Oct 28, 2018
Z-Efficiency
It’s The Blockchain’s X-Factor
one of the more remotely studied areas of economics is in the field of x-efficiency. X-Efficiency is the efficiency of operations of monopolies that is usually lost as a result of their incumbent status. The idea is that the efficiency of a massive company that doesn’t have to compete is by definition much less likely to be higher than one that does, and therefore its overall practical production efficiency declines in the process of its incumbency being increasingly assured.
The term was first coined in a 1966 paper written by the economist Harvey Leibenstein published in The American Economic Review. In postulating x-efficiency theory, Dr. Leibenstein broke convention with the assumption back then that firms no matter what competed in ways that were competitively aligned. In markets of less than perfect competition, argued Dr. Leibenstein, a loss in efficiency was actually the result of an increase in market share or overall resources. This loss he referred to as x-efficiency, where x- was the production efficiency factor.
Some years later, the concept of y-efficiency came into vogue as smaller firms such as Microsoft began using more efficient technologies to exploit profitability by reducing overhead, particularly in the battle of hardware vs. software. Y-Efficiency is defined as the efficiency of the profitable exploitation of markets of monopolies that is usually lost as a result of their incumbent status.
Now that Blockchain becomes a technology capable of delivering quite proven scalability at the same time as the occurrence of some substantial clogging of major networks such as Bitcoin and Ethereum have also become de rigeur, it is worth asking: are we looking at a scenario in which some sort of similar z-efficiency is creeping in with respect to the very largest incumbent Blockchain players? It would appear to be so.
In digital currency markets, I contend that z-efficiency can be observed and in fact is a creeping problem in today’s markets already. Z-efficiency as I define it is the innovation efficiency of leading digital currency trading pairs on a technological basis that is usually lost as a result of their incumbent status. With the theory of z-efficiency I postulate that just as for production and profitability efficiency reductions in the case of monopolies in a given sector, so in digital currencies there is a loss in innovation efficiency that occurs with respect to the technology underlying digital assets once a digital asset becomes a major trading pair.
This loss in z-efficiency, which is the efficiency of the innovative trajectory of a technology that is also a major base currency trading pair on exchanges, is the result of the market incumbent status of the technology leading to an over-trading or inappropriately high trading frequency of the incumbent digital currency pair, reducing incentive for technological improvement on the part of the Foundation or corporation innovators.
Because z-efficiency, much like the position of it on a chart, is exponentially aligned with respect to x-, which is production, and y-, which is profitability, this means that as a result, dominant crypto trading pairs are more likely to have substantial network problems and clogged networks increasingly more frequently over time as the number of individuals of the network increases. Since value networks are configured for expansion of the number of people on them, that means that these digital currency engineers are enormously less likely to make any significant technological breakthroughs even as their networks become financially more valuable and in turn, their Blockchains more populous.
Clearly, this dichotomy whereby more people use a network that is altogether getting much more expensive to be on at the same time as it is getting less innovative and thereby functional over time has a corroding effect on the evolution of Blockchain innovations as a system as a whole. The result is to combine the side-effects of x- and y-inefficiency and compound them whereupon substantial systemic value erosion eventually occurs.
If you think carefully about it, this is the case with Bitcoin and Ethereum today. Specifically, despite maintaining a core development team going back 9 years, Bitcoin’s team has still not added anything in core Blockchain innovation since the date of Satoshi’s original White Paper. There is no smart functionality, and the network was only relatively recently unclogged by the Lightening Network, and even then, that was not something undertaken without substantial controversy. Similarly, Ethereum has yet to make any of the sort of breakthroughs that its competitors such as NEO, ICON etc. are proposing to try to do, despite its inordinate market share and the foundation’s capitalisation. In fact, Ethereum hasn’t even delivered on its promised Proof-of-Stake protocol which was meant to arrive earlier this year. It appears pretty much as if the Ethereum Foundation is doing nothing innovative, merely leaving the developers of dAPPs to innovate on top of its network on its behalf.
When Blockchains become more crowded again, it may well be the case that Z-Efficiency becomes a defining problem, pretty much in the way x- and y- efficiency losses were a fundamental problem for former socialist and communist markets once mass-consumerism set in.
What this spells is either a potentially huge opportunity for alternate blockchains at some point, or a potentially huge opportunity for any sort of crosschain application developers to bridge the monopolistic networks with the more nimble, innovative ones. Z-Efficiency then, much like its XY predecessors, may well turn out to be the determinant factor that competitors use to pull the noose around the neck of their incumbent leaders.
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The purpose of ALTCOIN MAGAZINE is to educate the world on crypto and to bring it to the hands and the minds of the masses. This article was written and composed by Daniel Mark Harrison on ALTCOIN MAGAZINE.
