The NFT Market Is Mushrooming – Why??

Saturday Night Live fans were introduced to Non-Fungible Tokens (NFTs) a year ago with this skit. Most people know that an NFT is a digital ownership certificate of some asset. That could be a physical asset, or a purely digital asset, like a crude graphic of an ape wearing a sailor’s hat which people are willing to pay hundreds of thousands or millions of dollars for.

The NFT market volume exploded in the second half of 2021:

On-line chain transactions as tracked by DappRadar. Source: Schwab.

The global NFT market is projected to grow from $1.9 billion in 2021 to $5.1 billion by 2028, an annual growth rate of some 18%.

But, why??? Why would people plunk down millions of dollars for just a certificate of ownership of something which may not be particularly beautiful or functional? It is just not something that would ever occur to me.

Part of the answer must be that there are a lot of people who have a lot of money that they don’t really need. This may be a function of the ever-increasing income inequality, but we will not go down that rabbit hole. But still, assuming some 30-something has 50 grand that he doesn’t need  — why spend it on an NFT?

I did a real quick search on this topic. The most common reason appears to be the same reason many people buy rare coins or rare wines or other “collectibles” – they hope that someone else will pay them a higher price in the future. There also seems to be a sense of participating in some “community”, e.g., of Bored Ape Yacht Club aficionados. Much of it comes down to the psychology of what others will pay for something, which can be often explained in hindsight, but can be hard to predict if some asset class has not yet become “hot”.

It turns out that there are some other nuances to NFTs beside just hoping some “greater fool” will pay you more for the ownership of your ape drawing five years from now. I will conclude by pasting in some excerpts from an article on the Hyperglade blog, which frames the discussion partly in terms of the familiar economic concept of scarcity:

The key value proposition that NFTs often claim is scarcity. NFTs, as their name suggests, are each inherently unique on the blockchain, i.e. they can be attributed to a specific ‘hash’ or ID. But scarcity alone doesn’t drive value – it has to be a ‘scarcity’ that people want. 

One of the first types of scarcity that people want is exclusivity. Exclusivity in this context means something that is very rare and has attributes of originality. Long before NFTs existed, collectibles took center stage in this arena. For example, trading cards, comic books, and antique toys were very valuable due to their scarcity and history associated with them. For example, the Captain America Comics No. 1, from 1941 sold for over $3 million! The NFT equivalent of this would be Jack Dorsey’s first tweet, which went for $2.9 million. Jack’s tweet illustrates the quintessential NFT qualities; distinct historical moment, a special creator, and only one of them. 

Collectible NFTs come in many forms (in image, audio, or video formats), but the primary category is art (e.g. the Beeple NFT), followed by music, and sports moments (e.g. NBA top shot). Subsequently, given the depth of the cultural penetration of the content involved, collectibles are the most popular reason for investing in NFTs. According to Crypto.com’s NFT survey of ~30,000 polled users, 47% of those who own NFTs bought them for collectible value. Their primary motive – to be able to ‘flip’ (sell) at a higher price.

Access to a Network

More recently however, is the emergence of NFT collections that empower communities. These collections give holders access to special privileges, primarily access to special cryptocurrency related services and benefits (e.g. higher investment rates). For example, The famous Bored Ape Yacht club holders get to attend special events, E.g. in October 2021, members celebrated annual Ape Fest in New York City, Bright Moments Gallery.

Assets in virtual worlds and gaming

If you haven’t heard of them already, Virtual digital worlds are computer-simulated environments in which users roam around using their personal avatars. So NFTs neatly solve the problem of immutable land ownership. And depending on the demand, access and foot-traffic to certain places in these simulated world prices for virtual lands have skyrocketed. For example, even the cheapest land in decentraland exceeds $10,000. In a very similar way, web 3.0 games are expanding the use case by digitizing in-game assets so that they can be physically owned by players on the blockchain. In-game assets can include characters, cards, skins, etc. a list of which you can find here.

Simone Biles and the Trojan War

When star gymnast Simone Biles decided to sit out the Olympics this week to ‘focus on herself’, both those praising her and those criticizing her seemed to treat this like a unique story that wouldn’t have happened in earlier generations. But it reminds me of one of the oldest recorded stories in the world, one that predates even the first ancient Greek Olympics of 776 BC- Achilles’ decision to sit out the Trojan War.

Here is Biles this week:

We also have to focus on ourselves, because at the end of the day we’re human, too… We have to protect our mind and our body, rather than just go out there and do what the world wants us to do.

Here is Achilles, greatest of the Greek warriors, thousands of years ago:

Him do I hate even as the gates of hell who says one thing while he hides another in his heart; therefore I will say what I mean. I will be appeased neither by Agamemnon son of Atreus nor by any other of the Danaans, for I see that I have no thanks for all my fighting. He that fights fares no better than he that does not; coward and hero are held in equal honour, and death deals like measure to him who works and him who is idle. I have taken nothing by all my hardships- with my life ever in my hand; as a bird when she has found a morsel takes it to her nestlings, and herself fares hardly, even so man a long night have I been wakeful, and many a bloody battle have I waged by day against those who were fighting for their women. With my ships I have taken twelve cities, and eleven round about Troy have I stormed with my men by land; I took great store of wealth from every one of them, but I gave all up to Agamemnon son of Atreus. He stayed where he was by his ships, yet of what came to him he gave little, and kept much himself….

Agamemnon has taken her from me; he has played me false; I know him; let him tempt me no further, for he shall not move me. Let him look to you, Ulysses, and to the other princes to save his ships from burning…. I will draw my ships into the water and then victual them duly; to-morrow morning, if you care to look, you will see my ships on the Hellespont, and my men rowing out to sea with might and main. If great Neptune vouchsafes me a fair passage, in three days I shall be in Phthia. I have much there that I left behind me when I came here to my sorrow, and I shall bring back still further store of gold, of red copper, of fair women, and of iron, my share of the spoils that we have taken; but one prize, he who gave has insolently taken away. Tell him all as I now bid you, and tell him in public that the Achaeans may hate him and beware of him should he think that he can yet dupe others for his effrontery never fails him.

As for me, hound that he is, he dares not look me in the face. I will take no counsel with him, and will undertake nothing in common with him. He has wronged me and deceived me enough, he shall not cozen me further; let him go his own way, for Jove has robbed him of his reason. I loathe his presents, and for himself care not one straw. He may offer me ten or even twenty times what he has now done, nay- not though it be all that he has in the world, both now or ever shall have; he may promise me the wealth of Orchomenus or of Egyptian Thebes, which is the richest city in the whole world, for it has a hundred gates through each of which two hundred men may drive at once with their chariots and horses; he may offer me gifts as the sands of the sea or the dust of the plain in multitude, but even so he shall not move me till I have been revenged in full for the bitter wrong he has done me. I will not marry his daughter; she may be fair as Venus, and skilful as Minerva, but I will have none of her: let another take her, who may be a good match for her and who rules a larger kingdom. If the gods spare me to return home, Peleus will find me a wife; there are Achaean women in Hellas and Phthia, daughters of kings that have cities under them; of these I can take whom I will and marry her. Many a time was I minded when at home in Phthia to woo and wed a woman who would make me a suitable wife, and to enjoy the riches of my old father Peleus. My life is more to me than all the wealth of Ilius while it was yet at peace before the Achaeans went there, or than all the treasure that lies on the stone floor of Apollo’s temple beneath the cliffs of Pytho. Cattle and sheep are to be had for harrying, and a man buy both tripods and horses if he wants them, but when his life has once left him it can neither be bought nor harried back again. 

My mother Thetis tells me that there are two ways in which I may meet my end. If I stay here and fight, I shall not return alive but my name will live for ever: whereas if I go home my name will die, but it will be long ere death shall take me. To the rest of you, then, I say, ‘Go home, for you will not take Ilius.’ Jove has held his hand over her to protect her, and her people have taken heart. Go, therefore, as in duty bound, and tell the princes of the Achaeans the message that I have sent them; tell them to find some other plan for the saving of their ships and people, for so long as my displeasure lasts the one that they have now hit upon may not be

In either case, economists aren’t surprised to see people stop showing up to work when they think the costs to them exceed the benefits, even when that work is itself unusual and could benefit their country.

A Simple Model of Why Everyone is Overpaid Except You

I could include as an alternative title: “Labor Theory of Value for Me, Compensating Differentials for Thee”, but alternative titles are kind of pretentious.

The market for art is, for all but the most famous artists, incredibly thin, where transactions for a given artist are sufficiently far between that there is rarely a “market price” to simply point to when setting a bid or ask price. If you’ve ever purchased art, you will be aware of the urge to feel like artist asking prices are always more expensive than they should be. This could be because we, as failed aesthetic creatures, undervalue art. It could be because non-artists rarely understand the cost of inputs (paints, brushes, metals, wood, plaster, etc…). It could be because we underestimate the total hours of labor that go into a piece of art, so even if we assess the market value of the artist’s time appropriately, we fail to appreciate how many hours a piece represents. Those are all reasonable guesses, but I tend to think that those phenomena are at work in how we estimate the value of just about anything.

Instead, what I think is at work here is that we tend to impute “compensating differentials” into the bid prices we internally calculate. “Compensating differentials” is the term economists use when referencing the additional (reduced) pay individuals receive in the market for unpleasant (fun) jobs.

I suspect that when considering original pieces of art for non-famous artists we have a tendency to factor a negative compensating differential in our bid that boils down to “Lucky, you, you get to be an artist. Part of your payment is my letting you be an artist.” Many of us have a tendency to do this when grousing about the wages of professional athletes, tavern musicians, or the lady selling birdhouses at a craft market. If a job looks like it is fun, or at least more fun than your job, then the product of their labor should be relatively cheap. And it’s not just artists, either. When complaining about the price of landscapers (they get to work in the fresh air!) or furniture makers (it’s a hobby!) or really anyone that grumpy old person inside of you wants to scream at “They’re lucky they get paid at all!”

We rarely think this way when considering our own wages. When it’s our time and energy, we are quick to eschew not only any concept of market pricing, but also any compensating differentials for the fun or high status aspects of our work. To make matters more hilariously self-serving, while we are uninterested in acknowledging the value of the non-pecuniary delights that we benefit from in our own work, we actively go hunting for any negative aspect that might be unappreciated in our wages. Sure, my job is safe, reliably paid, and absent social stigma, but what about my emotional labor*? Why am I not being paid more given the FOMO, shame, and generalized anxiety I feel every day in this cowardly office job when I should have been an artist? Why am I not being paid more to compensate for doing something I would prefer my hobbies to?

When we value our own work, our labor has intrinsic value that should be compensated. If the market fails to meet our own valuation (and it almost always does), it is a market failure. It should therefore be with some shame that when we wade into a labor pool as buyers of products absent a well-defined market price, we abandon any since of intrinsic value, quickly transforming into villainous music producers agitating to pay the naïve and aspirational in everything but money, because they should be grateful that you’re enabling their art. They’re lucky you’re paying them anything at all.

Fortunately for all of us, most of our individual grousing is lost in the wash of countless transactions setting prices for the products of all our labor. If the majority of goods we consumed were subject to the ridiculously self-serving logic behind what we (at least try) to pay artists, we’d all be in the same unemployment line, making plans to apply for the job the person behind you got fired from. Sure, they hated it, but to you it sounds pretty sweet– definitely nicer than your old crappy job.

* I know a more correct use of “emotional labor” is in reference to the comfort and therapy service industries, but this is a term that is regularly abused and stretched into meaning anything the writer wants, which is the appropriate caricature for my purposes here.

** P.S. If you’re curious about what to offer an artist who’s work doesn’t yet have a established market, I work with something akin to this simple rule:

1) Guess what you think a fair price is, X

2) Double it. This is your offer price, 2X.

3) Ask the artist for the price, P. If X<P<2.5X ,shake hands and enjoy your art. If P > 2.5X, tell them that is a completely reasonable price but it’s out of your price range. Art is a luxury good, we can’t always afford everything we want.

4) If P < X, just give them X. They are likely young and are undervaluing their own work. Don’t be a cheap bastard.

The Top Shot Blockchain Phenomenon

Samford Business student Wes Crane writes: Remember when people used to buy and sell physical sports trading cards? Recently the NBA has partnered with Dapper Labs, a company that specializes in blockchain (the same technology used for Bitcoin and Ethereum), to create and sell a digital art form of non-fungible tokens, or “NFT”s, that contain video clips of highlight moments which can be traded online at https://nbatopshot.com.

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Joy’s Cartoon is in a French Textbook

This is my day in the sun. A decade ago, I started ecoNomNomNomics.com. Back then, I knew that my dream job was “economics professor”, but I was years away and also thousands of miles away from where I am now. I have barely updated the site since 2011, but every now and then new people find it. My hope has always been that it would be both helpful and happy.

A French publisher reached out to me and asked for permission to use one of my cartoons in their workbooks that will reach actual French students. I was delighted to say yes.

Allons-y! With their permission, I reproduce the page that has my picture:

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Consumption as Inflation Hedge

The emerging market in digital art as nonfungible tokens is the strongest signal of expected inflation I’ve seen to date.

Let’s back up.

Digital art is being sold as nonfungible tokens (NFTs). Is this a bubble? Don’t know. Is this art? Don’t care. Is a piece of digital art as an NFT harder easier or harder to duplicate? I imagine it is easier for the artist, but they have an incentive not to issue duplicates, because doing so erodes the market value of all future digital art NFTs the producer might issue. Is a piece of digital art as NFT harder to duplicate for a forger? I imagine so. The NFT as both art and artists signature is certainly harder to duplicate than traditional media and penmanship. Which is to say we have little reason to worry about the value of a piece of art being inflated away by the artist or criminal forgers.

Now that’s interesting.

The general rule of thumb is that the more consumption value a good offers, the worse it will perform, on average, as an investment. Art, baseball cards, comic books, vinyl records, memorabilia, homes – these are all generally inferior to equities as investments. It stands to reason, though I certainly haven’t checked, that the same logic applies to hedging against inflation as well. Precious metals, while less fun, should offer a superior hedge against inflation than art, particular in relation to art by living artists, where the supply is anything but fixed.

In this regard, however, NFTs are a bit of a game changer. The supply of any given Beeple NFT is fixed forever at one, and there is as yet no reason to believe otherwise. Storage and security costs approach zero, which is something that can’t be said about a 20-foot tall metallic balloon dog. The consumption value is subjective and I’ll leave it to market auctions to suss that out. The inflationary hedge value, however – in this manner NFTs may be an game-changing innovation for prominent living artists, allowing them to capture rents from the value they create that has previously eluded them prior to shedding their mortal coil.

The bond market isn’t giving unambiguous signals of inflationary pressures yet, but signs are creeping in, and among those signs I include seemingly rabid excitement for mixing cultural-status consumption with cryptocurrency-enabled hedges against the prospect of what would be the first real wave of inflation we’ve seen in 40 years.

Which is a long winded way of saying I’m not rooting for inflation, but I’d also be happy to sell my mint-condition complete set of 1987 Fleer baseball cards if you’re looking to hedge your portfolio.