The Time Value of Bitcoin and LNRR

1. The Bitcoin Second Layer

Bitcoin’s antifragile protocol and its exponentially increasing network effects make it a behemoth, gradually swallowing up global economic activity. The latest of these network effects is a second layer protocol called Lightning Network, which uses bitcoin’s base layer protocol as its security. The concept of layered money is not new in monetary history. In this writing, I’ll be using gold as an analogy to describe why bitcoin will evolve in layers on its way to world reserve currency status.

2. The Time Value of Bitcoin

The HTLCs in Lightning Network give bitcoin a path to become a global reserve currency. Lightning Network provides a framework to measure the time-value of bitcoin, a precursor for a capital market and reserve currency status. Observable variables in Hashed Time Locked Contracts can be used to calculate the interest rate received on bitcoin held in payment channels, allowing investors to measure their opportunity cost of capital. Lightning Network wallet software should include ways to calculate interest and prove the rate received in a trust-minimized way. A reference rate should be developed, using consensus to dictate how the rate is calculated. This reference rate can anchor off-chain bitcoin lending into the global economy, leading to bitcoin-denominated banks, credit ratings, debt capital markets, and eventually an entire financial system: a path toward status as a global reserve currency.

3. The Bitcoin Risk Spectrum

Bitcoin is already a reserve asset. It is the world’s first true example of decentralized digital scarcity, and its elegant, predetermined supply schedule reinvents monetary policy. Its value is recognized by millions of people who own bitcoin as a savings vehicle, speculative investment, or currency hedge. Bitcoin is a reserve asset because millions of people own it as one. Its next step is to transition from a reserve asset to a functioning reserve currency by unlocking the bitcoin capital market. Lightning Network’s arrival finally allows us to assign time value to bitcoin, and we can begin building bitcoin’s capital market from first principles.

US Dollar Risk Spectrum
Bitcoin Risk Spectrum

4. The Lightning Network Reference Rate

I present a three part proposal for Lightning Network node operators. The first and most crucial part of the proposal is a node-level calculation standard for the accrual of satoshis. The Node Accrual Rate (NAR) is offered as a formula to calculate the profitability of an individual Lightning node, expressed as an annualized interest rate.

bitcoin-native financial theory, adjunct professor of finance and business economics @USCMarshall