Imagine if you had bought $5 of Bitcoin seven years ago. Today, you would be $4.4 million richer. From its addition to the Oxford Dictionary to its recent price surpassing $3000, Bitcoin has made many news headlines. But what is Bitcoin? And will its value continue to rise?
Replacing Politics with Technology
Bitcoin is a digital currency that can be sent electronically from one user to another across the globe without any central intermediaries. Created in 2009 by an anonymous programmer under the pseudonym of Satoshi Nakamoto, Bitcoin aims to revolutionise the power dynamics between the individual and the state. Unlike traditional payment networks like MasterCard or American Express, no central authority controls the Bitcoin network. Rather, a decentralized system of computers around the world confirms transactions by competing to solve increasingly difficult mathematical puzzles. This computational process is known as ‘mining’ and individuals who offer their computational efforts are known as ‘miners’. Miners are rewarded with newly generated Bitcoins. Theoretically, anyone with a computer and Internet access could confirm transactions. Like gold, Bitcoin has a predetermined fixed supply, which can only be extracted through mining. As the amount of Bitcoin generated through mining decreases over time, its value increases. Also like gold, Bitcoins are regarded as a safe store of value during political turmoil. It is not a coincidence that Brexit saw Bitcoin spiking to $650 while the UK pound fell to a 30-year low.
Bitcoin follows a libertarian vision of ending control of governments and central banks on the economy. In his whitepaper, Nakamoto suggested that the creation of the network was primarily a response to the 2008 financial crisis: “The root problem with conventional currencies is all the trust that’s required to make it work. The central bank must be trusted not to debase the currency, but the history of fiat currencies is full of breaches of that trust.” The financial crisis resulted in the expansion of the money supply and the redistribution of taxpayers’ money to failing banks.
Bitcoin follows a libertarian vision of ending control of governments and central banks on the economy
Libertarians and anarchists were attracted to Bitcoin, which they saw as a way to fight corruption from bank and government control of the economy. As Prof. Vili Lehdonvirta, an associate professor and senior research fellow at the Oxford Internet Institute, says, Bitcoin aims to operate as a decentralised, trustless technology void of central authority: “No rent-seeking, no abuses of power, no politics – blockchain technologies can be used to create ‘math-based money’ and ‘unstoppable’ contracts that are enforced with the impartiality of a machine instead of the imperfect and capricious human bureaucracy of a state or a bank. This is why so many people are so excited about blockchain: its supposed ability changes economic organization in a way that transforms dominant relationships of power.” In short, Bitcoin is trying to get rid of the politics inherent in the current global economy by relying on technology.
The Technical is Political
However, despite the open source nature of Bitcoin, its governance is highly centralised. Ideally, anyone could offer their computer to mine Bitcoins. However, as transactions become more difficult to confirm over time, the mining process favours those with cheap electricity and high-end super computers. Today, a few large mining pools, particularly from China, control over 80% of the Bitcoin network. Mining centralisation challenges the notion of Bitcoin as a decentralised global network and undermines the cryptocurrency’s ideological movement towards libertarianism. Such centralisation also enables double-spending of Bitcoins (spending a set of coins more than once at the same time) and the blocking of transactions.
Lehdonvirta mentions that people often believe that “Bitcoin is purely ‘math-based money’ and that all the developers are doing is purely apolitical plumbing work. But what has started to make this position untenable and Bitcoin’s politics visible is the so-called ‘block size debate’ — a big disagreement between factions of the Bitcoin community over the future direction of the rules.” The block size debate, which has plagued the Bitcoin community for years, involves two groups: those in favor of increasing the block size and those against it. Currently, only 1 MB worth of transactions (known as blocks) can be processed approximately every ten minutes. If Bitcoin becomes more widespread, more transactions are expected to occur. Increasing the block size limit would relieve congestion on the network, benefiting most users. However, large mining pools have little incentive to increase the block size cap. By limiting the network capacity, users are forced to pay miners higher transaction fees to have their transactions settled quickly. On the other hand, proponents of a block size increase are concerned that higher transaction fees and longer confirmation times would discourage users from using Bitcoins, thus harming the network in the long-run. Since decision-making power is centralised in large mining pools, miners continue to reject block size increases while the Bitcoin network continues to be crippled by congestion. The seemingly technical block size debate reveals the centralisation of the network into a highly technocratic power structure.
The Future of Bitcoin
What are Bitcoin’s prospects? Some recent events convinced investors that the cryptocurrency is here to stay – such as the government of Japan’s recognition of Bitcoin as a legal currency on 20th April this year. Other countries in Asia, including South Korea and Malaysia, are also expected to make Bitcoin legal. Yet others contribute the recent price increases to mere speculation. Bitcoin, after all, also experienced a similar boom in 2011 when it spiked from $1 to $31 before crashing to $2 in a matter of weeks.
Bitcoin’s error was to assume that technology alone could govern social interactions
But what is clear is that Bitcoin will fail to compete with other cryptocurrencies if its governance issues remain unaddressed. Ethereum, a rival cryptocurrency, is challenging Bitcoin’s position as the dominant digital currency. Unlike Bitcoin, Ethereum involves a more decentralised network. Ethereum’s stake-holders are currently voting with so-called ether tokens on CarbonVote.com to reduce block rewards to miners. In his blog post titled “The case for smaller block rewards,” Vlad Zamfir, the 21-year old creator of Ethereum, argues that smaller rewards for miners discourage centralized pool mining. He notes that “when miners become more powerful, everyone else gets less of a say.” Lower block rewards would benefit Ethereum in the long run by reducing ether issuance and hence increasing its value.
Bitcoin’s error was to assume that technology alone could govern social interactions. By not acknowledging its political dimensions, the Bitcoin network diverged from its original decentralised nature and became a centralised technocratic structure, in which a few large mining pools hold decision-making power. Bitcoin must adopt a governance structure that engages all of its stakeholders in decisions affecting the network’s development to ensure its long-term success. The question is not whether there should be a governance system, but how it should operate. Only then would Bitcoin solve its paradox of having a decentralised vision and a centralised reality.