A Case for Crypto [2]

The Decentralization Debate

Decentralization stands as a cornerstone in the crypto world, influencing the foundational aspects and advantages of blockchain technology. Qualities like “permission-less,” “self-sovereign,” “non-custodial,” and “trust-less” underpin the unique fundamental value of cryptocurrencies. Despite these foundational tenets, a rising debate suggests that the current state of cryptocurrencies may not be as decentralized as originally promised. Let’s unpack this.

Arguments Against:

• Concentration of Cryptocurrency Ownership: A pressing concern lies in the uneven distribution of significant cryptocurrency holdings (see: 1). This skewed ownership profile raises alarms over potential price manipulations. In essence, if a limited group holds sway over a cryptocurrency’s valuation dynamics, they inadvertently wield considerable financial leverage. This shifts the balance of power and poses questions about the democratized promise of these digital currencies.
• Concentration of Node Verifiers: Stemming from ownership concentration, the operational aspect of cryptocurrencies also faces centralization issues. In the Proof-of-Stake (PoS) realm, if a select few control the majority of the currency staking pool, it makes the blockchain vulnerable to manipulative consensus decisions. Similarly, in the Proof-of-Work (PoW) context, vast swathes of Bitcoin’s mining processes are concentrated within specific geographical regions or within large-scale mining setups. It is only among emerging, lesser-known cryptocurrencies that we observe a more decentralized distribution of mining nodes.
• Internet Dependence: Cryptocurrencies’ existence and functionality are intricately tied to the internet. Nassim Taleb, one of the more prominent critics of Bitcoin, underscores the vulnerability in this dependency (Fallacy 2): the fall of the internet equates to the collapse of the cryptocurrency ecosystem. Given the present geopolitical climate and emerging trends towards deglobalization, the fragility of this dependence becomes more evident. If a central authority, whether governmental or corporate, gains dominion over or disrupts internet access, the repercussions for the decentralized crypto world would be seismic.
• Codebase Control: Beyond the operational facets, the software underbelly of cryptocurrencies also presents centralization challenges. To illustrate, Bitcoin’s development trajectory largely rests in the hands of a limited group. While the broader community holds this cadre in high regard, their outsized influence cannot be overlooked. Bitcoin, however, is relatively safe compared to other cryptocurrencies due to the community comprising of individuals who are very idealistic. This stands in contrast to many other cryptocurrencies which has allow the core teams of the respective projects the kind of power to change the nature of the protocol with little consensus of the community.

Let us now attempt a rebuttal of the above arguments.

Arguments For:

The currency dump problem:

First, we’ll point out that a skewed distribution of a cryptocurrency does not always translate to a problem with decentralization of that cryptocurrency. This relationship depends entirely on how decentralization is designed into the blockchain. And in any case, the ability to manipulate a currency has very little to do with its decentralized nature.

Now that is out of the way, let’s explore this problem anyway, as a large quantities cryptocurrencies so far have exhibited varying characteristics of pump-and-dump schemes. History has shown as much.

So we know for a fact that currency dump can happen to basically any of the major cryptocurrency, the question is…does it matter?

If we were to go back to original idea of ‘A New Form of Money’ (Part 1 of this series), the ideal world would be one in which goods and services are transacted entirely by said Money. If, let’s push this to the extreme, the economic cycle starts and stops with Bitcoin, then no matter how much the price of Bitcoin changes relative to USD, it doesn’t really affect that closed-economy. To put this concretely, imagine a potato farmer. She accepts only Bitcoin for her produce, and she pays for everything only in Bitcoin to live and work. If she set a price of 0.0001 BTC per 1 kg of potato, then it almost doesn’t matter if BTC price is $1 or $1M — the potato you purchase from here will cost 0.00001 BTC regardless.

Still, the feasibility of a Bitcoin-exclusive society is questionable. Given our intricate global connections, entirely severing ties with traditional economic systems seems unrealistic. Consider the modern necessities like smartphones, laptops, and other electronics. The raw materials for these devices come from various parts of the world. Without a globalized system, procuring these materials in a single territory becomes a challenge, and without electronics, there’s no blockchain.

However, experiments like that of El Salvador introduce another dimension. Is it conceivable for a nation or a coalition of countries to operate predominantly on Bitcoin? As experiments go, this remains to be seen. History requires time to pan out. And 15 years is relatively young for a technological revolution.

While such a vision might seem far-fetched in our globalized world, one question remains: does centralized currency protect you from currency devaluation compared to a decentralized one like Bitcoin? History suggests otherwise (see: 1, 2). This study, for example, compares Bitcoin daily volatility to least developed currencies and showed that only 5 countries were more volatile — but in spite of the seemingly conclusive evidence that Bitcoin is indeed more volatile than most traditional currencies, we point out the fact that the data was cherry-picked from 2014–2017, the periods which included Bitcoin’s second bull-run. And even then, there were 5 different countries — in that short periods — whose currency’s volatility was higher than a currency which had basically no economic adoption or any kind of Tresury control at the time.

The reality is that we have been witness to the misuse of monetary power by centralized authorities, resulting in devastating local financial crises. Comparing Bitcoin to established currencies like the USD might look unfavorable. However, when viewed alongside smaller currencies, to pick the ones in recent years, Argentina or Turkey, the potential of cryptocurrencies becomes closer to what their original intention were.

In summation, the currency dump predicament is undeniable in the realm of cryptocurrencies, but the resulting volatility and devaluation is also something observed in traditional currencies as well. In our opinion, the volatility of a currency, centralized or decentralized, isn’t a standalone indicator of its viability. Drawing a parallel between the USD’s long-standing legacy and Bitcoin’s nascent journey, one could argue that Bitcoin is navigating its evolutionary path quite commendably.

Finally, if we were to look deeply at the vulnerability of cryptocurrency to being rapidly devalued intentionally, it is no different to a traditional attack on currencies orchestrated by various hedge-funds, investors, and major economic powers throughout history.

Let’s turn to a more existential problem: the concentration of power allocated to large holders, stakers, or a small group of decision makers:

Undoubtedly, this poses one of the gravest challenges to the continued existence of cryptocurrency. Ethereum’s ambitious promises of decentralization, trustless transactions, and individual sovereignty are all jeopardized if, say, the ten largest stakers of ETH collude to manipulate a single block of transaction. Something like this would signify the technology’s derailment even before its widespread embrace.

There’s no easy rebuttal here. As long as blockchain remains in its current form, the disproportionate influence of a few major stakeholders perpetually casts a shadow of potential exploitation over the asset. However, the horizon isn’t entirely bleak. The crypto community is known for its keen perception and rapid response to such issues. Responses may vary in pace and might range from outright abandonment of a protocol to advocating for foundational changes in its code. Historically, many concerns perceived as existential have been addressed and mitigated.

Our confidence in this seemingly trustless system is underpinned by a steadfast belief in human ingenuity. It’s important to note that critiquing the current state doesn’t necessarily negate the broader vision. We might question its current execution, but as long as there are individuals dedicated to refining and safeguarding the technology, its longevity remains possible.

The above reasoning also extends to concerns about a handful of developers potentially commandeering a cryptocurrency. One could argue that the Internet, too, has its vulnerabilities due to the power of a few controlling decision-makers. But drawing parallels with other imperfect systems doesn’t always justify countering a criticism. What truly underlines our faith is the proactive and resilient nature of the crypto community. Time and again, when faced with challenges, the community rallies. From Solana to Terra, we’ve witnessed the collective step up when individual leadership faltered — even if the longevity of those chains remains to be seen.

Let’s address another significant concern: the vulnerability of cryptocurrencies due to the Internet, their foundational platform:

Firstly, it’s essential to acknowledge that this is fact rather than sidestep it. But here’s some perspective:

When considering assets like Bitcoin, many equates it with gold, suggesting that in times of extreme duress, such as geopolitical conflicts, one can physically carry gold across borders (both into and out of the region), which isn’t the case with Bitcoin. But let’s dissect that notion. How many people possess tangible gold, and of those, how much gold can one feasibly transport? Cryptocurrencies are inherently easily transferable even in times of crisis.

Reflecting on events like the Ukraine conflict, what was the more prevalent choice — gold or cryptocurrency? The answer seems evident (see: 1, 2). While the complexities surrounding cryptocurrency as a tool extend further, the core argument is clear: in a localized conflict, the usage of physical gold or cryptocurrency trumps holding the volatile local currency. Between the two, cryptocurrency, albeit marginally, in our opinion have the upper hand due to its borderless nature.

Now, imagine a hypothetical — a global conflict causing an Internet blackout. In such a dire situation, if you are on the conflict’s losing side, no matter your assets, whether it’s Treasury Bonds or cryptocurrencies, everything you own could be rendered virtually worthless.

Yet, one might say that post-conflict, governments could reinstate Treasury Bonds. By that rationale, once hostilities cease and the Internet is restored, the data on physical Nodes worldwide would ensure cryptocurrency’s revival. Drawing the scenario to an extreme — a post-apocalyptic setting, neither Treasury Bonds nor fiat currency would hold much worth, but going further into this scenario is perhaps moot, as survival would overshadow financial concerns.

In essence, when dissected, this criticism of cryptocurrency largely falls apart. Every decentralized system, if traced back far enough, will have a single point of failure — even in nature. From a system design perspective, you can always be more decentralized, but at one point, the technical and opportunity costs outweigh the effects of the improbable events.

Conclusion

To recap the prevailing critiques surrounding cryptocurrency decentralization:

• Majority Holdings & Centralization: A valid concern is the disproportionate holdings by a few entities, resulting in potential price manipulation schemes. While this critique holds merit, when juxtaposed against traditional fiat currencies, which themselves have vulnerabilities and are subject to manipulation, the argument weakens. For a more decentralized future, incentivizing holders through smart contracts could be explored.
• Node Centralization: Whether from a PoW or PoS standpoint, improvements are needed. Still, the community has been quick to address this issue. And a critique of current situation does not negate the logic behind the ideal scenario. Many current systems we take for granted today were not possible before a string of innovations.
• Codebase Centralization: Recognizing it as a current concern, it’s plausible that in the future, the community will lean more and more towards a decentralized codebase for all new blockchain projects. Despite the challenges, major cryptocurrencies like Bitcoin and Ether maintain a level of decentralization that surpasses many traditional currencies’ checks-and-balances in power.
• Internet Dependency as a single-point-of-failure: Upon close inspection, this argument, while logical, does not hold up to reality. The probability is too small for

In the series’ subsequent posts, we’ll pivot to the future prospects of crypto adoption. But first, let us focus on the Token Economy and its foundational validity.