Why tokenizing real-world assets on a blockchain is stupid

Don’t believe the snake oil salesmen!

Blockchains are the latest buzzword used to sell your company some bullshit technological solution. “It will change the world” as they say. But the truth is nobody uses the same definition of what a blockchain is. So let’s get off the hype train and start by recapitulating what those definitions are, and which one we are talking about in this article (spoiler alert: Bitcoin).

What “Blockchain” mean

Blockchain as a Data Structure

This is the definition “closest to the metal” where a blockchain is basically an ordered list of blocks (which is itself a list of transactions) where each block contains a cryptographic hash of the previous block. This makes the data structure “resistant to change”.
If you want to alter a single transaction in a previous block, you are forced to recalculate the hash of every block between the current block and the one you need to alter.
This is a structure similar to the Merkle Tree that is also used in Bitcoin

simplified blockchain implementation

Blockchain as an open public decentralized protocol (Bitcoin)

Why Bitcoin was invented
Bitcoin innovation is the solution to the “Byzantine Generals’ Problem” which solved the “double spend problem” in a decentralized system (without any central (trusted) authority). This allows the creation of a digital scarce good that can be exchanged without a third party. — Individual Sovereignty

What open blockchain are good at

  • Neutrality: Every node is equal
  • Immutability: Economic incentives behind Proof of Work
  • Censure resistance: Decentralized anonymous mining
  • Disintermediation: P2P transfers, without intermediary
  • Trustless: Distributed ledger independently verifiable by running your own node

Those properties are obtained through decentralization, but unfortunately, it comes at a great cost.

The blockchain tradeoff

  • Slow: Propagation through a global P2P network
  • Inefficient: Data replicated on thousands of nodes
  • Hard to scale: Decentralization come at the cost of efficiency
  • Hard to maintain: Users are sovereign, you can’t force them to upgrade
Bitcoin is filling the bottom of the triangle.

This is the definition of blockchain we will use for the rest of this article.

Blockchain as a database

This is where permissioned and private blockchains (also called DLTs: Distributed Ledger Technology) fit best. And this is where most of the corporate bullshit also happen. Those DLTs don’t share any of the properties (or costs) of the open public blockchains we discussed above (unlike what snake-oil “blockchain consultant” are trying to pretend).

They are basically, distributed database with cryptographic signatures.
They sacrificed decentralization to obtain better performances and control.
In most DLTs, validators can collude to:

  • Censure transaction
  • Inflate the currency
  • Seize funds
  • Rewrite history

This can be done relatively simply by upgrading their software (when it’s not already included in the software) without anybody noticing (they don’t allow users to run their own node to verify) and at essentially no cost since none of them use PoW as a consensus mechanism.
DLTs example: Ripple, Hyperledger, R3, Quorum, HashGraph…

Using Bitcoin like blockchains for real-world assets

Blockchain as “source of truth”

While it’s true that an open blockchain like Bitcoin has unforgeable records, if you verify independently, that property only exists for the bearer asset living directly on the blockchain; this is the point most projects around the Supply Chain don’t seem to understand, what is stopping bad actors from entering false data?

False information stored on Bitcoin blockchain

Unfortunately, you have no proof the information that was put in it is true and no way to verify it independently! A blockchain can’t verify information that is not part of the system without having to trust a third party (Oracle).
This nullifies the point of having a blockchain in the first place, which is to remove having to trust a third party, by being able to verify everything by yourself.
The only thing a blockchain can really certify, other than its own bearer asset, is a Proof of Existence through timestamping.

Tokenizing real-world asset

Like we just saw, a blockchain can’t verify external information, so what about letting the blockchain only settle exchanges between parties in a P2P fashion with a representation of that asset on a blockchain?

Current laws are not adapted
First of all most countries would need a complete rework of there laws to allow for the tokenizing of assets like real estate, commodities and make their ownership dependant ONLY on the ownership of the token, making them all bearer assets in essence. That means essentially getting rid of KYC/AML laws.
If the State or a company still maintains it’s own database, and only that one is enforceable by law, you just duplicated data, without real benefits, and they may fall out of sync at some point.

Creating bearer assets on a blockchain like Bitcoin can also have dire consequences if strictly enforced, let me explain:

Bearer assets on Bitcoin like blockchains are susceptibles to theft and loss and might not be recoverable.
Let’s take the example of a house (this is also valid for shares, commodities..): should the police prevent any entry in the property, forever, if the token is lost? If a thief steals it from you, is he the rightful owner? And if not, how do you reconcile the fact that the data that is stored forever on a blockchain will differ from the reality?
If you have someone that can reissue that asset for those edge cases, you have a third party that can also screw you, so what’s the point of having a blockchain in the first place? Just tokenize/digitalize asset on a regular database, that is controlled by that third party you already have to trust anyway!

You always have a counterparty risk with real-world assets
Putting non-bearer assets on a blockchain doesn’t solve everything by itself. After all, even an open public blockchain like Bitcoin is just a very special type of database.
Real-world assets like gold, silver or oil, will need to be stored in a warehouse somewhere and will be subject to the exact same problems we have in the current system.
Having your real-estate title on a blockchain won’t stop any government from seizing your property either!
Blockchains are not some kind of magical piece of tech, that will solve all of the world's problems, but when you only sell hammers, everything looks like a nail.

Blockchains work well with bearer assets that only exist on it, because their only goal is to remove centralized and trusted third party from the equation. Reintroducing things like counterparty risk and intermediaries as a solution to anything is totally counterproductive and stupid.
And this is why tokenizing real-world asset and putting them on a blockchain is utterly useless.

Conclusion

Don’t fall for the hype, #bitcoin matters not #blockchain and certainly not #DLTs

About the author:

find me on twitter: @syltilt
Website sylti.eu

Software Developer, Bitcoin enthousiast, Shitcoin Minimalist, Freelance/Consultant sylti.eu