Blockchain, governance and markets

The dominant cryptocurrencies today are Proof-of-Work systems. Given some recent discussions about “governance” [1]-[3], I want to argue here in favor of what I would call the “explicit rule”: whenever some decision process can be formalized it is advantageous to formalize it (see [4]). And rules that are not expressed in a written or code format (“implicit rules”) naturally lead to misunderstandings and don’t scale. There are trade-offs to make — organizations can be too bureaucratic of course. It should be obvious to see that there is wealth of knowledge in our civilization that has accumulated around these topics in the field of law, politics and business. However, all of them are based on paper as a medium. We’re currently in the earliest days of discovering what rules on a global network really can mean. A lot of this has been reduced to the discussion of smart contracts as executable programs. However we know that contracts are not just agreements between individuals — there is a whole framework in which contracts are embedded in.

One of the big disadvantages of Proof-of-Work as it exists now, is that there is no explicit consensus. People now talk about miners as a kind of trusted third parties, when the original distributed consensus was designed to avoid third parties. A better system would have to address this short coming, in that it is clear what a decision process looks like. Clearly the market presents does not favor Proof-of-Stake. In terms of decision making there is the potential advantage that stake-holders can be explicit, i.e. in a PoS system in principle every stakeholder has the ability to publicly prove his wealth by signing an address. Whatever other solutions to the consensus problem might look like, there is a meta-consensus at play here: anyone can move coins from one blockchain to another. If someone sells Bitcoin and buys Ether, this effectively is a vote by stake. Therefore the marketplace where this buying and selling takes place is the platform for consensus systems, independent of any particular consensus mechanism. We therefore need rules, procedures and mechanisms for these distributed marketplaces. In this area the progress has been disappointing. Centralized Exchanges reap enormous financial rewards in private corporations, but give very little back to the cryptocurrency community as a whole. For this and other reasons there is an interest in decentral exchanges. These decentral exchange however have severe issues in their architecture. They are drastically limited in scale and there is no clear way how fiat onboarding can work.

I will argue here and in the future that exchanges and blockchains are really more integrated than people realize. Most digital assets go through exchanges, which have become defacto banks, reintroducing a third party which blockchains are designed to avoid. There is another overlap: blockchains ideally would need a market based mechanism to establish a price for fees. So far Proof-of-Work and Proof-of-Stake blockchains basically hardcode fees. The systems we know today don’t adapt based on demand, they scale linearly. Thus with increased use the fees rise. There are a few more issues which appear when one starts to think about blockchains and exchanges in this way: the Ethereum blockchain has standards for ERC20 tokens, but there is no standard for naming tokens globally. Initial-Coin-Offerings raise money through blockchain funding, but they mostly don’t rely on a pricing function (ironically, because IPO’s are really an initial price auction). A more integrated blockchain/exchange ecosystem potentially can solve some of these problems. For now I want to highlight the benefits of considering governance issues not just on “a blockchain level”, but more in terms of the market level. Good practices around asset issuance are not just relevant for one blockchain — currently Ethereum is the main blockchain, but there is e.g. Waves with a smaller marketshare and other contenders. The year 2017 has been the year in which a wider public realized that the Cryptocurrency phenomena is not just about Bitcoin and currency itself, but a much wider range of topics potentially touching the whole financial and economic system.

Coming back to the governance issue. Bitcoin mostly attracts anarchistic views, and the way the system currently operates supports the point of view that rules and governance are not only not needed, but not wanted. A particularly interesting concept in this context is the notion of a social contract (see [5]). From the anarchist point this idea of a social contract is objectionable, because people don’t necessarily agree with the current social system, in the sense that they never signed a contract or voted for it. Interestingly enough in the area of the Bitcoin consensus there is the potential for an alternative action, which is to vote by selling Bitcoin. However, if one imagines some physical property this would no longer work, because there can be only one set of agreements which are valid. If Alice house belongs to Alice on chain A, but Bob on chain B, how would Charlie determine the true owner? This touches again on the perplexing meta-consensus problem. The way democracies try to solve it is by introducing checks and balances, and other means of distribution of power. If a person gets elected to some office it is only for a limited amount of time, and that person is held responsible by a set of standards. It seems currently the Cryptocurrency community is rediscovering some of the social issues. In any case it will be helpful to understand history and the way people attempted to solve similar problems before, as imperfect as those solutions may be. Reducing social issues to mere technical issues is a social philosophy by itself which is technocraticism [6]. The biggest problem in a technocracy is the issue of how expertise gets determined. Those who cherish philosophy and a broad way of thinking about the world reducing everything to single well isolated fields of knowledge is highly problematic. In the same way biochemistry was an entirely new approach to biology, the emerging field of cryptoeconomics combines a vast array of overlapping disciplines: economics, computer science, cryptography, distributed systems, legal and political science [7]. One particular field which deserves more attention is mechanism design [8] to inform protocol design. Auctions are a good example of this. It will be good to see further improvement to this new field. It is unlikely journals of economics or computer science will be pick up on this, so an independent, new journal could be useful. In terms of academic standards there is a lot of room for improvement in terms of citations and best practices. As an example IOHK has been doing work on a more science based approach [9]. With such an increased interest in the field there are reasons to be hopeful to see genuine progress over the next years in the understanding of distributed ledgers and the social implications.

Links

[1] https://hoskinsoncharles.blogspot.com/2017/12/my-thoughts-on-tezos-issue.html

[2] https://medium.com/@Vlad_Zamfir/against-on-chain-governance-a4ceacd040ca

[3] https://medium.com/@FEhrsam/blockchain-governance-programming-our-future-c3bfe30f2d74

[4] https://web.archive.org/web/20010405064909/http://www.best.com:80/~szabo/formalize.html

[5] https://en.wikipedia.org/wiki/Social_contract

[6] https://en.wikipedia.org/wiki/Technocracy

[7] Vitalik Buterin, Introducion to Cryptoeconomics: https://www.youtube.com/watch?v=pKqdjaH1dRo

[8] https://en.wikipedia.org/wiki/Mechanism_design

[9] https://iohk.io/research/papers/

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