Can we separate cryptocurrencies from blockchains?
There is an ethos that exists that blockchain technology is worthwhile, but cryptocurrencies are not. I’ve heard this edict plenty of times over the past 12 months especially. A representative at a Microsoft hackathon recently voiced in his opening speech that “if you had come to discuss cryptocurrency, you should leave now.” The Economist, one of my favorite publications, came out with some blistering critiques of cryptocurrencies right after I started writing this piece.
And I get it to an extent. The darker side of cryptocurrencies — elicit activity on the Silk Road, fraudulent ICOs, crazy market volatility — have garnered more attention than their positive attributes and uses. For someone who is entering the space there can be a dearth of well-rounded information. Apocalyptic scams are better clickbait. People try to mitigate this stigma by focusing on the possible applications and changes that blockchains can bring about.
The question is: can we rationalize the separation of cryptocurrencies from blockchain technology?
To answer this question, I think we need to further define blockchains, cryptocurrencies, and some of the perspectives that people approach them from. From an accounting perspective — which is the perspective that VeriLedger focuses on — cryptocurrencies are pretty much all the same. The IRS provided guidance in 2014 about how “virtual currencies” should treated from a tax context. As many of you reading this might know, cryptocurrencies are reported for tax purposes like property in the United States. Many people have written about this topic and you can read in more detail here. This kind of tax treatment can become a bit of a mess given the fragmentation and scarcity of complete data. VeriLedger was created with the mission of helping companies tackle this and other accounting issues related to cryptocurrencies. (If your business would like to talk to us about our system, or take advantage of our bookkeeping services, please reach out to us here!)
An accounting perspective, however, is only one purview by which to look at cryptocurrencies. Personally, I like to delineate cryptocurrencies between “coins” and “tokens.”
Disclaimer: Since we operate in a decentralized ecosystem, I recognize that this is not a widely accepted sort of delineation. But for the purposes of the argument I’m about to make, I think it’s a useful way to think about things.
Coins v Tokens
Coins are native to the blockchain. For example, the cryptocurrency bitcoin is an inherent and necessary part of the operation of the bitcoin blockchain. Tokens act as separate “application” layer type mechanisms that operate in conjunction with a blockchain. The token needs the blockchain to exist, but the blockchain can operate independently of the token.
Private v Public Blockchains
Private blockchains are not open source and have thus far generally been created by large corporations. The networks are secured at the discretion of the company and only users that the company permits are entitled to use that chain. Public blockchains are decentralized, distributed and secured through various consensus mechanisms which require economic incentives to work (i.e., coins). The barrier to entry into a public blockchain is the purchase of its coin, as well as the knowhow in using the relatively complex and not terribly user-friendly system.
Separation of Church and State?
There are many different kinds of economic incentive structures that public blockchains have employed and others that are still in the research phase. Generally, we can say they are secured by economic rewards for good actors, and in the case of blockchains using proof-of-stake consensus mechanisms, economic disincentive structures for bad actors. The Ethereum blockchain wouldn’t exist as we know it without its native currency, ETH.
Coins are a necessary part of securing a public blockchain. The tokens that exist as applications to the blockchain come and go. The more tokens that are used on public chains, the more demand there is for that chain’s coin.
Private blockchains are not really decentralized in nature. They are secured at the discretion of the company or coalition that built them, so they do not need any kind of coin built into the infrastructure to support it nor do they have open source contracts to build token applications on their chain.
Given this information, it makes sense that a conference host from Microsoft easily dismissed cryptocurrencies. He wasn’t interested in public blockchains, just the corporate use cases of private chains. The Economist focused on repeating the terrible instances of consumer fraud and criminal activity that we have all heard. But if you are interested in the development of public blockchains, cryptocurrencies cannot be so easily dismissed.