Primer on Blockchain and its Impact on Global Economies
The fundamental aspect that blockchains have brought us is the ability to trust in a trustless environment. All components of the blockchain network revolve in some way around this key point. Blockchains have the potential to give us almost unlimited capabilities as an added value layer for all next generation technologies as well as established and legacy industries. Some believe it will add more value than even the internet, and is being called the fifth evolution of computing. First let me put the importance of trust in perspective through the Byzantine Generals’ Problem.
A group of generals, each commanding a portion of the Byzantine army, encircle a city. These generals wish to formulate a plan for attacking the city. In its simplest form, the generals must only decide whether to attack or retreat. Some generals may prefer to attack, while others prefer to retreat. The important thing is that every general agrees on a common decision, for a halfhearted attack by a few generals would become a rout and be worse than a coordinated attack or a coordinated retreat.
The problem is complicated by the presence of traitorous generals who may not only cast a vote for a suboptimal strategy, they may do so selectively. For example, if nine generals are voting, four of whom support attacking while four others are in favor of retreat, the ninth general may send a vote of retreat to those generals in favor of retreat, and a vote of attack to the rest. Those who received a retreat vote from the ninth general will retreat, while the rest will attack (which may not go well for the attackers). The problem is complicated further by the generals being physically separated and having to send their votes via messengers who may fail to deliver votes or may forge false votes. Byzantine fault tolerance can be achieved if the loyal (non-faulty) generals have a unanimous agreement on their strategy
Trust has always been a problem that we couldn’t solve, until the emergence of blockchain. Blockchain is the missing trust layer for the Internet. It is used to create trust in digital data. The value is added when you want to share information with parties you don’t fully trust. But how exactly is a blockchain defined?
A blockchain is a distributed database or digital ledger of data which is shared among a network of independent parties. Blockchains are permanent and unalterable records of every transaction. The important aspect to notice is that the data is on a distributed network, essentially, all information on the blockchain is stored on each computer in the network. No single person or group owns, manages, or controls the network (therefore no need for trust), its available to everyone in the world who joins, and will be available for anyone to join. This video is a great 2-minute primer on blockchain.
The Structure of Blockchains
Block: A list of transactions (simply the recording of data) recorded into a ledger over a given period. The size, period, and triggering event for blocks is different for every blockchain.
Chain: Hash (fingerprint for data) that links one block to another, mathematically chaining them together. Allows them to create mathematical trust by creating a one-way function by transforming data of any size into short, fixed-length values. Secure Hash Algorithm (SHA) is one of some cryptographic hash functions used in blockchains. SHA-256 is a common algorithm that generates an almost-unique, fixed-size 256-bit (32-byte) hash.
A blockchain is made up of three components that must be in place for it to function.
The three components are a distributed ledger, a cryptographic function, and an economic incentive for the participants of the network.
The first is the distributed ledger, all the computers that make up the network are in more than one location (spread out across the world). They are typically referred to as Full Nodes. Each node contains a complete record of all the transactions that were ever recorded in that blockchain. This has many advantages (which I will soon cover) but the important thing is that the Network Effect is very important for blockchains to work. The fewer people who participate, the more centralized it becomes, and centralization (single entity) weakens the system.
The second is the cryptographic function, this uses a hash or a function algorithm that allows you to input any information and using mathematical algorithms spits outs a digital code or “identification code”. One minimalistic change in the information that you enter (even the difference of an extra comma or letter in a 100-page report) would output a completely different digital code.
An example of a potential benefit of this is with legal contracts, all you would need to do is compare the 20-digit code to ensure that all parties are signing the same contract.
Before bitcoin there were decentralized P2P networks such as Morpheus and Kazaa, but they were missing a major aspect that blockchains solved. The missing piece was an economic incentive. Thus, the third component is having incentivized participants. All the information in the network is stored on every computer and takes up space, so you must include an economic incentive to make it more attractive for individuals to run nodes in the network, which would increase decentralization and increase security.
This can also be seen If you ever downloaded a torrent. You know without economic incentives, there is little reason (besides being altruistic or a true “pirate”) for users to continue seeding files (that take up space on their computer) so that other users can download them for free.
Three Core Types of Blockchains
1. Public Networks — are large and decentralized, anyone can participate, most secure and immutable. But slower and more expensive to use. They’re are secured with a cryptocurrency and have limited storage capacity.
2. Permissioned Networks — are viewable to the public, but participation is controlled. Many of them utilize a cryptocurrency, cheaper, very fast — low latency and have higher storage capacity over public networks.
3. Private Ones — are shared between trusted parties and not be viewable to the public. Very fast — no latency. low cost to run, and built very fast. Most do not utilize a cryptocurrency, no immutability and security of decentralized networks. Storage capacity may be unlimited.
A blockchain’s 3 main benefits are that it provides transparency, authentication and auditing abilities. Since the blockchain records relevant information in a public space that cannot be removed, information is always available and can always be looked up, if needed this makes it completely transparent. It also is secure, you can give only the information that is needed, while hiding the information that is irrelevant. This recording also allows for authentication. Since all information is recorded you can track either documents, assets, products, or even food during the supply chain and make sure that the product in your hand is authentic. Auditing is the third major benefit of the blockchain. Instead of going back and auditing information like is currently done, things become audited the moment they hit the blockchain, instantly marking the information and “flagging” it.
First law of Smart Contracts: He who controls the data, controls the contract.
A smart contract is autonomous software that can make financial decisions. It’s a written contract that has been translated into code and builds complex if-then statements. Due to that it is able to self-verify that conditions have been met to execute the contract as well as also self-execute certain actions such as releasing payment or other types of data.
These contracts can be used for pretty much anything, from exchange of physical goods (that have digital signatures) to exchange of information or money, but they do not need to be financial in nature.
Before Bitcoin it was thought to be impossible to achieve consensus among nodes to develop a decentralized digital currency system because of the Byzantine Generals’ Problem I mentioned earlier. But, Satoshi Nakamoto, the anonymous creator of Bitcoin, however, managed to create an economic incentive to uphold Bitcoin’s peer-to-peer network. He introduced Bitcoin mining rewards for those who used their computing power to secure the blockchain and to process bitcoin transactions. This was the birth of cryptoeconomics, which has been defined by a few leaders in the blockchain space below.
According to Ethereum developer Vlad Zamfir, cryptoeconomics is “A formal discipline that studies protocols that govern the production, distribution and consumption of goods and services in a decentralized digital economy. Cryptoeconomics is a practical science that focuses on the design and characterization of these protocols.”
According to the Founder of The Control, Nick Tomaino, cryptoeconomics is “The study of economic interaction in adversarial environments. In decentralized P2P systems that do not give control to any third party, one must assume that there will be bad actors looking to disrupt the system. Cryptoeconomic approaches combine cryptography and economics to create robust decentralized P2P networks that thrive over time despite adversaries attempting to disrupt the network.”
The Ethereum Wiki defines cryptoeconomics as “The combinations of cryptography, computer networks and game theory which provide secure systems exhibiting some set of economic dis/incentives.”
Cryptoeconomics is a new field of study that analyses economic interactions (transactions) in the decentralized digital economy. It’s the combination of cryptography as the art of secure communication under the eye of third parties, and economics. Cryptoeconomics is the foundation on which cryptocurrencies and digital assets are built on. Cryptocurrency lets you take the concept of money and move it online with the ability to trade value securely through a token. It Incentivizes one to operate a node because they want to earn cryptocurrency in exchange for their service.
Examples of Blockchains
There are many different blockchains being developed, and each have their own specific use cases for the types of applications that can be built on top of them. A few examples of some of the most talked about chains are Bitcoin, Ethereum and Tezos, which are all decentralized ledgers powered by a blockchain. Bitcoin was the first public blockchain and introduced the first truly decentralized form of electronic cash. Ethereum followed suit by including smart-contracts in its platform, allowing a greater range of application to be developed. Tezos takes this concept one step further by letting participants directly control the rules of the network. It is designed to evolve, so that the next generation of ideas doesn’t have to start over as a new blockchain. I won’t get any deeper into the different types of blockchains, but know they each act as a platform for other tokens or applications to be built on top of them and have specific scripting languages and use cases associated with each.
Examples of Tokens
As of this writing there are 850+ tokens built on top of Ethereum, and 700+ built on top of the Bitcoin blockchain. Tokens are being created for a number of incredibly unique services, but for now I’ll just provide a quick example:
Golem (GNT) — The Golem Network Token allows you to purchase processing power. The first version of their product will allow a user to CGI render videos by purchasing the processing power of other computers renting out their excess power on the network. Example: James Cameron is creating Avatar 2, and needs to CGI render multiple scenes in his upcoming movie. The first Avatar’s scenes were created using a render farm. To render Avatar 1, Weta used a 10,000 sq ft server farm making use of 4,000 Hewlett-Packard servers with 35,000 processor cores with 104 terabytes of RAM and three petabytes of network area storage running Ubuntu Linux, Grid Engine cluster manager, and 2 of the animation software and managers. So instead of paying the same render farm to render his scenes for Avatar 2, he can use the Golem network at a much cheaper price, where each rendering task will be split across multiple computers on the network.
DAOs (Decentralized Autonomous Organizations)
You’ll often see the acronym DAO associated with blockchain projects, so what is it?
How DAOs work:
1. Group of people write a smart contract to govern the organization
2. Add funds typically through an ICO
3. Given tokens — represent ownership
4. When the funds have been raised and distributed — DAO begins
5. Members propose how to spend the money
6. Vote on these proposals and once a predetermined amount of time has passed and a predetermined number of votes has accrued, it either passes or fails
Members of a DAO control 100 percent of the assets. Threatens to displace traditional financial managers. DAOs are built with code that can’t be changed on the fly. The immutable nature of a DAO’s code makes it nearly impossible to fix any bugs once the DAO is live in Ethereum.
Blockchain can change how the world moves money, secures systems, and builds digital identities. It has the potential to affect every current industry, as well as create new industries that we thought weren’t possible. Hospital systems, self-driving cars, and safety systems are prime examples. Others include government-backed land record systems, identity, and international travel security applications. It allows for permanent historical records of every transaction, giving the ability to authenticate and assess any data for a person, asset, or document.
Business in General
Middlemen such as Bankers, Financial Brokers, Accountants and Lawyers coordinate and ensure the validity of financial transactions and exchanges of goods. Certain inherent traits such as security risks, data corruption and theft come with Centralization. The “last mile” of how money is spent is the most difficult to account for across organizations and governments. This last mile could become a company’s greatest opportunity to save wasted resources and identify corrupt individuals. Blockchains combat this by creating a decentralized system that is based on mutual distrust of all the participants that keep each other in check. Some industries it will inevitably change are:
The Obvious — Banks
The first to adopt blockchain technology were banks, governments, and other financial institutions and they’re the fasting-growing blockchain users, too. The International Monetary Fund, World Bank, Bank for International Settlements, and central bankers from all over the world have met to discuss blockchain technology.
The application of fast, efficient, digital money that doesn’t carry the cost of handling cash and that is traceable is an invigorating and threatening proposal. Faster and cheaper money is being adopted to facilitate bank transfers and interbank settlement, and in the future banks might offer digital currencies that ordinary citizens can use in their daily lives.
The most talked about blockchain startup for banks is Ripple. Ripple is an enterprise blockchain solution for sub-second cross-border payments with end-to-end tracking. They are directly competing with the popular SWIFT for all international bank transfers.
Countries around the world — including the UK, Canada, Russia, Australia, and China are in the process of creating their own digital currencies. Innovations in blockchain technology promised to be able to handle the billions of transactions needed to support economies, making a cryptocurrency feasible at scale. Vladimir Putin recently met with Vitalik Buterin to discuss digitizing the Russian Ruble on the Ethereum blockchain to be the first country with a truly digital currency.
The central power structures and lack of existing infrastructure of smaller developing countries will give them potential to leapfrog over legacy infrastructure, bureaucracy and western countries. With blockchains, poorer countries can compete on the same playing field as wealthier nations.
Developing countries also don’t have the same regulatory bodies and consumer protections. This is particularly attractive for blockchain startups that fall into the gray zone in western countries.
For example, some small countries don’t have landlines or addresses, but they all have smartphones and the ability to create cryptocurrency wallets. Cryptocurrency will provide them with the capacity to pay for basic needs such as utilities, rent, and food.
Clear ownership records for land would mean that it would be sellable and financeable. Blockchain technology and digital currencies would reduce risk and fraud and give them ultimate control in executing monetary policy and taxation as developing countries establish who owns which specific pieces of land.
It’s a race for relevance in a digital world heading towards borderless and financially open citizens. Nearly 2,000 new blockchain startups forming overnight in 2016. Many of these will finally go to market sometime in 2017 and 2018 in Singapore, Dubai, and London where the regulatory bodies welcome innovation and compete to be the financial mecca of the world.
Issued a report titled “Distributed Ledger Technology: Beyond Block Chain” which states their intention to use blockchain to reduce corruption, errors, and fraud, and make various processes more efficient. Because of this it has become one of the safest place to build a blockchain business.
Components being implemented are:
Blockchain-Based Welfare Distribution: Department of Work and Pensions is working on an experiment that will use a blockchain to distribute welfare with a phone app. This will track and record all payments ensuring that the money is being used for the right things, it will solve the misuse of the system.
Center for Gold: The Royal Mint has teamed up with CME Group (Forwards and Futures Exchange) to use blockchain technology to build a gold market in the hopes of making London a more appealing city for gold sales.
UK Automated Customs: With the ability to know definitively any passenger’s identity, even if the passenger is from another country, the UK will allow travelers to never need to wait in lines for customs when arriving in the airports. Using blockchains as biographical identities (which built over time) they will know each person coming and going using blockchain identification.
Singapore is aiming to be a safe haven for blockchain technologies is going out of its way to make working there as easy, friendly, and financially appealing as possible.
Singapore has been very active with R3. It opened a lab for researching and developing digital ledger technologies alongside the Monetary Authority of Singapore.
They are working on an exchange to support inter-bank payments. The banks will deposit cash and be issued a digital currency.
Singapore’s central bank also launched a pilot project, along with eight foreign and local banks (Bank of America, Merrill Lynch, IBM, Credit Suisse, The Bank of Tokyo-Mitsubishi UFJ Ltd, DBS Bank Ltd, JP Morgan, The Hong Kong and Shanghai Banking Corp Ltd, OCBC Bank, United Overseas Bank, and the Singapore Exchange.) as well as the stock exchange. This proof-of-concept project aims to use the blockchain technology for its interbank payments.
Dubai 2020 Initiative
Dubai has a goal to move all government documents and systems onto the blockchain by 2020. It’s a plan to go completely paperless and be the leader in blockchain technology for government and boost efficiency across all sectors.
Dubai’s Global Blockchain Council (GBC) plans on developing some new public-private collaborations:
1. Healthcare: Digitizing healthcare records and moving them to the blockchain
2. The Diamond Trade: Using blockchains authentication capabilities to transfer and digitize Kimberly certificates
3. Title Transfers: Title transfers will be digitized and recorded on a blockchain
4. Tourism: Aims to incentivize travel by granting points to travelers who visit certain places, landmarks or extractions. Using smart contracts, you can turn points into crypto token and be tradable an exchanges.
Smart cities are taking advantage of modern technology to enhance infrastructure functionality, safety, and improve many aspects such as traffic and air quality. Blockchain technology could also be used to share information between networks in a smart city securely.
The Indian government launched its Smart Cities Mission in 2015, with the intention of building 100 new smart cities, as well as further developing the infrastructure across 500 existing towns and cities. Now, the state of Telangana is pouring 100s of millions of dollars into building a “Blockchain City”.
China is adding layers of certainty to things like Internet of Things (IoT) and notarization. Blockchain technology is widely being discussed in China as a way to enhance the big data they have, especially in things like pension/retirement funds.
Singapore is a prime example of an intelligently planned city. Despite the high population density, it has excellent infrastructure and a high quality of life. Particularly focusing on intelligent transport systems, enhanced water management, and e-governance.
Nonprofits have some of the strictest guidelines in terms of laws and regulations that they must operate within. The introduction of blockchain could benefit them greatly. Blockchain could be used to track both the physical goods they are working with, as well as the money coming in (and going out) which would help given that so much fraud and theft has occurred within the NGO world.
Common complaints of charitable organizations are inefficiency and corruption. Blockchain will ensure records are kept and that the money is going to the right location. The BitGive Foundation is an American nonprofit organization that solicits bitcoin donations for use in charitable causes.
Forecasting & Voting
All the benefits of blockchain can be used for forecasting in multiple industries. It will change the way research is done through analysis and by looking into predictive questions for business, gambling, sports, and elections. Here are 2 popular projects being built on the Ethereum blockchain for creating decentralized prediction markets:
A prediction market, in essence, is a vehicle for aggregating information about the expected outcome of a future event. Unlike a traditional financial market, prediction markets frame themselves as questions about the future, typically with binary outcomes. For example: Which presidential candidate will win the 2016 election?
Not for just purposes of knowledge gain or betting, but the blockchain can simply be used for voter registration, verification (only legitimate citizens) and vote counting. Examples include Democracy Earth and Follow My Vote.
Tax and Auditing
Recordkeeping and auditing expenses have skyrocketed since the introduction of the Dodd–Frank Wall Street Reform and Consumer Protection Act. The current auditing process is long and expensive, many things can complicate it, such as missing documents or even duplicate documents that waste time. Blockchains are distributed recordkeeping systems. Record systems that have blockchain technology integrated within them will be able to audit a file as it’s created, flagging incomplete or unusual files as they’re created. proactively correct files before they become a problem. Auditing will be less expensive and more complete. Blockchain-based systems that are fully integrated across an organization will be able to know where every single penny was spent. This will make the job of the IRS much simpler, and citizens of a country may no longer need to file taxes if everything can be monitored on the blockchain.
Real estate holds much of the world’s wealth and economic stability. Real estate will be one of the industries most impacted by innovations in blockchain technology.
The real estate industry hasn’t changed much in the last 40 years and is ripe for disruption. In most industries, the cost of doing business goes down over time. The opposite has occurred with the cost of business increasing. The typical U.S. mortgage is about 3x what it cost 10 years ago.
Many aspects of the home buying process will be simplified using a blockchain. It will lower costs and speed up the process in the following ways:
Home Inspections: Blockchain technology could be used to record repairs to property and defects found in the inspection, and have a running record of every event from the building of the home.
Mortgage Lenders and Loan officers: Help them keep track of documents that they give you and audit the process for fair lending law compliance, while reducing overall costs with recordkeeping and auditing.
Closing representatives: They will be able to supervise and coordinate the closing documents, allowing the recording of them, and initiate the release of money with smart contracts.
Private Transport and Ride Sharing
Decentralized versions of P2P ride sharing apps will allow car owners and users to arrange terms and conditions without third-party suppliers. Using a crypto electronic wallet, drivers will be able to automatically pay for parking, tolls, and fuel.
While companies like Uber and Airbnb have disrupted industries across the board by linking consumers with things they need, they are still middle men, and they still take a cut. Blockchain has the capabilities to remove such middle men entirely, meaning whoever has what someone needs takes their full dues. Arcade City, for example, is a new ride-sharing app that connects drivers with customers peer-to-peer using the Ethereum blockchain2. Arcade City’s founder, Christopher David, a former Uber driver, argues that, ‘The Achilles’ heel of Uber and Lyft is their centralized management of pricing. By decentralizing that decision to the level of the driver and rider, Arcade City frees the driver to be an entrepreneur, and empowers the rider with control over their entire experience.
There are quite a few companies now working on creating a protocol for the storing of files on other computers connected to the network. The person renting out their excess storage space gets paid a certain amount, and the buyer who has no additional room on his computer can store files securely on others. The file itself is encrypted and split up into millions of pieces and distributed across many computers on the network, so that no single user on the network can view the file except the owner. Storj, Siacoin, and Filecoin are all interesting examples.
I’ll Stop There…
The above examples do not even come close to covering all of the possible use cases for blockchain, but I hope it helped to spark some ideas and give you a better understanding of how it’s initially being adopted in economies around the world. Feel free to let me know if there is any incorrect information, and I’ll update it as soon as I can.
Shout-out to Jordon Booth for helping me put this together!