There is much confusion about what a blockchain is and how it can be used to solve real-world problems especially in the corporate sector, with constant headlines about companies launching “blockchain initiatives” with the belief that they will fix real business/economic problems or satisfy some type of consumer desire. Projects have been announced that claim they will do everything from improving supply chain tractability, decentralize Facebook, reinvent the music industry, and decentralize YouTube, even pay you to workout, among hundreds of others. These blockchain missteps also happen in the government sector with governments launching their own blockchain based currencies. What’s worse, many of the people working on these projects have good intentions, but have simply fallen for the popular new buzzword, “Blockchain.”
Blockchains are just one of the fundamental innovations that make Bitcoin work as sound money. The separation of the blockchain technology from Bitcoin will not solve most real-world problems as hoped for by many. I propose in this note that the only blockchains that matter are those that can be referred to as “open” and “decentralized” — open decentralized blockchains.
If a blockchain requires permission from any third party to participate, it is not open; and if the blockchain relies on a third party (persons, company, clearing house) to work, it is not decentralized. If a blockchain system is not open and decentralized, it is not innovative; and what you really need is a centralized database. Bitcoin is the only open and decentralized blockchain that currently exists and actually works.
Do I Need a Blockchain?
With knowledge that a blockchain must be open and decentralized for it to be useful, we can create a simple framework for quickly evaluating if blockchain projects are actually innovative.
The Bitcoin blockchain is a ledger of all the transactions that have ever occurred in the Bitcoin network. A copy of this ledger (the blockchain) is stored on thousands of individual nodes (computers) running open source Bitcoin software. These nodes are distributed globally, owned by people, and anyone is free to join or leave the network at will. The nodes are also “open”, meaning anybody is free to run a Bitcoin node without permission. Because the blockchain is spread across the thousands of individual nodes, no single person(s) can alter this record or possess control over it. This makes the Bitcoin blockchain the first truly immutable record in existence. This network is secured by a proof-of-work (POW) mining system where individual miner nodes aggregate new bitcoin transactions and assemble the next block in the blockchain which is verified by all the nodes in the network. The new block is then chained onto the existing blockchain and then the process of creating the next block repeats. Miner nodes expend significant amounts of costly electricity securing the network and are issued freshly minted Bitcoins as a reward for their effort. The blockchain ledger consequently gets its name because it can be thought of as blocks of data that are chained together to form a ledger…the blockchain.
Opposite to open decentralized blockchains are centralized databases, which have existed for several decades. Centralized databases are stored on a central computer, server, or group of servers that are responsible for processing and storing transaction data. Central databases provide fast transaction speeds at a very low cost. The downside of centralized databases is that since they are centralized, they are necessarily in the control of a single party who is subject to becoming corrupt or attacked by hackers.
The individual blocks in the blockchain have to be chained to the existing blockchain and stored on the hard drives of all nodes in the network; a process which occurs every 10 minutes in the Bitcoin network. The nodes must have enough storage space to maintain a copy of the blockchain. This makes the size of the blocks imperative to the amount of decentralization in the network. Blockchains with large block sizes trend toward centralization because the higher capital resources required to store the large blocks means that fewer node operators possess the capital resources required to participate in the network. The Bitcoin network currently has a 1MB block size limit making the blockchain “light” when compared to blockchains with blocks of a larger size such as Bitcoin Cash(Bcash). Bcash has a 32MB block size limit making the blockchain “heavier” than that of Bitcoin and requires a larger investment in computer hardware to store the blockchain.
The Bitcoin blockchain can be easily copied to all nodes in the network because of the blockchain’s lightweight 1MB block structure. A large number of node operators increases the blockchain’s level of decentralization which is an essential element for a blockchain that is actually useful.
What Open Decentralized Blockchains Are Good At
Open decentralized blockchains are like public resources that anyone can use but are impossible to shut down once started. They are leaderless organizations and benefit from not having any potentially corruptible person or group with the ability to exert significant influence. Records stored in an open decentralized blockchain cannot be altered, resulting in an immutable ledger, and in the case of Bitcoin has not been hacked in its nearly decade of existence.
A better money is the obvious first “killer app” using blockchain technology which has led to Bitcoin’s incredible rate of adoption. Bitcoin uses an open and decentralized blockchain to provide money that is not controlled by any government, central bank, or clearinghouse, and with its open decentralized blockchain, it has also created the first unalterable public ledger. Bitcoin solves real world problems with our current monetary system such as money controls by corrupt governments, inflation, foreign exchange risk, and debt based money printing.
What Open Decentralized Blockchains Are Bad At
Open decentralized blockchains are inferior when compared to centralized databases in both cost and speed of recording transactions. This is because in an open decentralized blockchain, an identical copy of the blockchain has to be maintained by several thousand node operators worldwide and in-sync. This is a process which is inherently cumbersome when compared to centralized databases. For example Visa, a centralized database, currently has capacity for 24,000 transactions per second compared with Bitcoin, an open decentralized blockchain which can handle only about 7 transactions per second.
When compared to a centralized database, open decentralized blockchains are useful only in applications where it is beneficial to remove third-party intermediaries, and create a censorship resistant, immutable transaction. The value of these benefits need to greater than the drawbacks of slow transaction speed and high cost for the blockchain to actually be useful.
An Influential Founding Team Is Bad
Bitcoin’s inventor, Satoshi Nakamoto’s greatest gift to Bitcoin was stepping away from the project in 2010 and remaining anonymous. The network has run almost flawlessly for the eight years since Nakamoto’s departure, a testament to Bitcoin’s ability to operate without the dependency of an influential founding team. Bitcoin was started as a grass-roots project that came to life without promotion or an ICO, but rather viral word of mouth.
Blockchain projects that have come to life through ICO’s are inherently centralized because they are by law only available to “accredited investors” — investors with more than $1 million in net worth; or $200k annual income. This excludes most people from investing in the ICO and creates a situation where the blockchain’s tokens are held by only a few influential wealthy people who hold a significant portion of the tokens. With centralization of token ownership, control of the project is in the hands of a few individuals with shared interest resulting in centralized control by a conglomerate of third-parties.
Because blockchains are only useful if they are decentralized, an influential founding team creates a central point of control and defeats the purpose of having a blockchain in the first place. If the founding team is required to continue development that is a critical dependency for the project. If the founding team were to leave the project, development would cease and the project would become extinct. This also applies to blockchains that are created and controlled by a company/conglomerate of companies or a government/conglomerate of governments working together. Corporate or government created blockchains are doomed to fail because they are inherently reliant on trust in a third party, and are better off if they simply use a centralized database.
The Bottom Line
Blockchain projects can only be useful if the are both open and decentralized. Bitcoin is the only blockchain that is open and decentralized. Knowing this, it can be easily seen that most blockchain projects outside of Bitcoin are doomed to failure.
I am not a financial adviser and this is not meant to be financial advice