Bankless - 26 - Investing in DeFi Paradigms | Charlie Noyes

Episode Date: August 17, 2020

Episode: #26 August 18, 2020 ----- Tools from our sponsors to go bankless: Loopring - trade & pay on Ethereum w/ near-0 gas fees! (use "Bankless" for VIP4 status & trades at 6bps!) Monolith - holy grail of bankless Visa cards Aave - money lego for lending & borrowing Rocket Dollar - tax shelter your crypto ($50 w/ "BANKLESS") (Read this on IRAs and 401ks) ---- What are the paradigms for investing in DeFi? Charlie is an exceptionally bright & thoughtful investor in crypto assets at Paradigm...one of the leading investment firms in the crypto space. We talk institutions, yield farming, and DeFi protocols...and then we get into one of our favorite subjects. Is ETH money? Or rather, does ETH need to be money in order to secure itself? What is dirty little secret many Ethereans and Bitcoiners don't admit? Why is moneyness and security two sides of the same coin? Why won't transaction fees secure Bitcoin? This episode goes from great...to amazing. You won't find this depth of discussion anywhere else. Stay tuned to the very end to catch the conversation on economic security.  We cover: Starting in crypto at age 11 Gen Z and crypto  How Institutions see crypto Futility tokens are futile Is Uniswap the last word on AMMs? RAI vs DAI Money gams & accounting tricks Yield farming for yield farming sake Why we're not in a bubble yet Why Ether has to be money (or bust) Cosmos and Ethereum alternatives Not bullish on Eth2 timeline Join us next Monday for a fresh episode! ----- Resources discussed: Here's the episode with Joey Krug we mentioned Bitcoin for the Open Minded Skeptic article by Paradigm Is the Map of America the way institutions see crypto? We mentioned YAMS - here's our explainer We mentioned EIP-1559 (listen here | read article) ----- Episode Actions: Read "Bitcoin for the Open-Minded Skeptic” by Paradigm Articles Charlie mentioned to understand economic security: On the Instability of Bitcoin Without the Block Reward Flash Boys 2.0 - Phil Daian Spread bankless by giving 5 star reviews….get us to 100! Also...subscribe to Bankless YouTube to watch State of the Nation every Tuesday. ----- Subscribe to podcast on iTunes | Spotify | YouTube | RSS Feed Leave a review on iTunes Share the episode with someone you know! ----- Don't stop at the podcast! Subscribe to the Bankless newsletter program Watch Bankless shows and tutorials on YouTube Visit official Bankless website for resources Follow Bankless on Twitter Follow Ryan on Twitter Follow David on Twitter ----- Not financial or tax advice. This podcast is strictly educational and is not investment advice or a solicitation to buy or sell any assets or to make any financial decisions.  Do your own research.

Welcome to Bankless, where we explore the frontier of internet money and internet finance. This is how to get started, how to get better, how to front run the opportunity. This is Ryan Sean Adams. I'm here with David Hoffman, and we are here to help you become more bankless. David, how are you doing today? Oh, you know, just tending to my fields. There's been a new craze in liquidity mining and yield farming, and so that's kind of captured my attention lately. It has been attention grabbing, and we get into that a little bit with our guest. Yeah, what was your take on this?

Yeah, Charlie Noyes, really smart guy. And I was constantly reminded during our conversation with him is how young he is. And that's kind of what gets me so excited about the future of crypto. And it's a part of the future of crypto that's not coming in like one year, not coming in two or three or four years. But it's really the whole generational shift is that these young, young individuals, and I consider myself young, and Charlie is even way more young than I am, are going to come in as crypto-natives and be thinking in crypto-native terms and are going to really

get familiar with economics, with finance, with complicated crypto-economic systems, and that's going to be their first monetary system. And I think Charlie is a good representation of somebody who's coming of age as these crypto platforms like Bitcoin and Ethereum are being understood by the greater world. And so I'm very bullish on this younger generation of people that's coming up being crypto-native and being able to speak crypto before they're able to speak traditional finance. So do you know how old Alexander Hamilton was when he joined the revolution? I have no idea. 21. Sounds like Charlie. Right? I mean, sounds like Charlie. We think of many of the founding fathers as people like George Washington and Ben Franklin and we see them in wigs

and that sort of thing. We forget that so much of the revolution was fought and won by the very young Alexander Hamilton, 21, Lafayette, 19 years old. These are the vanguard of the revolution. And why are they doing it? Because they think differently, because they're exploring new opportunities and exploring the infinite white space of what could be. And, you know, Charlie is in the revolution for those reasons. So his story is fantastic. We also talk about. We also talk about some pretty in-depth subjects. So it starts off kind of higher level, but then we get into something that is super important and rarely discussed. In fact, I've never heard it discussed on a podcast before, and that is the economic security of Bitcoin and Ether. And whether

those assets, Ether and Bitcoin, need to become money in order to succeed. I won't spoil it for you, but that is a fantastic section near the end that you absolutely have to check out. It's not 101 level or 200 level. This is 400's level material. I think you're really going to enjoy this important stuff to back up the thesis, your thesis for this space. Yeah, and what Ryan's talking about, what we were talking about in the podcast with Charlie, the minor extractable value component of these systems is really an unsolved problem in the crypto space, largely being spearheaded by Ethereum researchers. And so I always keep keep an eye on what they're doing with the whole MEV world. We'll go into it in the podcast

and make sure that we can explain it. But I think it's going to become a regular topic in the bankless podcast because of just how important it is. And so I'm looking forward to future content in future guests that we bring on to discuss minor extractable value because it's a crucial topic. Yeah. And I think you will be most equipped to think about this if you've listened to a bunch of the other podcast episodes. This is episode 26, but people forget we sort of started this sequentially. For folks that are new to Bankless, go ahead and go all the way back to episode one if you need to and start listening because it's sort of each of these episodes builds on the last. And I think you'll get a great grounding just by starting with one and moving forward

all the way to episode 26, which is where we are today. David, before we go any further, we should talk a little bit about our sponsors. The first sponsor I want to tell you about is AVE. AVE is a defy protocol that you absolutely have to check out. What can you do with it? You can lend, you can borrow banklessly, all on Ethereum. So you can do things like lend dye to the protocol. It will magically transform that die into an interest-bearing die account, not just die,

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bankless in order to get the highest VIP tier for six months. So check that out. There's a link in the show notes. Visit loopring.com.com. All right, guys, let's go ahead and get right into the interview with Charlie Noyes of Paradigm. Bankless Nation, we are super excited to introduce you to Charlie Noyes as part of our venture capitalist series. Charlie is a partner at Paradigm. He is former Pantera. He's an incredible thinker in the space. We've had many back and forths on Twitter in the past. He's just a smart investor. Want to emphasize before getting into this, of course, these are his personal views. He's not speaking on behalf of Paradigm the Fund, but he has offered to share his personal views. And I think those will be very helpful as we

think about the space. Charlie, how are you doing? Doing pretty well. Thank you guys for having me. I know we can debate pretty frequently on Twitter, but I do think, you know, this is a really high quality resource for the community. I'm excited to be on here. Yeah, the advantage of the podcast, of course, is we can carry those things into conversation format and everyone gets to kind of hear about it. You know, Charlie, what I think would be super helpful for our listeners is just to set the context and set the context in two places. You know, maybe first, your background, and then second, some of the background behind paradigm, because both backgrounds, I think, are fairly unique in this space, right?

So I was looking through your LinkedIn profile, Charlie, and you've got a very interesting, like, background. And you started as a research scientist at USC, and I think you're doing that during high school. then there's a point where you went to MITB, you dropped out. Then there's this gap of three years, which I'm going to assume, but hopefully you tell us that three-year periods where you maybe discovered crypto. And then the resume sort of continues where you're a principal at Pantera Capital. Of course, we had Joey Krug on a few episodes ago. We'll include that in the show notes. And then in, I believe 2018 or so, you became a partner at Paradine, which for folks that don't know is,

I think one of the most interesting crypto funds that are out there. It was co-founded by the co-founder of Coinbase, Fred Erism. It's got some other notable names, great research coming out of it. And one notable thing, one of many, is that Paradigm was actually one of the first funds, I believe, to raise from a major endowment. So in 2008, the Yale Endowment, that's a $29 billion fund, an institutional fund. You've heard. the institutions are coming. Well, they came in 2018 and they invested in Paradine. So that's a little bit of background from my perspective, but I want you, Charlie, to help fill in the blanks. Maybe starting at the top, how did you go from research scientists at USC in high school to partner at Paradine?

So I might need to update the LinkedIn and I might have taken a little liberty with research scientist on the title there. But I think at the time I was I was like 13 and I was I was in high school at that point working in a lab USC that was doing some interesting cryptography research related to some of the earlier SMPC protocols and Bruce around them like SPDZ. But I actually was into crypto at that point. So when I was like 11, a few years before, I was selling software. on the internet and made a PayPal account in my mom's name.

And then at some point, they requested her social security number. And she was like, there's absolutely no way that I'm giving this to you to go use on the internet. And so I started using Bitcoin. And for a couple of years, I just thought it was kind of incredible. I mean, like, at that point in my life, you know, it was like the only payment real that I could actually use on the internet. And eventually, I think in around like 2013, went from kind of a user casually interested, you know, mining on my own hardware kind of before the ASIC era to getting really into the more theoretical and research side of it.

And wanting to understand sort of like the basis of these systems. and then got further into that, you know, through some early opportunities to do research, both related and unrelated to crypto, cryptocurrency, and then once Ethereum came out, I wanted actually to dive in full time, but decided to leave high school to go to MIT instead, spent a year there, realized I was going to miss the boat if I didn't leave and decided to leave MIT you to join Pantera along with Joey, who you guys had on. It's a friend of mine. So yeah, that's kind of the early origin story. All right. So we talk a lot about the unbanked, right, in crypto in general. But I've got to,

I've got to be honest, Charlie, I've never thought about the unbanked preteens, right? Like the kids that are like between, I don't know, I guess eight or so when they start to get semi-financially literate and 18, who actually are kind of locked out of the financial system. And you came at this because you were you were locked out of PayPal essentially. And crypto was like the only lonely bank, I guess, the only finance, the only money you could really use at any level of scale. That's crazy to me. Yeah. It's kind of a wild series of coincidences. And I think like many of the people in the space at this point, it is still so early that you kind of have to have a reason to be here.

And I think most people have these kinds of backgrounds where it's just a really strange sequence of coincidences that led you to being, you know, deeply interested in internet money and programmable internet money. I want to spend all your time on it. But I got super lucky with that. And then I ended up at Pantera.

I spent an awesome year there with Joey. And then in early 2018, I'd met Matt, who I got to, introduced to also did MIT undergrad and Fred at the time. Fred had left Coinbase the year before, spent a year thinking about what he wanted to do next, him and Mac got together, and then pulled me in in early 2018 and I decided to leave and go start something new with them. So what's also cool, I think Charlie is, I think there are a lot of millennials, of course, and, you know, Gen X and, you know, maybe the odd boomers, though, that listen to bankless and tune into the bankless nation. You are a representative of Gen Z,

sort of this new generation. Do you think Gen Z is going to just grow up using crypto, just grow up crypto-native, similar to the way the millennials maybe grew up with the internet and became digital natives? I think it's very possible. I'm not sure that it's as much about crypto as it is about sort of not having learned bad habits around what money is or could be. But to be honest at this point, I don't think that crypto is sort of like more millennial money than Venmo. I do think that we have the opportunity with young people to show them alternatives

before they learn bad habits. And I think that a lot of the aversion to cryptocurrency, defy, kind of this whole space, that you might see from older folks more frequently than young is largely bad habits and kind of ways of thinking they get reinforced over many years. So I do think young people are really like there's a reason that the space is broadly really young but I'm not sure that it's so much millennials inherently love crypto as it's not as hard to convince them that this is just a much better experience than they can get anywhere else. And that should really be the North Star. So let's turn a little bit to paradigm. You guys made headlines when in

2018 you got raised $400 million. One of those investors, as I mentioned, was the Yale endowment. So the institutions definitely came. But can you tell us a little bit about the thesis of paradigm? So we've talked to many folks in the show, everyone has sort of their way of thinking about crypto, their paradigm, if you will, of crypto, right? Whether it's, you know, this is the internet of value, or we're building Web3 and our goal is to decentralize Facebook. Or there's the fat protocol thesis, which was, you know, famously came out in 2016 and 2017 was sort of a guiding theory. There are token maximalists we've talked to. There's people who believe in fat money that reserve asset money systems will be sort of

the kings of crypto. How would you describe paradigm's thesis? So I think it's difficult to sort of encapsulate in a one-liner. And there's certainly no lack of disagreement. You can just go watch us on Twitter or a healthy debate internally. I think that at the highest level, there are a couple of core theses that we hold and are somewhat non-contentious, you know, in terms of public blockchains are very interesting. They're a novel form of technology. The idea of crypto-economic security is novel, and there's something fundamentally interesting about the intersection of money, finance, and technology in a much more natural way than

we've seen, you know, sort of the Internet as exists today. beyond that, I think a lot of the sort of more specific theses that have floated around and at different points, you know, risen to prominence or been kind of the meta of the space are probably too zoomed in to point out individually. But I don't know, one that we're probably quite well known for is, you know, the general belief that futility tokens or futility tokens or futility tokens. I guess had a great quote on this earlier. And that, you know, ultimately the ability to create value, durable long-term value is sort of like the core maxim that we should organize around. And, you know, to be honest, I think, especially with respect to Defi and more of the frontier, that idea has taken longer to proliferate than I would have expected.

but I'm not sure that it's actually sort of an out-there idea anymore, which is really exciting. So, Charlie, a venture capital firm is composed of many different people, each with their own, you know, unique ideas. And I think when all those unique ideas come and coalesce, you generate like the thesis, the generalized thesis of the firm. But each individual person has their own thesis that may not, that may conflict or contrast with other members of, of the peers of a venture capital firm. So how do your specific beliefs contrast with your peers at paradigm? Like, what do you believe as a thesis that maybe other members at paradigm don't, that you disagree with?

That's a great question. I'll pick out one that we haven't been shy about publicly debating and say, I'm probably more concerned about the long-term security of existing protocols. in particular Ethereum, but not specific to it, than some other folks on the team as kind of an urgent issue that will be confronted with quite soon and not in 10 or 20 years. So I definitely want to pocket that one because that's the topic that we definitely want to go into. But on a grander scale, how would, are there any examples of just like generalize like attitudes towards you know what is investable versus what's not like equity versus

tokens that that is a constant like what are the constant themes of conversation and paradigm that that are frequently in debate so i think that one um and probably the like internal debate is to what extent we can rely on reflexivity um or rather kind of assume that uh reflexivity will work out rather than work against us. And I think that there's many names that this idea goes by circularity, self-reference, recurrence. I like reflexivity the best to describe it. But the core idea is sort of just is embodied today in Defi and sort of how far different protocols

are willing to push, for example, yield farming, very highly reprimed. a reflexive idea or make the assumption that they can sort of circularly support value or to what extent they can. And at least personally, I've been very much on the side of not wanting to lean into sort of highly reflexive security assumptions mostly is how I would characterize them. But at this point, I think those are the most interesting experiments that are getting run. And, you know, I suspect that like it'll take a couple of years to figure out the set point, but it'll be very interesting to see what we can create. So a comment on that. Reflexivity,

I think our listeners might be more familiar with the term that me and Ryan use on this podcast, which is memes. Reflexivity is like a meme, right? And Bitcoin at its core is like a reflexive asset where there's a little bit of game theory involved where like, you know, if everyone else buys Bitcoin, like you better also be buying Bitcoin, right? And so do you believe that at the core of these things, there is a reflexive component that is a part of the fundamentals of these systems? Yeah, absolutely. I think we'll get into this more later in the podcast, but I would say with absolutely 100%, and I don't think it's debatable, actually. But I actually meant on a more micro level, when you get beyond sort of these core layer one protocols,

which I think are in some ways substantively different from, for example, applications built on top of Ethereum or rather distinct from them, that sort of the amount of reflexivity that we have to lean into for these things to exist in the first place or are comfortable leaning into is quite different. And so I think, you know, the simplest example of this would be Ethereum miners are paid in ether. It's entirely circular.

The cash flows are denominated in the thing itself. Would we be willing to sort of accept the same maxim for a defy protocol, which earns cash flows in terms of itself or perhaps as a lending protocol collateralized by its own asset? And we could get into kind of like the notions of like, you know, moneyness versus equitiness, the differences between monetary premiums and cash flow valuation. I suspect we will. But that's, I think, kind of like the, that's a very abstract debate that has been playing out for years. And I expect we'll continue to play out for a couple more. And I think like one of the most interesting areas of the space to watch right now.

I would imagine that this debate that you're talking about is one of the many debates that, that all the partners and the members of paradigm have. And so when you guys are debating about subjects like this, like going back and forth, sharpening each other's sticks, trying to get a grasp on the understanding of things, like over time, how does that debate, like, evolve inside the firm? And like, because at some point, like, action needs to be taken as a result of, like, the opinions formed in that debate.

So, like, how does paradigm go from, like, debate to action? Like, what does that process look like? It's a great question. I think one feature that we only started to notice more recently in discussing some of these ideas more externally is how much we develop like an internal nomenclature that's almost inscrutable to anyone else. And then when you start tweeting about it, you spend as much time clarifying what you mean as making the point that you want to. and which gets us into trouble. But, you know, in terms of like forming an investment lens, right? I think diversity of opinion is critical, but more than just diversity of opinion,

sort of like open-mindedness, infinite open-mindedness and a willingness to sort of consider that, you know, the shared investment lens that we arrive at as a team is going to be, be more considered than any one individual's opinion. And in an iterated game sense, a willingness on the part of the individual to believe that we actually should act as a group. Basically that even if our shared investment lens might not agree entirely with my own personal views,

that I'm always willing to extend the benefit of the doubt to my partners and colleagues, that over time, where I'm wrong, they'll help make sure that we don't make the wrong decision. So Charlie, just talking a little bit more about investor education, and by the way, we're just talking about EMs just now. So if listeners are totally unfamiliar with what the heck we're talking about, go check out, Stay at the Nation. I think episode nine came out by the time you're listening to this. It will have come out last week where David and I try to make sense of what the heck DMs are. So you can get caught up on that a little bit. But so it appears to me like you guys,

Paradigm put out a report called Bitcoin for the open-minded skeptic. And that's not a report for the crypto native, right? It's mostly review for people like us. But it seems to me to be the case that Bitcoin is almost like the gateway drug, right, for institutions getting into crypto. Like it's 2020 now and they're finally starting to become comfortable with Bitcoin as a store of value asset as like a digital gold as like something that's not just for criminals. Would you say that's the case? Like Bitcoin is the gateway drug, if you will. And then from that, institutions will start to get interested in other areas in crypto.

Yeah, I think that's generally true. It's certainly the most legible narrative, right? the one that as of right now has been around the longest, sort of has the most both, I think, has the most social credibility, just to be frank, right? And in many ways, is the easiest for a new entry into the space to underwrite, especially, you know, one working at sort of a long-term institution or investment partnership. And, yeah, the Bitcoin thesis, my part of Matt Wong wrote it, I think it's a fantastic synthesis of many of the ideas that have brought

new folks from those areas into the space and probably the most legible narrative to them today. I do think that once you're here, once you're kind of willing to make the leap of faith, you pretty quickly recognize how interesting the rest of the space is. some folks decide to dive head first, some just decide not to write off kind of everything, everything else or the space as a whole. But I think that from any perspective, it's just hugely net positive to see even the Bitcoin narrative alone becoming more legible and credible to a much broader group. So there was this meme, this narrative going around in 2018.

the institutions are coming, right? It was like the beginning of 2018 on the back of, on the tail end of the, of the bull market. I maybe want to ask you what you think about, like, are the institutions coming? Because it sort of didn't pan out the way the hype said it would in 2018. Although you guys managed to raise from some pretty large institutions in 2018. Now we're in 2020.

Are the institutions coming or have they been coming all along? I think they've been coming all along. And, you know, it's, it's, I don't think it would be unfair to say that the narrative that institutions were coming didn't pan out the way that some of us might have hoped. But I don't think it's the case that they're averse to it or there was some binary event that broadly flipped people that, were or could have been positive negative, we just realized that some things take time. And I think that we have seen a slow, maybe slower than we would have hoped,

but steady drip of folks coming into the space, you know, from traditional institutions. And I expect this to continue personally. And, you know, if I, I think my main takeaway from kind of having observed this process over the last few years in particular is that this is going to be a multi-decade game. And every time it feels like we found the thing or the narrative that will be legible or what will be kind of like, you know, what will define crypto's legacy or this era of crypto's legacy.

We found out that it's probably going to take longer than we thought. And I think that's just like pretty much broadly true of everything in the space. So Charlie, I want to pivot a little bit and talk about tokens and then kind of get into more current Defi protocols, defy topics. But I want to first start with the progression of tokens as we've come to know them, right? So 2017 was kind of more or less like the birth of Ethereum to the rest of the world. Like Ethereum 2015, 2016, we didn't really know. No, the world didn't really know what it was or what it was going to do.

In 2017, we kind of started to figure it out because we realized that the ERC20 token, standard could be pretty interesting depending on what you do. And that was like the birth of utility tokens, which we've called like futility tokens. So futility tokens, like they sucked then, are, do they still suck? And what kind of like progression have you seen in the, the concept of tokens that really makes you optimistic or, or perhaps less so? So I think that futility tokens will always be futile. I think the Fautilic wrote the defining blog post on this in like October 2017, if I remember correctly, and we didn't listen to him. I think more people are listening to him now. You know, tokens that that give ownership to decentralized protocols are, I think,

wildly interesting. There's many different facets to them. Your ability to participate in governance is a feature of some. Others are really just strictly ownership in an economic margin that the protocol can extract by virtue of adding value to the world, the ecosystem, whatever you want to call it. Now, I think that, you know, to the specific question of futility tokens, it's kind of unfortunate that the economic model was just like so bad in 2017. to be honest, and it felt like, you know, talking about sort of real protocol cash flows was more or less shouting into the void. I certainly don't feel that way now. I think that that's kind of just become implicitly or just very slowly kind of like the shared perspective of everybody

in the space, or at least that's been my kind of observation in Defi. And that's super encouraging because for a new founder, really anyone that wants to start something in the space, it's really important that sort of the standards as to, like, what should you be pursuing are, you know, at least not futile to your earlier point. And if there is, like, anything in hindsight that I'm disappointed, you know, about with respect to 2017,

it's that there were probably some really great teams and ideas that just kind of shot themselves in the foot. And I hope that doesn't continue to happen. So since 2017, there's been a lot of iterations and innovation behind token designs over the last three years. What innovations have you seen that really make you, that that turned something like a futility token into an investable asset? The turn a futility token into an investable asset, It's a pretty specific lens on it. I think just generally... Not necessarily...

Sorry, just to clarify, but not necessarily thinking of, like, futility tokens. And I think maybe it's helpful to define utility tokens really quick. To me, I define you futility tokens as something that suffers like the velocity problem, where it's just like a medium of exchange. It's just an inferior form of money in one specific use case. Yeah. Yeah. It's like you spin up a candy store and then you print a token and say, okay, pay me in this token and that's that's right, but you only get the token by exchanging other

currencies for it and the market for your candy shops, you know, currency probably is not super highly liquid. So, um, right. I mean, that's kind of like the core. That's kind of the core problem, right? Like, that's just not a workable economic model. It's not conducive to success. There, regardless of how successful your candy store is, it doesn't really matter for the currency because it, it's probably unlikely that people are going to be willing to grant that a candy store's proprietary currency becomes a global currency competitive with like Bitcoin or a theory. You know what? It just, it's unfortunate. This is the reason we don't denominate money and settle debts in Chuck Echee cheese tokens.

It's right there. I mean, like, you can use it in Chuck Echee. I do actually think if you Twitter search me like at Charlie Noyes, Chuckie Cheese tokens, I have, there are a couple of tweets. You know, I still have a few. So I don't know if they're still good, but for my childhood in my coin collection, I should check on that. Maybe they've appreciated in value. Yeah.

So as an economic model, like we've basically totally scrapped futility tokens. Like no one's making a token like this anymore. So between 2017-2018, when we thought that they were all the rage and now where we understand that they are bad, what? Specific innovations have you seen come to replace the futilityness of tokens in Defi? Yeah, so I think basically the two dimensions are, one, real protocol earnings and two, flexibility. So to the former point, I think MakerDAO and Auger pioneered the idea that a decentralized, trustless protocol, could generate earnings, or rather a cash flow stream in the way that it adds value to the world,

right? Basically, like, not really dissimilar to any other traditional company, except, again, their trustless, you know, decentralized protocols. So, of course, it's like, could not be more dissimilar in practice. But I think that was, like, the first, they were the first kind of, like, fundamental innovations on this dimension, how it should be done, how you could think about, how you could think about that as tokens being sort of the discounted future value of protocol earnings. And that's basically, through osmosis, enter the rest of the space.

And that's how people think about designing tokens today. And that's awesome. The second dimension that is different, I think, is the flexibility dimension. So especially more recent experiments like Wi-Fi is a great example are, you know, certainly not taking like a bad or fundamentally incorrect economic model to a static idea. They're taking like a credible economic model to kind of an undefined idea with hypothetically a lot of future flexibility. Now, as to whether any specific one of these efforts will evolve into something real and meaningful that builds and can extract durable value, I think that's an open question. But the idea that we have a good enough idea of what we should be shooting for to evolve towards it rather than sort of starting with this very static idea for what you're going to do, which like 2017 white papers, basically it's like throw your idea down the table and never change it is I think quite important

because inflexibility is potentially as kind of harmful to progress as bad economic models. By the way, guys, Charlie mentioned YFI token if you haven't, check out episode 25 where we talk with Andre and I finally figure out what YFI token actually is and what it does. It's a great episode on that. I guess, Charlie, you know, it would be interesting, I think, is I'm assuming that neither you nor paradigm would say that everything happening in defy is good and investable. Right? That's kind of your job to figure this out for investors, right?

I mean, I think to the earlier point, they are separable dimensions. Like something can be good and not investable or not good. Well, something that's not good is probably not investable, but good is kind of separate from investable. And I think that's important to keep in mind. Okay. So let's talk about that lens. Let's use the lens of investable. Well, we go through some, I guess, categories. And maybe we'll start with the investable and good, right? Like good investments, I suppose, or things that you guys are betting on, or you personally are betting on as you're speaking on behalf of maybe your personal opinions here. And maybe we can go through some of the

things that are public that paradigm has invested in. Most notable, at least to me, is probably Uniswap, which listeners will know is a liquidity robot, automated market maker that we've talked about a whole bunch on bankless. Why is Uniswap a good investment? What was the thesis behind Uniswap? Yeah. So I think Uniswap is built on a fundamentally interesting idea, concept, the X times Y equals K, or constant function market maker. And the team going after it is incredible and very long-term oriented. And the very high-level way that we thought about it, think about it, and really, you know, would say it's kind of the definition of investable is credibly able to build long-term value.

In Uniswap's case, I think, you know, they, There is, you can imagine a future in which the innovation, I think we're already seeing this play out to some extent, makes it so easy to create markets that we can run more experiments that allow us to create more markets, run more experiments, et cetera, et cetera. And that it's almost in some sense of platform, an economic platform, as opposed to an individual product. So what's crazy about Uniswap is I saw just on last week,

seven-day volume. If you annualized that, it was something like $36 billion in annualized volume that they're doing now. Are you, like, is that surprising to you, those kind of numbers? I did not think we would be anywhere near where we are today for the next year. I thought it would take a lot longer. Definitely. It's been incredible. Why has it not? Like, why has it been so fast? It's a very, it's an interesting question. You ask 100 people, you're getting at a different opinions. I think at the heart of it, people realized how interesting defy is and that it allows you to run experiments on a pretty large scale really quickly and iterate quite quickly. It's kind of funny to say, considering that, you know, one of our biggest concerns is also the

difficulty of writing solidity and getting your contracts audited and the deployment cycle being so much less iterative than traditional software development. But from a financial perspective, you know, the speed of iteration, composition, like remixing and remastering of all these different protocols and products, is just unbelievable. And I think that, you know, at its core, that's really what's driving this kind of growth.

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defy protocols based on their credible neutrality, right? So like Uniswap has a fee that goes to the liquidity providers, not the team, right? And then, you know, the YFI token is, you know, fair launch, no VC founders reward. And so as a

fee model or some value capture model for Uniswap as a mechanism for upside exposure to the protocol seems to get in the way of it also being a credibly neutral protocol. Do you also see this problem or am I overlooking? I see the tension, certainly. I think it's an unavoidable tension. And that's why I throw the fee out quite hypothetically. I don't know if

that will be the mechanism of value capture. And I think it's important to remember here that uniswap, as it currently exists, one's going to force you to move. No one can force you to move, us or the team. And to the extent that this, that that kind of value capture or any other is unacceptable to the community, they won't move or they will fork the protocol. And so I think there is both voice and exit in that dynamic. Now, that being said, you know, does a fee erode the credible neutrality of the protocol? I don't think so. There's any kind of value capture mechanism. I don't think so. I think we need to figure out a sustainable way of funding these things,

and the clearest answer is for their earnings to be directly tied to the value they create. Again, to the extent that users don't want to pay it or it's not the best venue, they'll go elsewhere. And so, you know, it's a tough question to answer and one that I think where everybody is going to bump into. I'm not sure what it looks like long term, but I believe wholeheartedly that we need to figure out sustainable funding for the application layer. And I believe that that probably looks like protocol fees in some form broadly. But maybe it doesn't. Maybe there's an alternative. So Charlie, it tends to be the case where sometimes first movers win, right?

And sometimes it's the second winners who win, right? It's not Yahoo. It's kind of Google who sort of solves it. Another interesting category I'm curious your thoughts on is the decentralized stable coin category. So all of us love dye, right? Like a pioneer, you know, four or five years in the making really set the D5 market off. But you guys have recently invested in a, I guess a die alternative or die complement. certainly another stable-ish value protocol called Rye, if I'm pronouncing that correctly through

Reflexer Labs. Do you think a second mover can win here? And what's sort of a thesis for Rai? Sure. So before answering, I do think it's important to point out, you know, we led the most recent sale by the Maker Foundation of MKR tokens as well as underwrote the majority. the majority of the toxic credit auction that took place after Black Thursday for MKR.

So, you know, we have been for years, supporters of Maker and continue to be. That being said, I do think that Reflexer is pursuing an alternative path rise, of course, most comparable to die. But the way that we think about it is as offering an alternative to die that does not rely as much on governance, that is not pegged to $1, which is a core maxim that Maker governance is trying to maintain.

And I think as Maker continues to grow, some ideas on the roadmap are going to be controversial with some factions of the community. specifically, I think real world assets is, you know, one of the most obvious. And even today, you're starting to see some, I think, version 2, USDC and WBT, etc., being included in the protocol. You know, I think Maker has a very bright future. I also think that there is room for experimentation and that those dimensions are important to give users choice along, and the rise approach of, you know, baking an interest rate directly

into the price of the asset, taking only ether collateral, and minimizing governance is very interesting alternative. So how would that fit into the DeFi universe that we know today? And then also as DeFi develops, how do you think, as a building block, how do you think that fits into the future of DeFi? Well, it's a very different user experience. variance, right? So Rye is a dollar-stable asset, but it is not a dollar-equivalent asset, meaning the peg of Rye will change every minute or however frequently they update their basically

target rate feedback mechanism. So I think that the answer to your question or how I imagine this playing out is that Rye probably is a better fit for more financial use cases than die in some respects, which is, you know, as collateral for some other derivative, it's not really important, most likely to the owner of that or the protocol that implements it, that die remain equal to $1, or rather that Rye does. it's actually probably preferable that it have sort of minimal dollar purchasing power volatility from like a financial mathematics perspective, you know, in terms of what's ideal for that use case. On the flip side, it's probably not great U.S. and something that maker governance has been

very averse to is taking dye off of its $1 peg to implement a negative interest rate. Like to the extent that dye in your wallet, 100 dye is floating. And, you know, now, next week is, one die is 98, like 98 cents and like will be forever rather than a dollar. It's a very different U.X. And I think that's probably the core dimension along which they're going to kind of differentiate. So speaking of things that track a dollar but don't actually act as a dollar, Ampleforth has kind of taken this, the world by storm recently because of its insane run up from an $8 million market cap to a $600 million market cap.

down to a $200,000-miling-dollar market cap. And Charlie, you tweeted something as Ampleforth was retracing from this insane run-up. It was a screenshot of the price of Ampleforth with a big red negative 40%. And you quoted it saying, nature is healing. And so can you go into your perceptions on Ampleforth and perhaps why you maybe alluded to that it shouldn't really be worth all that much? Yeah. So, I mean, you know, Ampleforth can be worth whatever people want it to be.

I'm not going to be wrong about this. In the same sense that, you know, it's true of Ether or Bitcoin. I think the reason I tweeted that was, you know, Ampleforth is an accounting trick, right? The price remaining $1 while balance is change in perfect proportion to that is. really just flipping price and supply. So whereas, you know, most assets have a variable price and a fixed supply, or rather one that doesn't depend on maintaining a constant market price, Ampleforth does the opposite, which is expands or contracts the supply to maintain a constant dollar price. But what this doesn't change is the market cap over time. So I, I, I don't mean this in kind of a condescending sense, but Ampleforth is an accounting trick, right? And I think something that concerned me was that it seemed like there were a lot of people

that didn't understand this. And I think that although it's very interesting to see kind of like how the market treats this asset, there's a difference between people playing money games because they're fun and they understand what they're doing and thinking that there's like something else is happening, for example, with Ampleforth. Okay, so a brother, a cousin of Ampleforth is this new Yam's token asset, right? So it's the same thing as Amplforth, very similar. We've gotten into the subtleties earlier, but the distribution is different.

So instead of VCs owning it and founders owning it in pre-sale, it's basically defy individuals, individuals that are in defy, particularly, I mean, let's be honest, the whales. who have the capital to put in and start receiving yams. Is that any different to you? Does that have a better shot at becoming money? I mean, no, definitely not. But my hope is that this might not be true. Yams is more ironic than it is misleading.

And I think there's nothing wrong with running fun experiments because everybody's going to meme them because they're hilarious experiments. I mean, I think, well, I don't want to say there's nothing wrong with that. Rather, I think about that quite differently than the idea that we would say, for example, Ampleforth is going to take over the global financial system because there's like, I don't know, there's something different than an accounting trick is happening. So your question on EM is like, do I think it's any more likely to like become a viable form of money than Amplort?

like not really but in some sense I think it's probably better that people are treating it like like a highly reflexive money game than it seems like people are being

this led about it but you know obviously you kind of have to pick where you draw that line for yourself so so we started this out Charlie by talking about like some of the good things you see in defy and some of the investments rather than some of the bad things or bad investments. What's your take just in general on yield farming?

Is that good for defy? Is that kind of something that's investable? I think yield farming is broadly just an incredible innovation, an incredible idea that's going to be around forever. And, you know, I was quite negative on it or have been publicly, especially on Twitter, because I think that, you know, yield farming as an idea is different than sort of its implementation

in any specific context or protocol. And in the same way that, like, you know, 3% per year ether inflation is far different than 100,000% despite the fact that if you take the limit, you know, to infinity, they're equivalent. Like, there's sort of a similar idea here in yield farming where, like, it's, there's no bright objective line between what I would say, like, kind of seems somewhat reasonable and what doesn't.

But any individual implementation of it, again, you kind of have to pick how credible you find it for yourself, if that makes sense. I guess in short, I would say it's a great idea. I think it's going to be super important to the future of the space and it's not going to go away. I think that it will take a while for people generally to figure out, like, how to use it in an additive, you know, long-term, sustainable way to build durable value. And that a couple of the use cases or implementations today do seem, you know, kind of at odds with that long-term thinking. So, Charlie, earlier in this conversation, we said we would get back to this. and now is the time, because I think it's a really interesting discussion and perspective you have

on, I think, maybe two aspects. One is when we're talking about base layers like a Bitcoin or an Ethereum, economic security is imperative. And you also talked about reflexivity and the hazards of, I guess, betting the farm, betting the base layer on reflexivity. And another term, for that that we've used often on bank lists is like the moneyness of a given underlying layer you know layer one asset. I strongly agree with that for what it's worth. Okay. I think they're essentially the same thing. So let's talk about that. And in fact that there's like a concrete reason that they must be the same thing. Okay. So that's what I want to dig into. And but while we dig into that, let me just, you know, tee this up for listeners. So they understand this is by the way,

an ongoing conversation. I feel like you and I have had over the years on Twitter on this first time we're doing a podcast about it. But the basic problem, if I could state the problem, and then maybe you could, you know, iterate on what the problem is, is the value of, let's take ether, for example, the same is true of Bitcoin. The value of ether has to go higher in proportion to, for economic security reasons. So the value of ether is basically the economic security of the network. And the question is, or a question is, what happens if the value of all of the tokens on top of Ethereum starts to far exceed and outstrip the value of ether. Does Ethereum become unable to secure the tokens on top of this? And I think there's a lot

of implications that fall out of that. One implication is on Ethereum, there could be things such as free rider tokens that consume the economic security bandwidth of Ethereum, but don't really pay it forward. Another implication is that there's some scalability limit. on Ethereum. And that's in proportion to a concept we've called economic bandwidth, that the Ethereum token economy can't far exceed the value of ether or else the network becomes insecure. And I think the last maybe implication that we could dig into is, doesn't this mean that ether must secure monetary premium in order to be a global financial system? So is that kind of the problem statement? Would you add to maybe the problem statement? Or how would you talk about this?

I think it's a great problem statement. And, you know, I think this is such a tough issue kind of deeply entangled in so many different, like, highly illegible and frontier ideas today that it's really, really hard to talk about, honestly. So, but I would say, yeah, I think at a high level, that's a really good problem statement. And then, you know, I think one immediate reaction to the way that you would put it. one hypothetical or pathological case may be being the value of all tokens on top of Ethereum vastly exceeding the value of ether or the security premium that it can pay is that's kind of a binary question, right? It's kind of, it can sound like we're asking, well, will at some point, you know, will there be a big double spend on these assets on top of the chain? And it just feels

very like maybe this could happen, but, you know, are we ever going to get there? It's kind of a threshold. Like, maybe people just won't do it in the same way that on Bitcoin, like you would expect to see selfish mining, but you don't in practice. Does that kind of make sense? The issue. Yeah. Yeah. Like so one way I think of it is like the U.S. has the strongest military in the world. I think, you know, most people would agree with that. Other nation states are up and coming. But how much is enough to pay for U.S. military defense? Is it 1% of GDP?

Is it 5% of GDP? Well, you don't know until you're attacked. Absolutely. You don't know until you're attacked. That's the exact, I think, issue that many people take with the kind of high-level framing that you laid out, which, again, I totally agree with. But I think, you know, something that only became apparent more recently is that I don't believe it's a binary question, i.e., when do you get attacked?

Rather that it's ongoing. And the, like today we can see empirically that M.E.V. is driving at least, at least, socially undesirable kind of things to happen. Can you talk about any gas fees? MEV for folks that aren't familiar what that is. So maybe it would be helpful to zoom out right on like two, the two kind of ideas that I personally consider core to this platform security question, right?

And the first was a paper written by some folks at Princeton called on the instability of Bitcoin without the block subsidy. And it's a fantastic paper. It's worth reading. But the core idea contained within it is that transaction fees are not additive to security. And actually, more specifically, any transaction fees, which are proportional to the value of transactions, are not additive to security.

So in the context of Ethereum, all current gas fees cannot be assumed additive to the security budget. An example of a fee that could be is a constant amount of ether burnt. But we can get to that later. So that's the first very key idea. Can you just explain briefly why not? Because that's the entire thesis of Bitcoin. It's Bitcoin security model transitions to transaction fees only. So, yeah, the rough answer is that transaction fees, non-constant transaction fees, those which are proportional to value, which is true of Bitcoin transaction fees today, Ethereum gas, like are create minor extractable value inherently.

And so that's the second kind of key idea behind this broad security question. what is minor extractable value? It comes from, or is first defined in a paper, a fantastic paper by Phil Diane, called Flash Boys 2.0. And what it looked at was the Dex transactions, how bots front run them. And specifically, it looked at application, it looked at application behavior,

which created opportunities for transaction ordering to net a profit, meaning, you know, if I can be the first one to get a liquidation in, I can make money doing that. Or if I can front run someone's trade on uniswap, I can make money doing that. And they looked in this paper at empirically, there are arbitrage bots that do this, which are not minors. But the point that they made in the paper was that actually this value, is entirely extractable by miners, meaning rather than these arbitrage bots bidding on transaction

fees to try and get the ordering that they want so that they can front run you or liquidate you or whatever, that actually what miners should be doing is simply censoring all of those transactions and extracting the value themselves. And so you get into a system where, either you expect minor censorship or such that there are zero transaction fees, or if they are not the ones extracting the value themselves, then there is a very strong incentive to revert the chain, basically for consensus to become unstable because some blocks are wealthier than others. Yeah, so to reiterate that,

there, and we can really see this with a lot of the liquidity mining that's going on in DFI, there's a ton of volume going through uniswap. And sometimes we see blocks that have, you know, five, ten, twenty ether being paid as a fee. And it's in the miners best interest if there's a, a 20 ether fee block that only has two ether issued as a reward. And so the discrepancy between the fee and the reward is so large that for the next... To revert the next block. Right. The next like five, 10 blocks, there's an incentive for miners to, you know, reorg the next 20 blocks to go backwards to mine that 20-eath reward fee so they can take that from themselves. Is this right? Right. That's sort of a very pathological, right? Okay. So that kind of attack is what Phil Dayn calls a time bandit attack in the paper, which is basically it's not just the current block that you're in.

and how transaction ordering within it, you know, impacts the amount of value you can derive as a minor from, you know, publishing it, but that in fact it creates an incentive basically for consensus to become unstable because you would rather, to your point, reorg the chain than continue extending it. So what implications fall out from this, Charlie? So, yeah, to take it back to... to the earlier point on transaction fees, right? Like a very core idea and in fact,

one that Vatollic has, especially recently, been quite vocal about in public, is the notion that transaction fees, as we currently think about them, are not additive to security. In fact, they're at best not additive. And at worst,

create an amoeuvre an incentive to revert the chain. sort of big enough that it actually starts to happen in practice. And so, you know, in the case of Ethereum, I think the kind of net vision for the future that I take away from this is either has to be money, right? and that's kind of the base case that needs to happen for this thing to be secure. And it's the same argument as in Bitcoin. So that was kind of a poor way of stating it. But rather, I think. So I think the path that you got there is interesting.

I want to come back to ether has to be money in just a second. But also you mentioned Italic and sort of your transaction fees not being enough. Are you bullish on EIP 1559, sort of the burn mechanism? Is that necessary to prevent M.EV? Yeah, so that very interesting question. EIP 1559 does not prevent MEP. So what EIP 1559 does do, and I'm super positive on it, is that it creates a base rate fee that all transactions pay.

and this fee is burned. A fee is the wrong word. It creates a base burn, and that burn doesn't accrue to miners, right? So that's awesome. Where earlier I had said proportional to value fees are not additive to security because they are M-EV. EIP-1559 base fees are additive to security. You can invert the previous logic to say they're not proportional to transferable. transaction value and therefore they can be additive to security. Does that make sense?

I think I've got it. So now does EIP 1559 get rid of MEV? No, because there are still tip auctions in it, which are basically the same kinds of priority gas auctions as all transactions participate in today. And so even after EIP 1559, to the extent that N.E.E.E.E.P.559, to the extent that any individual transaction has, you know, creates an arbitrage opportunity, you would expect there to be a tip auction in exactly the same way as there is a, you know, priority gas auction bidding today over it. And so, and you need that to establish priority either in times of congestion or just when a transaction contains MEP. So the point here is any transaction which today bots get into a bidding war over the ordering of, you would expect that's still to happen

after EIP-1559 is implemented. However, it does, for transactions where that's not true, it's a very good thing that they burn the base fee rather than paying a transaction fee. Got it. So how about validators? So proof of stake, rather. So that basically means that the minor and the holder of the eth become one and the same, I would think that would give the holder of the eth longer time preference, let's say. We don't want to start front running everyone, or that destroys the value of Ethereum and my ether.

So we don't want to do that. Whereas in Bitcoin with proof of work, like the A6s are a separate token, if you want to think about it. Definitely. So I think it might be helpful first to like take a step back and consider the same question in the context of proof of work. This is something that Brian and I have talked about on Twitter before.

And, you know, what I said about EIP-1559, that you would still expect to see auctions happen for transactions which contain MEV afterwards, right, is not actually precisely true. You would expect that to happen unless miners start extracting value from them, right? rather than arbitrages participating in or bidding in gas wars over them, that miners simply censor those competing transactions and extract all of the value themselves, right, which is completely separate to EIP-1559 or any other fee question. So does that kind of make sense? It's like there's, to the extent that minors are just running the default geth implementation and minor config, like they're not going to.

going to do this, and so far today, up until today, they haven't. And that's why arbitrages get into gas wars. But if miners decided to start extracting it themselves, well, there wouldn't be any gas wars because they would simply censor any competing transaction and order it however they want. Yeah, I totally get it for proof of work. And then, yeah, for. So proof of stake, actually the same logic holds, which is an individual validator determines transaction. ordering within a block. And so they can choose to do this in exactly the same way. What does become more difficult are time-banded attacks, at least beyond the finality window. And so I think, you know, there's enough uncertainty around what proof of stake will look like

in, in ETH 2.0 for me to comment on sort of like, or, you know, imagine that I have a perfect vision for how all of these concepts translate, but at a minimum, the potential for, you know, the incentive to, for validators, block proposers to censor transactions still exists and will still be a problem. And the bear case for this is that stakers who are staking Eath who participate in this, you know, MEV, MEV capture are, it's, the game theory is that, you know, any staker that, you know, any staker that doesn't do this loses to the stakers that do, right? And so the value. And in fact, the losses compound over time. And the loss is compound over time, right? And so, like, while proof of stake advocates are concerned about mining centralization in proof of work mines, the miners,

the proof of work advocates are concerned about capital centralization in proof of stake. and this, the activities being described here where some stakers will be able to extract, extract, capture the MEV and some stakers won't definitely is concerning when it comes to a decentralization perspective. Is this right? Absolutely. Yeah. And so to my earlier point that this is the thing, Botelic's been talking about a lot, I think I can show you guys the links afterwards to include, but he has some great comments deep in Twitter replies and on a couple of of medium posts about potential solutions.

And I think something that people are not broadly aware of is like how bad this problem could be in the sense that the solutions, at least those that we currently imagine, are like kind of a radical departure from what Ethereum looks like today. and, you know, it's, so I think the point here is both that this is kind of becoming more and more of an urgent problem, and like the solutions, you know, some combination of proof of stake and everything going on to roll-ups, which I can get into more, are like a very kind of radical departure from what Ethereum currently looks like, and especially considering the timeline to ETH 2.0 or how long, like it seems like, at least to me, it will probably take the defy ecosystem to migrate. I think this is the problem

that anybody who wants to see Ethereum succeed long term should be concerned about. So, Charlie, is it not? So I feel like it's also a problem for Bitcoin, though, except one difference is it's a largely unacknowledged problem, right? So Bitcoin's, oh yeah, 100%. Okay. So like, I'm definitely going to get, I'm definitely going to get tweeted out for this, but like, yeah, I mean, it's a completely unacknowledged problem. In fairness to them, you know, like the inflation schedule isn't going to like drop to zero for a long time. But like certainly people don't seem to be Bitcoin people, however you want to define that, don't even really seem to be willing to, like, acknowledge that at some point it will exist.

So entirely separate to the question in Ethereum, but I completely agree. Okay. So here's how I kind of like summarized. I think I may have tweeted something like this like a long time ago, but like the dirty little secret of both camps, the Ethereums and Bitcoiners, the Bitcoiners don't want to admit that it need, that they need their block space to be valuable and they need to deal with the MEV problem in order to be.

Well, actually, that's, sorry. I think just to you put it very concisely there, the problem they have to deal with is that valuable block space is MEV. Well, there you go. That's another dimension, yeah. But the thing that Ethereum advocates don't like to admit, maybe present company excluded, I'll give us a pass on this, is that ETH needs to have monetary premium. So it's issuance policy matters.

It needs to become a money, because if you become a money to the extent you are a reserve asset a store of value, you kind of paper over some of these problems. Now, is that true? Because we started this whole thing with almost the conclusion that we've reached, which is these assets need to become money, like they need to accrue a monetary premium or the whole thing doesn't work long term. Yeah. So how did we get there? I think we're super, we're super down the rabbit hole at this point. Yeah. But I'm going to add even like one further nuance and then maybe we can we can zoom out and kind of like consider the whole picture right um and the nuance to ethereum i think it's awesome that you brought up the bitcoin analogy the nuance to ethereum is that phil diane's paper

um flashboys 2.0 showed that application layer behavior can create m evi v right and so for ethereum as compared to bitcoin the problem certainly exists in both systems right the instability without the block subsidy or rather that any proportional to value transaction fee scheme is MEV. And it's just that in Ethereum, we have the further complication of, like, what every transaction is doing, whether it be moving a bunch of tether or trading on uniswap, which creates an arbitrage opportunity in MEV, is kind of like, in some sense worse, or at least could be than a simple transfer. And I think, like, James Presswich summarized this pretty well in a tweet the other day. You can't write a script that finds all MEV so it doesn't exist.

Sorry, that's the rule. Like, that's kind of the problem that we're dealing with here that we don't really even know or can know, like, how bad it is. Yeah, I get it. And I think, you know, on the Bitcoin side, too, it could become the case that assumptions change. Binance is buying mining rigs, right? What if finance becomes a very large centralized mining facility and then it can maybe extract some of these MEV sort of, you know, capabilities in its crypto bank? But let's zoom out again and talk about Charlie why why sort of the summary is these assets, ETH needs to be money, Bitcoin needs to be money,

and by that, again, we just mean store of value asset for this whole thing to succeed. Why is that the case? So I think, you know, I'll try and give like the one or two sentence version. We know that we can't fund protocol security with competitive transaction fees or not non-constant transaction fees. And we know this from the paper on the instability of Bitcoin without the block subsidy, which applies equally to Bitcoin and Ethereum. We know empirically that MEV, quite a lot of it, exists on Ethereum today. And we know that the amount of MEV that exists is a function of the behavior of applications on Ethereum.

So we net out from this saying, well, we can't assume that transaction fees are additive to protocol, platform security at layer one. We know that applications running on top of this platform can parasitically add to, you know, the incentive to destabilize its consensus process. And so you kind of need to assume two things, in my opinion. One, that the base asset is sufficiently valuable to basically socialize the security of the platform as a whole, to such a degree that.

it just doesn't seem like feasible to corrupt. And secondly, you need to assume that there is a way to constrain the amount of parasitic application layer behavior to, like, not eventually topple over. Ergo, these things need to be reflexively valuable. Exactly. And so there's one, there's like one point here, which I'm sure is going to get debated, which is that, you know, EIP 1559, the base fee that is burned is additive to protocol security, even more so in a proof of state context, right? So maybe ether doesn't need to be money if,

like, fee burns far exceed, you know, the amount of MEV. Or, you know, we don't need a perpetual block subsidy because the amount of the fee burn exceeds the amount of MEP. Like, empirically, that's not the case, right? Because base fee burns scale in the number of transactions that happen on the platform, whereas like any two transactions can have zero or a billion dollars of MEP within them. And so I think like state rent, EIP 1559, base fee, burns are great because they're additive to platform security. Like the vast majority, if you break out on a pie chart, in my belief, will need to be like the moniness or the ability to socialize platform security with a monetary premium. Because personally, again, I don't believe that fee burns, state rent, et cetera, will like be sufficient to cover the cost of MEV or parasitic applica.

location incentives. Which is why I think possibly we've come to a similar conclusion, maybe from slightly different angles, which is like the open financial system of the world, again, to the extent that there's only one or one becomes dominant, will have at its base layer a store of value monetary premium type asset. It can't maintain first place unless it does. But let me ask you a question about alternative base layers. So Cosmos, for example, that, is a tenderment anyway is a paradigm investment, but I want your personal take on this. Cosmos is very clear that Adams, the token behind the Cosmos network, are not money, never intended to be money. Inflation schedule and such also sort of makes that true. You know, protocol

validators can vote on issuance. Lots of things make that true. Can it exist as a base layer without becoming money? I think what you just said about MEV and other, you know, approaches might mean you think it can. You think a cosmos is viable without atoms being money. Yeah. I think I'm going to walk back a little bit to the Ethereum case first and say, my belief is that Ethereum can work if ether is money and can socialize like a sufficient security budget for the platform, right?

I think that's a necessary component. But to be honest, I don't know that that's necessarily enough or that it's not the case that sort of parasitic application incentives like compound on one another to the point where it doesn't matter. The monetary premium doesn't matter. It's still overridden by sort of the asymptotic MEV behavior of the platform. So, you know, I think that's kind of like a contentious statement. I don't think that it's the obvious conclusion, the obvious logical conclusion. I think it's very possible that Ethereum does work and remain secure, economically secure long term. And that's my hope.

But I also believe, like, it's possible that it doesn't. And so what alternatives at that point seem credible? And is that where a cosmos and atoms kind of, you know, fit in? They're not trying to be money, but, you know, they could develop some sort of premium outside of, like some sort of economic security outside of being a store value. Exactly, yeah. And so that the sort of cosmos holistic thesis, maybe not specific to atoms, although, you know, we could talk about sort of the hub, the cosmos zone that they secure sort of the, their specific dynamics. But the Cosmos thesis as a whole is that, like, in short, if we figure out that we can't socialize the security of a general platform, general smart contract platform, by diluting a monetary premium, then every application may need to pay for its own security. and if every application needs to pay for its own security, then what's important to interoperability

is shared standards and shared languages and the ability to interoperate and for a comparable smart contract ecosystem to develop without relying on the homogenous security of a shared based platform. And so what Cosmos is, is not any one blockchain, but rather basically like a set of standards by which to create many of them and like allow them to interoperate without needing to share security. The difference between an empire and individual city states has been an analogy. Yeah. I think that's fair. I also think that the cathedral and bizarre kind of idea is fair from a security perspective, which is, you know, in Cosmos, like, any individual application's security could fail. And that will have ramifications on the

broader ecosystem. But there is not or there shouldn't be any one individual application whose security is like literally critical to the ecosystem's survival, right, in the same way that, to be honest, like in Ethereum, to the extent that it becomes insecure, Ether is not able to pay for the Ethereum platform's security. Like, we don't have a platform left. Right. So the central point of security of Ethereum, it rests in this one single asset, ether, and it's one single mechanism for providing consensus, which is proof of stake, right? And so since everything has the security of all platforms and all applications on top of Ethereum rests upon those two things, it becomes the one single point of attack or capture coercion versus like a more distributed system where there are just a mesh network of platforms and protocols that all kind of stitch themselves together,

where failure in one of those applications is relatively compartmentalized in relation in comparison to if everything is built on top of of one blockchain. Is that the right representation? Yeah, I think so. That's actually a very nice way of putting it. So, Charlie, I want to finish this with one last line of questioning before we wrap this up. The Medasha TestNet spun up last week, and if everything goes according to plan, it should be launching in November, which means that phase zero, staking of ether goes live in this year, hopefully, fingers crossed. And after speaking with a bunch of, you know, ETH II devs, they are all sort of on board with this concept of compounding progress, where phase zero took a really long time to get

to. If you want to, you know, if you want to count the maximum years, it's five years since the genesis of Ethereum, did it take us to get to phase zero? But phase one, no one really thinks that phase one is all that far after phase zero. And phase two, all these things are happening in parallel. Meanwhile, we have EIP-1559 and the burning of ether and of transaction fees, which is guesimated to be arriving sometime Q1, Q2, 2020, 2021, based on the conversations that have been going on with the EIP-1559 implementation team. My question and what I'm trying to get out of you is going back to the conversation of reflexivity inside of these crypto networks and how that. that will impact the broader sphere. So if we are just a few months away from staking, which is a core pillar of the ETH value accrual mechanism,

and maybe just after three or four months after that, does ETH burn go go live? And then maybe three, four, five months after that, do we have sharding in scale? Do you and do your partners at Paradigm think about this, this bam, bam, bam, bam, one, two, three, four, knock down the obstacles for ETHER's value proposition

happening in pretty quick succession and then keeping that relevant to the reflexivity of these systems. How do you guys think about all of these things tied together? So I think I'll make two controversial comments on the Ethereum roadmap. I am more confident that it won't fail today than I was a year ago. I also think there's a greater than 50% probability that we never get sharded execution environments or any ETH2 roadmap beyond phase one. How about one, so how about one.5, Charlie? Do you know that the idea of one dot five is basically like what we get is proof of stake and then ETH. Data availability. Yeah, data availability. and then everything scales with roll-ups.

Yeah, so that's why I say greater than 50%. I think, you know, I'm not sure that it's legible to everyone yet, like why all of what we talked about with respect to MEV and application layer incentives is kind of an input to this question, but it's not purely about feasibility of execution environments or like that roll-ups are enough, you know, with EF2 data availability and proof of stake. It's also about like centralizing MEV extraction into roll-up proposers. And I think that as of right now, like, that I'm not sure if it's more likely than like the original EF2 vision,

but if not, it's like pretty quickly getting there. I think. And I think ETH-15, you know, roll-ups with sharded data availability and basically just execution of fraud proofs on the beacon chain is a very similar model to Cosmoses if you imagine that like the hub, you know, provided like a shared layer for fraud proofs, you know, at least of the ones it chose to. The idea here basically just being that like in the ETH-15 world, it's important to remember that roll-ups can't talk to each other without making idiosyncratic security assumptions, right? If there's fraud on one roll-up, it can impact another to the

extent they're interoperating. And so it looks, it looks a lot like Cosmos, to be honest. And I think, I don't know, it'll be very interesting to see how it develops. I don't feel like there's enough clarity yet for me to be really confident in, like, how it will go, both in terms of, how ETH2 will go if we get 1-5 or kind of the original, you know, full-sharded execution vision. But I think it's very interesting. And especially to the extent that, you know, what we're currently seeing with DFI kind of continues, and maybe even, honestly, we start seeing minor censorship in practice, like that could push it to this must be the vision for Ethereum going forward.

that's what I would look for. If in the next year or two, we start seeing miners not follow protocol or start extracting value themselves, censoring transactions, which is quite possible, then I think we get ETH-15. Very cool, Charlie. We could spend a whole another hour, I feel like, talking about these things and going back and forth about them. It has been a pleasure to talk to you, sir.

I think you've got a depth of understanding that folks listening to bankless need, particularly with topics around economic security, monetary premium, and M-E-V. So we want to thank you for joining us. Thank you guys for having me. I mean, to be honest, I'm just like a very delayed and less eloquent repeater note of Vital. I would just drop all links to everything that you've written. I feel like we all are to some degree. So, yeah.

All of us together kind of. generate a mutual understanding of what the hell of Vitalik is talking about. It takes a village. It's like the crypto equivalent of Simpson's data. Right. Exactly. Exactly. All right.

Bankless listeners, this has been Charlie Noyes. I want to leave you with some action items today. The first thing you should do is read some of paradigms research, one of which we will include Bitcoin for the open-minded skeptic. That is sort of an intro to for institutions primarily on why Bitcoin. is a meaningful asset. Secondly, we'll include some links to articles that Charlie mentioned. One on the instability of Bitcoin without block rewards.

And then the second, the article from Phil on MEV will even include some Vitalic comments that Charlie will send us after the show. The third thing, David, we are at 93 five-star reviews, my friend. Do the math. How far are we from 100? Yeah, really, really far. so we need everyone's help to get to 100. The Bankless Nation recently passed 10,000 subscribers,

and the fact that there's only 93 five-star reviews on our podcast makes me a sad boy. So if you could go to wherever you listen to your podcast and give us that five-star review so we can get the bankless gospel into as many ears as possible, we would really appreciate it. I think we're going to hit 100 right after this show, David. I've just got a feeling. Risks and disclaimers, everyone.

ETH is risky. crypto is risky, Bitcoin is risky, everything we talk about around yams and DPI are very risky. You could lose what you put in. We are headed west. This is the frontier. It's not for everyone, but we are glad you're with us on the bankless journey. Thanks so much.