Anyone who was around in the early 1990s may remember that the mantra of modern globalization was that decentralized markets were good and centralized markets were bad. The math supporting the efficiencies of the comparative advantage economic model was, and still is, indisputable. Further back, the concept of laissez-faire has been the cornerstone of modern capitalism since the late 1600s. So we have seen this picture before, and it should be acknowledged that there is, in fact, reliable precedent to examine as we approach the era of machine-enabled decentralized governance called blockchain technology.
Blockchain technology is incredibly interesting to me because many of the opportunities and concerns regarding the technology are similar to the conditions surrounding my involvement in the implementation of the NAFTA agreement more than two decades ago. Specifically, I worked on standards for the mutual recognition of engineering professionals between the U.S. and Mexico.
While the effort largely failed, I was able to directly observe efforts to control a decentralized network. The effect was that markets were administered unevenly and rarely met the conditions of insurability. Today, the standing joke in the blockchain domain is that the “act of trying to control a decentralized market eliminated many of the benefits of having one in the first place,” Let history be our teacher.
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Today, while we may face similar peril, it is much more serious. Blockchain technology is far more powerful than linear Comparative Advantage Theory. Blockchain promises exponential efficiencies or exponential deficiencies. The difference is that we also have the knowledge, foresight and profound responsibilities to get it right this time. We have a choice.
In 1993-96, the mutual recognition of professional engineers was controversial and divisive. U.S. engineers were fearful they would lose their high-paying jobs to cheap Mexican engineers, whose salaries at the time were about one-tenth the U.S. engineers’ salary. The fear was real.
I saw something different. I saw an entire nation — an entire continent — that needed everything U.S. engineers create. Mexico, Central America and South America needed roads, bridges, structures and every manner of infrastructure upon which all markets depend. The problem was that infrastructure projects could not be financed. This was not for lack of money (NAFTA also liberated access to financial services) but for lack of insurance. Without a tip-to-toe insurance presence, Latin American economies continue to experience difficulties in bridging the capitalization gap.
The capitalization gap is that strange period between the time when money begins to flow into a project and the time revenue flows out of the project — where the asset isn’t an asset yet and falls off the balance sheet. There is no title and no recourse if something goes wrong; risk is very high, and so is the corresponding cost of capital.
In the U.S., it is well-known that soft costs can represent as much as 30% of the cost of a structure. We have also developed a professional engineering licensure system that serves as a financial instrument; a proxy for title, which fulfills the conditions of insurability. The combination of insurance and engineering is what maintains the asset as an asset on the balance sheet. Even when the shiny new office tower resembles nothing more than a pile of dirt, that pile of dirt is valued as a shiny office tower on the balance sheet.
Banks and insurance companies depend heavily on engineers to verify the design, materials, processes, components and performance of all subjects they finance. In general, the construction process breaks down into a long and complicated series of events that all must be contracted, negotiated, ordered in time and verified in a secure manner — while also triggering payments to stakeholders. This is a textbook perfect application for blockchain technology.
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The consortium between engineering and insurance is critical to convert existing engineering and construction contracts into blockchain-adjudicated smart contracts. Engineers would validate conditions of insurability throughout the design, construction and the life cycle of the asset.
The consortia between engineering and insurance already exists, and their impact on the cost of capital is abundantly clear. To formalize this on a blockchain initiative is not a radical position by any means. What is unique about this proposal is that insurance and engineering should be at the forefront of blockchain development, building the bridge that spans the capitalization gap upon which all derivative markets can travel, laissez-faire.