's say they write a cheque for $250,000 to their supplier.  That $250,000 then goes; now you have $750,000 in your chequing account for that British business, and now let's say it's a French supplier.  The French company, at BNP Paribas, now has $250,000 in their chequing account.  And then that supplier goes and spends that money.  So, that money gets into the real economy every time you spend.  It has nothing to do with cash or paper money, or even reserve ratios; the money is in the chequing account of the business, the business spends it, sends it to France, the French supplier takes that money, sends it to North Africa for their supplier, and that money just makes it out into the chequing accounts of the world, of banks that deal in offshore dollars.

So, all of that money that is created by Barclays on day one does find its way into the rest of the economy; it will be a component for aggregate demand.  Aggregate demand just means, what is the world buying every year or every day; that's the aggregate demand of the world.  So, the aggregate demand of the world will go up when Barclays issues that $1 million, assuming that that $1 million is going to get spent.  So, that is how the issuance of offshore dollars makes its way into the global economy.  It is a significant contributor to the overall aggregate demand of the world, it especially was from the 1950s to 2009. 

Then, back to the fungibility issue, that's really I think the most complicated part about all of this eurodollar stuff.  If you have, and the BIS has quoted $13 trillion of dollar-denominated loans issued by banks outside the United States; so, that's the very minimum amount of eurodollars that we know that exist.  There are definitely more, but at a very minimum, there's $13 trillion that have been lent into existence by non-US banks, in a dollar denomination.  So, those $13 trillion, could you transfer that money back into the United States into an onshore bank and contribute to the aggregate demand of the US?  I think the answer is yes.

But that fungibility is, I think, one of the more complicated topics to understand, and especially for me when I was writing Layered Money, trying to understand the relationship between offshore dollar issuance and the gold peg breaking in 1968, 1971, however you want to classify that.  That was also very difficult to articulate, because was the issuance of offshore dollars the main driver of the depletion of US gold reserves in New York and in Fort Knox?  Maybe, maybe not, I couldn't commit to making that claim.

Instead, I just showed the timeline that, "Hey, this is what happened in the growth of eurodollars", then eventually the gold peg did break, because gold reserves were being depleted in the United States, the Triffin dilemma, the Triffin paradox, that is discussed a lot.  The Triffin dilemma is this idea that if the global reserve currency is the dollar, and dollar reserves are amassed outside of the US, those dollar reserves will come for US gold, deplete the gold, the US gold, and that is a problem. 

So, it did happen.  Can we 100% attribute it to the eurodollar issuance?  I'm not sure, I don't have a great answer for that, but I know that that is part of history where we have to think about, was the eurodollar system just this issuance of dollars around the world; was it the main driver of the gold stock of the US falling and then the eventually closing of the gold window?

Peter McCormack: All right, so I've got a couple of questions with that as well.  So, I'm a big fan of physical money, I always have physical money.  I fear the day where we go completely cashless.  I keep little stores of physical money in the world in case I ever need it.  In a world of only physical money, this kind of credit expansion can't really happen if that's the only money you have without physically printing more dollars.  If you had to settle everything at the time with the cash, you can't have this.  Am I right in thinking that?

Nik Bhatia: I think you are, because it's not like eurodollars have any physical form, and that's how they were able to get issued.  Because, let's go back to our British company example.  They're issued a $1 million loan by Barclays.  The next day, they go into their Barclays app and they see $1 million in their account.  Then they go to their Barclays branch and they say, "Can I withdraw $100,000, physical paper currency?"  Barclays would say, "No, we don't have it.  We're not able to give you that". 

But if there was a physical component to it, Barclays and BNP Paribas and other European banks would have their own printing press with their own little Christine Lagarde face on the middle of the note, and those paper notes would have value in the economy, let's say companies would accept it, because they know that if I take these notes to Barclays, Barclays will credit my account with a deposit.  But because it now has a different form, it might have an exchange rate to the dollar, like 99 cents or $1.01, because there's a market now for physical notes.  There would be a black market, "Hey, I'll trade you this Christine Lagarde for that Benjamin", and there would be an exchange rate there hand-to-hand.  That exchange rate would make its way into public knowledge, because markets are transparent. 

We know the price of Bitcoin on classified ads on local Bitcoins in different countries; we know it's not the spot price that we see, and we know for a fact it's actually way higher than the spot price, because of foreign exchange risks and other risks that are involved in purchasing Bitcoin hand-to-hand in currency that's not US dollars; because, whoever's selling you that Bitcoin is accepting, let's say, Turkish lira.  That seller of Bitcoin doesn't know what that lira is going to buy in terms of dollars in the next hour, in the next 24 hours, in the next 7 days; it has no idea, so it has to charge a 30%, 50% premium just to protect his book from naked exposure and naked losses.  I know it's a little bit of a side --

Peter McCormack: No, but I understand.  What I was trying to get to is, if this room was the entirety of the economy and we all had, I don't know, $100 each, and I wanted to buy something from you, this early morning beer.  If I bought it from you and say you sold it to me for $10, you would have $110, I would have $90, but still the same amount of money exists.  But if I go to you and say, "Can I buy that beer off you, but can I pay that later?" I accumulate the beer, the debt exists, but I still have that money, and then I can go and spend it with Danny.

That, to me, that was the real kind of lightbulb moment.  It was like, this is what creates the credit expansion, and this is what essentially drives inflation, because it allows us to go and buy other things that we didn't have the money for, which increases the demand on goods.  I mean, that little, simple scenario, I was like, "I get it now".  Now, if you look at what's been happening in terms of global finance over, let's just say the last two decades, or even the last 15 years since the Financial Crisis, it's been that on crack!

Nik Bhatia: Absolutely, and all money is credit money; that's really the world that we live in.  All of it is credit money.  Anything that comes from a bank, the word "deposit" itself is credit money.  And so, the whole system that we have across the world and for the last, let's say since 1968, but even going back before that, has always really been a credit money system.  It is why people are drawn to Bitcoin, because it's not a credit money system, there is no credit component to Bitcoin.  It's a commodity, it's physical money.

You like physical money.  Well, the keys that you have in your wallet, that's physical money too.  It's abstract, but it is physical, because it's yours and it's not a counterparty instrument, layered money; it's not a second layer of money, it's a first layer of money.  But for the rest of the world and all the banking system, it's just a credit money system.  Now, the credit money system does help finance expansion, it also contributes to the cycle, because you have expansion of credit, and then you have contraction of credit.  So, when contraction of credit happens, you have a slowdown in the economy; and when you have an expansion of credit, you have growth in the economy, because people are spending.

The system that we have today, I don't feel like it's going anywhere.  It will stay.  Banks are power players in this world, they're not going to relinquish their position very easily, and it's also why I believe that comparing Bitcoin to "the dollar" is a terrible comparison.  Bitcoin is an asset, the dollar is a credit money system; they're not apples to apples.  Bitcoin can be compared to gold, like a commodity; it can even be compared to real estate or even stocks.  But to compare it to the dollar is a terrible comparison.

Peter McCormack: Because of scarcity?

Nik Bhatia: Because the dollar has lost most of its definition.  Per the Constitution of the United States, the dollar was an amount of gold, or an amount of silver, fixed exchange rates, that changed in the year 1900 when they eliminated silver and adjusted the gold price based off of the dollar in 1900; there was a Gold Standard Act of 1900.  But since then, and especially once we get into the 1950s and then post-1971, the dollar has lost its definition.

Like Jeff Snider says, "People don't know how to describe money", try actually defining the dollar.  You won't actually be able to do it in a simple way anymore.  The dollar isn't a thing anymore, it's just a denomination of our credit money system.  You can't take a dollar and exchange it for anything with the government.  It's a Federal Reserve note first of all, it's no longer a US Treasury instrument; that happened in 1913 when the Fed took over as the central bank of the United States.  Before that, paper currency in the United States said, "US Treasury" on top.  And it said, "I promise to pay the bearer $10 of gold coin on demand".  That used to be a dollar.  You could define a dollar more easily 120 years ago.

But the definition of a dollar is impossible now, so how can you compare Bitcoin to the dollar?  What is the dollar?  It's a denomination.  What is Bitcoin?  It's a numeric commodity.  So, they're very, very different.  What is gold?  Gold is a physical commodity, so there's a comparison there.  What is real estate?  Real estate is ownership of property with at least some idea of scarcity.  How much land?  57 million square miles.  I know that land can be built up, or even offshore.  These are little nitpicks of the thesis here that Bitcoin is more comparable to real estate than it is to the dollar. 

What about stocks?  Stocks represent an ownership over, call it a network, but a company; ownership over the future cash flows of that company.  So, Bitcoin is ownership of a slice of a network that has utility for the rest of the world.  You're not accruing Bitcoin to your own Bitcoin position, just because people are using Bitcoin.  Maybe the Lightning Network you can, but just for Bitcoin itself, it's a commodity, it's property, it's an ownership claim; but it's not anything to do with credit and it does have this denomination aspect in common in terms of the dollar and Bitcoin, but that's about where it stops.

I wrote a piece at The Bitcoin Layer a few months ago, called Bitcoin Versus "The Dollar".  Then I did a YouTube video a couple of weeks later after it.  The thesis here is that, compare Bitcoin to gold, stocks, real estate or even bonds, but don't compare it to the dollar; the two are just completely apples and oranges.

Peter McCormack: I think the reason people do that though is, when they think of money, they think of the dollar.  Then when the think of Bitcoin, "Well, I'm using it as money, so therefore it's comparable".  But you're talking about almost the definition of where its value comes from.

Nik Bhatia: So, let's go into the word "currency".  Currency comes from current, which is a flow.  Electrical currents go from one piece of the board to the other piece of the board and then something happens.  Currency is the same concept, it's a flow.  So, the dollar does flow as a currency, as does Bitcoin.  So, the comparison of Bitcoin to the word "currency" I think is accurate, and comparing the dollar, or saying the dollar is a currency is also accurate.

So, if somebody thinks this is the dollar currency and this is the Bitcoin currency, they're both called currency.  Calling them both currency is appropriate, therefore people compare them.

Peter McCormack: And not money.

Nik Bhatia: What is the dollar?  It's not money, per se, it's a credit instrument mostly, it's not a commodity.  So then, when you actually dive a little bit deeper and get out of the word "currency" and define it deeper, then the comparisons start to fall apart.  I understand that people compare Bitcoin to the dollar all the time, because they're both currencies, so it's an acceptable comparison at the surface.  But really, when you dig deeper into it, it's not a good comparison.

Peter McCormack: Could we jump back also and do a little bit of a history lesson here?  Talk about Bretton Woods and why it happened; why did the gold standard end; and what was the benefit to the US being the global reserve currency, as opposed to -- wasn't there originally pitched like a basket of goods, a basket of currencies?  I think there was even a shitcoin named after it at some point.  But anyway, so why did it happen --

Nik Bhatia: Oh, I know what you're doing, yeah.

Peter McCormack: Yeah, and why was it beneficial to the US?

Nik Bhatia: So, the 1929 stock market crash, we had the Depression in the 1930s.  What you started to see during that era was countries devaluing their currency versus gold, the competitive devaluation versus gold, to make their products appear cheaper to the rest of the world to attract demand.  So, a competitive devaluation around the world in the 1930s motivated countries to come together and say, "This has to stop.  We have to figure out some sort of fixed exchange rate regime.  So, let's make the dollar the only currency that you can trade for gold, and let's make all the local currencies in France, Britain, etc, let's make all of those have a fixed exchange rate with the dollar, so that the only link between government currency and gold is at the US level.  And we are going to stop doing that convertibility all around the world; so from a layered money perspective, gold on the first layer, US dollar on the second layer, and then every other currency on the third layer".

Peter McCormack: Have you got that, Danny?

Danny Knowles: Yeah, I've got the chart that you did, the pyramid.

Peter McCormack: We've got this prepared.  We knew this was going to come up!  And, that was done with good intentions and rightly so.  I mean, it solved a real problem; competitive gold devaluation was a genuine problem.

Nik Bhatia: Competitive gold devaluation was a real problem, but then once you started -- this is the one before Bretton Woods, right.  This is just the convertibility of pounds, francs, marks and dollars to gold.  This is the situation that was before the competitive devaluation.

Peter McCormack: Okay, just for people listening, we're going to have a few charts up.  If you haven't checked out the YouTube, we'll just explain them, but Nik creates these pyramids which explain the layers of money, hence Layered Money, his book, and hence The Bitcoin Layer, his company.  So, this is essentially the layers of money, prior to what we're talking about, whereby you have gold at the top, then you have central banks, and then you have the various currencies.  So, explain the functioning of this.

Nik Bhatia: Yeah, so if you have, let's say, British pounds in the 1930s, you could take those pounds to the bank or the central bank and exchange it for gold.  After 1944, that's no longer the case.  Now, British pounds only have an exchange rate with dollars and only dollars have an exchange rate with gold.  So, you could take your pounds to a gold dealer and purchase gold at the market price from that gold dealer, but in terms of the redeemability of that note for physical gold, the post-Bretton Woods world ended that, so that only US dollar currency could be exchanged.

That brought in the Triffin dilemma, the Triffin paradox, which said, "Wait, if only the dollar can be exchanged for gold, what's going to happen to the gold of the US once dollars start stacking up outside of the United States?  They're going to take our gold", and it is what happened, and it is why the US and European countries, in 1961, started this idea of the gold pool, which was a gold price depression scheme basically in a way to keep the gold price from rising.  Then in 1968, they basically ended the gold pool, because they realised that they wouldn't be able to do it anymore.  You can't just print gold.

Peter McCormack: So, it's the expansion of the money which destroyed the gold standard?

Nik Bhatia: It is the singularity of US gold stock being the base, being the first layer of money for the entire globe, that set it up in a way that the lower layers of money expanded so great and the gold stock was only so small that that relationship became untenable and the United States Government had to protect their gold stock at a certain point and just say, "We have to eliminate the link between gold and government currency; forget the dollar, just everything, because otherwise we're going to lose our gold.  And, we're confident we can survive without gold as our first layer of money, and continue to be a global powerhouse", and they were right, as 50 years later, the US is still the number one economy in the world and the margin has probably grown.

Peter McCormack: But thinking in terms of my analogy of this room is the world, it's you, me, Danny, Jeremy and Joe; we have $100 each; but we also have our own little central bank of gold, and say we have 5 ounces of gold and the convertibility is $100 for gold.  So, whatever happens, as long as we're spending with each other and you're receiving your dollars and I'm receiving mine, at any point if we want to go and get our gold, we can, and that is a perfectly contained system that can't break.

But at the point we digitise our money and I turn round to you, Nik, and I say, "I want to buy that stuff off you, I'll owe you later", I've created that credit.  Now, that credit allows me to go and make a claim on that gold, and at some point that gold will run out.  And even though you've got $100, you can't go and claim it.  So essentially, that's what we've done on a global scale.

Nik Bhatia: That's right, and that's why that situation ended in 1971.  It was an archaic system.  It was a sound system in theory, but it broke, and this idea of sound money, and I want to talk to you about this a little bit today, in terms of the Fed having its response the way that it has this year with hiking rates; but this idea of sound money is an old concept that people are grasping onto today, because they realise that this layered money system has nothing at the top that is physical.

Peter McCormack: It was even raised by the opposition leader in the UK, Kier Starmer, leader of the Labour Party.  They have these party political conferences, I can't remember what they call them, but Labour had their big conference and one of the things he wanted to do, a long list of things, he also talked about making money sound again.  Can you find that, Danny?

Danny Knowles: Yeah, I'll have a look.

Peter McCormack: See if you can find the reference to it.  I thought that was like -- listen; this is the FT, "Labour stands for sound money, Starmer to tell party conference".  Without even reading this, my assumption is he's going to talk about the quality of money and the responsibility of money, but he's not going to talk about money as sound in the way that you're going to talk about it being sound.  But I'm just going to have a read of this.

"Labour leader, Sir Keir Starmer, will use his conference speech on Tuesday to tell British voters he stands for 'sound money'", didn't say Bitcoin, "as he seeks to take the mantle…", etc.  "He will criticise Kwasi Kwarteng's tax-cutting, high-borrowing mini-budget, which rattled markets and sent sterling to historic lows.  The plan is to set out a range of tax cuts…", etc.  "'We've seen the government in the past few days has no precedent, they've lost control of the British economy'".

I mean, without even reading the rest, my assumption is, by talking about sound money, he's talking about responsible economic policy, he's not talking about sound money.

Nik Bhatia: Yes.  And that's also what I meant by the Fed, is that sound money for the Fed doesn't mean going back to buying gold and increasing the reserve requirements and all that kind of stuff with gold at the bottom; but what central banks are talking about now, or even governments, for sound money is a situation where the fiscal picture is cleaner than in previous years, because how does a government operate?  It has tax revenue and then it has a spend.  So, the difference is either its deficit or its surplus.

Peter McCormack: Surplus?  What is that?!  What is a surplus?  Can you go and look and find out when we last had a surplus?

Danny Knowles: Yeah.

Nik Bhatia: The Clinton White House.

Peter McCormack: Oh, really?  Interesting.  Is that why Clinton was so confident to repeal Glass-Steagall and open up lending?

Nik Bhatia: No.

Peter McCormack: It wasn't?

Nik Bhatia: No.  Glass-Steagall being dismantled was the investment banks wanting to get more involved.  And their lobbyists and Larry Jeffrey Epstein Summers and people like that got involved and said, "This is what we need for growth in the financial sector".

Peter McCormack: But also, tied to that, didn't they change the borrowing rates and the requirements for lending to people to be able to get mortgages?  I thought that was linked.  Maybe I'm wrong, but I thought that was linked.

Nik Bhatia: Yeah, but it has nothing to do with the fiscal surplus.

Peter McCormack: Okay, but I didn't know if it was a time where you feel like there's an economic boom, this is a Democratic Party, let's get more people into housing; the idea was to open up housing to those on lower incomes.  I didn't know if my assumption is that in a time of boom and surplus, "Let's try and get people into houses"?

Nik Bhatia: Yeah, so a pro-housing US Congress and executive branch has gone across the aisle both sides and has been there for many years, really since the beginning of Fannie Mae and Freddie Mac, when single-family home ownership became a nationwide policy and goal of both parties.  So, that led to Fannie and Freddie, and that's why Fannie and Freddie, even post-2008, when they went essentially bankrupt and went into conservatorship, that's why we don't see either party trying to make that many changes to the agency, and by agency I mean Fannie Mae and Freddie Mac, these agency lenders and their place and their special role in the government, because it's really a bipartisan effort to try to get people into homes.  It's like a pro-American dream sort of effort.

So, back to the sound money, with the Fed raising rates to 4% from 0% this year is their effort to do sound money, because it is rewarding savers, let's say, instead of promoting borrowing and speculation.  So, it's their effort to get a more sound currency, and one that people doubt a lot less --

Peter McCormack: "Doubt a lot less"!

Nik Bhatia: -- because from 2009 to 2021, the Fed printed $8 trillion.  And by print, I mean they created $8 trillion in bank reserves, and those bank reserves went out and purchased US Treasuries and mortgages, it brought borrowing costs down on net for homebuyers, and it had stimulative effect, at least in the confidence of the economy, consumer behaviour.  Consumers actually go out and spend when they see QE, because of confidence; they think, "Oh, things are going to get better.  I'll go out and spend".  There's this portfolio effect that banks take the cash that they now have which used to be for Treasuries, and then they'll go buy stocks with it.  That will send stock prices up, people will feel wealthier and they'll go and buy money.

All of that monetary profligacy over the last ten years put the Fed's reputation on watch.  Everybody and their mother knows about the Fed and its willingness to just do QE infinity.  And so, in a post-pandemic world, where they got caught basically without a plan, now they have to preserve their reputation.  And I do believe that at the margin, there is a small component there that I think Bitcoin has contributed to this.  The Fed looked at the Bitcoin price at $70,000 late last year and they're like, "We're losing to Bitcoin.  How can this be?  Let's raise rates to 4% and crush that thing, and let's get some of the sound money narrative back towards us, away from Bitcoin".

Peter McCormack: Really though?  Really, they saw Bitcoin at $70,000 and thought, "Let's raise the rates and crush it"; or really, was it inflation was running wild?

Nik Bhatia: So, inflation running wild is the mandate, and so that's what they have to say in the media.  But if you read what the Fed is talking about with asset prices, they're actually trying to drive stocks down.

Peter McCormack: General asset prices, Bitcoin alongside other asset prices?

Nik Bhatia: But to think that the Fed is not looking at Bitcoin and --

Peter McCormack: Oh, no, I agree.

Nik Bhatia: Okay.  So, I'm not saying it's the main driver, but they have to be looking at Bitcoin as a judgement on themselves.  And so, they see $70,000 Bitcoin, above $1 trillion in market cap, and all of a sudden the narrative that Bitcoin is going to replace the dollar starts to gain steam.  You're in a post-pandemic bailout, QE infinity, the dollar is collapsing, it's the death of the dollar, let's buy Bitcoin, the Fed is like, "No, it's not the death of the dollar.  Watch us".

So, I'm not saying that Bitcoin is even the main driver, or one of the biggest drivers of the higher interest rate policy --

Peter McCormack: But part of it, yeah.

Nik Bhatia: -- but it does contribute to their desire to protect their reputation.

Peter McCormack: Okay, fine, and interest rates have gone up in the UK as well.  And two things I saw today are house prices have dropped for, I think, the second or third month in a row; and also, consumer spending at retail, retail spending, is its lowest since the pandemic.  And there could be a wide range of reasons for this, there is inflation and such.  But usually when this happens, they reduce interest rates and print more money. 

So, would you say that the Bank of England, the Fed, are finally allowing a contraction to happen?  They haven't allowed it previously, they've kicked the can down the road; gone are the times of surpluses and deficits, it's stimulate, stimulate, stimulate until the point where they can't stimulate anymore.  Do you believe they're going to allow a full contraction; or, do you believe this is temporary and they're going to start printing again?

Nik Bhatia: That is the $83 trillion question that you're asking!

Peter McCormack: 2.1 quadrillion sats question!  Is it quadrillion?  Well, it's actually slightly under 2.1 quadrillion.

Nik Bhatia: It is.  And the answer to your question is a tough one, but they have stated that they are rooting for the contraction.  It's not just like they're allowing the contraction to happen for the first time since 2009, they are actually rooting for it this time, because of how high inflation has reached.  So, if you read what the Fed is saying, they're talking about, "We're actually hoping to see a higher unemployment number, because that will bring down wages, which will bring down inflation". 

So, they're using their central bank 101 right now, which is if inflation is high, raise rates, slow the economy, bring inflation down.  And when the economy is down, the central banking 101 is to lower rates to bring demand back up.  So, they are using their usual playbook, or the textbook, which is that if inflation is high, raise rates and slow the economy, but they're doing it in a way right now that again, it's all about their reputation.

Peter McCormack: Reputation with who?

Nik Bhatia: The public.  Because, if the Fed caves, okay, let's say we have -- you're right, we've had now two consecutive monthly declines in US home prices, or I think one or two; one was zero, and we've actually seen a nationwide month-over-month decline in home prices.  That means the economy is slowing, higher interest rates have had an effect.  But if we get a few more negative home price months, or we get an increase in firing, or we get a slowdown in economic activity, but inflation is still high, per the Fed's own rhetoric, they will keep hiking because it's not enough, it wasn't enough.

That's where I think the reputation comes in, is that the only thing they care about right now is the public's perception of 8% CPI, so they'll do anything that they can to get it down.

Peter McCormack: But if they crash the housing market and crash the economy…?

Nik Bhatia: They won't be able to crash the housing market and the economy fully, and the reason is because the reason that the Fed will have to stop hiking rates is not the economy.  It is internal financial plumbing and other financial metrics that will, if those break, cause depression-like situations in the economy.  So, those are things like money market rates or corporate borrowing, or what's going on in Europe, let's say dollar funding in Europe, which is European banks trying to borrow dollars.  They're not able to get them, so they're having to pay up.  Emerging markets starting to break. 

Those are the types of things that send the financial system into like a free state, where banks stop answering the phone when another bank calls them.  That's what's going to get the Fed to stop hiking rates, and that will be a tap on the shoulder, not a recession headline in the Wall Street Journal, or housing price crash on CNBC.  It's going to be something way more nuanced.  It's going to be tough to predict, I think something to do with Europe.

Peter McCormack: Yeah, who bought that up previously?  Somebody said that the US will have to protect Europe from crashing.

Nik Bhatia: That's correct, I agree with that fully.

Peter McCormack: Who was it who said that?

Danny Knowles: I can't remember.

Peter McCormack: It might even have been Jeff.

Danny Knowles: So, is what you're saying there kind of what happened, in a very small scale, in the UK two weeks ago, whenever it was?

Nik Bhatia: So in the UK, like I was saying, it's hard to predict.  I think that's the takeaway from what happened in the UK.  You have pension funds that have all these UK Government bonds.  They're not supposed to care about mark-to-market losses, because the liabilities are 30 to 50 years.  But they didn't only have bonds, they had derivatives.  And the derivatives, if they go down in price, remember no money exchanged place on day one on that derivative.  The bonds that they purchased, they had to wire that money.  You don't have that money, you just have that bond, you have custody of the bond.

Peter McCormack: Hold on, is this why historically, pension funds usually have quite strict rules on what they can put money into?

Nik Bhatia: Yes.

Peter McCormack: And is this a relaxing of the rules that's happened in the UK specifically?

Nik Bhatia: I don't know the rules in the UK that allow this, but I do know that pension and life insurance funds in the United States are heavy participants in the interest rate swap market, which is the derivatives market; it's the synthetic bond market.  So, US pension funds are in the synthetic bond market, UK Pension Funds are in the synthetic UK bond market; and synthetic, I mean by interest rate swaps, that's a derivative.  If you're long on interest rate swaps, it means you're receiving a fixed coupon just like in a bond.

Now, the difference is that you have to pay a floating coupon, which is the pretend borrow.  The analogy is with repo.  If I have a US Treasury security, or let's say I want to buy a US Treasury security, but I don't have any money and I'm a bank, I can buy that security and finance the trade at the same time, and basically only have to spend 2% of the bond.  But I don't get the full coupon.  Let's say the coupon is 3% --

Peter McCormack: Sorry, for people listening, because Greg talks about coupons, but help them understand what a coupon means in this scenario, because for us, a coupon is 20p off that you've cut out of the paper!

Nik Bhatia: Sure.  So, a coupon bond is a fixed income instrument, let's call it a ten-year bond with a 3% coupon.  Now, in the US, the coupons are paid semi-annually, which means that every six months, I will get $1.50 on my $100 for the next ten years, so 20 payment periods.  I will get $1.50, $1.50, $1.50 and at the last payment period, I'll get $100 plus $1.50.

Peter McCormack: It was one of the weirdest things to get my head around, when I first started to understand or talk about bonds, or ask people questions about bonds on the show, is that idea that as the yield goes up, that is a sign of a weakening currency.  It was a weird thing, it was, "But I'm getting more money".

Nik Bhatia: You're not, because you purchased the bond at 3% coupon.  The next guy gets to purchase it at 4%.  So, your 3% coupon is worth less than his 4%, because he gets $2 every six months; you only get $1.50.  So, when rates went up from 3% to 4%, you lost money on your bond.

Back to coupon bonds, that's what a coupon is; it's the payment that comes in.  Now, if I spend $100 on a bond, I'm going to get that coupon every six months for the next ten years, and then get my $100 back at the end.  But if I'm in a synthetic bond position, do I just get the coupon for free?  No, I have to pay a borrow rate as if I'm pretending to finance the bond. 

So, back to the coupon bond analogy, if I want to buy a $100 bond for 3% coupon, but I don't have $100 and I'm a bank, I can say, "Hey, I'm going to buy this Treasury from you, but you finance it, you give me $98 to finance it.  I'll give you $2 today out of my pocket.  I'll get the 3% coupon, $1.50 every six months, but now I'll also have to pay you 2% interest rate on that $98 I've borrowed.  So, you have a positive carry and a negative carry.  You have the 3% coupon, you'll have to pay 2% every year for the borrow; we call that the borrow.  That's repo, that's what repo is; it's the borrow on the coupon security that you've purchased.  So, your net yield is only 1% instead of 3%, but you didn't spend any money to do it.

Now, an interest rate swap is the same thing.  You are receiving a fixed coupon and you're playing a floating coupon that changes with LIBOR over time.  And you don't actually care what the difference is between the rates, because you are buying that synthetic bond to get exposure to interest movements and interest rates; like if rates go from 3% to 2%, you'd better own some bonds today, because if they go down to 2%, you wouldn't have made that money.  And if you have to buy bonds next year at 2%, you just gave up 1% yield for the next 30 to 50 years.  A lot of these interest rate swaps are done with a 30- to 50-year tenor.

Peter McCormack: Wow, okay.

Nik Bhatia: Now, let's go back to the UK.  The UK pension plans own UK government bonds; they've paid for them in full.  They also own synthetic bonds, interest rate swaps; they haven't paid for those.  So, when the price goes down, when rates go up, the price of those contracts goes down, what happens?  Barclays calls the pension fund and says, "You owe me $1 billion".

Peter McCormack: And this is why it ground to a halt, and there was a risk of the funds collapsing.

Nik Bhatia: So how did the UK pension, on day one, how did they pay for that?  They sold the bonds, because they'd paid for those bonds.  So, if you've paid $100 for that bond, you sell that bond, you have $100.

Danny Knowles: So, did they sell them, or did they use them as collateral?

Nik Bhatia: They probably sold them, because that's why the rates were going up.  They were selling, they were dumping them.

Peter McCormack: Yeah, there was a dump on the market.

Nik Bhatia: There was a dump, and that sent interest rates up.  But you see, they were dumping the bonds themselves, because their synthetic bonds were being margin called; that's the downward spiral.

Peter McCormack: And that's why the government stepped in and said, "We will buy them".

Nik Bhatia: "We will buy the bonds so that the price doesn't fall".  And then the synthetic bonds, the interest rate swaps, they're not necessarily pegged to the government bonds, there is a basis, meaning there's a little difference in yield, and that little difference in yield does change with little fundamentals in the market.  But all in all, they are mostly linked to the government bond yields. 

So, the derivatives contracts will go back up in price when the Bank of England says, "Okay, we're going to purchase the government bonds".  Now, we saw yields and gilts go from 5% down to 3.5% and if you can spot-check it, they're already back up above 4% and rising.  So, their little intervention has been very short-lived.  We see that all across central bank interventions.  Interventions are very short-lived, it might require more, I don't have any explicit predictions on what's going to happen in the UK Government bond market, but 30-year gilts are now --

Danny Knowles: Back above 4%.

Nik Bhatia: -- 4.37%.  So, they're up 60 basis points from the post-intervention lows on the yield.

Peter McCormack: But does this introduce a new risk into the market, that if you know the government is going to step in, that you can essentially go and take war risk?

Nik Bhatia: Yes, and that is the dynamic that we're in.

Peter McCormack: Nik, do you know what this is like?  This is like parenting.  My son always knew I'd bail him out.  Honestly, he's a wonderful boy.  Financially, he's always been a little bit irresponsible.  He knows I will always bail him out, and have done.  It hasn't been the best parenting; I've tried to teach him, it just hasn't worked.  He's now away at university and he has a budget, and he has to manage that budget.  So, what I'm doing is, I'm reducing his budget each month to a point where he's going to get to a fixed budget, a lower fixed budget.  I'm having to wean him off that --

Danny Knowles: Cheap credit!

Peter McCormack: Yeah!  We're in an era of cheap credit that's inflated everything we're buying, but yeah, I'm having to wean him off the Dad Bank of cheap credit.

Nik Bhatia: In the banking world, this is called moral hazard.  Again, we haven't heard the phrase "moral hazard" in the financial media in a few years, because the bailouts have faded, we're now 14 years removed from the 2008 bailouts, we're now about 2 years removed from QE infinity in the pandemic; this moral hazard that we're talking about is banks taking undue risks because of the guarantee of central bank bailout, or because of the assumption of central bank bailout.

Peter McCormack: It's like with the FDIC.  The FDIC, I know what it was brought in for, but that allows lenders to take more risk, because they know the FDIC will always step in.

Nik Bhatia: That is true, but the banks pay into the insurance fund for FDIC. 

Peter McCormack: Oh, it is?  I didn't know that.

Nik Bhatia: The cost is on the banks to fund the insurance.

Peter McCormack: Right, that's never been explained to me.

Nik Bhatia: So, the FDIC, I think it was more of a public initiative.

Peter McCormack: Socialising the losses.

Nik Bhatia: It does socialise the losses, but what it does is if we bring back layered money, it allows the populace to look at their third-layer money as first-layer money.

Peter McCormack: Okay, I see.

Nik Bhatia: And it gives them the confidence that the banking system is something that will serve them; it's not something that is going to disappear for them.

Peter McCormack: Do you need another beer, by the way?

Nik Bhatia: Sure, absolutely, let's do it.

Peter McCormack: All right.  I'm not drinking yet, because I've got three interviews to do!

Nik Bhatia: Well, you had Mexican beer from me, which is the appropriate beer to have for a Californian, so I couldn't say no!  That's basically what happened.  If you had some European beer, I don't know if I would be as quick to hop in there.

Peter McCormack: If I could have got you a European beer, I would have got you a Leffe, but you could only have probably survived a couple.

Nik Bhatia: Thanks, guys.

Peter McCormack: Have you ever had a Leffe session?  So, I got tricked on that when I was about 22.  My old boss took me to a bar and he was like, "Do you want a beer?"  I was like, "Yeah", but it was an ale pub.  He was like, "You should try Leffe".  I had five of them, but they only give you a half, they're small --

Danny Knowles: But it's like 8% or something.

Peter McCormack: Yeah, I couldn't walk.  It's good beer though, tastes good.  Okay, cool.  Have we got something to finish on there, because I've got another question on that.

Danny Knowles: I've got a question on that as well.

Peter McCormack: Oh, go on, you go, Danny.

Danny Knowles: My question is, is this an area where you would disagree with Jeff, because he thinks that since 2008, the banks have not been taking anywhere near enough risk, I think; I think that's his stance?

Nik Bhatia: I do agree with that to some degree.  Banks, especially in the US, are in a much better place than they were, and that is thanks to their own risk management, as well as certain laws that have changed, as well as certain market dynamics; so, one of them being the clearance of interest rate swaps, instead of interest rate swaps being bilateral agreements.  What that means is that all these synthetic bonds that exist in the world, notionally to the tune of several hundred trillion dollars, yeah, several hundred trillion dollars; the amount of notional interest rate swaps had surpassed $1 quadrillion in the pre-2009 era. 

So, all of these synthetic bonds with all of these margin calls going back and forth every day are now netted and centralised, in terms of the risk, with a clearing house, so the CME; or in Europe, there's the ICE or the LCH, Lending Clearing House, LCH.  The risk now of all these synthetic bonds and the margin calls is centralised.  So, there's now a ton of risk at the clearing houses, CME and LCH, as well as ICE, which is the Intercontinental Exchange.  So, we have these three clearing houses where there's a ton of risk, but that also means that the risk is no longer on the bank's balance sheet.

So, when some synthetic bondholder, let's say the pension fund, when they get margin called and let's say the BOE didn't step in, and they get margin called by Barclays, if they don't pay their margin call, Barclays isn't going to go bankrupt, because the money is at the clearing house; the risk is there.  And everyone pays into that fund also.  Every clearing broker pays into the Chicago Mercantile Exchange, the London Clearing House, they pay into these insurance funds to protect margin calls.

So, let's say the BOE didn't step in last week and let's also say that Barclays had the margin call risk on their book; if the UK Pension Fund doesn't pay Barclays their margin call, Barclays then could default to another bank, daisy-chain financial collapse.  Totally possible.  But in a post-interest rate swap cleared world, that's not as possible.

So, we are not in the same place as we are in 2008, from the financial system perspective.  Now, I can't be the one that says, "The system is great, it's functioning great, there's no collapse ahead", I refuse to be that guy.  My job is to try to find problems in the system and identify them, but I can tell you from experience that one of the main problems in the system, which was bilateral interest rate swaps, bilateral meaning non-cleared, naked exposure from one party to the next, is not in the system anymore.  And remember, that number had reached $1 quadrillion in notional, which is like $10 trillion in market value.

Danny Knowles: I don't really know how you think of a number like that.

Nik Bhatia: I don't love the notional one, because it's super-dramatic, and it's a very fatalistic way to talk about things.  $1 quadrillion in derivatives, well no, but it still was $10 trillion market value in derivatives; that's a lot of money.  If that blows up, the whole system blows up easily.  So, they have fixed some things that protect against interbank collapse.  But that doesn't mean everything is fixed, and there are different money market metrics that we use to try to see if there's funding stress in interbank relationships, one of them being LIBOR.

Peter McCormack: So, where do you disagree with Jeff?  Obviously on Bitcoin, we'll come to that.

Nik Bhatia: Yeah.  I disagree with Jeff I think most specifically on his idea that the Fed is not a central bank.  So, he said, "The Fed is not a central bank, it doesn't really know what money is and it can't really affect the economy".  I take some issue with that, because let's talk about the two things that the Fed can do: they can ease or they can tighten.  Why do they ease?  Because the economy is slowing.  Why do they tighten?  Because inflation is hot.  So, we don't have a ton of evidence over the last 15 years of what the Fed does when inflation is really hot, we only have about one year of data, which is the last year.  And what do we know?  They're raising rates to bring it down.

So, let's talk about the easing first.  This is where I would agree with him, that the Fed is not able to stimulate the economy because of the eurodollar system; so, let's describe where he's accurate.  When the Fed lowered rates to zero, it saw that it wasn't able to boost demand.  So, it did another easing measure, which was QE, and they saw that it didn't really boost demand, inflation was sticky.  You guys had that chart up; inflation was very low for that whole period.  So, what is that called?  That's called "a liquidity trap".  When the economy is so slow that even rates down to zero don't boost it, there's nothing else you can do.  The Fed wasn't going to send rates to -2%.

Peter McCormack: They were out of bullets.

Nik Bhatia: They were out of bullets.  And, why was the economy still slow; why was inflation still slow, even though the Fed was easing?  Not because they're not a central bank per se, but because the contraction in eurodollar credit, meaning the willingness of Barclays, SocGen, BNP Paribas, Banco Santander, their willingness to issue dollar loans was not there.  So, the aggregate demand of the world slowed due to the contraction of the eurodollar credit system.  And the Fed, lowering rates to zero and doing QE, which is just creating bank reserves, didn't do anything to stimulate aggregate demand.  I agree, the Fed was not a central bank that could really control money in that situation.

But what's happening with hot inflation?  I know the interview was a couple of months ago and inflation was getting there, the Fed wasn't super-aggressive at that point, but look at what the Fed has done.

Peter McCormack: Well, shall we remind ourselves of what Jeff said, because I do remember this bit.  He said, "The expansion of money doesn't drive inflation".  He showed us two periods of inflation, high inflation.  Correct me if I'm wrong here, but it was post-World War II and then post-COVID.  He said, "These periods are periods of an intense increase in demand for products, services, etc, and that's what drives up, not expansion of money".

Nik Bhatia: It was actually supply shocks --

Peter McCormack: Yeah, supply shocks, not monetary expansion.

Nik Bhatia: -- and I do agree with that. 

Peter McCormack: Okay.

Nik Bhatia: So, I don't have the word "transitory" on my hat and walk around with it, because I think that was a little arrogant of the Fed to claim that it was transitory.

Peter McCormack: Well, arrogant, or to soften the blow?!

Nik Bhatia: Well, let's just say that they didn't see this coming, because it wasn't in their models.  Inflation runs hot from the demand side when you have more demand than supply.  That means the economy is doing really well and there's not enough supply to satisfy the demand, and so prices have to go up.  That is not what happened, that's why the Fed wasn't able to forecast the inflation.  The inflation, in my opinion, was mostly due to the supply shocks to the economy, same thing in the 1940s, where you have a post-World War II and supply chains have shut down and have to be reorganised, so you have to ratchet up prices and let everything sort itself out. 

But again, to slightly disagree with Snider, are you really going to say that the stimulus, both fiscal and monetary at the same time, didn't contribute?  It had to have contributed, especially because it wasn't just QE like Lyn talked about; it's QE plus the cheques that went out.  That is real money in people's pockets, it does boost aggregate demand, and it should drive prices up.  So, it's not just a supply shock.

Peter McCormack: It's a complicated picture.

Nik Bhatia: It is a complicated picture, it's not just a supply shock.  But the supply shock is, to me, the main driver.  It should fade and it is fading slowly, but it should fade, meaning the inflation should fade over the coming year-plus and come back down.  But are we going to go back to this 2% inflation or even lower, due to a contracting eurodollar system and lack of confidence in the bank or lack of lending, lack of willingness to lend?  Way too early to say that, because in a post-pandemic world, supply chains have been completely reorgd and trade relationships have been reorgd.

So, over the next couple of years, we'll get to see where does inflation come back down.  But I do agree with Jeff that there is no runaway inflation, this is not driven by QE and fiscal stimulus by itself, and that inflation will come back down.  I just have a big problem with this hyperinflation narrative, or runaway inflation; I think it's nonsense.  If you look at the data and you look at the QE during the 2010s with no inflation, it's really hard to say that QE is the driver of inflation.

Peter McCormack: All right, as a bitcoiner, I am not a big fan of Stephanie Kelton.  But is there some truth to what she says, in that expanding the money supply, increasing the money supply, is okay as long as you can keep inflation under control; and where other people are perhaps wrong is where they think that this kind of monetary expansion is the cause and can lead to runaway inflation?

Nik Bhatia: The problem with the Kelton and MMT thesis is that it chooses to ignore maths; I have a big problem with that.  Even if you want to say, which okay, if you say that QE doesn't cause inflation and that high deficits also don't cause inflation, you can look at empirical data and say, "Okay, during this period that is the truth".

Peter McCormack: But what I would say is, she would say there's an acceptable level of inflation.  Now, Avik Roy would completely disagree, and if anyone hasn't listened to the show we made with him, they should, because we talked to him and he talked about widening the wealth gap.  And he said that even at 2% inflation, that has a catastrophic effect, compounding effect, on the poorest in society.

I think that what she's saying is that you can use QE to stimulate the economy, to put cheques in people's hands during times of economic crisis, as long as you keep inflation under control.  I don't think she's saying it doesn't cause inflation.

Nik Bhatia: Sure.  So again, the problem with it is that what you're doing is you're setting up this winners and losers system, and she's trying to say that there are no losers --

Peter McCormack: That's the point.

Nik Bhatia: -- and I really don't agree with that.  It also comes down to central planning.  A lot of bitcoiners hate central planning and they want a world with no central planning, but is that a likely outcome for our governments over the next 10, 20 years, that they're going to give up central planning?

Peter McCormack: They're not going to give it up, it might be taken from them, but no, they're not going to give it up.

Nik Bhatia: But how would it be taken from them? 

Peter McCormack: I mean, look, I'd have to sit and map out the scenario where…  So, the amount of times I use Bitcoin right now for my transactions is more than it was a year ago, and that was more than a year before.  And my experience of going to El Salvador, when I went to Zonte, and it was my fourth time I went there; I didn't actually go with any dollars and I didn't need them, because everywhere accepted Bitcoin.  And yes, it was an experiment and a bit of fun to constantly pay in Bitcoin, but at the same time, I didn't need any dollars.

There will come a time where I can perhaps completely exit from the traditional fiat world system, because Bitcoin is so ubiquitous that I could just use it.  So, I see a scenario where over time, it can cause an erosion.  Do I think it will happen?  No, but I can see a scenario where it does.

Nik Bhatia: I mean, I agree with you in that there is an erosion, but it's so marginal that it doesn't have a material effect on the dollar or the US Government's goal of central planning.  Just the way that politics have evolved to where they are, there will always be central planning.

Peter McCormack: But maybe it will change.  Maybe in a scenario whereby we have reached this layered money world which is built on Bitcoin, they act more like companies, because -- I talk about this all the time, Nik.  If I want to take a loan, I have to pay it back.  My company wants to take a loan, I have to pay it back.  The government doesn't have to do that, they can take out loans and they don't have to pay it back.  But in a bitcoinised world, they can't do that.  The money they spend on their centrally planned projects will have to come from taxation; it can't come from deficit spending, because they won't be able to deficit spend. 

Then I think what it becomes is more like parties become more like companies and you have a choice of who, which company you want to live under.  It took me a long time to get to that.  It's a thesis that might completely not play out, but I see it.

Nik Bhatia: Yeah, and I don't think that fractional-reserve banking is going anywhere, because it's too easy for the government to finance itself without a sound money standard, or having to collect all the tax revenue; it's too easy for them to politically do it.  That's why I view that that situation will continue, and that Bitcoin and Bitcoin's price will continue to be a check on that system.  So, when it rises too much, the central banks have to fight back, and that is my thesis.

Okay, sitting here and claiming that Jay Powell saw $70,000 in November 2021 and said, "I have to hike rates", it's a little bit of hyperbole; but my point here is that they have to respond to what they're seeing.  So, if they see their reputation crumbling, they have to fight to protect it.  It doesn't mean going to a non-fractional-reserve system, it could just mean increasing reserve requirements, increasing real interest rates and proving that they're here to not just be easy monetary policy, but they could actually do tight monetary policy.

What is it doing to the dollar?  The dollar is at multi-decade highs, absolutely raging versus every other currency, so what death of the dollar?  It's the most ridiculous claim that I hear, is that we're in for the death of the dollar.  Versus what?

Peter McCormack: That's fair.

Nik Bhatia: What death of the dollar?  The dollar is at 20-year highs versus every other currency.  Gold isn't even close to its all-time high, which is supposed to be a check on the dollar, and Bitcoin is really the only thing that if you take it back over a long enough time horizon, that it's actually outperforming the dollar.  But over the last five years, Bitcoin is actually flat versus the dollar.

Peter McCormack: Five years?

Nik Bhatia: 2017 peak, that was $20,000.  We're at $20,000 today, so if Bitcoin is at $20,000 in December of this year, it will be flat for five years.

Peter McCormack: Fair, yeah.

Nik Bhatia: What death of the dollar?  And I'm not this pro-dollar, anti-Bitcoin guy.

Peter McCormack: No, you're being a realist.  Yeah, I get it.

Nik Bhatia: It's a realism and you also look at the percentage of global trade denominated in dollars.  Santiago Capital on Twitter, you guys check him out, he has the Dollar Milkshake Theory; it's also called the Dollar Wrecking Ball Theory.  This is the correct theory.  The dollar should be knocking off every other currency.  Why?  Layered money.  It's the top of the stack.  Every other fiat currency is a shitcoin versus the dollar. 

I mean, the US has its property law, tax revenue and its 300 million citizens as collateral against its debt and its currency; it's theoretical, but it's there.  What does the rest of the world have?  Jack shit.  I mean, they have some oil; there are natural resources around the world; there's some intellectual property; but where does all the capital innovation go?  It goes to the United States.  It has, and it will continue to.  That will support the dollar versus other currencies, as people have demand for dollar-denominated assets; they have demand for property that is protected by US property law, and the court system in the United States is still the strongest in the world.

My pro-US stance is a relative stance versus property law across the world.

Peter McCormack: Okay, fair.

Nik Bhatia: And that dynamic, the difference, the delta between the property law in the United States and the willingness to let entrepreneurs to be entrepreneurs, which isn't legislated per se, it's more in the culture of the country, but it's legislated in a way that means that not everything is legislated.  We will choose to have laws that are either vague or not there or only state level, so that you guys can do whatever you want.

Peter McCormack: Pro-innovation.

Nik Bhatia: Pro-innovation.  All of those things spell a very strong future for the dollar relative to other currencies.  Now, Bitcoin will be a referendum on the dollar over a long time, but look at the last five years; Bitcoin is flat.

Peter McCormack: Yeah, I mean look, yes it is flat.  I still think we're very early in Bitcoin.

Nik Bhatia: I do too, I'm not bearish Bitcoin.

Peter McCormack: I know.  And point to point, we've gone from $20,000 to $20,000.  But really, we've gone from a spike up to $20,000 in a very short period of time to a stabilisation around $20,000.   So to me, they're two very different $20,000s.  And if you want to say 2017 to 2022, you want to go five years, well we're in, where are we now, October?  The run-up was November, maybe it's $60,000, maybe it's $50,000.  So, you can pick point to point and choose your period of time, but --

Nik Bhatia: Yes, and the 200-week moving average of Bitcoin has never decreased.  Week-over-week it's going up consistently.  It's above $20,000.  At The Bitcoin Layer, we have our TBL Fair Valuation Framework, we have different components to this confluence price that we believe is Bitcoin's fair value.  It takes into account 200-week moving average, which is up a lot since 2017.  It takes into account the realised price, which is an on-chain metric used to estimate cost basis of long positions.  We also use the input costs, so we use the data from Riot, and we look at their cost for miners, electricity, etc, and what it costs to produce Bitcoin.

Peter McCormack: So, what is a fair price?

Nik Bhatia: So, right now, it's about $20,000, $22,000, in terms of a fair price.  And when we see historically Bitcoin below a ratio of 1 on this fair-value ratio that we have at The Bitcoin Layer --

Peter McCormack: Do you buy the shit out of it?

Nik Bhatia: It's a buy, it's a long.  So, I'm very bullish on Bitcoin over really any time horizon.  I don't think that Bitcoin is going much lower, and I think it's going much higher.  But I'm presenting some counterfactuals about the death of the dollar.

Peter McCormack: Yeah, I get it.

Nik Bhatia: So, I completely agree with you that today's $20,000 is different than 2017's, also just the adoption levels are higher, Bitcoin as a Network is much more robust, it has Lightning Network now; there are a lot of properties that make Bitcoin really future-built and future-proofed, and that's why you want to be in that position.  But talking about the death of the dollar being the reason to buy Bitcoin, it's a little off to me.

Peter McCormack: Danny's deeper into the money side than me, but it gives the show another dynamic, another personality.

Nik Bhatia: It does.

Peter McCormack: It makes it feel better.  You're a foil!

Nik Bhatia: Your voice comes across great.  I was telling Danny that --

Peter McCormack: Danny's got a fan as well.

Danny Knowles: We have one fan.

Peter McCormack: He's got an actual fan, yeah!

Nik Bhatia: He's got two fans.

Peter McCormack: But like a real fan, like a slightly -- are we recording this?

Nik Bhatia: Is it a female?

Peter McCormack: No, it's a dude.  But he loves Danny.  Every video --

Danny Knowles: And I love Derek, Derek S!

Peter McCormack: Every episode we put out on YouTube, Derek comes on and leaves a comment.  But they're super-funny.  What's the kind of shit he says?

Danny Knowles: They're so funny, he must do a lot of acid or something!  They started off so bizarre, but he always compares me to somebody, doesn't he?  He made one comment about how I've got no hair and he's like, "Danny's better than Lex Luther!" or something.

Peter McCormack: Yeah, but it's almost like he's on acid and he talks about, "Danny's come from the future, intergalactic future", or some weird shit.  Shall we make his day, Danny?

Danny Knowles: I fucking love Derek S, I love you, Derek S!

Peter McCormack: Wave to Derek.  We should get you a T-shirt, "I love Derek!"  Yeah, Danny's brilliant, Danny's been a great addition to the show.  I love having him here as part of it.  He basically runs it.  The show is Danny.

Nik Bhatia: I know, I've been a guest many times!

Peter McCormack: If I was to walk out of here and get hit by a bus or have a heart attack or something that would take me from this planet, the show would continue with Danny.

Nik Bhatia: Half the Americans wouldn't even notice!

Peter McCormack: Only the ones listening.  It would be an infinitely better show probably.  He's more handsome, he's taller, he's basically carrying me, to be honest.  All right, so, God, we've done two hours already.  Okay, a couple more things I wanted to get into with you.  I want to get into the Bitcoin side of things.

Jeff says he doesn't believe in Bitcoin, but then when he describes perfect money, he describes Bitcoin.  He says, "The best form of money should be stable, predictable, transparent.  We all know the rules; no information asymmetries".  So, if anyone said that, you would say, "You're describing Bitcoin".  But then he says, "The problem with Bitcoin is it's inelastic", and that's his issue with it. 

But then he says, "We should have two forms of money, which is one's a store of value and one's a medium of exchange", and I kind of agree with him in that aspect, but we have that now anyway, we have our store of value in Bitcoin, or even houses or stocks if you want them, and we have the dollar.

So, I don't understand what the hurdle is that he can't get over.  Do you?  Do you have a thesis on it?

Nik Bhatia: A little bit.  So, one component here is that the stable value, or stability of the system, so Bitcoin is an incredibly stable system within itself; but when you try to use it as currency in a cross-border situation, every economic actor has input costs and those input costs might go across varying currencies.  So, when you think about Bitcoin as a stability instrument in an environment which you have to do a lot of forex transactions, then it loses that stability.  And unless you have a proper hedge at every point of exchange, you are now exposed to the price volatility of Bitcoin relative to what your suppliers will accept as currency.

So, from that perspective, Bitcoin is not ready to step in as the global currency.

Peter McCormack: That's the word though, "not ready".

Nik Bhatia: Right, not ready.  If Bitcoin's exchange rate stabilises versus other currencies, or just the simple evolution of Bitcoin being adopted so that the supplier will accept Bitcoin instead of having to swap it into euro or whatever, that can lead to a system in which Bitcoin is used more, and I think that's what you were talking about with going to El Zonte and using Bitcoin around the world.  We're not there yet, not even really close, but I think that's one of the hurdles that he sees.

Peter McCormack: It's a pocket that exists that didn't before.  I also have some of my invoices, I have got two sponsors that pay in Bitcoin.  Because of my business margins, I can afford to keep that in Bitcoin and I do.  And so, these little transitionary steps exist.  I think as an individual, it's quite easy to do this, especially if you're done four years, five years.  Also, if you're a small company, it's easier to do, if you're successful and you've got that buffer.

I think, as you said, for even nation states, it's probably a little bit easier, but certain companies can't take this risk.  We saw that with Tesla.  Elon Musk lost his bottle and they sold all of their Bitcoin, the majority of their Bitcoin?

Nik Bhatia: I think three-quarters of it.

Peter McCormack: Yeah.  Whereas someone like Saylor is like, "Fuck this, I'm going all in".  So, we've seen massive progress and my view is we will keep chipping away at that, but I don't know if we're 5, 10, 50 years away from the future -- should we actually get your futured Layered Money --

Danny Knowles: Let's do it.

Peter McCormack: -- the future world, The Bitcoin World?  I mean, you gave me a smile, I don't know if it's because you're thinking, "No, it's fucking here, Pete, what are you on about, the future?"

Nik Bhatia: This is the one that's the Bitcoin-only ecosystem.

Peter McCormack: You should get this as a tattoo!

Nik Bhatia: This is why Bitcoin and the dollar are not a good comparison, Pete.  They do co-exist today and they will co-exist in the future, because you need elasticity.  Governments themselves need elasticity to survive, because of the cycle, so that's why they're not going to relinquish their own currency, their own central banks and their ability to engage in elasticity.  It will never, ever go away, and in Bitcoin we have an option to hold an inelastic asset, and that is our choice.  And the price of that asset will fluctuate relative to other things that are influenced by inelasticity.

So, Bitcoin price is the signal that we have to give us a sense of, is the dollar system too elastic, or is it too inelastic right now; but the whole debate about Bitcoin being inelastic, and if it was a little bit more elastic it could serve as a better currency system for the world, that's a little silly.

Peter McCormack: It will just become.

Nik Bhatia: Yeah, it will just look at it today, and that's how I see it.  Bitcoin is an asset, people own it, it's a hedge for them against whatever they think it's a hedge for; maybe they're trying to hedge the dollar, maybe they're trying to hedge their real wages falling.  I don't know, everyone has their own reason for buying Bitcoin, and that's an asset.  The dollar has its own system, elasticity.  It needs that elasticity, it will continue to have that elasticity.  When economies go into contraction, the government wants to restimulate, they do that with fiscal and/or monetary stimulus.  That needs elasticity and that situation will continue to exist.

So, him criticising Bitcoin for being inelastic, it assumes that Bitcoin could just step in and be that dollar currency system, but that's not really the way that I see it.

Peter McCormack: Okay, can you explain this pyramid to people who can't see it, although we can say, "Please go and buy Nik's Book, Layered Money, available at all good retailers"?

Nik Bhatia: Yeah, so what you have right here is a Layered Money pyramid with Bitcoin at the top, and this is the Bitcoin ecosystem.  So, some of the actors that hold a lot of Bitcoin on their asset side, which would put Bitcoin as the first layer of money, and whatever liabilities as the second layer of money, include exchanges and actors in the private sector, like Fidelity Digital Assets, for example, or NYDIG.  These are companies that own Bitcoin as their asset, and then they've issued Bitcoin deposits or Bitcoin claims to their customers.  So, if you have -- who's your exchange sponsor?

Peter McCormack: Gemini.

Nik Bhatia: Or Gemini is your football club sponsor.  So, Gemini has Bitcoin on their asset side.  They actually own the Bitcoin, they have their own vaults, cold storage mechanisms.  The Winklevosses don't control the keys themselves, is what we've been told.  So, they have these assets in Bitcoin, or the assets are Bitcoin, and then when you have your Gemini account and you see 1.5 Bitcoin on the screen in your account, that Bitcoin is not yours, it's Gemini's, you only have a claim.  Gemini does let you withdraw and within ten minutes, that Bitcoin could be yours.  It will go out of their asset side, their liabilities will also drop as they no longer have that claim and that Bitcoin is yours.

So, another example would be stablecoins, for example.  So, I actually believe that even though stablecoins are linked to the dollar, that they have an asset; like Tether, for example, has dollar assets.  We know that Tether owns short-term debt, they own some Treasury bills, for example, so they have dollars.  Then they have USDT that they've issued.  I actually believe that USDT is as much a derivative of Bitcoin as it is the dollars that Tether holds, and that's because of the way that Tether and Bitcoin are exchanged for each other on exchanges like Bitfinex.  

So, in that way, the dollar stablecoins are actually subservient to Bitcoin in this digital hierarchy of money.  And over time, I believe that if enough money becomes digital at the commercial bank and central bank level, that the price mechanism between these two will gravitate a lot towards Bitcoin being sort of the anchor of the system, and that's the idea of Bitcoin being the first layer of money of the future, especially when the Fed issues Fedcoin.  And if Fedcoin can be swapped for Bitcoin in a decentralised way, we will get the true price of the dollar relative to Bitcoin in that scenario. 

So, that's a long-term vision for how Bitcoin rises up to be a first layer of money across the world, but right now the dollar is still, like the Fed, they're still focused on protecting their reputation, they're focused on renewing some of the sound money narrative, I guess, from the public; and if they continue to raise interest rates and don't cave and just do QE again, they will continue to be awarded for that with a stronger dollar versus other currencies, not necessarily Bitcoin, but just versus other currencies.

Peter McCormack: All right.  In a world where we've got massive increase in adoption of Bitcoin, how much risk do you think there is of a credit system based on Bitcoin?  The reason I bring this up, again my understanding of credit has changed more recently, in that you and I can create credit with each other; you can't bank credit.  Also, I recently had a guy on, Sam Abbassi, from Hoseki, great company, great idea.  If I want to take out a mortgage, the bank wants to know I've got assets, I have Bitcoin.  I want to show them that Bitcoin, but I don't want to send it to them.  Through Hoseki, I can prove it, which is great.

So, they would obviously loan me the money for a house based on that, which is great.  But do we risk a scenario where people will create exactly the same on top of Bitcoin, the exact same credit bubble on top of Bitcoin?

Nik Bhatia: The answer to that question comes down to, let's say, your Barclays deposit, your Wells Fargo deposit and your Federal Reserve note paper money.  If I go to the barista and I give them a $10 bill for coffee and a muffin, and then the next customer taps their credit card for coffee and a muffin, the barista sees the same money; dollars one way, dollars another way.  But if you go and buy a coffee with Bitcoin and you tap your Lightning wallet and you send a few thousand sats for that coffee, the next guy, if he opens up his Gemini wallet and he tries to pay you in Gemini Bitcoin, my point is here that the Starbuck's looks at the Gemini Bitcoin and they're like, "What's that?  I don't recognise that".

So, you would have to have a synthetic Bitcoin that has some sort of confidence across the world, so let's say ten large Bitcoin exchanges came together and they said, "We're going to start our own spreadsheet, our own eurodollar, our own euroBitcoin", and offshore Bitcoin means not on the blockchain, an off-blockchain Bitcoin, that Bitcoin token is just that.  It's a token with a different name, because it won't settle to your Lightning wallet --

Peter McCormack: No, I mean something slightly different, Nik.

Nik Bhatia: Okay.

Peter McCormack: So, I go and take out this loan and through Hoseki, I prove I've got my Bitcoin, and the bank lends me it.  The bank themselves may use that Bitcoin that I've got as collateral themselves.

Nik Bhatia: Yes.

Peter McCormack: So, that kind of credit bubble where that Bitcoin is now being posted as collateral multiple times.  And when the system goes into shock, who has the claim to that Bitcoin?

Nik Bhatia: That is a good point and that could definitely happen.

Peter McCormack: I mean, look, I say that and then I'm asking it, because the difference is that I just don't think the multiple claims happen, because you have the multiple hops.  My bank has a direct relationship with me and a direct claim to my Bitcoin; that's the first hop.  If they then post that as collateral, they're not posting Hoseki, because it's not theirs, it's mine; that's the thing I'm getting to.

But then there are other risks that Danny needs to get a mortgage, I lend him some Bitcoin, he posts that to Hoseki, he gets his mortgage and then he sends it back to me.  So, I still think there's risks.  And anyone who thinks that Bitcoin completely cleans up credit risk I think is wrong, because I don't think you get rid of credit and I still think you have credit risk.

Nik Bhatia: Yeah, and I will go back to the synthetic Bitcoin, because the synthetic Bitcoin would have to gain acceptance in the world, and it would have to come from like a committee of exchanges and all that, that try to lend synthetic Bitcoin out.  But if you're talking about just Bitcoin itself being collateral in the system and being pledged to multiple places, that's definitely a risk.  But the default is going to be in dollars, let's say; because if you post your Bitcoin to a bank and borrow money from your house, they're not going to send you synthetic Bitcoin, they're going to send you dollars.

So, the dollar loan can default, they'll claw your Bitcoin away, because it was the collateral, and there is this rehypothecation risk, which is I think what you're talking about, that it gets posted to different places; but there's a different dynamic in that it's not Bitcoin that's being lent out.

Peter McCormack: Yeah, so that's only just the asset.

Nik Bhatia: So, when it contracts, it's the dollar system that contracts and the collateral remains whatever the collateral is; in this situation, it's Bitcoin.  But I think it's also why I believe fractional-reserve systems will continue long after Bitcoin, as they have.  Fractional reserves exist today, it will exist in ten years.  Bitcoin is not going to rid the world of fractional reserves, it's not.  I know that's a hope and dream for bitcoiners, but it's not; there's too much behavioural and anthropological evidence that humans are always willing to do these credit systems.

Peter McCormack: I think Nik Carter wrote about that, didn't he?

Danny Knowles: I don't know.

Nik Bhatia: And Lyn talked about the network of bankers 1,000 years ago in the middle ages, across Europe and across the Silk Road, as a credit system.  That will always exist.  You'll always have a world of promises and then you'll always have these scarce assets that people use store of value across generations.  And Bitcoin has entered that realm of a good store of value across generations, even with only 14 years of history.  It's already proving that it's on that track.  I think that's one of the most bullish things about Bitcoin, is its properties are known, they're well known.  The speculation of what it can do in the future is up for debate, but what it is today, I think it's really being cemented.

Peter McCormack: Anything you want to add, Danny?

Nik Bhatia: No, that's been a great show.

Peter McCormack: Nik, please tell everyone again about The Bitcoin Layer, where to go.  We will put it all in the show notes, but yeah, please tell people where to go to find out more, where to buy some swag!

Nik Bhatia: Yeah, thebitcoinlayer.com is where you'll find all of our links.  So, we have our Substack publication, that is our research newsletter that we put out twice a week, three times a week actually, Wednesdays, Fridays and Saturdays; we have a YouTube channel also called The Bitcoin Layer.  That, we're putting out videos twice a keep covering some of our Substack articles, as well as some market chats, and we're going to get into some interviews with some great macro minds.  I'm thinking guest lectures, people that come in and help me explain to the students or the listeners what we're looking at.  And the merch link is also available there.

So, thebitcoinlayer.com, you guys can find everything.  Go subscribe to our Substack, go subscribe to the YouTube, and maybe grab yourself a hoodie or a hat.

Peter McCormack: Good work, brother.  Well, I'll be wearing my hat tomorrow.  Thanks, man, you crushed it, I loved this.

Nik Bhatia: Thanks, Pete, great to be here, man.

Peter McCormack: I'm not sure where I'll see you next, because you're not going to be at Pacific Bitcoin.  I don't know, we'll figure something out.

Nik Bhatia: We'll figure it out.

Peter McCormack: All right, brother, keep doing it, keep crushing, and yeah, see you soon.

Nik Bhatia: Thanks, Pete.