Louigi Verona's Workshop

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Blockchain Q&A

by Louigi Verona
first published on the 9th of July, 2018
last updated on the 13th of August, 2018

Summary of my experience and current views

I have stumbled upon Bitcoin in 2010. At that time I was a rather anarchism-leaning youth and Bitcoin interested me a lot. It also fascinated me from a purely engineering, geeky point of view. I have taken part in a number of blockchain panels as a technical expert. Have purchased Bitcoin and mined it. Was cheated by the infamous Buttefly Labs out of all of my Bitcoin, although I was one of the lucky ones in that I actually got the device, albeit in a barely usable state.


For several years I have distanced myself from cryptocurrencies, partially being frustrated by rampant fraud, but mainly because I moved on to other interests. When Bitcoin came claiming the mainstream in 2017, everyone started talking and writing about it, my friends and former colleagues went to work in blockchain startups. Having refreshed my memory and carefully read everyone's rosy view of blockchain's future, I realized I don't see it this way. This Q&A was born not out of my tendency to be an occasional kill-joy (an unfortunate role of a critical thinker), but to organize and present my reasoning to those interested in the topic.


To summarize my views, I believe that blockchain is an incredibly clever idea to prevent double-spending, but I don't see any real world problems that blockchain is particularly good at solving. In my view, blockchain was initially a deeply ideological and political project by crypto anarchists to create a financial system that would somehow start functioning outside of law, completely decentralized. I find this plan to be incredibly naive, but instrumental in understanding why blockchain was designed the way it was. I see no viable path forward for Bitcoin or any other cryptocurrency to ever become actual currency.


Finally, I am hugely skeptical of more generic blockchain applications, be it Etherium, smart contracts in general or all those endless ideas to use blockchain for this or that.


To find out why I am skeptical, explore the Q&A below. If you disagree and do not find a satisfactory counterargument, feel free to contact me. If you have an idea of a problem that blockchain is a perfect solution for, drop me a line as well.


I don't have a stake at this. If I am wrong and blockchain turns out to be a transformative technology - great. I will acknowledge I was wrong. After all, predicting the technological landscape of the future is always a thankless job, I am at least basing my criticism on what I believe to be sound reasoning. If I am right - this is not because I am a genius, but because I have enough of a technical background to understand how blockchain works, and enough of product management experience to see that it's unlikely to be good for anything.


This page is a constant work in progress and is updated often.


Contents

0. What is blockchain?

1. Can you summarize the problems you see with the blockchain technology?

2. Doesn't blockchain provide a technology that cannot be controlled by any institution, specifically governments?

3. How can governments ban Bitcoin?

4. You frequently say that Bitcoin's history is important in order to understand the current state of affairs. Why?

5. Are you saying that decentralization is not an advantage?

6. Bitcoin's history is irrelevant. What's relevant is what the blockchain will end up being used for.

7. If blockchain is as useless as you say it is, why do so many people find it plausible that Bitcoin or some other cryptocurrency might actually be adopted as currency?

8. Blockchain is useful because it is a truth preserving machine.

9. Blockchain is useful because it removes the need to trust a third party.

10. The Bitcoin whitepaper lists problems that can be solved with the help of a blockchain.

11. Can't blockchain solve problem [insert anything here]?

12. Bitcoin has multisignature transactions which are as reversible as credit card transactions are.

13. Bitcoin is like the early Internet. Nobody thought the Internet would be useful in the early 90s!

14. Your claim that blockchain has not solved any problems is incorrect: ICOs are solving the problem of crowdfunding startups.

15. Cryptocurrencys' scalability is being addressed, and solutions are already being deployed!

16. Buyers are protected from fraud by blockchain being transparent. Stolen funds can be easily tracked.

17. Bitcoin is a store of value.

18. The real purpose of blockchain is to run smart contracts.

19. Blockchain is useful for adding transparency to charities.

* Suggested reading.

What is blockchain?

Blockchain is an append-only database that contains cryptographically linked data records, with these records being added when multiple distributed parties come to a consensus based on predefined rules.

In simpler language: it is a long sequence of records, where every record contains a hash of a previous record, new data and an answer to a difficult math problem. Solving this problem allows you to append the next record and at the same time gives you a reward, typically in the form of newly generated money.

The most established blockchain is the original Bitcoin blockchain.


Can you summarize the problems you see with the blockchain technology?

This is the briefest summary possible. Each of those points is explored in greater detail throughout this Q&A.


Doesn't blockchain provide a technology that cannot be controlled by any institution, specifically governments?

It doesn't.

For one, every blockchain, be it Bitcoin, Etherium or something else, has a development team behind it. Proponents of blockchain focus on governments and banks, but completely forget about the authority that has direct access to how a given blockchain behaves. The development team will periodically make decisions that are capable of dramatically changing the algorithm. As demonstrated by numerous forks of both Bitcoin and Etherium, these decisions can be quite controversial.

Even the promise of Bitcoin's limited supply can be overridden by Bitcoin developers at any moment. And while this is unlikely to happen, it is crucial to keep that prospect in mind.

As for governments, governments cannot control blockchain only if you define "control" in the most straightforward manner possible. If anything, blockchain is a technology that is especially vulnerable to manipulation by larger actors that possess vast resources. For instance, a government of any bigger country in existence today can mount a 51% attack on a decentralized Bitcoin network in a matter of days. It would not even need to override all of it. Rewriting the records of a year worth of transactions is enough to reduce the price of Bitcoin to somewhere around zero.

Even now we are seeing miners becoming more and more centralized. In 2014 the GHash.IO mining pool exceeded the 51% threshold. While many mining pools have decided to not exceed 39.99% to avoid this situation in the future, there is nothing inherent in the Bitcoin protocol to prevent this from happening. The increasing complexity is going to make mining more and more expensive, and thus more and more concentrated in the hands of those who can afford the equipment. And while the 51% attack does not guarantee success, it can probably guarantee the destruction of trust in Bitcoin as a currency.


How can governments ban Bitcoin?

Based on my conversations with proponents of cryptocurrencies, as well as reading their writings, the myth that blockchain in general and Bitcoin in particular cannot be banned by a government seems to be based on a very superficial reading of what a Bitcoin ban might look like.

Somehow, Bitcoin proponents understand it as seizing mining equipment and banning the ownership of Bitcoins themselves. Having constructed this strawman, they then easily cast it down, explaining that no government would ever have enough resources to hunt down every Bitcoin mining operation, while banning bits and bytes is an even bigger logistical nightmare.

This, of course, has nothing to do with how an actual Bitcoin ban can happen. In fact, a ban of any kind of currency rarely involves seizing the coins themselves. Rather, what's banned are transactions using that currency.

So, all a government has to do is make Bitcoin transactions illegal. This would suffocate the adoption of the cryptocurrency very quickly, since most businesses would not want to risk criminal prosecution. At the same time such measures would significantly drop Bitcoin's price.

This mechanism can be seen in action in cases of ICOs being banned in China and Hong Kong. The latter case is especially interesting, since it shows how quickly an ICO can be banned. And the Hong Kong government did not need to mine Etherium or compromise the decentralized network in any direct way at all.


You frequently say that Bitcoin's history is important in order to understand the current state of affairs. Why?

The history of Bitcoin's rise to fame is important in order to understand the roots of today's widespread myths and misconceptions about the technology of blockchain in general, and Bitcoin in particular. It is important because the beliefs and core soundbytes of Bitcoin's early adopters have made their way into the technological and business sectors.

Initially, blockchain was championed (and perhaps even developed) by the so-called crypto-anarchists, a community of anarchists who try to use cryptography as a tool to enact their political vision. They believe that cryptography is capable to weaken the power of government and other centralized institutions. A famous crypto-anarchist Timothy C. May writes:

Some of us believe various forms of strong cryptography will cause the power of the state to decline, perhaps even collapse fairly abruptly. We believe the expansion into cyberspace, with secure communications, digital money, anonymity and pseudonymity, and other crypto-mediated interactions, will profoundly change the nature of economies and social interactions.

Governments will have a hard time collecting taxes, regulating the behavior of individuals and corporations (small ones at least), and generally coercing folks when it can't even tell what _continent_ folks are on!Cyphernomicon

The failure of this prediction should be fairly obvious by now. While perhaps such naivete is understandable coming from computer engineers in 1994, even back then it should have been clear that such a blissful state of things would only last up to the point that cryptography becomes more regulated. Today, as Bitcoin and other cryptocurrencies begin to enjoy the attention of governments and financial institutions, regulation is being promptly developed.

Some of May's statements, though, should have been puzzling even in 1994, like his contention that cryptography would somehow help people avoid taxes. It's not entirely clear how he envisioned it, unless he thought the whole world would switch to cryptography and move all life entirely to the Internet.

Although today many blockchain proponents would say that cryptocurrencies are, of course, not actual currencies, initially Bitcoin was envisioned as a decentralized currency that would trump the current banking system and put power into the hands of the people. Satoshi Nakamoto, the enigmatic inventor of the blockchain, in his well-known white paper writes:

A purely peer-to-peer version of electronic cash would allow online payments to be sent directly from one party to another without going through a financial institution. Digital signatures provide part of the solution, but the main benefits are lost if a trusted third party is still required to prevent double-spending. We propose a solution to the double-spending problem using a peer-to-peer network.Bitcoin: A Peer-to-Peer Electronic Cash System

In other words, Satoshi was aiming to solve the problem of double-spending in order to create a decentralized digital currency.

And it is this crypto anarchist ideology of ultimate decentralization that has sold its soundbytes to technology and business as being advantages and solutions. Only what many people involved in the blockchain hype might not know is that the problems that crypto anarchists are solving might have little to do with what the rest of us would like to solve.


Are you saying that decentralization is not an advantage?

Decentralization might be an advantage in one case, disadvantage in another. I do not view decentralization as the holy grail of human society. It has become a kind of a buzzword in the blockchain community, with people assigning it all sorts of advantages, but without evidence.


Bitcoin's history is irrelevant. What's relevant is what the blockchain will end up being used for.

A historical perspective is useful in helping one realize that perhaps the main advantages of blockchain should be re-examined.


If blockchain is as useless as you say it is, why do so many people find it plausible that Bitcoin or some other cryptocurrency might actually be adopted as currency?

Because most people who have invested their time, money and efforts into Bitcoin seem to be idealistic engineers with no understanding of economics, commerce and product management, and because at the time what a cryptocurrency could offer seemed to them like genuine improvement.

As someone who had followed Bitcoin since 2010, sat on panels with crypto-anarchists and even mined a little bit of the famed digital coin, I can say that the level of ignorance on the subject among early adopters was colossal. People misunderstood fractional reserve banking, did not know the difference between types of money, such as commodity and fiat, believed all sorts of conspiracy theories about banks and corporations, and held bizarre and emotionally charged views about what function money plays in society.

Satoshi's original white paper outlines what he believes to be problems with the current monetary system - problems his electronic cash was to solve. These problems include:

From the tone of Satoshi's white paper and from some of the writings of crypto-anarchists, like that of Timothy May, and from my own past experience as an anarchism-leaning youth, I get a feeling that their belief in cryptocurrencies is based on the advantages that a cryptocurrency offers, advantages that are obvious and clear to them, though probably not so much to everyone else. The whole concept of exchanging trust-based relationships for a blockchain is based on a thorough distrust of financial institutions and governments.

Bitcoin started out as an incredibly ideological project. It was a way to "fight the system" and identify with a rebellious worldview. I believe that it was this energy that fueled early backers to take Bitcoin seriously.

Afterwards Bitcoin began to be adopted by people who simply decided to make money off of it, including those who utilized it for illegal trading, and this phase of Bitcoin was as important. But it would have been completely impossible without the ideological infusion that ocurred in the beginning.

The engineering background of many of the Bitcoin supporters also plays a role. Blockchain is a clever idea and engineers tend to get too focused on this cleverness. Many of them are disconnected from practices of translating technologies into actual products, and are often unable to recognize the ineffectiveness of blockchain as a solution to real world problems.

Outside of this relatively small community of ideological supporters, skepticism towards blockchain is pretty common. Even people who join blockchain startups find it normal to voice doubts about the long-term relevance of blockchain technology.


Blockchain is useful because it is a truth preserving machine.

This commonly promoted sound byte is untrue.

The critical problem of blockchain is that it cannot handle mistakes. In other words, the blockchain concept assumes that we start with a true statement, and then focuses on preserving that statement. But what if the initial statement was an error?

Blockchain has no mechanism of handling errors. Anything inputted into the system and then verified by the distributed consensus process is treated as "truth", truth that blockchain will not let go of. This makes blockchain a perfect environment for fraudsters and thieves, because whatever a malicious actor does becomes irreversible.

So, the blockchain is not a truth preserving mechanism, it is a history preserving mechanism. And it will preserve both true statements and false statements with equal rigor.


Blockchain is useful because it removes the need to trust a third party.

This is mostly false.

Blockchain removes the need to trust a third party if you are a seller. The buyer is actually disfavored by blockchain, since non-reversible transactions are good for a seller, but not for a buyer.

In fact, in the original Bitcoin white paper Satoshi Nakomoto openly states that to protect buyers from fraud "routine escrow mechanisms could easily be implemented", which are a third party service based on trust.

This is why there is so much fraud surrounding Bitcoin. This is not a coincidence. Since the system has a disbalance and one of the parties is at a disadvantage, malicious actors are able to abuse this property of blockchain to enrich themselves.

But this is not the only dependence on a third party. The blockchain development team can change how the algorithm works at any time, fork the database at any point in time and at any node, therefore a certain amount of trust should be put into the developers behind a given blockchain.


The Bitcoin whitepaper lists problems that can be solved with the help of a blockchain.

Satoshi's original white paper outlines what he believes to be problems with the current monetary system - problems his electronic cash is to solve. The whole introductory part of the work consists of two paragraphs, which represent mere 12 sentences. Therefore, Satoshi's reasoning can't help but be cursory. Nevertheless, here are the problems he lists:

Let me briefly comment on them one by one.


i. the inability to make completely non-reversible transactions for non-reversible services

Satoshi introduces a term "non-reversible services", but does not define it. It is not entirely clear what he means, as any service is an intangible good and, thus, non-reversible. At the same time, a poorly executed service might justify a customer asking for a refund. Is such a service non-reversible?

Either way, a completely non-reversible transaction is a transaction that protects the seller, but not the buyer. It is precisely because of this circumstance that transactions need to be at least somewhat reversible. Modern consumer rights legislation allows the customer to demand a refund within a certain period of time, depending on the jurisdiction. This way a sort of balance is struck between the interests of a buyer and a seller.

Bitcoin unhesitatingly skews the balance in favor of the seller.

But what about the buyer? With all the talk about not having to trust a third party, Satoshi states that in order to protect buyers from fraud "routine escrow mechanisms could easily be implemented". In other words, a third party service based on trust.

And, of course, completely non-reversible transactions are a haven for fraudsters. They add an additional incentive to thieves, because once cheated, the buyer has no recourse but to move on.


ii. the cost of mediation increases the cost of transactions, preventing casual micropayments

The Bitcoin protocol does not necessarily solve this problem, as it has a fee embedded into every transaction, and although it is not a blocking fee - one can send the payment without it - due to the very low transaction threshold a fee is very mandatory in many cases. During the heavy traffic of December 2017 Bitcoin fees jumped to as much as $50. So much for casual micropayments!

It is also not clear what enables Bitcoin to be so attuned to micropayments. Satoshi seems to argue that the absence of disputes mediation leads to low cost transactions. And yet his system introduces a new cost, a cost of proof-of-work. While in the beginning miners could be relied on to mine for a reward, increasing complexity and decreasing rewards are bound to eventually force them to ask for a fee. So, how does that lower the transaction cost? It actually raises it in the long run.

Thus, we are forced to conclude that blockchain is not especially fit for casual micropayments. The only reason why most of the time using Bitcoins for such payments works is because most of the time traffic is low and fees are unnecessary. A wide adoption guarantees fees to be high.


iii. the need for merchants to ask for more information about buyers than they would otherwise need

Satoshi writes:

With the possibility of reversal, the need for trust spreads. Merchants must be wary of their customers, hassling them for more information than they would otherwise need. A certain percentage of fraud is accepted as unavoidable. These costs and payment uncertainties can be avoided in person by using physical currency, but no mechanism exists to make payments over a communications channel without a trusted party.Bitcoin: A Peer-to-Peer Electronic Cash System

As I mentioned earlier, Bitcoin white paper focuses on technology, not on philosophical reasoning to introduce it. Therefore, one would not necessarily expect it to provide in-depth argumentation. It is also possible that Satoshi was addressing people who had enough of a context, and he might have felt no detailed explanation was necessary.

Having said that, Satoshi's analysis as it's presented in the white paper is incredibly superficial and problematic.

First of all, we must again notice how he seems to be identifying with the merchant's point of view. As if merchants are not able to cheat customers! The only concern for buyers expressed in this paragraph is that buyers are "hassled for more information". An inconvenience, perhaps. But either Satoshi believes that merchants rarely cheat customers, or is simply uninterested in that use case.

Second, he seems to claim that a certain percentage of fraud is accepted as unavoidable due to the current state of affairs in the financial world, with the implication that his system is such that any fraud is avoidable. Even on a theoretical level this is ludicrous: a certain percentage of fraud is accepted as unavoidable in all cases, due to the fact that we are humans, we make mistakes and can thus always be cheated under the right circumstances. No technology would be able change that.

But we are in a position to go further and look at the empirical evidence. The amount of fraud surrounding Bitcoin and other cryptocurrencies is immense. Definitely, not less that in other areas of human activity. And, due to the lure of non-reversible transactions, lone hackers were able to kill off whole businesses and force blockchains to fork due to the unthinkable sums swindled. Computer viruses routinely scam people out of their Bitcoins.

Satoshi seems to base his confidence in Bitcoin on a ridiculous statement that physical currency somehow avoids payment uncertainties. This again makes sense only from a merchant's point of view, whose goal is to receive the payment. Nothing is solved for the buyer. If the buyer was cheated, their physical currency is gone.

But yes, the merchant no longer needs to know anything about the customer. Was that such a big problem to begin with?


Conclusion

The conclusion must be that Satoshi's case is simply unconvincing. His analysis of the financial world is superficial and riddled with shallow insights. His Bitcoin solution is contradictory and of questionable quality:

The only thing that Satoshi's solution definitely does is solve the rather academic problem of double-spending. And the solution is academic as well: clever and impractical.


Can't blockchain solve problem [insert anything here]?

One of the main mistakes I see people commit when assessing the usefulness of blockchain is limiting themselves to finding a problem blockchain can solve. Once such a problem is found, blockchain is then exonerated.

The mistake here is in not considering competing solutions, and failing to do evidence-based analysis of costs versus benefits. The main criticism of blockchain is not that it cannot solve a given problem. It is that it fails a cost–benefit analysis against other solutions.

The reason this frequently goes unrecognized is that people tend to come up with blockchain usage cases in areas which they are not experts in. As a result, their understanding of the problem they are trying to solve tends to be superficial and at times even completely wrong.

The only way blockchain can be thought of as the most effective solution is if one considers decentralization to be the main goal, with governments, banks and other institutions viewed as malicious actors.

Proponents of blockchain-based technologies need to understand: blockchain is a political anarchist project to build a currency that would work outside of law. It is tailored towards solving a particular ideological problem, and this problem is to try to remove any financial and governmental authority from a transaction between individuals - not make this transaction quick, scalable or efficient. To a crypto anarchist speed and efficiency are quite secondary.

And, unfortunately, crypto anarchist goals have been perfectly translated into blockchain, which is good at removing an authority from a transaction between individuals, but not particularly good at anything else.


Bitcoin has multisignature transactions which are as reversible as credit card transactions are.

This is false.

Multisignature transactions are transactions that should be approved by more than one party. Once the transaction is signed off, there is no way to reverse it.

What proponents of Bitcoin are referring to is one of the use cases of multisignature transactions, as described in the Bitcoin Wiki, "2-of-3: Buyer-seller with trustless escrow".

The idea is that if the transaction goes smoothly, then both seller and buyer sign off on the transaction. If something goes wrong, both could choose not to proceed and cancel the transaction. If there is a disagreement, a third party arbitrator decides who is right and gives them their additional signature, thus moving the transaction forward. The scheme is misleadingly called "trustless escrow", because the arbitrator cannot steal the money as they have only one key. But, obviously, both sides of the transaction should trust the arbitrator to not be biased, so the escrow is not entirely trustless.

The problem with this scheme is like with any escrow: it makes the initiation of a transaction more involved, but once it is signed off, there is no way to reverse it.

Consider a situation when a product is delivered to the buyer, they are happy and sign the transaction. A week later a serious problem with the product is discovered, something that was impossible to notice on delivery. However, the transaction is non-reversible, and the only recourse the buyer has now is outside of blockchain.


Bitcoin is like the early Internet. Nobody thought the Internet would be useful in the early 90s!

This seems to be a very popular argument among crypto enthusiasts. The idea here is that if you look at many successful technologies, in the beginning they probably made little impact on our everyday lives and seemed useless to many people.

The primary weakness of this argument is that it can be basically applied to anything. After all, skepticism is a reaction reserved not only for revolutionary ideas, but also for genuinely bad ones. And while a given technology might seem useless because it is still very new, it might also seem useless because it really is.

The only way the statement works is if you already believe that blockchain is a revolutionary technology, and your goal is to explain how important you think it is by comparing it to something as pioneering as the Internet. It, however, is not an argument that lends credence to the claim that blockchain actually is as pioneering or useful as the Internet.

Additionally, I don't think that there is much evidence that the Internet did not seem useful in the early 90s. Of course, nobody knew exactly how much it will reshape our lives, but the core difference between Internet technologies and blockchain is that Internet immediately started solving real problems. Blockchain so far has solved none, unless you count illegal trade and unregulated ICOs.


Your claim that blockchain has not solved any problems is incorrect: ICOs are solving the problem of crowdfunding startups.

ICOs (Initial Coin Offerings) are often cited as the most visible achievement of blockchain: a solution to a problem of raising funds. And indeed, although by middle of 2018 most ICOs have already failed, there are several success stories.

Unfortunately, the argument that this proves blockchain has found its niche use case is flawed.

First of all, I would argue that the only reason ICOs are a thing is due to the hype around blockchain and digital coins. In any other situation it would be very difficult to imagine anyone wanting to invest in a business by purchasing an unregulated virtual token. And if the blockchain hype is unfounded, arguing that a misguided public interest in blockchain proves the usefulness of blockchain is textbook circular reasoning.

But the most important argument is that ICOs are useful only as long as they are unregulated. Investopedia writes: "An Initial Coin Offering (ICO) is used by startups to bypass the rigorous and regulated capital-raising process required by venture capitalists or banks."

And this is exactly what's happening. ICO is simply a cheap way to raise funds for companies that would otherwise not qualify for a proper IPO. Not only that, but in the vast majority of cases these coins come with no guarantees or rights for their holders, which means they are essentially a way for the company to get funds with no strings attached. After all, there are reasons why IPOs are highly regulated: this regulation is not a conspiracy of bankers, but instead measures to tackle problems that typically arise in financial investment.

And it is important to point out that I am not arguing that most ICOs are scams. Even if we imagine that none of them are scams, they still usually come with no legal strings attached, because this is precisely the point for a startup to go for an ICO.

So, sure, in the short-term blockchain is solving a problem. But it is a temporary solution, similar to taking advantage of a legal loophole.

We are already seeing regulation catch up with blockchain startups. After China banned ICOs completely, companies promptly moved to Hong Kong, only to find themselves being regulated by the Securities and Futures Commission (SFC). And the regulation came down to forcing companies halt their coin offerings and refund the value of tokens to their investors. This, by the way, is a good demonstration of how a cryptocurrency may be banned - quickly and effectively, in spite of all the decentralization.

Of course, blockchain proponents might actually say that they would value ICOs being properly regulated. In that case, I see no reason why ICOs are not going to enjoy the same level of regulatory scruitiny as IPOs, if not even higher.

But once ICOs are regulated they way IPOs are, I no longer see a case for blockchain.


Cryptocurrencys' scalability is being addressed, and solutions are already being deployed!

The solutions that are being deployed are marginal. The current limit of Bitcoin is believed to be 7 TPS (transactions per second). Bitcoin Cash, crypto-world's enterprise to deliver scalability, has increased this number to maybe about 35 TPS by increasing the block size limit from one megabyte to eight megabytes. The change was so controversial that Bitcoin Cash had to hard fork.

Now consider the throughput of Visa, which can handle over 24,000 TPS according to the 2010 numbers. Today a number of 60,000 is thrown around, although I could find no sources for this.

But let's say that eventually one of the coins does reach a satisfactory throughput. After all, Paypal claims to have TPS slightly over 190, which is not that far off.

Another scalability factor is the cost of proof-of-work, which grows rapidly. Even today Bitcoin mining consumes as much energy as Chile. If more people start using Bitcoin, energy consumption will continue to grow, and that contest is unlikely to stop. I consider the cost of proof-of-work to be a bigger issue than TPS.

But, most importantly, I don't consider scalability to be the killer bug of blockchain. This is an engineering problem, and I can imagine developers eventually figuring it out.


Buyers are protected from fraud by blockchain being transparent. Stolen funds can be easily tracked.

This is neither protection from fraud nor a reliable way to get back stolen money.

First, tracking stolen funds does not help much. It might prevent a thief from spending them through legal means, but that's pretty much it. Even if a criminal is somehow completely prevented from spending the money, at the end of the day your money is now stuck in someone else's wallet with no viable path to get them back. Computer viruses have sent people's Bitcoins to wallets where they sit idly for years.

But in reality criminals are cashing out, even in cases of high profile crimes. This is done by using bitcoin mixers, which make it very difficult and eventually plain impossible to tie cryptocurrency that ends up in legitimate exchanges to the initial attackers. The owners of the WannaCry ransomware attack wallets have cashed out in August 2017, three months after the attack. Same happened to the Bitcoins from the Petya/NotPetya attack. An impressive animation put together by the Quartz journal shows how this looks in the blockchain.

Identifying criminals is also very difficult. If criminals proceed with caution, they might never be found. An interesting article in the Science magazine documents FBI's hunt for the administrators of Silk Road. The only reason several people had been caught was due to their indiscretion. And while newer data science methods might help make this search easier, it will continue to be a very difficult and long process nonetheless.


Bitcoin is a store of value.

It is not.

From the definition of store of value:

A store of value is the function of an asset that can be saved, retrieved and exchanged at a later time, and be predictably useful when retrieved. More generally, a store of value is anything that retains purchasing power into the future.[1] [2]

Bitcoin's value and usefulness are not at all guaranteed, and so it does not conform to the definition of store of value. What Bitcoin is, is a speculative instrument, like stocks of a publicly traded company. And speculative instruments are not stores of value.


The real purpose of blockchain is to run smart contracts.

Smart contracts are algorithms which run on top of blockchain. They are envisioned as a more flexible instrument than cryptocurrency to allow people to create complex agreements. General claims of benefit generally match those for blockchain: the removal of a need to trust a third party, reduction of bureaucracy, reduction of costs by removing the need for lawyers.

All of these claims strike me as poorly thought-out and unconvincing.

First of all, anything based on blockchain inherits problems of blockchain: irreversible transactions favoring a seller; a permanent loss of access to funds/contracts with a loss of private keys; huge cost, expended to run the blockchain for smart contracts in exchange for questionable advantages.

But, in my view, it's even worse. Smart contracts significantly enhance deficiencies of blockchain: by proposing to regulate complex and sensitive business operations, smart contracts raise the stakes, and can be argued to ultimately make matters worse by increasing the cost of setting up contracts, as well as introducing security problems which are potentially unsolvable.


i. a fundamental security problem

In today's world security measures surrounding contractual obligations are solved through both preventive and corrective measures. In other words, you make sure to think of as much possible problems as you can, and try to prevent them beforehand, but if something unanticipated happens - you have further legal recourse to amend your contract or argue your case in court.

In the world of blockchain corrective measures are no longer possible. This happens due to the irreversible nature of blockchain transactions. Remember, similar to what we have addressed in the question about multisignature transactions, all smart contracts really are - are a more convoluted way to initiate a transaction. But once a transaction occurs, there is no way to reverse it.

Therefore, the full weight of providing security is shifted to preventive measures. Given that the future can never be modeled with a 100% accuracy, and in many cases the accuracy of predictions is far, far below what we want it to be, this becomes a fatal security problem, unsolvable in the observable future.

This is an incredibly important point, routinely glossed over by blockchain proponents. Again - a smart contract is useful only in a world of perfect information. Any deviation from perfect knowledge of the future will create unanticipated situations which will empower the seller and disarm the buyer. And as blockchain transactions are non-reversible by design, a seller will now have an additional and, in fact, an enormously increased incentive to pore over a contract in the hopes of finding a loophole.

That in turn will make the initial work of setting up a contract a lucrative and widely demanded service, with the best minds of humanity designing contracts that are difficult to break. And instead of driving down costs and removing "the middle man", smart contracts will only dramatically increase the costs and create an even bigger and more sophisticated industry of lawyers.

That this security problem is ultimately unsolvable can be grokked from a simple empirical fact that any software always has bugs. And the more complicated the software is, the higher the probability that it contains bugs. Now imagine that you cannot even iterate over software. You release it once, and if there are bugs to be exploited, all you can hope for at this point is that no one notices.

Of course, it can be argued that standard contracts can eventually evolve to be very safe. But life is permeated with special cases. Real world demands flexibility, flexibility that would be very difficult to provide within the blockchain environment, since a unique requirement could also introduce unintended loopholes.

But there is a deeper issue. As Karen Levy of Cornell University writes in her article "Blockchain-Based Smart Contracts and The Social Workings of Law", security is fundamentally sociotechnical: it involves the confluence of both human/institutional measures and technological ones

Technological enforcement mechanisms (car locks, for instance) don’t substitute for police or courts: a smart car lock can’t prosecute someone who damaged your car. Rather, technological security solutions might work alongside state institutions, but we ought not rely on them to “solve” security on their own."Blockchain-Based Smart Contracts and The Social Workings of Law"

Smart contracts is an intellectual fantasy of over-reliance on technology, a belief that we can create perfect programs that will automatically run our lives. This is magic in a form of technology.


ii. the business limits of smart contracts

Non-reversible transactions seriously limit smart contracts to a very narrow niche of use cases.

It is easy to imagine that many people would simply never agree to the harsh conditions of a smart contract. Mistakes happen, circumstances change. Real world often requires much more flexibility than a pre-written software algorithm, and practicing specialists know it all too well.

Moreover, not all transactions fit into the one-way scheme to begin with. Blockchain's feature/bug of being able to deal in one-way transactions only excludes a whole class of agreements that require transactions in both directions. For instance, any contracts that involve investment in risky assets. Dr Gideon Greenspan in his excellent article "Why Many Smart Contract Use Cases Are Simply Impossible" writes:

From an investor's perspective, the whole point of a bond is its attractive rate of return, at the cost of some risk of default. And for the issuer, a bond's purpose is to raise funds for a productive but somewhat risky activity, such as building a new factory.

There is no way for the bond issuer to make use of the funds raised, while simultaneously guaranteeing that the investor will be repaid. It should not come as a surprise that the connection between risk and return is not a problem that blockchains can solve."Why Many Smart Contract Use Cases Are Simply Impossible"

And so again we see that the biggest practical gap of blockchain is its inability to adhere to the interests of both sides. Blockchain inevitably favors a seller, and blockchain's "trustless" nature is always at the buyer's expense. And so the only way to invest is to give up your money and hope for the best.

But smart contracts have another problem, which might make them unreliable for serious transactions, and it is the enormous risk embedded into the technology: the loss or theft of laptops, hardware private keys and flash drives would lock people out of their contracts and fortunes forever, with absolutely no legal recourse. Unlike a loss of a password to your bank account or a loss of your ID, there is no authority that is capable of fixing this for you.

This chink in the armor of blockchain technology makes it completely unacceptable as a serious business tool. It is just way too risky.


iii. law is more than code

And, finally, the advantages of smart contracts are based on a flawed understanding of the breadth of what the law does. As Karen Levy writes in the already quoted article:

Smart contract technology, I suggest, depends on a thin conceptualization of what law does, and how it does it— by focusing on the technical form of contract, to the exclusion of the social contexts within which contracts operate, and the complex ways in which people use them.

Contracting, in particular, is a deeply social practice in which parties engage for all sorts of purposes, and the effects of contract negotiation reverberate outside of the “four corners” of a formal agreement, in both time and space. In legal studies, the legal realist perspective has long focused on how law unfolds in in vivo practice, and emphasized that these practices may diverge significantly from “on the books” codes and agreements."Blockchain-Based Smart Contracts and The Social Workings of Law"

While I cannot over-emphasize the importance of reading the complete article which is available in full free of charge, one of the examples that is brought up by the author is writing or acceding to purposefully vague terms, which is done to facilitate stable and flexible long-term relations. Another is the inclusion of mutually unenforceable terms in order to influence and communicate norms for future behavior.

But what that really means is that the view that a proponent of smart contracts holds about law is an oversimplified opinion of a dilettante, who has little understanding of why law exists, how it emerged, developed and why we need it if we want to enter into flexible long-term relations, facilitated by complex mutual agreements. This non-expert proposes a solution which he thinks will just work simply because it is a database that cannot be tampered with, but in reality this is a naive suggestion which would have been promptly taken down by any legal expert if only one would have been consulted.


iv. Conclusion

Smart contracts is a concept which is clearly way too risky for any serious business transaction, has the potential to explode the costs of writing contracts to unimaginable proportions, and is a poor substitute for law and its function in human society.

Even if smart contracts could be applicable to some narrow use case like buying digital assets in an online game, at this point it becomes unclear if the immutability of blockchain is even necessary at this point.


Blockchain is useful for adding transparency to charities.

One of the alleged use cases for blockchain is charity transparency. A project that aims to do that is the AIDChain platform with their AidCoin token. In their whitepaper (v.04) they note a decline in the trust of big charities because of high profile cases of charity fraud. They further claim that current methodologies of assessing charities are limited to self-reporting or third party reporting, which itself is based on charities' self-reporting.

The whitepaper then claims that AIDChain/AidCoin is a solution, because it offers a lower cost of transaction; more efficient tracking of funds; transparency based on smart contracts, which would return the money to the donors based on certain conditions; tax deduction, since currently blockchain tokens are not regarded as cash. They also add that adopting AIDChain/AidCoin would be very simple for charities and allow them to not have to invest in the IT sector.

Unfortunately, the picture painted by AIDChain's authors is very misleading.

They are right about the decline of trust in charities, and they even provide links to relevant studies for UK and US. But this seems to be the only non-controversial statement they make.

There are three fundamental problems with their narrative:

Since the answer to this question focuses on someone's startup, which is trying to raise money, I decided to add a disclaimer.

Disclaimer: Please note that this analysis focuses on the AIDChain project simply because it was brought to my attention as a viable use case for blockchain. Since AIDChain is the first project of its kind, I am thus analyzing their approach to this problem. In other words, I have no stake in this, I have no connections to either AIDChain or their possible competitors, if those even exist, and all I am doing is analyzing their publicly available whitepaper.

Having said that, it is clear that the AIDChain approach is nothing original as far as it goes, and matches the general approach blockchain solutions tend to adopt.


i. assessment of charities is more than tracking of funds

Charity assessment today has significantly evolved, and tracking funds is only part of it. The modern way to assess charity effectiveness is impact based (see Effective altruism) and involves a complicated analysis not only of the charity finances, but the scientific research behind the chosen method of helping, interviews with both charity employees and the people they are trying to help, on-site visits, follow up, the degree of transparency of a charity in question and evidence-based analysis of whether there is room for more funding (the impact of marginal dollars).

The interest of such charity assessment organizations is not limited to where the money goes or overhead. They are focused on assessing what a charity is doing and how effective and evidence-based its activities are, every step of the way. The set of discussion topics is different for every type of charity.

For instance, GiveWell, a notable charity assessment organization, provides an incredibly in-depth description of their process of charity evaluation, as well as documents, conversations, on-site visit reports for charities they have reviewed, including those they decided to not recommend.

GiveWell has focused primarily on the cost-effectiveness of the organizations that it evaluates, rather than traditional metrics such as the percentage of the organization's budget that is spent on overhead. In the first year, Karnofsky and Hassenfeld (GiveWell founders) advocated that charities should generally spend more money on overhead, so that they could pay for staff and record keeping to track how effective their efforts were. This ran counter to standard ways of evaluating charities based on the ratio of overhead to funds deployed for the charity work itself.Impact-based_evaluation

That this is more than just an opinion of one organization is attested by the fact that it is basically going mainstream, with such notable organizations as GuideStar, BBB Wise Giving Alliance, and Charity Navigator writing open letters urging nonprofits and donors to end the use of the overhead ratio as the sole or main indicator of a nonprofit's performance.

A study from the Stanford Social Innovation Review has further criticized some of these organizations themselves for relying heavily on financial data that is not adequate for evaluating a nonprofit organization, and that a more comprehensive approach similar to one of GiveWell and Giving What We Can should be used.

So, the AidCoin whitepaper's implicit premise that it all comes down to tracking funds is a demonstrably outdated approach. Which means that their understanding of charity assessment is extremely narrow and superificial, and falls short of the approach that evolved out of years of experience in organizations that are actually doing it.

And, most importantly, the whitepaper authors seems to be really focused on preventing fraud, whereas a charity can be completely honest and very transparent, but poorly run and a bad choice to invest your money into. AIDChain does not offer a lot in this regard.


ii. the range of currently used methodologies to assess charities

AIDChain whitepaper claims that the methods of assessing charities are limited to self-reporting. It does mention recipient reporting as well, but does not expand much on it, instead focusing on the assertion that the only option the public has is to just trust what the charities are volunteering about their operations.

As can be readily seen from the previous section, this is demonstrably incorrect. The methodologies used by modern charity assessment organizations go far beyond trusting self-reporting from charities. A big chunk of assessment is based on independent scientific data, as well as on on-site visits and financial audits. The latter is important to note. Nobody just takes charities at their word, and their self-reported data is being critically evaluated and cross-checked. If a charity is not forthcoming with additional information, this lack of transparency is noted and a charity has a good chance of not being recommended.

Failing to accurately describe how charity assessment works today allows AIDChain authors to exaggerate deficiencies of the process, thus creating a false sense that assessment of modern non-profits is in complete turmoil. It also allows them to embolden the importance of their solution and downplay the success of currently existing solutions.


iii. AIDChain is a poor solution

AIDChain whitepaper lists the following as advantages of using AIDChain to assess charities:

Since one of the selling points of the AIDChain solution is that it removes the need to trust an authority, what must be immediately noted is that quite a number of these advantages simply exchange trusting established charity assessment organizations for trusting the company behind the AIDChain platform.

For instance, the very first item claims the ability to track the actual use of funds. However, tracking money from donations to conversions into local fiat currencies does nothing to tell us how the funds are used once they are converted. So how will they do it?

The whitepaper explains this several pages later:

In the meanwhile, AIDChain will be able to track donations even after AidCoin is converted into fiat currencies thanks to the integration with the charity’s bank APIs. AidCoin will collaborate with companies such as TrueLayer in order to connect to the bank data, verify accounts, and access transactions in real-time, providing a clear picture of how charities are spending the funds received in AidCoin.AidCoin whitepaper

In other words, the tracking of actual use of funds is going to be done through the open APIs of European banks, which are required to provide them as the result of the EU Payment Services Directive (PSD2). That this curious fact is mentioned only several pages later is quite deceptive. And immediately raises a question: why is a cryptocurrency middleman required at all here, when it all comes down to tracking the actual use of funds through the normal banking system?

The AidCoin whitepaper does have an answer to that: "traceability of the entire donation flow will depend on the mainstream adoption of blockchain technology and cryptocurrencies". In other words, AIDChain's model will work only in the case of a very hypothetical scenario of the world rejecting fiat currencies completely and switching to cryptocurrencies. And the current solution of using bank APIs is temporary. But given the unlikelihood of cryptocurrencies ever becoming widely adopted, or at the very least becoming adopted enough in the observable future, this temporary solution is probably as permanent as it gets, and AidCoin's services are not going to be any more transparent than any other assessment organization.

But this is where the authors' poor understanding of modern charity assessment methods really shows. Tracking the use of funds, be it through blockchain or the banking system, might perhaps make it a little more difficult for the charities to cheat, but it does nothing to address the actual impact of a charity or whether one's money are likely to be spent effectively. And this is where fraud may actually be happening. Even authoritarian governments, routinely and almost openly misappropriating taxpayer funds, typically have their paperwork in order, with the fraud happening outside the context of purchase receipts.

A simple, but illustrative example would be to conspire with a local pharmacy and buy medicine for one price, while have the pharmacy log a different price - and pocket the remainder of the money. In this case blockchain records are going to be entirely clean, transparent and tamper-proof. The AIDChain platform will only create a false impression of security, while doing nothing to detect or prevent such fraud. This, however, is more likely to be discovered or prevented if a charity is regularly assessed from multiple angles, like it's being done by many modern charity assessment organizations.

Verification of identities is presumably going to be done in the same fashion as any non-cryptocurrency service does it - through reliance on ID documents and other standard methods. The public will have to trust the AIDChain platform on this one too.

Tracking of administrative costs of nonprofits, as well as ensuring that money for specific projects actually gets to those specific projects, is also completely outside of the AIDChain platform. Authors of the whitepaper suggest that charities submit scans of receipts into the blockchain, implying this is more transparent. But, as already discussed above, fraud frequently happens outside of the paperwork. And simply adding receipts is no different than these same charities submitting documents to charity assessment organizations.

The whitepaper states:

Thanks to the AIDChain platform and AIDPay, the information automatically or manually recorded on the blockchain will be immutable, tamper-proof and publicly accessible through an open explorer, increasing the level of transparency and allowing public auditing besides AIDChain platform users.AidCoin whitepaper

Which looks like solving a problem that nobody has.

First, a lot of charity assessment organizations already publish financial documents that they review, and the public is able to independently audit them today, without having to use a blockchain.

But also, this strikes me as a thinly veiled implication that charity assessment organizations are likely to collude with the charities they assess. So likely, in fact, that we need AidCoin to solve that problem.

But we are presented with no evidence of such a fraudulent scheme ever emerging. Unless there is a proven record of charities submitting documents to charity assessment organizations and then someone tampering with them, blockchain's immutability adds absolutely no value. And submitting documents in order to then tamper with them seems like a very unpractical way to cheat anyway. I was able to find no scandals involving a charity assessment organization being bribed by a charity so that they allow access to already submitted documents. And yet, this is a problem that AidCoin proudly announces to solve. Where is the value in solving a problem that nobody has?!

Again, as discussed earlier, if someone wants to cheat, all they have to do is add fraudulent or misleading receipts to the AIDChain platform, the same way they would do within a normal charity assessment process. AIDChain solution does nothing to address this and gleefully announces that it will basically rely on charities' self-reporting, just like they claim everyone else does (and which we've already seen to be demonstrably false).

The whitepaper then claims that AIDChain would provide a comparison of the effectiveness of a euro spent in one charity versus a different charity, but the authors do not elaborate on how this will be done, by whom and using which criteria.

Finally, they claim the reduction in transaction costs of money transfers through cryptocurrency rather than financial intermediaries. This is a standard claim frequently made by blockchain enthusiasts as an advantage of blockchain in general. We have addressed it multiple times, specifically here. Suffice to say, the advantage is questionable and comes at a cost: if anything happens, no authority will be able to help and, say, return the funds. Same goes for the advantages of smart contracts in general, discussed here.

Introduction of blockchain will also introduce a risk of funds being lost through hacking or phishing, as well as through accidental private keys loss. Once the funds become inaccessible for one of the listed reasons, there is no way to return them.

Blockchain also introduces an additional incentive for insider cheating, because unlike centralized payment systems, where the payments are tracked and mediated, and even unlike cash, which needs to be physically transported, a cryptocurrency is easier to manipulate. Someone managing charity funds may just send them from the charity wallet to their own anonymous address. Such a crime would be very difficult to prosecute, and bitcoin mixers would guarantee the thief cashing out. See this question for more details on how this was done in case of high profile crimes like the WannaCry ransomware, where thousands of eyes were tracking the respective Bitcoin addresses. This security loophole is critical and very difficult to prevent.


iv. Conclusion.

The AIDChain whitepaper does a poor job in explaining why blockchain is the future for charity assessment, but does a good job of demonstrating why it is not.

I was left with the impression that the team behind the project was more focused on trying to find a use case for blockchain, rather than trying to actually fix issues in the non-profit world. The authors of the whitepaper demonstrate only cursory understanding of what actual difficulties charities and donors face, have either little interest to conduct basic research into modern charity assessment, or perhaps little interest to present it in their whitepaper, as doing so inevitably compromises the value of their solution.

Their description of charity assessment methods is critically incomplete and very misleading, creating a false impression that current charity assessment organizations are not effective.

They then proceed to claim that AIDChain is a solution, but fail to convincingly demonstrate why this is so. All they do is reiterate blockchain's basic properties, such as immutability and relatively easy public access, without explaining how these properties translate into something useful. Neither did they care to address any of the possible objections, although a lot of them should have been easy to predict if one would think critically.

This makes their whitepaper impressive only to those who have a superficial understanding of how blockchain or smart contracts work. The public could be temporarily lured into a false sense of security, until the first scandal emerges and it becomes clear to everyone (if it hasn't already) that blockchain is not a mechanism magically making everything honest and transparent.

Not only do the authors completely misunderstand the breadth and depth of charity assessment, but their proposals to increase purely financial transparency are sketchy, implausible and are not based on any data or real problems that are encountered in charity fraud. A lot of what they are offering is also contingent on an almost universal rejection of fiat currencies in favor of cryptocurrencies. Without this revolutionary and unlikely change in the world financial system their methods are conceptually no different to that of other organizations. In practice, AIDChain is likely to be less trustworthy due to their obvious lack of expertise.

AIDChain is a great example of a poorly thought out startup, based on popular misconceptions about blockchain, with a shallow whitepaper, dealing mostly in oversimplified versions of reality and buzz words. I don't see how charity assessment is in any way a good use case for blockchain.


Suggested reading.

There are many articles published about blockchain everyday. Here is a small selection of writings on the topic from both sides. I don't necessarily agree with everything that critics of blockchain write, so consider my views to be reflected only by material I write.

Generally supporting blockchain:

Generally criticizing blockchain: