Is NFT a Pyramid Scheme And Bad?

As I spent over USD 400,000 in NFT in August 2021, I did more research on why NFTs can be potentially bad, one of it being a pyramid scheme.

Is NFT a pyramid scheme? NFT is not a pyramid scheme since NFT involved the sales of an actual product (e.g. digital art) and investors are not promised a profit for each member they recruit.

The original team can get an artist fee for each sale, on top of the platform fees (e.g. OpenSea charges 2.5%). The artist fees is just a fairer way to reward the original artist, compared to the current system that rewards the buyer/seller only. 

There are some arguments why NFT is a pyramid scheme and let's look at them in my opinion.

NFTs Crypto Pyramid Scheme

GeekCulture in Medium explained their view about NFTs being a sunk cost in the buying and selling of wasted electricity tokens:

The short version of the story is that NFTs and cryptocurrencies more generally allow you to buy and sell wasted electricity. You get a token to represent the electricity that was wasted generating the token, creating a sunk cost in the system where people start saying “well, we already wasted a ton of electricity on this which means it must be worth something or else they wouldn't have done it”. Basically, it's a way of buying and selling wasted electricity tokens all in the name of supporting a pyramid scheme. (medium.com)

The pyramid scheme is regarding the proof of work which major cryptocurrency like Bitcoin and Ethereum is employing

So how is this a pyramid scheme? Well. Hopefully you can already see, from my description of proof of work, the way that people who have already set up these server farms are now “invested”, they are in too deep and if the value of the cryptocoins they have been mining were ever to drop to nothing, all the time they sunk into mining, all the coins they generated, all the real dollars they spent on mining farms and electricity bills would vanish into thin air! If that happened, it would all be for nothing, and then what did we waste all that electricity for?

GeekCulture believed proof of stake is a better form of value generation but will be difficult to implement due to the reputation risks. Ethereum is on its way to implement proof of stake and it remained to be seen if a major cryptocurrency like Ethereum could shift to proof of stake to

  • reduce the electricity wasted
  • reward the people who stake and penalizes bad actors
  • remain secure without the proof-of-work

NFT is Worthless

Another issue is that many people do not deem NFT and digital art as actual products. It was ridiculed as "Right-click and Save" as people can just screenshot your art.

However, some NFT artists have 2 versions of their NFT art, with the higher quality (e.g. 4000x4000 resolution) of their art available only when you prove you owned the token (using your crypto Wallet and public key).

That's said, you could download the higher quality NFT (i.e. right-click to save) after getting the token and selling it away immediately. You could also distribute the high-quality NFT once you have it but that will be illegal against the agreement and license.

NFT Loses Value

Firstly, an investment that loses money does not equate to a pyramid scheme. If that is so, cash that loses value due to overprinting is a potential pyramid scheme.

Similar to physical arts, people can sell NFT at losses for all reasons

  • The cryptocurrency went up in value (e.g buying at 4 ETH when Ethereum was $1,000 is the same as selling at 1 ETH when Ethereum is $4,000)
  • Better investment or growth opportunities 
  • Emergency needs like healthcare 
  • Investing with money that is required for living needs, e.g. rental

Selling at a loss or an NFT losing value (since its purchase) does not mean the art is worthless. In fact, having someone willing to pay, no matter how low, might indicate it has some form of value.

NFT is a Fad

Again, NFT being a fad does not equate it to a pyramid scheme. Bitcoin was deemed as a tulip mania hype that was unsustainable. Yet, the community has trusted it and kept using it for transactions.

Bitcoin has also hit all times high regardless of

  • regulation concerns (e.g. China shutting down mining)
  • exchanges losing people money,
  • Environmental concerns due to its excessive use of the world's electricity (however, people counterargued that mining was using sustainable energy sources).

The art market has always been about making enough people believe that something has value. Fstoppers said that it's also been a shadow banking system that facilitates the movement of large sums of money across borders or hides it from tax inspectors.

The value of the artworks that are now being sold as NFTs has acquired value thanks to marketing, FOMO, and a massive pile-on of unwitting minters and buyers trailing eagerly after celebrities and huge brands. Money washes through this system, and as a bubble, it's unsustainable. (fstoppers.com)

Is NFT art a bubble

People also claimed NFT art is a bubble, waiting to burst. Everything will go through a hype phase based on Gartner's hype cycle and it just takes time for it to the plateau to normal.

A hype just meant that the expectation is at its highest. NFT deserves the high expectation as it was previously difficult for artists or developers to connect with collectors directly and get paid fairly.

In 2019 Gartner listed smart contract at its peak in July 2019 and expected to plateau from 2021 to 2024. However, in 2021, the price of Ethereum which runs most of the smart contracts can reach its all-time high too. 

Source: Gartner

Conclusion

Lots of money is pumped into NFTs which is great for artists and collectors. Investors does need to be careful since this could end up being worthless. I will continue this NFT journey in project I really liked and making it work out.

Author
Sky Hoon. Read Full Bio
Website Owner, Twitter-er
He has been trading since 2008. He started this blog to share the journey about option trading. He dabbled in stocks, bitcoin, ethereum (in Celsius Network), ETF (lazy Dollar Cost Averaging) and also built websites for fun. He used this as a platform to share my experiences and mistakes in trading, especially options which I just picked up.

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