A Comprehensive Overview of the Entire Blockchain Ecosystem
One of the foundational activities of human civilization is the exchange of value between people. History has proven that societal advancement is very closely correlated with the velocity of value exchange within its population. Instead of an individual needing to master every trade, people can specialize in some skill and exchange it for other products and services they want or need. Increased value exchange is at the heart of heightened collaboration, which makes life easier and allows people to obtain far more value than they would by themselves.
Humans exchange all types of value, whether it be time, labor, products, access, or information (data). The most basic way to exchange value is bartering, but it’s only efficient when both parties possess items the other side demands. What happens when you want something someone else is selling, but you don’t own any items they want? Money was invented as a way to solve those inefficiencies by creating a universally accepted medium for storing value. Money was the catalyst of early markets and fostered many new trading opportunities that were not possible with barter.
Alongside money, came the proliferation of record keeping (accounting). To properly value different goods, services, and even money itself, there needs to be verifiable ways to calculate and prove value. For example, when an investor wants to know if a company is healthy, they look at their accounting books. Record keeping was introduced as a mathematical method to properly monetize value and record activity/ownership within open markets. It brought increased trust to valuations and in combination with money, opened up the credit markets.
As trade evolved from barter to markets, people found themselves with opportunities to conduct business with unknown entities. With new opportunities, came increased risk, primarily counterparty risk — the probability and likelihood that the other party in a contractual obligation might default on their obligations. To solve this problem, trusted third parties emerged to facilitate value exchange amongst entities that didn’t trust each other. The most common were banks, since banks had the capital to finance upfront costs and the legal expertise to effectively settle defaults. Trusted third parties brought trust and financing to value exchange, which allowed markets to expand globally.
Fast forward hundreds of years and the Internet completely changed the infrastructure in which information can be communicated. Information not only moves at unprecedented speeds, but its reach is international. The free flow of instant information around the world has and still is transforming the speed of exchange and global consensus around valuations. Thanks to the Internet and other breakthroughs in digital technology, there is another wave of infrastructure that could completely shift the way in which society monetizes and exchanges value.
Distributed Ledger Technology:
Distributed ledger technology (DLT) is a general term used to describe the family of technologies deriving from or built to support distributed ledgers. The most widely known of these technologies is blockchain, which has its own subsets (public, federated, private), but there are a variety of others, including smart contracts, oracles, and directed acyclic graphs (DAGs), among many others.
The purpose of DLT is to replace trusted third parties that process and store records in a centralized manner with decentralized computer protocols where every user on the network verifies the accuracy and authenticity of all records in one singular, non-centrally-owned ledger. Instead of a central server processing and storing records, thousands of computers (nodes) form continual consensus around the changes in record keeping (state changes) of the network. Each node participates in consensus and stores a copy of the ledger. Some people refer to it as the stateful Internet, since it’s a open network that by design keeps timestamped records of all transactional activity. The current Internet is stateless.
DLT not only keeps records of transactional activity, but it can digitize the ownership of assets (tokenization) and processes contract logic (smart contracts). Smart contracts allow changes in record keeping to be dependent on “if/then” conditional statements, such as “if this happens, then execute this transaction.” DLT replaces current system rule — a probabilistic world where value exchange is run by humans and so rules will probably be followed, with system law — a deterministic world where value exchange is run by immutable computer code and exchange is determined directly by reliable, unbiased, and tamperproof data.
The scope of DLT is rather vast and sometimes hard to fathom at first because like the Internet, DLT can be applied to any current real world business model, operational process, regulatory framework, and specifically to create a digital asset of specific units of data (tokenization). Since its use is so wide scale, speculation over its value was rampant in 2017. Companies were raising millions, sometimes even hundreds of millions of dollars because they were taking the novelty of DLT and applying it to any of the aforementioned spaces. It’s directly analogous with creating an Internet company for all previous brick and mortar business during the .com boom.
However, like all things too good to be true, the magic wore off, reality crept in, and the speculative bubble popped in 2018. Many Internet companies went through a similar phase, as even the biggest tech giants of today, like Amazon and IBM, had substantial drops in their stock price from the peak of the bubble. While most companies failed, several went on to be to the biggest companies in the world. In fact, Microsoft became the third trillion dollar company by market cap, joining Apple and Amazon as the other two to reach that feat.
With the DLT space having gone through a full market cycle in only two years, it’s important to take a step back and assess the current state of DLT. There will likely be very valuable networks that come out of this new sector and a few could even become the most powerful and valuable networks on the planet. To properly identify the most valuable of these technologies, it’s important to understand the present reality, and use it as a baseline to accurately predict the future direction. To aid in the analysis, five key components of the DLT ecosystem will be dissected from a current vs. future perspective. These include: development, use cases, education, investment/price action, and politics.
The Current DLT Landscape:
Every distributed ledger must overcome similar obstacles, mainly the byzantine generals problem — getting different entities to work towards the same goal (consensus) despite the risk of one entity (malicious actor) corrupting the whole network by acting in their own self-interests. Malicious actors can generally attack in two ways: double spending — spending the same coin twice, and 51% attacks — gaining majority control of the network. Blockchains prevent double spending by maintaining a chronologically-ordered, time-stamped transaction ledger that’s held by every node in the network. The ledger is accurately maintained as long as one entity doesn’t get control of 51% of the nodes. If they do, they can create false transactions and use their 51% consensus to get the transactions accepted into ledger.
While blockchains have solved the byzantine generals problem, they face another hurdle if they want to see mass adoption, scalability. The blockchain trilemma is the problem of developing distributed ledgers with decentralization (permissionless), security (correctness), and scalability (cost efficiency). According to Vitalik Buterin, author of the Ethereum whitepaper, “blockchains systems at most can only have two of the following three properties.” The problem arises from the reality that security, like against 51% attacks, is dependent on maximizing decentralization, while scalability is dependent on minimizing decentralization.
The trilemma forces projects to make technological tradeoffs that create strengths, but come with weaknesses. Generally, public blockchains like BTC and ETH offer security and decentralization, but poor scalability. More centralized blockchains like EOS and permissioned/private blockchains like Corda and Hyperledger offer scalability and security, but poor decentralization. Blockchain alternatives like DAGs offer scalability, but unproven decentralization and security.
Given the tradeoffs, DLT development has been split amongst those favoring particular tradeoffs. Public blockchains offer their core features of providing maximum security and creating the best network effects due to decentralization. However, they have four main problems that have to be addressed.
- Connectivity — The absence of connectivity is limiting most distributed ledgers to isolated silos disconnected from the rest of the world.
- Scalability — They don’t scale well, which means networks are slow and costs are high.
- Privacy — They lack the privacy companies need in order to be comfortable enough to transact without worrying that their data will get leaked or stolen.
- Governance — There’s a fundamental uncertainty when it comes to the best governance models for open protocols.
While there is active development on improving the base layer protocol of distributed ledgers, there has also been a shift in thought in terms of how to solve it. Instead of making the base layer perfect, many developers are building second layer solutions to fix the on-chain problems. The idea is to build second layer networks on top of the underlying blockchain to tackle certain issues, as opposed to the base layer solving everything. There are a variety of protocols offering off-chain solutions for scaling, interoperability, and privacy. It will be interesting to see if second layer solutions fix the inherent problems of distributed ledgers or only offer band aid solutions with their own tradeoffs.
The other side of development revolves around more centralized blockchains and permissioned/private blockchains. The idea is that without cost effective scalability, DLT will never take off. Therefore, sacrificing some decentralization for scalability is seen as the most practical solution. EOS is a public blockchain that does so by limiting the amount of nodes that can participate in block producing consensus to 21.
Hyperledger and Corda are permissioned blockchains that only allow users that have been granted permission. Private blockchains offer great scalability and privacy, but don’t offer the same level of network effects and deterministic guarantees that come with full decentralization. The rating agency Moody’s expressed such concerns, stating “Private/centralized blockchains are more exposed to fraud risk because system design and administration remains concentrated with one or few parties.” However, it seems clear that they’re the preferred choice of business right now. It’s a much more private and controlled environment for companies to test the waters of DLT.
As noted by the wide disparity amongst projects, DLT is very much in its early days of R&D, testing, and initial implementation. Different technologies are in different stages and no one really knows which tech is going to prove most successful. Maybe one type of blockchain becomes dominant, maybe some blockchains work better in certain industries, maybe layer two solutions solve blockchain problems, or maybe some blockchain alternatives solve the trilemma. There are more questions than answers right now.
One thing that is certain is DLT needs more people working on the problem. Many companies want to hire developers to aid in their experimentation with DLT, but find it hard to acquire good talent. A small pool of talent also results in code that takes longer to mature since there are less eyeballs looking for bugs and vulnerabilities. While blockchains have proven resilient to hacks, smart contracts still need to improve their code for any type of industry use. In the end, blockchain is only as good as its code, so growing the developer community is vital.
Currently, there are four main use cases which utilize DLT, have provable and working solutions, and provide actual real world value.
1. Censorless Exchange of Value — Public DLT allows for anything of value to reliably flow from only party to another without the threat of any form of censorship. The most widely known form of censorless value exchange in the DLT space is cryptocurrency, such as Bitcoin — the first decentralized, permissionless, and uncensorable form of digitized global money. While laws might discourage participation in the network, it would be hard to stop an open blockchain like Bitcoin.
There are however a variety of other markets, such as payment processors and social media outlets, that are unable to censor transactions or content based off political disagreement. A good example is Steemit, a blockchain that host and directly monetizes users content, such as blogs or videos, without the threat of censorship. With centralized media platforms increasingly censoring and demonetizing content, platforms like Steemit have proven useful at avoiding censorship and giving users digital ownership of their data. Famous YouTuber PewDiePie, who has 94 million subscribers, has recently announcedthat he would start live-streaming on DLive, an content sharing app built on the Lino blockchain (formerly built on Steemit).
2. Tokenization of Assets — Another major use case is the tokenization of assets. Thanks to smart contracts, blockchains like Ethereum can take anything of value and turn it into a tradable token with a unique and publicly verifiable identity. All kind of assets can be tokenized, such as equity, title ownership, products, and derivatives contracts. Not only does it keep accurate and censorless record of ownership, but the blockchain opens up new markets with increased liquidity for these assets to trade.
Tokenization was the main driver of the 2017 speculative bubble in DLT because it gave rise to Initial Coin Offerings (ICOs) for utility tokens and Security Token Offerings (STOs) for tokenized equity. While ICOs specifically got way out of hand in terms of their valuations, it’s still a proven and useful way to raise money in a decentralized manner. ICOs and STOs decentralized venture capital investment by allowing average citizens from anywhere in the world to participate in early fundraising rounds.
Tokenization has led a to new asset class called utility tokens — a representation of value for network access and usage, which is limited in supply. It’s one of the best ways to monetize open protocols. Tokenization has also lead to the proliferation of stablecoins — fiat currency on the blockchain, and exchange tokens — utility tokens for exchange discounts/usage. Stablecoins and exchange tokens have proven instrumental for traders wanting to hedge against volatility and save money on exchange activity.
3. Security of Asset Storage — An overlooked use case that shouldn’t be ignored is the ability for a blockchain to become a more secure and reliable database. While distributed databases are faster and quite a common model with a high level of security, DLT has benefits over distributed databases for uptime (generally more nodes), ease of adding new nodes, and ease of connecting to the network, which results in lower costs of running. While exchanges, certain smart contracts, and personal computers are sometimes hacked, the fundamental blockchain protocol has proven resilient to hackers thanks to due to node consensus, data immutability, and data provenance.
Secure asset storage is also important from an ownership standpoint. A person’s digital identity, which includes all types of metadata about them, is very valuable to companies today. Blockchains offer a way for someone to monetize and own, both their personal data and application data. Steemit was really the first platform to facilitate social media activity, but not own any data or require/store any personal information. In fact, the user owns their own content and it’s directly monetized by the platform. It’s different to something like Facebook, which keeps all the users data and owns the content (which it often sells for money).
4. Security of Asset Exchange — Given the reliability and immutability of the network, blockchains make better execution engines for contracts. While smart contracts are young, they are poised to potentially be the biggest evolution of the entire DLT space. Smart contracts are not just for ICOs and tokenization, but can be used in a variety of industries to replace backend systems involved in contract execution, maintenance, and settlement. Companies implementing smart contracts could see a massive reduction in the overhead involved in paperwork, dispute resolution, data entry, custodial, and regulatory compliance. While some companies might not care about censorship, they could find the secure and reliable nature of processing asset exchange to be very appealing.
While one could argue that there are smaller use cases like decentralized exchanges, prediction markets, supply chain, digital identity, interbank settlement, networking protocols, anonymous money, and remittances, they are still relatively small in scale and have underlying issues that have to be addressed before being considered widespread successes. Unfortunately, current use cases are still rather niche, with no widely used Dapp yet.
Permissioned DLT has seen a ton of development too, although no concrete adoption. Many large corporations are experimenting with permissioned DLT by producing proof-of-concepts, running trials, and announcing production plans. Some notable examples include:
- The Australian Securities Exchange replacing the Australian Clearing House Electronic Subregister System (CHESS) with DLT developed by Digital Asset
- IBM and Maersk developing a shipping blockchain called Tradelens
- The UK Land Registry using Corda to improve the house buying process in the UK
- Walmart running food traceability trials on Hyperledger Fabric
- SWIFT doing a DLT POC on Hyperledger Fabric for clearing nosotro bank accounts
- JP Morgan launching their own blockchain called Quorum and stablecoin called JPM coin
- IBM/Goldman Sachs/Morgan Stanley launch the world’s first global blockchain-based FX market enterprise on Hyperledger Fabric.
There are also many DLT focused startups with corporate partners working on solutions:
- Ondiflo — a blockchain for the oil and gas industry
- Komgo — a trade finance platform
- Adhara — a multi-currency liquidity management and international payments platform
- OpenLaw — a legal operating system for developing smart contracts
- Kaleido — a blockchain as a service marketplace
Finally, there are a variety of organizations and consortiums being constructed to foster exploration and collaboration between businesses, governments, and technology firms.
- Blockchain In Transport Alliance — BiTa is a member-driven organization to build DLT solutions in freight, transportation, logistics and affiliated industries.
- The Initiative for Cryptocurrencies & Contracts — The IC3 is the leading academic research organization in the world focused on advancing DLT.
- The Accord Project — The Accord Project seeks to define a common specification for a smart legal contract layer to support any agreement type
- The Ethereum Enterprise Alliance — The EEA is a member-driven standards organization whose charter is to develop open, blockchain specifications that drive harmonization and interoperability for businesses and consumers worldwide
- Wall Street Blockchain Alliance — The WSBA stands as a neutral, unbiased steward of education and cooperation between global financial firms.
- The Blockchain Insurance Industry Initiative — The B3i is a collaboration of insurers and reinsurers to explore the potential of using Distributed Ledger Technologies within the industry for the benefit of all stakeholders in the value chain.
- Hyperledger — Hyperledger is a multi-project open source collaborative effort hosted by The Linux Foundation, created to advance cross-industry blockchain technologies.
The backbone of any technology movement is the populous, or at least some small portion of it, having a fundamental understanding of how the technology works, why it’s valuable, and how it’s going to change the future. Unfortunately, the current knowledge base surrounding DLT is poor to nonexistent. This is true for developers too, as turnover and failed startups are quite common in the DLT space.
It’s hard to blame people though, given the technology’s infancy and rapid changes in development. There is simply a high barrier to entry for most people given its technical, constantly changing nature. A large majority of big tech movements are contained in the beginning to small communities of university-led research initiatives, Venture Capital (or other investment arms with access to future tech perspectives), and individuals with knowledge and access to bleeding-edge tech and scientific innovations.
Though it may seem big to those involved on a daily basis, the DLT space is still a relatively small, niche community. Within the DLT community there is still a fundamental lack of understanding when it comes to the technology. On one end you have traders that are only in it for the money, and on the other end you have investors that don’t have a strong knowledge base for whatever reason. For example, smart contracts are one of the most important technologies within DLT. Smart contracts generate a lot of interest due to their potential for automation and cost reduction, but people are not aware that smart contracts are limited without oracles feeding real-world data into the contracts.
When looking at the greater mainstream, education is much further behind. Most people still have no concept of blockchain and why it might be valuable, let alone other topics like smart contracts, oracles, and state channels. Most people around the world have still never even heard of Bitcoin. Those that have usually know it in a general sense as money, but can’t make any distinction between blockchain, cryptocurrency, and Bitcoin. They tend to lump all terms in the DLT space together as meaning cryptocurrency like Bitcoin, when in reality cryptocurrency is just one use case.
Mainstream media and public figures such as Jamie Dimon, played a large role in tarnishing the image of the space by issuing public statements about it being a speculative bubble and used for crime. However, instead of paying attention to what is being said, individuals should consider the actions of these same corporations and governments more meaningful. If the technology is worthless then why are the IEEE and The Accord Project teaming up to develop techno-legal standards for smart contract applications? Why is ISO/TC 307 trying to develop international standards for DLT technologies? Why did the U.S. government pass the 21st Century Integrated Digital Experience Act to digitize the federal government? All these actions of the market makers depict a technology that is not only here to stay, but will become an integral part of baseline societal interaction. Standardizing the terms and technology that makeup DLT will go along way towards improving the education surrounding the space.
Investment and Price Action:
The DLT landscape has grown considerably in the last few years. According to coinmarketcap, as of April 29th, 2019 there are roughly 2140 cryptocurrencies with a total market capitalization of roughly 171 billion. While this is low compared to the peak of over 800 billion in early January 2018, it is significantly higher than the start of 2017 which was just under 20 billion.
Unfortunately, most of the current price action seems to be driven by speculation and hype rather than actual value. There are a variety of trader and whale groups that pump and dump coins, gimmicky promotions to hype coins, and exchanges manipulating markets using insider trading, bots, and wash trading. Hypenomics and pumpamentals have even become popular phrases because traders are watching like hawks for hype fueled pumps. While it’s hard to say for sure, it does feel as though whales and exchanges dominate the market right now. It also feels more like a casino dominated by Bitcoin, than a traditional market of different assets.
None of this should be surprising or particularly concerning, given the novelty of the space and lack of real life use cases. It’s a new market with low volume, uncertain fundamentals, and little regulation. As mentioned above, the Internet era went through a similar boom bust speculative cycle. The only difference is the speed and scale of it. The Internet era involved more money and had longer bull/bear markets. The world is different now because the Internet has opened markets globally and speed up information flow. Similar to the Internet era, there will be a rebound of those assets building real value and death to those that don’t. Over time markets mature and usage drives value, instead of speculation.
So far institutional interest has been hesitant and investment has been limited to backdoor channels using small hedge funds, personal accounts, or through industry products like Bitcoin trusts and futures. The other limitation is traditional valuation models don’t apply to DLT assets like cryptocurrency and utility tokens, so pricing them is rather difficult for institutions. Simply put, traditional valuation models, regulated exchanges, and institutional products have held back the big money from investing in the space. However, that is quickly changing as reputable exchanges like the NASDAQ and ASX enter the space and new exchanges like Coinbase and Binance evolve to meet industry requirements.
When considering politics, there’s a classic faceoff between centralized entities and decentralized technology over control of how the DLT space eventually blossoms. Will public blockchains win or will private blockchains? Will only centralized KYC exchanges be legal or will decentralized exchanges take root? Will taxes be enforced on every transaction or will DLT force the notion of taxes to be re-examined? How do data security laws like GDPR apply to DLT? Will anonymous cryptocurrency be outlawed? There are a variety of questions that can be asked that currently have no answers. Ultimately, it comes down to the interplay between the current power structure and the rising wave of decentralization that aims to uproot it or at the very least change it.
Centralization generally comes from those already in power because the status quo currently favors them. It’s a natural instinct to protect your own power and most people do whatever they can to maintain it. Change is something that existing powers hate because it disrupts the status quo. They either resist it or try and steer it in a more favorable direction for themselves. DLT can be a very disruptive technology that uproots some of the most foundational activities in society. It can also be very complimentary to large corporations by improving their operations, saving them significant amounts of money. DLT is simply a tool and politics often determine how it’s used.
Centralization has emerged in the form of permission/private blockchains that aim to privatize, patent, and keep control of networks. It’s also safer in regards to the current political landscape, given the legal and technological unknowns still present around DLT. On the other end, decentralization is pushing for public blockchains that offer new forms of free value exchange outside the traditional models. Many people don’t believe governments and big corporations have a right to syphon off value from their transactions and/or oversee their activities.
Centralization is also coming in the form of crackdowns on non-KYC/AML exchanges, which herds the masses towards regulatory compliant exchanges. Powerful companies are also entering the space and looking to take over as the institutional gateway for DLT investment. On the other hand, decentralized exchanges, anonymous cryptocurrency, and smart contract protocols are laying totally new infrastructure around freedom and anonymity of economic exchange. Decentralized social media platforms, decentralized finance, and even decentralized stock exchanges in the form of STO platforms are all also emerging as replacements for some of the most powerful institutions in the world.
In fact, the entire legal system is subject to revaluation as a result of DLT. Projects like OpenLaw and organizations like The Accord Project are already working on ways to make smart contracts legally binding. Political voting and government funding could one day be on the blockchain, which is radical shift many don’t see coming.
The Future DLT Landscape:
In order to move the space forward from a developmental standpoint, there are technological limitations that must be overcome before mass adoption can occur.
1. Interoperability — One of the biggest problems hindering DLT adoption is lack of interoperability. DLT not only needs to connect to other DLT, but it needs to connect with legacy systems. It’s especially crucial for smart contracts, since smart contracts need external data inputs to trigger their contract logic and connection to off-chain outputs, like traditional payment systems that conduct legally compliant payments in fiat currencies. Most data needed to trigger smart contracts is stored outside their native blockchains and most people want smart contracts settlements in fiat currencies on existing systems. Smart contracts that are disconnected from the world’s data, legacy systems, and other DLT networks will be severely limited in their functionality.
An API is a set of instructions (protocol) that other systems must follow if they want to interact with that specific system, such as extracting its data or utilizing its service. For example, the Uber app utilizes GPS data from a Google API, messaging functionality from the Twilio API, and payment functionality from the Stripe API. In this regard, Uber can utilize all these functions as part of their own app, instead of having to build any of those capabilities from scratch. APIs are also how other application get access to external data, such as an exchange using Bloomberg’s pricing data. APIs have been on a steady rise since 2005 and are quickly becoming the standard way of leveraging the data and services of another company.
Due to the consensus mechanisms that underpin blockchain technology, smart contracts cannot access external data without risking the underlying security of its ledger. Oracles are a subset of DLT that facilitate connection between on-chain smart contracts and off-chain websites and APIs. Oracles are digital agents that find and verify real-world data and cryptographically submit the information to the smart contract. They are bidirectional in that they retrieve external data and feed it into the smart contract and send data out of the smart contract and on to other systems.
Today, smart contracts use centralized oracles to retrieve external data. While it does work, it raises some major concerns, mainly that a centralized oracle becomes a central point of attack and possesses uptime vulnerabilities for the smart contract. Why go through the hassle of creating a decentralized smart contract only to have a centralized oracle feeding it data? Centralized oracles put in jeopardy the key features of decentralization, reliability, and immutability that make distributed ledgers so valuable.
Chainlink is a promising project that looks primed to solve the connectivity problem by providing on-chain systems decentralized connection via oracles to any off-chain system through the use of APIs. Chainlink offers a general and flexible framework to allow on-chain contracts access to off-chain data APIs (web, IoT, GPS, cloud databases, other blockchains) and API services offered by legacy business (SWIFT, PayPal, DocuSign, Oracle). It’s advantageous for smart contracts that need access to off-chain resources and equally enticing for legacy systems looking for new markets to sell their data and services too.
The beauty of Chainlink is that developers can design their connection however they need, whether it be centralized or decentralized, open or private, and connected to any endpoint with an API. It offers high availability, flexibility in data/node aggregation, and security of data transfer through features like trusted hardware and encryption. By making the oracle process decentralized, the smart contract remains secure, reliable, and tamperproof in its end-to-end execution.
There are also a variety of other interoperability blockchains focused on facilitating decentralized connection between two DLT systems, such as Polkadot, Cosmos, Wanchain, Icon, Ark, and Aion. Another interesting project aiming to solve a separate problem for interoperability is Quant. Quant is a patented, closed source middleware (OS) that allows developers to write smart contracts in one language (MAPP), which can be deployed across any blockchain without having to rewrite the contract. The goal is to allow developers the ability to experiment and connect with many blockchains, without the risk of needing to rewrite all their code and retrain all their staff if they switch to another DLT system.
Ultimately, interoperability should go a long way in solving the blockchain trilemma. Allowing seamless interoperability between chains can create chain specialization, whereas certain DLT can be optimized for certain features. For example, Ripple, Stellar or Nano may be most suited for quick micropayments, while Bitcoin is best for storing and sending large amounts of value. Another example is using EOS for smart contracts that need fast and cheap on-chain transactions, while smart contracts that need top end security can use Ethereum. Interoperability means one blockchain doesn’t have to do everything. Instead, smart contracts can leverage the different advantages of different projects according to their specific needs.
2. Scaling — The other major hurdle that must be conquered is scaling. As stated above, interoperability can go a long way towards solving the scalability problem by allowing projects that need faster transaction speed to easily leverage scalable chains. However, scalable chains might be unfavorable for transacting large amounts of money through due to tradeoffs with security.
One such solution to the problem is private and permissioned blockchains that allow fast speeds at sake of decentralization. It’s looks as if many large firms will start out using permissioned systems as a risk averse way to take advantage of DLT. On the other hand, permissionless DLT systems look primed to take over for certain use cases due to their network effects, trust maximization, and cost effectiveness. It’s similar to today, where intranets still exist and serve a real purpose, but the Internet acts as the global gateway of communication.
However, to make public DLT the standard, it will need cost effective scaling. As mentioned above, there have been a variety of layer 2 off-chain solutions introduced to facilitate scaling, such state channels like Lighting Network and Celer, sidechains like Plasma and Liquid, and sharding protocols. There are also new blockchains (3rd generation) that have built-in parallel blockchain structures (similar to sidechains). It’s akin to every application/company having its own blockchain, which can easily communicate with other blockchains in the network, instead of one big bloated blockchain for all activity. Blockchain alternatives are also offering interesting propositions, but they will have to prove their capabilities to do so on MainNet with a high level of activity and no central coordinator.
Ultimately, scaling should happen through a variety of methods. Interoperability, scaling, and layer 2 protocols will offload scaling to other DLT systems, while the underlying blockchain protocols are either upgraded or replaced by new generation blockchains and blockchain alternatives that offer better tech. The focus seems to have shifted towards having a very secure base layer, then adding layers on top of it according to market demands. It makes sense because even if on-chain scaling improves, the one blockchain for all approach seems utopian and unachievable. There is simply too much data being produced at an increasing rate and a plethora of different needs, that a multi interconnected blockchain universe built around specialization seems most practical. It can work too, as long as there is a standard for secure connectivity between networks.
3. Privacy — Most companies have no interest in using DLT unless their transactional data is kept private. In a competitive business environment, companies cannot divulge details about their business dealings because competitors can gain valuable information from it. Also, individuals in general care about keeping their transactional data private. In many jurisdictions there are data security laws that require companies to keep consumers’ transactional data private.
The easiest way to maintain privacy is to utilize private or permissioned blockchains. Private blockchains are the best way for companies to establish POCs in a private and secure sandbox, then spread to community blockchains and eventually on to public blockchains. Risk is heavily reduced, especially when developers and engineers are new to the technology. While it does come with the downsides of the network being patented and access being restricted, it’s still the most logical first step for established institutions. They simply can’t afford data leaks and operational uncertainties that still surround public DLT.
For permissionless DLT to prosper, it needs to figure out ways to maintain privacy without sacrificing other network properties. Some of the most profound research being done to solve this problem is in zero knowledge proofs (ZKPs). ZKPs offer a way to prove an on-chain transactions happened without providing any details about the transaction, such as the sender, receiver, and amount. It’s the foundation of Zcash, a private cryptocurrency. ZKPs are improving quickly in their capabilities and will likely be one of the most important pieces of tech to solve the privacy problem of public DLT. Some interesting developments in thIS field, include zk-SNARKs, zk-STARKS, bulletproofs, and the Aztec Protocol.
Trusted hardware, such as Intel SGX, is another major piece of technology facilitating privacy on public networks. Trusted hardware allows computer code to be run in a trusted execution environment (secure enclave), akin to it running in a black box that cannot be seen or tampered. It’s being introduced for blockchain consensus nodes through projects like Enigma and oracle nodes for projects like Chainlink. It not only brings privacy to processing and data transfer, but allows more functionality, such as running code like WebAssembly (Wasm) or improving scaling through secure, low cost off-chain processing. Finally, interoperability is another solution to privacy, since use cases requiring it can be reliably offloaded to privacy focused DLT.
4. Governance — Given blockchains are decentralized protocols, how does a protocol agree on innovation without centralization? Permissioned or private chains have clear governance models because the blockchain is patented and owned by a known entity. That does come with its own problems, but the pecking order is more clear. However, open source DLT has to rely on off-chain governance models or build on-chain governance directly into the base layer protocol.
The most common form of governance today is off-chain governance. Bitcoin uses this approach. Improvements are proposed by its BIP proposal system, which are usually debated and voted on by the large mining pools, the core developers, and large business infrastructure like exchanges and merchant processors. While there is more decentralization, Bitcoin is slow to innovate and has been subject to hard forks. This approach is appealing since it is like direct democracy in action, but it does create community divides and increase the social attack surface of networks. It also comes with some centralization around mining (Bitmain) and development (Blockstream).
Most other blockchain projects operate similar to Ethereum, where power is split between the company or foundation that controls development, miners or stakers that secure the chain, and exchanges/large development companies that provide business infrastructure and investment. It’s a bit more centralized than Bitcoin since there are no voting mechanism for changes. However, people can hard fork the network if they disagree with new developments. In general, off-chain governance naturally finds some way of centralizing and is almost impossible to avoid.
There is also on-chain governance, with projects such as EOS, Tezos, and Dffinity being some of the early innovators. On-chain governance allows holders to vote directly or through a representative on development proposals and even chain rewrites. While this decentralizes decision making to some degree, it is still rather centralized since voting usually requires a certain monetary stake in the network like with Tezos, or must go through a representative like in EOS. Also, chain rewrites, while handy when hacks occur, come at the expense of immutability since the state of the blockchain can be manually changed.
In the end, both models should see a ton of continued development. There doesn’t seem to be a clear answer because, just like in political governance, there is no perfect answer. There are only tradeoffs. On-chain and off-chain governance can both lead to centralization without the education of users. While no one wants a dictatorship, the other reality is that too much decentralization can lead to poor or stalled decision making. Most users are simply not technically literate enough to adequately vote on complex protocol changes. There are also problems of mob rule and tragedy of the commons that can occur. Blockchain governance is one of the most complicated problems in the space to solve and will likely never see a perfect solution. Chain specialization paired with interoperability should help alleviate differences by giving people choices.
5. Developer Support — The DLT space desperately needs more developers looking at the problem. The more eyes on the code and the more brains pondering solutions to the problems, the quicker vulnerabilities are patched and the faster innovations occur. All new technologies have a lack of talent in the beginning, but with demand comes supply. Look for education offerings in DLT to rapidly increase, as companies, both legacy and startup, willingly spend money to train the next generation of developers. Universities and specialized classes will also compete to fill the void for opportunistic developers looking for good paying work. It’s possible that DLT developers could become one of the fastest growing careers in the market.
There is also a major need for more reputable solution integrators with robust teams. Large corporations outsource complex work to integrators to reduce project risk. For example, ASX is outsourcing their redesign of CHESS to Digital Asset, who utilize Hyperledger or Microsoft/Amazon for engineering and platform support. Big companies need solution integration companies to act as 24/7 help hotlines and network specialists to guide them through their specific problems. Some companies already looking to fulfill that role include Digital Asset, Clovyr, Kaleido, and Microsoft.
As stated above, one of the major problems is the lack of industry adoption for DLT. One of the areas that should spawn a vast array of use cases is interoperability. It’s akin to the Internet, specifically the world wide web, which exponentially increased the functionality of computers. There are limitless industry relevant use cases possible when smart contracts are able to connect with external data and resources. Imagine if insurance smart contracts could access IOT devices, derivatives smart contracts could access market data, and trade finance smart contracts could access events data like a Bill of lading. Additionally, what if all these smart contracts could issue payments in whatever currency desired and on whatever payment system that’s preferred? Interoperability not only gives smart contracts access to data, but legacy processes like Docusign, SWIFT, AI algorithms in the cloud, and SaaS products like SAP. Connectivity to outside systems can and likely will start the next wave of use cases.
(Example of how an oracle would facilitate a smart contract)
Tokenization, ICOs, and STOs should continue their ascent as a highly attractive use cases. However, there will likely be competition from the big players, such as large exchanges like the NASDAQ and NYSE, looking to host and list such offerings. Why would these large powerful exchanges not expand their operations to include these lucrative new markets or at least buy out the first movers? Tokenization could see specialization, whereas certain blockchains specialize in tokenizing certain assets, or open platform like Ethereum could become the public registries for assets. In terms of STOs, it will be interesting to see if big exchanges take over or if startups like Polymath, Securitize, Swarm, and Own succeed.
Another area that seems ripe for DLT disruption is social media. Whether people agree or not with the decision to ban and police content, the content isn’t going away. People will naturally flock to the platforms that give them a monetized voice, which is why DLT platforms like Steemit, BitTube, and DLive should see more content being hosted and digital advertising platforms like Basic Attention Token should see more browser usage. If not, other platforms will emerge, as people are starved for information in the digital age and will not put up with biased censorship.
It remains to be seen what will happen with cryptocurrency. It appears Bitcoin will continue to be the Store of Value king, but in terms of being environmentally sustainable and used as a day-to-day currency, it doesn’t seem particularly well suited. There is simply no incentive to spend it, since it is expensive, slow, and deflationary by nature. Most people would rather just hold it as a store of value investment. It’s still an open question whether a state channel solution like the Lightning Network can alleviate these concerns and bring micropayments to Bitcoin. Whether cryptocurrency exceeds for payments, it seems clear that new payment solutions will take root in some form. It will revolutionize the overly expensive remittance and interbank settlement industries.
Something that’s likely to emerge, whether people like it or not, is government issued digital fiat. There are already many governments planning on issuing digital fiat tokens and that trend is not likely to stop. They could become the most dominant trading pairs on exchanges, essentially replacing stablecoins, or we could see stablecoins emerge based off a variety of assets. I have long argued that the best store of value is a currency based off a weighted average from a basket of assets (currencies, commodities, precious metals, stocks, etc) that is constantly updated through oracle data feeds. In this regard, no one asset is all powerful and volatility can be easily hedged through diversity.
By natural adaptation alone, the base of people who widely understand DLT will grow due to increased opportunities. A certain portion of people will choose to educate themselves in a particular area if there is unearned value available. However, the reality is that the majority of the population will never know how blockchain works under the hood, just like most people have no idea how the Internet works. That’s perfectly ok because the Internet has thrived despite its highly technical nature.
Highly technical fields will always leave people behind, which is why it favors those willing to learn and get involved early. While universities will offer DLT courses, companies will train DLT developers, and the diehards in crypto tech will evolve in their understandings, most people will simply miss out. The general population is generally consumers and will use technology that’s popular, such as Dapps or popular coins/tokens. Most people adopt trends because of social popularity or great use case, which often spread like wildfire on the Internet and throughout the media. Most people will not be the early adopters or early investors that shape the market.
Instead of forcing education, the DLT space should focus on developing killer products to improve its overall image. While the average citizen doesn’t need to know how it works, they should have a basic understanding that DLT has a much broader value proposition than currency and pump and dump ICOs. The best way to showcase that is simply produce superior products with real world use cases of providing tangible value. Valuable technology will change the image of DLT faster and in a more positive manner than any article or video could ever possibly achieve.
Investment and Price Action:
No one is going to take DLT seriously from an investment perspective if it continues to be so volatile. DLT exchanges desperately need more stable base pairings for crypto to trade against. While Bitcoin looks like it’s here to stay as a reliable store of value, it doesn’t make sense as a stable base pair to trade against due to its speculative value. It would behoove the market to separate itself from Bitcoin by moving most of the volume to fiat stablecoins, digital fiat, or asset backed stablecoins. Projects shouldn’t fluctuate based off Bitcoin’s movements, which have nothing to do with their fundamental value. Hopefully investors will start valuing projects based off their unique fundamental propositions, rather than how it moves in comparison to Bitcoin. In no way should this be forced, but without a decoupling from Bitcoin, other crypto-assets can’t properly find their value. Bitcoin could become a valuable base pair in the future, but in its infant stages of price discovery, it doesn’t make much sense.
Volatility in crypto-assets in general is a bit of a chicken and egg problem. Volatility in natural to infant markets when speculation is rampant due to its uncertain direction. There are no well-developed DLT networks to study yet, maybe outside BTC, so gathering reliable data is tough. Stability comes from mature networks with real use cases and real adoption. So in this regard, it’s hard to see adoption when the market is volatile, but the market is volatile because there is little adoption. It will be interesting to see how this problem is solved.
Allowing crypto-assets to separate from externalities, like Bitcoin volatility, should help researchers improve the underdeveloped crypto-economic models for valuing cryptocurrency and utility tokens. Some interesting questions in this regard are how utility tokens will be valued compared to store of value coins? Will the velocity of utility token usage keep prices low? Will staking mechanisms provide higher returns due to a majority of tokens being out of circulation? There are also some hybrid models like Chainlink, which combine utility for usage mixed with staking for protocol level insurance on data feeds. Many questions have yet to be answered in this department and ultimately can’t until networks are more mature.
Separation from Bitcoin and stable base trading pairs should allow institutional money to start coming into DLT with more reliability. While people might think institutional money is not needed, the reality is that the current crypto market as a whole is smaller than most large pension funds. The DLT space is a drop in the bucket in terms of valuation compared to the institutional money looking for new investment vehicles. Their appetite from DLT investment could only increase too, if the stock, real estate, and bond markets slow down from their extended bull run.
In general, the DLT space should see a variety of new institutional infrastructure emerge, whether it be custodial services, institutional exchanges, and easy to use wallets and user interfaces that take away the complexity. It’s not just about better infrastructure, but better products like Crypto Indexes, ETFs, STOs, and an expanded futures and options market. Look for there to be heavy competition between large brokerage houses in offering the best institutional products for DLT exposure. In fact, it is already starting.
Although most have not launched yet, there are a variety of announced institutional products coming to the market. Such products include:
- CME and CBOE (recently discontinued) already listing Bitcoin futures with NASDAQ soon to follow.
- Jeffrey Sprecher, Founder,Chairman, and CEO of the Intercontinental Exchange and Chairman of the NYSE, is launching a trading and custodial service called Bakkt
- Fidelity Digital Assets offering enterprise-grade custody and execution services for institutional investors
- Goldman Sachs investment in BitGO and acquisition of Poloniex through a startup they backed called Circle
- TD Ameritrade investing in cryptocurrency exchange ErisX
- Northern Trust providing cryptocurrency custody solutions
- Several Bitcoin ETFs waiting for approval by the SEC.
The battle over control of the crypto space will likely not produce any one winner, but instead a market of options. If a company wants more privacy and control, but less trust, then they may go with a private DLT. However, if someone wants full trust, but slightly less speed, then they could use public DLT. There shouldn’t be a one size fits all approach, but a multitude of approaches that suit people’s particular needs. It also shouldn’t be a private vs. public debate, where the market has to chose one or the other. Companies can leverage different approaches for different use cases. Public and private networks can also communicate with one another through interoperability solutions like Chainlink, Quant, and Polkadot.
Governments will continue trying to get control the space and exchanges will likely be the choke point. Without true decentralized exchanges or decentralized protocols run by masternodes or miners, there is really no free flow of value without surveillance and extensive regulation. At the same time, the lack of regulation has turned the DLT space into a manipulative market controlled by various power players. Some regulations to extinguish shady exchanges, hold ICOs accountable, and clean up rules around taxation would help the space legitimize the industry to many investors. However, would governments regulate in a way that benefits the ideals of the space or in a way that caters to their own self interests?
There are a variety of other questions that need answered. Such questions include: will there be universal standards for DLT? How will data security laws, such as company requirements to store data in specific geographic location, interact with borderless DLT? Will crypto-assets be taxed on a transactional basis? Who has jurisdiction over crypto-assets? Will digital identity laws reshape Big Data applications? Will sophisticated investor laws be dropped to open up venture capital to entire population? Will smart contracts be legally enforceable?
The list could on, but it’s safe to say that the political situation is far from over and really just beginning. It’s not just DLT that’s pushing new political conversations, but all the technologies surrounding the so called Fourth Industrial Revolution, such as AI, IoT, Biotechnology, 3D Printing, open-source technology, autonomous vehicles, robotics, quantum computing, nanotechnology, and open APIs (like PSD2), among others.
Society is heading towards a convergence of DLT and politics that will shape the future landscape of value exchange for decades to come. Money, record keeping, and trusted third parties birthed markets, the Internet took markets global, and DLT can upgrade the global infrastructure to make it real time, secure, and seamless. DLT can alleviate much of the friction that currently exists when exchanging value between two entities. It takes away the need to trust people and replaces it with trust in open source computer software that anyone can verify as accurate, but nobody can control or tamper. Value slippage during exchange can and should be a thing of the past.
It’s imperative that regulations do not overreach in an effort to maintain control, or else society may never see the full benefits of decentralization. On the other end, it’s vital that those working towards decentralization do so with honor, logic, and ethics. Selfish, reckless, and utopian stewardship of the move towards decentralization will only bring negative backlash and unrealistic expectations. DLT won’t bring a perfect world, but it can be vastly improved to the benefit of everyone.
Technology is simply a tool and how we use it is often a combination of our collective philosophy, ethics, and political will. It might not seem that grandiose right now, but DLT is a foundational technology that can get rid of the centralized chokepoints holding back mass value exchange and equitable monetization on a global level not seen before. Shaping it to the benefit of all mankind and not just a few people is of the utmost importance. The technology is bound to advance, but the question remains. What will the current generation do with the immense power of DLT? Let’s not squander this amazing opportunity.
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