All eyes are on China as bitcoin rises and falls on digital exchanges. The Wall Street Journal reports that just this past Friday, Chinese authorities in Beijing met with bitcoin entrepreneurs to announce that it will soon shut down bitcoin exchanges and forbid bitcoin trading, even on a peer-to-peer basis, in all of China. The news comes on the heels of an announcement that the Chinese would no longer tolerate commercial exchanges of the cryptocurrency, in a bid to keep capital from fleeing the country. When China sneezes, bitcoin catches a cold.
But methinks Beijing doth protest too much. If the Chinese wanted to crush bitcoin, it could easily do so simply by nationalizing the bitcoin mining operations in the Western part of the nation.
Bitcoin operates by means of a distributed, decentralized ledger, with independent owners or operators of computers confirming transactions on separate computers. Each and every user of Bitcoin can obtain and access a history of all confirmed and valid transactions on an electronic record known as the blockchain. The chain grows in length each ten minutes when transactions are confirmed.
The system eliminates, at least in theory, the need for trusted third parties, whether they be banks, governments or others working for a fee to validate transactions. Theoreticians claim bitcoin solves the so-called Byzantine generals problem.
Suppose a group of Byzantine generals were surrounding a city, deciding whether to attack or to retreat. Success depends on a consensus about whether to attack or retreat. The generals can only communicate by means of runners who verbally state the orders they relay. How are they to know that all are on the same page, that there is not a traitor in their midst reporting a command to retreat, when, in fact, the order was to attack? In a system of physical runners there isn’t a way to know for certain.
Transformed into commercial terms, how do folks using digital currency to know that the token they are being given hasn’t already been spent – the so-called double spending problem?
If all of the generals had access to a blockchain, there would be no problem. Each order would be posted on a public site, confirmed by multiple parties who were strangers to one another, and then broadcast for all to read. So long as there was a consensus among those confirming the content of the blockchain, the need for trusting strangers is eliminated.
Well, it is sort of eliminated.
The process of confirming a communication isn’t one of merely nodding one’s head in response to a secret signal. A confirmation involves a computer’s solving a complex mathematical problem that all users recognize as governing the system. Only when a computer solves the problem does it register a confirmation. The algorithm governing confirmations grows in complexity over time; the energy required to power computers dedicated to cracking the evolving code grows over time. The process of deriving confirmations is known to insiders as “mining.”
What’s all this to do with China?
Plenty. At least 70 percent of all mining takes place in China, typically in Western China where energy costs are cheap. In other words, more than two-thirds of all the computing power in the world dedicated to confirming bitcoin transactions and building the blockchain take place in China.
If China truly wanted to kill bitcoin, it could arguably do so by administrative fiat, simply by seizing the various mining facilities, almost all of which are operated in giant pools, bank upon bank of supercomputers stored in vast warehouses. Once that happened, China would control the consensus making machinery necessary to confirm, or not, transactions. Bitcoin theorists calls this the 51 percent problem – to date, no one entity has acquired more than 50 percent of the computing power necessary to mine bitcoin. But, as I am sure the Chinese have noticed, they have the means within their border to crash bitcoin.
Why hasn’t it happened if China is so concerned about bitcoin and the yuan?
Perhaps because China doesn’t want to kill this goose laying digital golden eggs. Or, and this is the truly intriguing question, perhaps China can’t kill the goose. Perhaps this decentralized ledger is beyond the control of Beijing – the emperor may be naked.
Social media made possible the Arab Spring and the dislocation and chaos still evident in the Middle East. Are we about to have a Chinese Autumn made possible by the blockchain? It’s an intriguing possibility.
Bitcoin has regulators talking worldwide. The blockchain poses a threat to centralized institutions. It’s no wonder bankers shudder at the thought of a means of global communication that cuts the middleman and his fees out of the picture. And it’s no wonder central governments are wary.
But lest you take this as an anarchist’s dream come true ask yourself the following: As big data and artificial intelligence shrink the globe and make possible calculations once thought unfathomable, what will stop a supercomputer from gaining control of the blockchain?
Perhaps the Chinese should worry less about bitcoin’s impact on its state-backed currency than about what some latterday version of Hal will do once he gets his digital paws on the blockchain. What if AI could decide the optimal allocation of resources worldwide? Would it then conclude that leaving decisions about what to spend and how to spend it to we lesser mortals was simply inefficient?
China syndrome, indeed.
Bitcoin went on a rollercoaster ride last week, spiking in value on some exchanges just north of $5,000. Then J.P. Morgan CEO Jamie Dimon told the world that the cryptocurrency is a fraud, and that he’d fire any employee of his he caught trading it. Bitcoin’s price tumbled.
Then China shut down cryptocurrency exchanges, making it far more difficult to trade bitcoin. Close observers noted the irony – China hosts the world’s largest concentration of bitcoin miners, the computers earning crypto-credits by confirming transactions on the blockchain.
China may be an engine of economic growth just now, but it is still a centralized economy, and it wants to keep its currency at home, where its value can be more closely monitored and manipulated. Keep the yuans at home; close the border to capital flight in the form of bitcoin.
The one-two whammy left bitcoin trading as low as $2,972, a drop of some 40 percent. Repeat after me: bitcoin is volatile.
But its strength lies in the market composed of contrarians, and in a world gone increasing centralized and global, there will always be a market catering to those marching to drummers all their own. Do you really expect Jamie Dimon and Uncle Sam to come to your rescue when things get tough?
Bitcoin is but one of roughly 1,000 cryptocurrencies currently on the market, but it is the most well-known, with a market capitalization of $60 billion. (It is currently trading at roughly $,3630.) Not bad for an ethereal bit – no pun intended – of data.
If you’re new to cryptocurrencies, here is a crash course.
The primary functions of the money you carry around in your wallet is to serve as a medium of exchange, a store of value and a unit of account. What’s all that? The first is easy. Want a cup of coffee? It will cost you. You pay for it with a currency – a medium of exchange.
The market sets the price for the coffee. But what is the price measured in, and how do you compare items, deciding how best to spend limited funds at your disposal? If you know a cup of coffee costs $2 and a sandwich costs $5, you know you’re going to go hungry if all you have is $3. The items, incomparable though they are, are reduced to common units of account expressed in dollars.
Suppose you don’t want to spend anything at all today, but you want to hold your money for a rainy day? Fine. Money is also a store of value. You can deposit it in a bank, and maybe earn a bit of interest. Currency is magic, you see.
Bankers know the magic of currency, so do governments. Jamie Dimon and the wolves of Wall Street want to keep a stranglehold on your wallet. Bankers are intermediaries in financial transactions, making fees brokering the exchange of currency.
And governments not only milk the cash cow, they seek to monopolize the cow itself. A defining characteristic of what most of us regard as money is that it is backed by the government; in exchange, the legal tender requirement means that creditors must accept recognized currency in settlement of debts.
Pull a dollar out of your pocket some time and look it over: “You’re all that?”, you might say.
Cryptocurrencies challenge the centralized control of currency, and they do so, in part, by eliminating the need for trusted third parties either to broker exchanges or to police the system. Bitcoin does this by means of what is called the blockchain, a distributed ledger requiring confirmation by strangers of each unique transaction. Skip the banker and his fee; tell the government to dissolve itself. Distributed ledgers are an innovation that will change the world of things much like the internet changed the world of ideas.
This week’s turbulence in the bitcoin market was a necessary blip on the screen. Of course big banks and big government want it to fail – what vampire can live for long without the blood of those upon whom it preys?
I took heart in comments made by Antonis Polemtis of Nicosia University in Cyprus: what makes cryptocurrency enduring is its reliance on the distributed ledger, no particular form of currency is necessary. (Polemitis teaches as part of a free MOOC course on the bitcoin and the blockchain – some 4,300 people signed up for this fall’s course, me among them.)
I’m a dystopian at heart. Everywhere around me I see a crisis of legitimacy, and a lack of trust in traditional institutions. Banks, nations, even currencies come and go. But life goes on, and, so long as it does, there will be a need to broker exchanges. I have a whole lot more confidence in distributed ledgers and the blockchain than I do in J.P. Morgan or Uncle Sam.
Sure, I’ve got dollars in my pocket, but I’ve also got cryptocurrencies in digital wallets. So do an increasing number of folks, including, I suspect Jamie Dimon.