(Image credit: Nicolas Tissot)
I’ve loosely followed cryptocurrency for almost a decade. In 2011, I briefly mined Bitcoin (and Litecoin, when it became clear that GPU mining BTC was unlikely to net me much of a reward). Bitcoin’s proof-of-work algorithm to create a trustless ledger was a true innovation in decentralized systems, and Ethereum’s expansion of it into a general compute platform was another giant leap. But looking at the state of the world right now, neither seems poised for the level of success that is evangelized.
I am bullish on cryptocurrency in general. Our existing monetary system already operates on a digital ledger, and reducing institutional trust is a good thing. Moving money and tracking ownership is too important to leave in the custody of private institutions that have a long history of looking out for number one. Yet both Bitcoin and Ethereum strike me as being an imperfect fit for mainstream financial products. Some problems I see:
- Block discovery is too long to be used for payments.
- High volatility limits use as a method of payment.
- Smart contracts are too unreliable for institutions.
I'm going to assume the reader is familiar with how cryptocurrencies operate, at least at a high level. The YouTube channel 3Brown1Blue has a fantastic explanation of the proof-of-work algorithm, and Coinbase has decent simple explanations of common cryptocurrencies and related topics.
Bitcoin has notoriously long transaction times, taking up to an hour to fully settle on the network. This isn’t an inherent property of Bitcoin. The core developers have chosen to keep block discovery times averaging about 10 minutes and the amount of data per block low, which limit transaction latency and throughput respectively. Because proof-of-work requires several blocks to be found before a transaction settles, the transaction time is a multiple of Bitcoin’s 10-minute block time. Ethereum’s block time is 15 seconds, for a point of comparison.
This puts Bitcoin transactions at a speed somewhere between an ACH transfer and a credit card. It’s not fast enough to use at the corner store, but it could work for some sort of payments app; a slow Venmo or Square Cash. Ethereum is much better, but its 15 second block time means transactions usually settle in about 3 minutes. This is suitable (if a little slow) for a payments app, but far too long a wait if you’re checking out with a line.
There are serious efforts to address this. The lightning network is way for two parties to confidently settle numerous transactions off-chain, only bringing it back onto the chain once they've completed their transactions with each other. With enough individuals maintaining these payment channels, a payment could occur between 2 parties without a direct connection by making multiple "hops" where connections exist. The lightning network is currently operating in a limited capacity, and in the future it could extend to cross-chain payments—acting as a compatibility layer between different protocols.
Volatility causes fewer direct problems than slow transactions, but it makes it difficult to use as a means of transfer. The long transaction times and volatility exacerbate market risk, the potential that the currency’s value will decrease by the time the recipient is able to sell what they’ve been given. Steam stopped accepting it in late 2017 for exactly this reason.
Those paying suffer the same market risk in the other direction. The currency might increase in value, encouraging you to hold onto it rather than spend it. If you were paid with Bitcoin last week, you don’t know how much purchasing power it will hold next week. The macro-scale impact of this volatility is visible in the decline of BTC as a payment option and the rise of the “hodlers.”
This price volatility has some organizations attempting to hybridize fiat currency with cryptocurrency, leading to a rise in “stablecoins”—digital assets anchored to real-world currencies. A notable example of this is Tether, USDT, a representation of the US dollar on the blockchain. These introduce new risks: Tether has had major delays fulfilling withdrawal requests, and is accused of not having adequate balances to fulfill its obligations.
The driving force behind the volatility is that cryptocurrencies are treated as stock in the projects that issue them. Cryptocurrency enthusiasts behave like speculators, hoping to buy low and sell high. The price fluctuates significantly based on project news and the cryptocurrency market overall, which has the Securities and Exchange Commission keeping a close eye on the space.
Bitcoin doesn’t have a concept of “smart contracts” in its protocol, but it’s a core innovation of Ethereum. Ethereum provides guarantees about execution and integrity of data for smart contracts, but they’re still arbitrary computer programs. While this opens up the fascinating world of decentralized apps, it’s not ideal for applications that require a high level of security. It's bad if CryptoKitties has a bug allowing attackers to steal your unique cat, but it’s life altering if attackers steal all of your money.
Many of the potential applications of smart contracts demand such high security. Vitalik has tweeted about non-financial applications, but verifying college degrees would be similarly catastrophic if something were to go wrong.
As arbitrary computer programs, Ethereum’s smart contracts provide no guarantees that they will execute correctly. This relates to the idea of “correctness” in computer science: How do you prove, without executing the code, that it will do what you expect? In the world of Ethereum, your only option is a careful review of the code, with some limited assistance from auditing software. This is hardly compelling to major institutions that already operate systems with a high level of confidence.
Major bugs in high-profile projects shows how difficult smart contracts are to get right. Even Coinbase, arguably the most trusted name in cryptocurrency, had a bug allowing users to credit their account with unlimited Ethereum. The most infamous is the DAO hack, which was reverted by a hard fork of the Ethereum chain and lead to the Ethereum/Ethereum Classic split. Parity, a wallet written as a smart contract, is described as having been “audited by the Ethereum Foundation’s DEV team, Parity and others from the community.” Yet it suffered multiple hacks and bugs.
Because the Ethereum protocol acts as a runtime for smart contracts, even smart contracts that are well implemented are vulnerable to bugs introduced at a protocol level. A recent protocol upgrade, codenamed Constantinople, was delayed after ChainSecurity discovered it would make previously secure smart contracts vulnerable to a “reentrancy attack.” It’s difficult for me to imagine any such institution making a significant investment into a technology that has a consistent track record of security vulnerabilities and hacks.
Bitcoin’s flaws are not inherent to the protocol, but politics within its development means that it’s unlikely to change. The entrenched community of miners and supporters may make it impossible to include the large changes needed to make it competitive with more modern blockchain technologies.
Ethereum’s problems are perhaps more fundamental and might be harder to fix. The premise of the technology is that anyone can write code for a global computer, but I struggle to see use cases that aren’t better served by a centralized system. This has borne out in the projects that have been built on Ethereum; the most widely successful smart contracts (excluding ERC20 tokens) are for trading or games. These products are popular with cryptocurrency enthusiasts, but only serve those who are already actively interested in the space.
Cryptocurrencies have become self-serving, insular communities. Far from what was proselytized—a global equalizer, a means of transfer unrestricted by any one party—they have become just another type of investment for those with wealth to invest in. Neither Bitcoin or Ethereum have demonstrated that they’re well-suited to solve any of the world’s problems. I don’t believe that either of them fill a real need in the world in their current state, and their ecosystems and communities work now only to fill their own needs.