There is one thing the crypto space needs to focus on to succeed
Many things have passed since Satoshi Nakamoto launched the Bitcoin blockchain in 2009, the first peer-to-peer decentralized network. Satoshi, whose identity is, to this day, unknown, revolutionized the world with the first functional system to send actual digital assets to anyone, anywhere in the world. Many things have been said or stated since then about blockchain: “the future of finance”, “cryptocurrencies are programmable money”, “first non-manipulated currency system”, or “the destroyer of central banks”. However, all these could be senseless if necessary advancements aren’t put into place. Despite this, many people are unaware of those limitations but still invest a decent amount of their net worth in crypto, while few of them truly understand even the most basic concepts of the technology.
Blockchain‘s true value
Blockchain’s real value derives from one true benefit, its inherent security. Blockchains are extremely secure when it comes to on-chain data. The vast majority of security breaches we commonly see in the news aren’t due to the blockchain being hacked, but for two main reasons: people being fooled to hand in their wallet’s private key to a hacker — a phishing attack, for instance — or hackers exploiting smart contract bugs to attack DeFi protocols, like the recent Crema Finance $6 million exploit. Thus, why are blockchains so secure? Blockchains are so secure because they have what I call four-layer security:
The concept of a hash is pretty hard to grasp, I know. Think about this as the egg and the omelet. You can obtain a unique omelet (no two omelets in the world are the same) from two eggs, but you can’t obtain two eggs from an omelet, because it’s an irreversible process. Hashes are kind of the same thing but in the world of math functions.
An important concept with regards to control mechanisms: There is a common misconception regarding control mechanisms. One thing is the sybil control mechanism discussed in the paragraph above, and the other is the consensus mechanism. In other words, PoW and PoS are not the mechanisms blockchains use to achieve consensus. For instance, in the case of bitcoin, the “consensus mechanism” is the Nakamoto consensus, a “consensus mechanism” that solved the Byzantine Generals Problem (a game theory problem that describes the issues decentralized systems face to reach consensus without any central authority). On the other hand, he/she used Proof-of-Work, the “sybil control mechanism” adapted by Hal Finney, to deter frivolous or malicious uses of computing power —Hal is also curiously the first recipient of a bitcoin transaction, the reason why many have suspected that he was the actual Satoshi .
Bottom line, the sybil control mechanism defines how to participate in the blockchain, the consensus mechanism allows distributed networks like blockchains to achieve consensus with no central authority.
Bottom line, what makes blockchain so unique is that it’s a technology with the capacity to create decentralized networks that achieve consensus without central entities, and that are so hard to hack that it is the best technology to store data securely, whilst assuring traceability, immutability and, the most important thing of all, trustless proof-of-ownership. These concepts set the foundation for all of crypto’s applications (smart contracts, NFTs, SBTs, … you name it)
The next frontier for crypto is scalability without centralization
Now that the true value of blockchain is clear, we need to understand what the crypto industry is missing as of today, and that is scalability without centralization. The blockchain trilemma states you can’t have a blockchain that is scalable, decentralized, and secure — all three at the same time . To better understand this, let’s use Bitcoin as an example.
Bitcoin is, by far and wide, the most decentralized blockchain. Hence, one could argue that it is also the most secure network (please refer to the fourth layer of security described earlier to see why), although this isn’t as crystal clear as the decentralization part, which is undeniable (for context, Bitcoin’s Nakamoto coefficient, a way to calculate blockchain decentralization, is more than 200 times greater than the next most decentralized blockchain, Avalanche). All this is great, but it comes at a big cost, as Bitcoin is, probably, the least scalable blockchain of them all. This is the trilemma issue in a nutshell; a tradeoff on which the vast majority of projects focus on two of the three elements and ‘forget’ about the third.
Consequently, we now understand why Bitcoin can only manage seven transactions per second, and how Bitcoin can never become a viable digital currency, and why Bitcoin’s narrative is no longer “Bitcoin is digital money” but “Bitcoin is digital gold” (I am aware of Bitcoin’s lightning network, but it is fairly centralized, to say the least). Another example of a blockchain that doesn’t scale in its current state is Ethereum, which is quite decentralized (going to be a lot more decentralized in the future with Eth 2.0). However, in its actual state, I’m just going to say one thing, those gas fees tho. Onto the next paragraph.
So what did the majority of other blockchains do? Simple, knowing they can’t compete with Bitcoin in its terrain, they went the other way. That is, compromising decentralization for benefit of creating scalable blockchains. A perfect example of this would be Solana, which is crazy scalable but also crazy centralized (which explains the numerous exploits and outages).
The scalability issues created the need to deploy new types of blockchains, called L2s, that sit on top of the L1s (Ethereum, Solana, Avalanche, etc.) to help mitigate the bottlenecks these L1s have; these most times just resulted in an even greater degree of centralization.
Other blockchains like the aforementioned Avalanche are actively trying to solve the trilemma, with what they describe as subnets. This very promising feature creates smaller blockchains inside the main one, with their own rules and tokenomics, validated by a subset of validators from the main chain. The results are very promising, but there isn’t sufficient evidence to argue that the trilemma is finally solved.
What if blockchains never scale?
Scalability is both the holy grail and the Achilles’ heel of crypto. Proving that blockchains can scale would be the real moment of truth for the crypto space. As long as they don’t scale, not one central banker in the world will give crypto a second thought, as without scalability there is no DeFi, no NFTs, no nothing, as adoption is fueled by scalability. Without it, it’s like a Ferrari with an empty tank; amazing features, and ultimate speed, but pointless anyways.
The question is, was blockchain ever meant to scale? Some people, like Jack Dorsey, founder of Twitter, don’t think a purely decentralized, secure, and ultra-scalable blockchain is possible, thus proposing the creation of Web 5.0, which defines a non-blockchain distributed network that leverages Bitcoin’s blockchain as an identity layer. That is, going back to the original concept of blockchain, a distributed ultra-secure network for data storage. In that scenario, the desired level of scalability is much smaller. On the other hand, in scenarios like Web 3.0, with things like DeFi, scalability is a must, and we as a space have yet to prove we can use blockchain at scale.
However, we need to make sure that scalability is achieved without compromising decentralization. Decentralization is not only a key selling point of blockchain all by itself, it’s an inherent security feature of blockchains; I can’t seem to find scenarios where the world needs a centralized blockchain, it really doesn’t offer anything substantial to justify the effort of building the future of the internet and finance in it; we NEED truly decentralized and scalable blockchains to make this work, as people like Vitalik or Emin, founders of Ethereum and Avalanche respectively, have expressed explicitly or implicitly.
A final word
This is not a post to shame crypto. I am personally invested in it, in blockchains like Bitcoin, Ethereum, Avalanche, and Cardano, so I do have considerable hope and interest towards the success of the space. Despite that, I do understand the risks of my investments, and by no means we are guaranteed to succeed. Please do your own research before investing in crypto, and always a quantity you are capable of losing.
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