The timing stinks.
At the exact moment that the man on the street is starting to pay attention to cryptocurrencies, bitcoin is tearing itself asunder.
I talked about it yesterday. Basically, there’s a big scrap happening over the future of bitcoin.
There are two camps. One camp wants bitcoin to be faster and more centralised; the other wants to keep it loose and decentralised.
As I said yesterday,
The two camps have been going at it hammer and tongs over the last few months on forums, chatrooms and social media. And it’s all coming to a head soon.
The two groups are both promising to make changes by the end of the summer. Right now, it’s tough to see how they’re going to come together.
So by autumn, we’ll probably be looking at a “hard fork” – which basically means bitcoin will split in two.
If you’ve read a little bit about bitcoin and blockchains and cryptos at this point, you might be confused. Isn’t bitcoin meant to be controlled by nobody?
And if it’s not controlled by anybody, who’s going to change the rules?
The answer is that bitcoin is controlled by people, like every other network. Bitcoin and other cryptos don’t get rid of messy problems like politics, governance and self-interest. They just shift them around.
To understand cryptos, you need to understand how they’re organised, who makes the rules, and who can change them. You need to understand crypto politics.
A hung parliament
Before I get started here, some terminology. Bitcoin is a cryptocurrency. Cryptocurrencies almost all make use of blockchain technology. And it’s the politics of blockchains we’re interested in here. I’ll be using that term throughout.
Blockchains are a technology for letting groups of strangers interact with one another, without a trusted middleman. The way they get around the “trusted middleman” problem is that the entire network collectively witnesses and enforces agreements on all other parts of the network.
With that basic idea, you can do a lot of stuff. You can create a cryptocurrency like bitcoin: the blockchain network collectively witnesses bitcoin transactions, so it’s clear who owns what.
It’s a neat system for enforcing rules between strangers. Before blockchains, there was really no way to do a transaction between strangers without using a trusted middleman.
Enforcing rules is only one part of the problem. The big question is, who makes the rules?
Different blockchains have different rules. For example, one might allow faster transactions at the cost of security… another one might allow simple apps to be built on the blockchain… and another might pay people to report news into the blockchain.
And the rules aren’t handed down from the mountain on clay tablets. They change over time, in accordance with the wishes of the users on the blockchain network.
This is what’s causing all the trouble in the world of bitcoin right now. One group wants to change the rules to make the network faster, another group doesn’t want to make the change because it’ll give more power to a small group of people to set the rules in future.
Steve Waldman does a good job of describing the system blockchains use for setting new rules. He says a blockchain is like a big parliament. A user gets to:
“Submit resolutions for consideration by the parliament, and is financially rewarded if her “block” of resolutions is accepted by the majority. The proposal of resolutions is not restricted to miners. They may be submitted by, well, anyone at all. Miners check the resolutions and decide if they are likely to pass…
“Once a block of resolutions pass, each participant updates its own personal copy of the list of passed resolutions to include the new ones. Only participants with a fully up-to-date copy of the list may participate in the next lottery.
“Since winning the lottery and proposing a successful block is financially rewarded, while censoring proposals or ignoring blocks that the majority would accept is ineffectual, participants usually propose anything that they think would pass and go along with anything that has already passed. Blockchains reward consensus: It is lucrative to go along with most others would go along with. Understanding the will of the majority of their colleagues and bending to it is the job of each and every legislator.”
What we’re seeing now with bitcoin is sort of like a hung parliament; two groups of legislators can’t agree on a rule change.
So to recap: blockchains allow strangers to interact by automatically enforcing pre-agreed rules. That’s the basis of bitcoin and other cryptos. But the rules aren’t set in stone; they can be changed if enough blockchain participants agree. And right now, bitcoin users can’t agree on a change.
In the event that both sides of the bitcoin debate can’t come together by August, we’ll be looking at a “hard fork”. This extreme scenario basically means the currency splits in two. Bitcoin users will get an equal number of coins in the new bitcoin network (whatever it’ll be called) as they had in the old network. Then, the users will decide which network is more popular.
It’s not an ideal scenario. Bitcoin is so valuable because lots of people use it. The more people who use it the more valuable it is for each individual, because it gives them more opportunities to trade. Splitting the currency will mean it loses users, and could mean it loses value in the markets.
You can think of this a problem that comes with success: bitcoin has gotten so big and popular that it’s outgrown the old rules which used to work fine.
Our in-house cryptocurrency expert is looking at a whole different category of currencies. One which are still tiny and still in their fastest growth phase.
He calls them “penny cryptos”. And there are five in particular he’s betting big on.
Click here to learn about his £20 cryptocurrency blueprint.
Elephants all the way down
All of this is worth keeping in mind as you ponder cryptocurrencies in general.
Sometimes I hear people making the claim that cryptocurrencies “solve the trust problem” through clever technology. But that’s not really the case. Cryptos are run by groups of self-interested people in the same way that, say, banks are.
Crypto rules aren’t designed by computers, they’re designed by people. And they can be changed. And sure, the system is set up in such a way that it’s difficult to rig the rules in one’s own favour. But it’s not impossible.