Bitcoin and the cryptocurrencies have clearly been some of the most insane and irrational fads in the history of mankind. Since the December 17th, 2017, all time peak above $19k (and around $20k at some exchanges), the Bitcoin price dropped some 66.6% to $6666 or so (Devilish numbers). Since the January 7th peak, the cryptocurrencies' capitalization dropped from $0.819 trillion to $0.260 trillion i.e. by some 70%. The cryptocurrency daily trading volumes dropped from $67 billion on January 5th by some 80% (in USD), too. The searching for the Bitcoin on Google dropped by 82% since December 18th.
Note that it's been over 3 months since the recent Bitcoin peak which means that everyone knows that 3 months of patience often fail to be enough to get at least over 35% of the initial investment back. Bitcoin could have looked like a safe recipe for an easy profit 3 months ago but it's demonstrably no longer one.
Articles in the media and even on this blog cooled down by similar brutal percentages. Most of the sane people share the expectation that the Bitcoin won't see the price $10,000 again. The amount of dollars invested in the shorting of the Bitcoin is at an all-time high. John McAfee is already planning the sauce he will add to his penis when he eats it on TV, after Bitcoin fails to be worth a million dollars in two years as he promised. ;-) Unbacked cryptocurrencies are indeed worthless and the very slow decline of their prices only shows the low intelligence of those who are still holders.
Bankers and financial analysts generally agree with the claims about the bubbles surrounding the Bitcoin and other non-currencies and about the financial illiteracy of most of the people who have joined such de facto pyramid games. But it's still fashionable among the bankers to criticize the Bitcoin; but praise the blockchain technology. This attitude is a matter of group think; the financial experts think that they sound cool and hip when they praise some modern esoteric technology. But the claim that the blockchain will be important in the future is just rubbish. I wrote some texts arguing why the decentralization of trust (which defines the blockchain) is an idea that makes things worse, not better, but Kai Stinchcombe did a much better job than I did:
But his main observations are more general and "political", "social", or "psychological" in character.
Blockchain is a linear sequence of files that include some record about transactions or similar events, that depend on all the previous links in the chain, and this chain is being extended by miners who need to solve useless time-consuming tasks by their hardware to extend the blockchain and who are automatically motivated to share the consensus. In this way, the historical transactions can't be easily altered. Double spending becomes impossible even in the absence of any particular "cop" who enforces the rule.
This setup – everything else about the blockchain are irrelevant technicalities – is claimed to be revolutionary by the blockchain enthusiasts because people don't need banks or other middlemen to certify the validity of their transactions of various sorts. Things just work without any need for trust. The network of miners is perfectly reliable and trustworthy. Well, not so fast, comrades.
A part of Stinchcombe's criticism that is easier to understand is that the blockchain can't improve the quality or accuracy of the content of the records themselves. When you're selling organic food using the blockchain, nothing can guarantee that the producer doesn't actually use pesticides. When a nation votes using the blockchain, the blockchain cannot prevent the government from assigning million of bogus votes to someone who votes for the preferred candidate. So the blockchain is useless for all these real-world threats, of course.
At most, the blockchain is a seemingly perfect confirmation that some electronic transaction has taken place. But even in that respect, it really fails because of many attack vectors that simply cannot be solved by the blockchain. You need Bitcoin wallets or exchanges and those can be hacked – they have been vastly more frequently hacked than any banks. You need to hope that there won't be a 51% attack and the miners won't start to steal other users' money – the 51% attack is easy to do for any big mining pool with all the altcoins and it is possible to be organized by the Chinese government against the Bitcoin, too.
And even if you assume that the 51% attacks and hacking can't happen, you still depend on the validity of the software that is being used and that you – a typical user – haven't coded and haven't even read. Does the software really elevate the theories about the cryptography-based security to practice? Why would you believe that the software is good enough? How much are you sure that the difficult mining is taking place at all? A bunch of webmasters could have just created the illusion that they're doing this real "mining" work but it may be fake. The writers don't have any particularly good records. Many people running cryptocurrency businesses are convicted criminals. The software is open source and anyone can verify it (assuming that you also trust them that they're really running the software that you may read). But that doesn't mean that a single competent person has actually verified it. It's a lot of work to verify the software. Stinchcombe mentions a $150 million fund that was created to audit some software – but $50 million was stolen from that place, anyway.
You know, my main point – and his main point – isn't a collection of funny anecdotes "how the super safe blockchain didn't work". Instead, I want you to understand that it's totally logical that such a setup must be expected to work badly. His main idea – that he repeats in various crisp ways – is that
Projects based on the elimination of trust have failed to capture customers’ interest because trust is actually so damn valuable.It's stupid to eliminate or "decentralize" the trust and the trusted middlemen because rational people actually want them – and the middlemen badly want to be trusted. When I buy a product from somebody, I want the product to be new, not tempered with, I want to avoid numerous risks that are more likely to materialize when the producer or the seller is a bad one. So I want to choose a good producer and a good seller.
How do I choose a good seller? It may be hard to determine who is a good seller. But a good track record helps. If the seller seems trusted, it's a good thing. If I rely on some 5-star ratings on a server that compares the options, I want this server to be trusted and to have a good track record by itself, too. At any rate, I am deciding whether a seller is trustworthy from my perspective and I care about this question because for obvious reasons, I want to pick the trustworthy sellers and avoid the other ones. If all sellers became "equally trustworthy" by some decree – by the very logic of a one-size-fits-all blockchain – I couldn't choose the better-than-average one, and things would obviously be worse for me.
More importantly, the forces that gradually improve the system and the market participants would disappear. Why? Because trusted sellers – and banks and other entities that do things for their consumers – are more likely to collect new consumers, to have high revenues and large profits. Sellers and banks want large profits, again for obvious reasons, which is why they want to be trusted. So the good ones don't want to be dissolved as a sugar cube in a cup of blockchain coffee. Because they're better than the average, they want their difference from the average to be as visible as possible. It's good for the good sellers – and it's good for the potential clients, too.
Also, when a company needs some database, it wants to be sure about the integrity of the database because any errors or frauds would harm the company's business. That's why they want to have the database under their own control; they don't want to outsource or decentralize the verification because that would increase the probability that someone else may tamper with the things, for some reasons or others, using some attack vectors or others.
So when people and companies don't use the blockchain technology and prefer solutions based on particular trusted parties such as themselves, they may have some technical reasons – the strict blockchain may be too constraining etc. – but they also have one big reason that will never go away, namely the fact that the localized trust is very important, valuable, and helpful for those who are better than the average, and it's just damn stupid to try to get rid of it.
Stinchcombe describes the trustless, blockchain-based society as the medieval period in which there are no trustworthy banks and analogous safe solutions and where you ultimately have to rely on yourself – including your sword (Somalia still works in that way today, Stinchcombe adds). This may be an ideal type of the society according to some flavors of libertarianism or anarchocapitalism but it's not what an overwhelming fraction of people actually want.
Most of us want to do things well, safely, buy good products, eat healthy and verified food, store money in banks that will probably not evaporate tomorrow etc., and the evolution of our society has made these things possible. Various individuals and companies have been offering us products and services that were increasingly satisfactory and increasingly safe and the consumers unsurprisingly preferred the satisfactory and safe ones (well, the government regulation often tries to help to make things better and safer as well although in reality, it helps much less than the market forces and it sometimes hurts, too). Those who were providing their consumers with good and safe services became increasingly trusted and that was a good thing for the consumers who have enjoyed increasingly good products and services. That's what the progress was all about.
As I mentioned, some blockchain advocates may be considered "libertarians" of some particular and extreme sort. But they're not really promoting maximum liberty; they want to seriously restrict people's freedom. Why? Because free people naturally created and keep on creating companies and do their best to make these companies trusted; and tons of other free people voluntarily become consumers of these companies and they prefer the trusted ones. When someone wants to ban or suppress these basic human acts – which may be considered building blocks of capitalism – he may call himself a libertarian but I think that a stinky Bolshevik is a much more accurate description because it's Bolsheviks who wanted or needed to ban private businesses.
So whenever there is some service where people are naturally afraid of the quality or security of the service – and it's almost always the case – a free society will always produce providers of the services who want to be and claim to be better than the average; and the consumers who will look for those that actually are better than the average. "Better than the average" automatically means "working outside the one-size-fits-all blockchain".
One simply doesn't want to share anything important with others through the blockchain because the blockchain is the arena for everybody – including the average, subpar, and especially outright criminal players – who may pretend that they're exactly as good as the best ones. This kind of anonymity is obviously in the interest of the criminals or those who suck in some key criteria; but it's not in the interest of the good providers and it's not in the interest of the consumers and the economic and societal progress.
Commercial banks and central banks are a particularly important example of the businesses where these basic ideas may be discussed. Commercial banks are used by savers because they get some interest or yields with enough security – guaranteed by the track record of the bank plus the laws such as the FDIC insurance. And commercial banks are helpful for the borrowers who may borrow the money under good enough circumstances. It's obvious that if a society is really free, commercial banks that do "basically the standard banking of some kind" are unavoidably created and whenever there is some perception that the existing banks don't do all the needed business sufficiently well, someone will probably establish a new bank. Commercial banks are clearly examples of capitalist enterprises whose existence and well-being reflects the human freedom in one society or another – and only a stinky Bolshevik could disagree with that statement.
And then there are central banks that print the currency. They're often dismissed as "the government". Well, they're a part of the government in the generalized sense but they're usually institutions that are formally independent of the government in the narrow sense. The latter means that everyone who fails to distinguish the government's borrowing (through bonds) from the central banks' monetary policy is a financially illiterate moron.
People used to use precious metals to improve their barter. And coins were first coined by "governments" – well, usually by some kings who had lots of gold and silver. Were they really governments? Well, kings were governments but you could also call them the early capitalists. They owned the land and they controlled their serfs just like owners of companies are controlling their land and their employees today. So in this sense, the early coins were products that early capitalists invented to improve their business. And the modern fiat currencies continuously evolved from those coins.
Whether you associate the fiat currencies with the word "government" and whether it means a negative label to you is one question. But another, more important question is whether you expect a modern society to have something that behaves as the fiat currencies and that is similarly regulated.
And the correct answer is obviously Yes. If the fiat currencies weren't provided by the central banks or governments, they would be invented by a company or companies and these companies would become very important and trusted. What would happen?
Imagine that you happen to live in a pretty modern world which already has smartphones, cars, and lots of similar things. But for some reason, the society has no fiat currencies as we know them. What would happen? People would barter. And they would spontaneously use some proto-currencies as their savings and payments.
A problem with the proto-currencies would be that their value cannot be determined precisely and cannot be predicted precisely because it's both volatile in the short term and enjoying an uncertain fate in the long term. That would be a clear problem. People with big savings in these proto-currencies would feel the risk that their savings become worthless. And borrowers would be terrified that they won't be able to repay their loan because the coins they have borrowed will become extremely valuable. So it wouldn't work.
How would the free market help to fix these problems? Someone would just invent currencies that would be administered by very similar regulations as the fiat currencies today. The only difference would be that the "central banks" that do such things would call themselves "private entities" rather than "independent branches of the government".
How would it happen? Imagine, ten companies would print 1 billion tolars and they would claim these tolars (ten types of them) to have some value in the future – they would promise some inflation rate, much like the central banks promise the targeted inflation today. The companies would claim that they only pay a certain small amount of money to its managers – the "central bankers". Eight of these ten companies would be fraudulent and they would try to make a speedy profit, print lots of the money. The commitment would be broken soon and people would abandon these currencies, recognizing that they would be ripped.
So many of these projects could fail but there would still be a desire for a stable currency. So the remaining two companies would try to approach the problem more credibly and they would promise to enforce rules that resemble the targeting of the inflation rate by the central banks. The system would grow and lots of people would join and use these currencies. The failure of these currencies would become such a big threat that everyone would really like some guarantees that the system won't be compromised – e.g. by printing a quadrillion of tolars which causes hyperinflation. So the people would spontaneously create some supervisors and cops with firearms etc. that would protect the system against various threats.
The detailed history could be very different than the history of central banks in our real world but I claim that the final product would be extremely similar to what we have today. People would be using rather stable money that are provided by someone who is trusted. The company – a private version of the central bank – would be trusted because it would have had a pretty good track record; and because there would be mechanisms including firearms that protect the system against the major imaginable threats.
So the fiat money would exist, anyway, because the fiat money whose value is stable or quasi-stable and predictable in some natural units associated with the real economy is an extremely useful invention for the modern economy. The fiat money is really a necessary condition for precise prices to be possible at all.
Well, the company – private central bank – could print the banknotes that are backed by something tangible, not just by firearms that protect the scarcity of the banknotes. It could be backed by things like precious metals or other commodities or stocks of some companies (which may exist independently of cash – companies could exist and barter). But if the volatility of the value of this money were high, the private central bank would offer some extra derivatives that could shield the users of the money from the wiggles. In effect, the people could use the right mixture of the money that is basically stable for their purposes.
It's possible that such private currencies would be more international than they are today – they could resemble the Euro or they could be even more international than the Euro. It's also possible that there would be lots and lots of regional currencies. But in that case, it's likely that the smaller ones would diminish because some neighbor's currency would be considered a much better solution than ours.
However, it's also possible that there would be two or many currencies used at every nation's territory. One industry could use one currency, another industry could use another. Their targeting systems could be different. In fact, I do think that such a setup with many currencies on the same territory could be a rather good idea in our world – and central banks could artificially introduce them. I think that there could be e.g. some "poor man's currency" that is stable relatively to the products that the poor men need to survive; and the "rich man's currency" that could be much more volatile relatively to bread but more stable in comparison with the stock indices, and stuff like that.
Details could be different and we arguably don't use the totally optimal type of fiat currency systems that are possible. However, the very existence of some stable enough currencies whose predictable value is enforced by some particular mechanisms that include particular institutions is something that is clearly useful if not vital for the modern economy, and that's why lots of rational people ultimately want it, and why someone would offer it as a service in a truly free society.
So the people who are obsessed with the idea of eliminating any currencies with a centralized, well-defined provider don't really like human freedom. They like the idea that humans aren't allowed to defend their interests in any organized, clever way. They want to restrict the human freedom in a brutal way and hurt the prosperity of the nations, too. They want to return us to the middle ages whether or not we like it.
This kind of pathological political thinking underlies the blockchain movement, too. This kind of medieval or Somalian anarchocapitalism provided the Bitcoin with the culture of the first champions a decade ago. It's not something that truly free people who appreciate advantages of the modern world want.
For these rational people, the blockchain is just a weird or unusual method – whose very mathematical existence is a bit surprising – to impose a consensus about the integrity of a growing lost of transactions. It is a weird or unusual method – but it is not a useful one. Instead, it's pretty much obvious that solutions based on the blockchain are worse and not better than the usual solutions that build on the trust of particular, localized trusted parties. Consequently, the blockchain has virtually no future in the real world.