In bitcoin we trust?
Part 1: What is blockchain technology?
Introduction
This essay will be an extended reflection on the philosophy, politics, and economics of Web3 and the blockchain technology upon which it is built. Central to that reflection will be the notion of radical decentralisation that blockchain technology makes possible, and of which bitcoin and Web3 more generally are examples.1 Radical decentralisation, we will see, is important because it opens up a new debate about the merits of centralised and decentralised governance structures, particularly in the economy which will be the primary focus here, and about the proper relationship between individuals, states, and the corporate entities with which they interact.
However, we will also see that Web3 is faced with an important challenge, for given the radically decentralised mode of governance that it represents, there is no obvious reason why stakeholders in incumbent centralised governance structures, be these state agencies or private corporations in the marketplace, would ever accept it. Web3, that is, faces an “adoption problem” - similar to that faced by purveyors of electricity in a world of candlemakers - where incumbents may lobby government to ensure, via legal prohibition or regulation, that their position is not challenged.
It is here where our enquiry has another contribution to make, for in seeing how part of the resolution of the adoption problem lies precisely in blockchain’s radically decentralised nature, the notion of radical decentralisation invites us to reconsider not just the debate about centralised and decentralised systems as governance structures, but as public decision procedures. Thus, in addition to setting out the conceptual and normative implications of Web3, blockchain technology, and radical decentralisation, this enquiry will also include an examination of how questions of public concern - in this case, the question of the extent to which, if at all, radical decentralisation should figure as a governance structure - may be resolved. Is resolution only available via more formal, typically political, decision procedures? Or does radical decentralisation present an alternative means of answering questions of pressing public concern?
Hayek, money, and the origins of blockchain technology
Leaving the question of the adoption problem to a later part of this essay, an especially powerful means of understanding radical decentralisation and the blockchain technology that makes it possible is via the work on money and monetary systems of Austrian economist F. A. Hayek. This may, of course, initially appear as a rather odd way to approach the topic. What, after all, could a thinker whose last major work appeared in the 1980s have to do with a twenty-first century technology such as blockchain? Yet, for many in the cryptocurrency community Hayek is a pioneer avant la lettre because his views on money are uncannily predictive of the first and most well-known application of blockchain technology, the cryptocurrency bitcoin.
How, then, does Hayek’s work on money tell us something about bitcoin? The 1974 Nobel Laureate is, of course, well-known as one of the leading opponents of central planning as practiced in the USSR and other communist countries in the twentieth century. What is less well-known, however, is that the author of The Road to Serfdom and The Constitution of Liberty also offered a variation of this critique in his writings on the monetary systems of the capitalist West. As Hayek argued in his 1976 volume The Denationalisation of Money, the best monetary system would be one that replaced the current system of government issued fiat currencies managed by central banks with a system of competing currencies issued and managed by private banks.2 The competition in money that such a privatisation or “denationalisation” of the monetary system would make possible, he claimed, would help avoid what in his view were the worst excesses of centralised decision-making. This was so particularly with respect to the decisions of central banks about the money supply and the setting of interest rates, because of the negative effect that these can have on inflation and on the economy’s ability to adjust to cyclical change.
We will consider the substance of Hayek’s argument for monetary denationalisation and its relationship to bitcoin and the future of legacy monetary systems later on in this essay. For now, however, what is also worth noting is that he conceded that it was unlikely that his proposal, as radical then as it is today, would ever be adopted, so much so that by the 1980s he came to regard it as “completely utopian”. The explanation for this “adoption problem” was for Hayek political, for the very agency that would be called upon to give up its control of the monetary system would also be entrusted with implementing the policy. “I don’t believe we shall ever have good money again before we take it out of the hands of government,” Hayek concluded in an interview given at the University of Freiburg in 1984. “We can’t take it violently out of the hands of government”, he added. Rather, “[a]ll we can do is by some sly, roundabout way introduce something they can’t stop”:
Importantly, it is Hayek’s concern with the adoption problem that gives us reason to believe that he was doubly prophetic, for the emergence of bitcoin appears not just to be a modern incarnation of his proposal for a denationalised monetary system, some fifty years after he set it out. It also appears to be precisely that “sly, roundabout” and unstoppable solution to the adoption problem that he claimed denationalisation would face. In both cases the key element is the blockchain technology upon which bitcoin and other cryptocurrencies run. But to understand how we first need to give a brief and non-technical overview of this newly-emergent technology.
Peer-to-Peer Networks
Intended as a decentralised version of a ledger, or record of accounts, blockchain, or “distributed ledger” technology, is in fact a combination of three different technologies: peer-to-peer (or “P2P”) computer networks, consensus algorithms, and cryptography. Peer-to-peer networks are “permissionless” networks in that they are open to anyone with access to the internet and require no central authority to run them. Originating in their current form in file-sharing networks such as the music-sharing application Napster of the late 1990s, the participating computers or “nodes” in peer-to-peer networks communicate directly with one another over the internet to perform a variety of tasks based on a shared database of information (the “ledger”), and of which each node contains an identical copy.
The benefits of peer-to-peer networks are twofold. First, as networks with multiple nodes they are able to pool the computing power of all participants, and therefore generate more power than a single computer on its own. Indeed, and precisely because they are open to all, or “permissionless”, the scalability of computer power on a P2P in only limited by the number of participants. Second, as distributed networks P2Ps directly address the “Single Point of Failure” problem inherent in centralised networks: when things go wrong containment is difficult, if not impossible, with the consequence that all users of the service are adversely impacted.
To get an idea of what the Single Point of Failure is and why it is significant, imagine an arrangement of chains suspended above the ground and held together by one central link. In such a configuration the central link would be the Single Point of Failure which, were it to fail, would result in the arrangement collapsing:
By contrast, and much like the way a twin-engine aircraft is preferable to a single-engine one, peer-to-peer networks scale robustness in addition to computing power, and are therefore highly “fault tolerant”. That is, peer-to-peer networks can not only continue to operate even when one or more of their participating nodes suffers an outage or fails, their ability to do so increases with the size of the network.
Consensus Algorithm
Of course, P2Ps are not without their deficiencies. Most obviously, if they have no central authority by design, it follows that there is no means of doing on a peer-to-peer network what a ledger is supposed to do: to maintain a database of transactions that is truthful, consistent, and reliable. More specifically, because different nodes on the network may receive different transactions that need to be recorded, or malicious actors may seek to manipulate the ledger’s transaction history for their own benefit (the notorious “Double Spending” problem that plagues infinitely copiable forms of digital money, unlike transactions involving physical coins and notes), the ledger runs the risk of being useless without a third party validator, with all the deleterious consequences for identifying legitimate ownership that this implies.3
The problem of arriving at a truthful consensus about the history of transactions so that the multiple copies of the ledger of a P2P network are consistent is resolved by blockchain’s second technology.