What Happens If Bitcoin Wins?

So far Bitcoin has captured the imagination of speculators hoping to make a quick buck on the back of a volatile market. But behind this erratic currency lies a technology whose impact could be as revolutionary as the Internet itself.

According to CoinDesk’s State of Bitcoin Q2 2014 report, if Bitcoin “wins” it could challenge some $3.4 trillion of value in the U.S. economy or 21% of the country’s GDP.

Buterin: Building the “Lego of Cryptofinance”: Image: Marc van der Chijs

Intermediaries — such as insurance agents, stock brokers, real estate agents and lawyers — may disappear as the impact of the underlying “block chain” technology sweeps through sector after sector.

But how can a technology that is seemingly more to do with highly-speculative currency trading have such a huge potential impact?

This, say Bitcoin developers, is because the Bitcoin protocol is to distributed finance what Internet Protocol (IP) has been to distributed information.

In the same way that IP and the infrastructure of network nodes that make up the Internet support functions like email and video streams, the Bitcoin protocol (see the box to the right) can support a variety of financial, and other, functions, forever changing the way many services are created and used.

It is this underlying technology, called block chain, rather than Bitcoin — which is just an implementation of it — that is going to have such a profound impact.

The Lego Of Cryptofinance

In the next year Bitcoin will start its transformation from a currency into an open-source, distributed financial exchange mechanism that allows the trading of everything of value, including payment processing, deposits, withdrawals/overdrafts, foreign exchange, float, transfer/wire services, title insurance, exchange trading, collections and notary services.

“There are a lot of currencies in the world — you have gift cards, subway tickets, air miles, lots of different tokens,” Vitalik Buterin, a scheduled speaker in the Innotribe track at Sibos, said in an interview with Informilo.

The 20-year-old native of Russia was recently awarded a coveted fellowship (with an accompanying $100,000) from PayPal co-founder and Silicon Valley venture capitalist Peter Thiel to develop a new infrastructure called Ethereum. It has been labeled “the Lego of cryptofinance.”

In this brave new world “we don’t know what the currency is going to be.” Instead, a few years from now, says Buterin, there will be a standardized digital wallet that recognizes the value of all of those things, as well as cryptocurrencies and fiat currencies. People will be able to use them interchangeably.

But block chain isn’t just going to impact currencies. There will be scores of other changes. Loans without banks, contracts without lawyers and stocks traded without brokers could become the norm.
And because, if block chain works as it is claimed, no one can cheat, transactions can be carried out automatically with high levels of safety.

That throws open whole new areas outside of pure finance that in the past have had to rely on some kind of trusted third party.

The Death Of The Intermediary

“For example, when you deposit money at your bank, you trust them to be honest, be secure and be independently audited. The same is true when you post pictures on Facebook, or an important document on Dropbox,” says the Ethereum web site.

“History has proven time and time again that this model is flawed, but necessary, as ‘trustless’ operations have been so far both unprofitable and too complex to implement.”

Ethereum makes it possible for any developer to build and publish applications that do not require a trusted third party. If Ethereum’s claims hold true then the impact spreads even further. Escrow, mediation, trust management and shared financial management could also be programmed, as could time-locked transactions specified in wills.

Intermediaries like real estate agencies or hospitality companies like Airbnb would no longer be necessary as “smart property” enforced by digital locks interacting with the Bitcoin block chain could manage real-world leases, mortgages and purchase contracts, says Buterin. Service contracts and payments between individuals can also be done via the block chain.

Even something as prosaic as paying your dog walker is affected. Your dog’s collar could have an embedded GPS tracker and payment would automatically be released by the block chain once the walk is completed. No human intervention necessary.

If governments embrace the block chain all property titles could be stored and property taxes collected automatically, says Buterin.

Eventually all manner of devices and machines are expected to work on the block chain. In September IBM researchers announced that they are considering using block chain technology for an Internet of Things distribution platform.

Once machines and devices are all interconnected via the block chain, cars, for example, could disable themselves if a loan payment was not received in time, although some leading figures say any such implementation is some way off.

If This Sounds Like Science Fiction, Think Again

But why stop at things? Companies could even be controlled by the block chain. “Instead of a board, companies could be managed by algorithms that would collect information about the outside world and implement things automatically,” says Buterin.

If this sounds like science fiction, think again. Developers are already building features on top of the Bitcoin protocol that will allow for not only the decentralized execution of financial services, from currency hedging to loans to stock issuance, but also of rental, service and purchase contracts.

And Buterin hopes to go further with Ethereum. Since applications built on Ethereum do not require their users to trust the developers with their personal information or funds, they open the door to whole new kinds of applications. Ethereum claims it can be used to codify, decentralize, secure and trade just about anything, even voting, domain names and intellectual property.

“The main point is that the way the world works is changing,” says Buterin. “We are moving away from a paradigm in which one company owns the platform and completely manages entire aspects of our lives, to a more modular world focused on services that are very disruptive. A lot of traditional companies will lose out.”

His advice? Embrace the future. “Figure out how whatever it is you do could be improved. If you are involved in finance look at how financial contracts on the block chain could make things more efficient; if you are a technology company, same thing, look at the way files are being stored. A lot of new markets are going to get opened up.”

How Bitcoin And Block Chain Could Change Nearly Everything

Unlike traditional currencies, Bitcoin has no central authority; instead, it relies on a peer-to-peer network of computers that maintains and authenticates all transactions using a technology called “the block chain.” It is this technology that gives Bitcoin its power and solves the problem of operating in a trustless environment.

The block chain is effectively a ledger of record. But how does the system know that someone isn’t creating fraudulent transactions, spending the same money twice? That’s where “mining” comes in.
Roughly every 10 minutes, every Bitcoin transaction is collated and processed by the peer-to-peer network. All of the transactions in this block are processed through a highly, and increasingly, complex mathematical process to generate a hash, a seemingly random string of letters and numbers.
This hash also contains every previous block (hence “block chain”), so the integrity of the system is built in. It confirms that this block, and every subsequent block, is legitimate.

The computers that generate the blocks are known as “miners” and they compete with each other to generate authenticated blocks. As a reward for the work, miners are rewarded in Bitcoins, currently 25, but that figure will fall. The system is designed so that the total number of Bitcoins ever “mined” is roughly 21 million. This allows for the growth of the money supply, but prevents the currency from being devalued by a flood of new coins.

The underlying power of block chain technology is that it doesn’t require any trust to exist between parties. If someone tries to tamper with the record, or to produce false transactions, their hash will be different from every other one produced and the system will reject it. The block chain only ever incorporates those blocks that the system has accepted.

While block chain is important for Bitcoin, it has far wider implications. The technology makes it possible to transfer not just digital money but property rights such as shares and certificates in an efficient, secure way without the involvement of a trusted intermediary. Banks, governments, notaries and lawyers would no longer be needed to broker all kinds of financial agreements. They could be replaced by “smart contracts” that will fully embed the contractual terms and be enforced by hardware or software rather than law.

While the system is designed to prevent cheating, a malicious agent that controls more than 50% of the network’s computing power can modify or exclude transactions and potentially double-spend transactions that have already been sent through the chain. Proponents say a 51% attack would not be worth an attacker’s while because it would be too expensive.

Image © Marc van der Chijs. Released under Attribution-NoDerivs 2.0 Generic.



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