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Credit: Unsplash/CC0 Public Domain
Credit: Unsplash/CC0 Public Domain
Cryptocurrencies like Bitcoin were created to avoid monopolies on money held by nations and central banks. Digital currencies were supposed to function more democratically and be widely adopted. However, blockchain researcher Claudio Tessone points out that the opposite has happened.
The history of Bitcoin, the first successful cryptocurrency, begins with a white paper and manifesto. In October 2008, a man named Satoshi Nakamoto published his nine-page academic paper entitled “Bitcoin: A Peer-to-Peer Electronic Cash System.” He explains how the new electronic currency works, allowing direct payments between users without involving banks as intermediaries.
“Satoshi wanted to end the monopoly of currency and financial transactions by governments and banks,” explains Claudio Tessone, adding, “Satoshi’s idea was to move currencies and their values to be centrally organized and controlled. Rather, it was to be “democratically” created and supervised.” This is the concept of anarcho-capitalism, where the market should regulate itself without state intervention. ”
Tessone is a professor of blockchain and distributed ledger technology at UZH. He researches economic incentives for cryptocurrencies and the blockchain technology that enables them.
Although his true identity is unknown, Satoshi Nakamoto paid to release Bitcoin software as open source code in 2009. He “mined” the first 50 Bitcoins and set the rules for how to mine other Bitcoins. Mining is the process by which new Bitcoins are minted and put into circulation.
Nakamoto also defined what is needed to mine Bitcoin: proof of work. In the field of cryptocurrencies, “proof of work” is the proof that participants, called miners, have completed the computational work necessary to verify and verify the blocks of digital data records that make up a blockchain. means that there must be. Add it to the existing blockchain as the next block. This work is essential for blockchains because they consist of a ledger of all verified transactions.
Gap-free documentation of these transactions is designed to foster the necessary trust in Bitcoin and replace the trust market participants typically place in institutions such as central banks. Mr. Nakamoto expressed this as follows. “What is needed is an electronic payment system based on cryptographic proof, rather than trust, that would allow any two parties to transact directly without the need for a trusted third party. ”
Initially, Bitcoin was virtually worthless. Software developer Laszlo Hanec made history as the person who conducted the first commercial transaction using virtual currency. He paid his 10,000 Bitcoin in exchange for two pizzas.
This amounted to more than US$600 million at the peak of Bitcoin’s all-time high. Rumor has it that Hanyec does not regret his decision. In his opinion, the pizza purchase was an important step towards establishing cryptocurrencies as a medium of exchange.
Few market participants remained
In January 2013, the value of one Bitcoin exceeded the US$1,000 threshold for the first time. After several booms and busts, one Bitcoin now costs more than 30,000 Swiss Francs.
“My wife sometimes criticized me for not buying any cryptocurrencies, even though I have been studying and researching them for over 10 years,” says Claudio Tessone. Cryptocurrency researchers attribute personal resistance to cryptocurrencies to risk aversion. Last but not least, through his research, Tesson is familiar with the issues facing cryptocurrencies today.
Most cryptocurrencies have evolved quite differently than their founders intended, especially regarding the concept of decentralizing power and distributing it to as many participants as possible by involving many different actors in minting crypto coins. I did. “What we’re seeing today is exactly the opposite,” Tessone explains. “Currently, there are only a few large market participants left who can mine new coins,” he says.
Existing companies benefit more
why is that? Considering the growth of cryptographic systems today, verifying and validating data chains requires enormous amounts of computing power and therefore requires enormous amounts of computer hardware and energy. It is expensive and requires a large amount of capital. Therefore, a single market participant with a computer no longer has a chance to perform this task and earn rights to new coins.
This is why some blockchains require “proof of stake” rather than “proof of work.” Proof-of-stake requires less computational power but favors existing market participants with higher stake weights. Both proof-of-work and proof-of-stake mechanisms lead to a concentration of power in cryptocurrencies and blockchains.
In reality, that should undermine trust, since trust is based on collective control by stakeholders who have a mutual interest in everything being run fairly. “If there are only a handful of them left, why should anyone trust them?” asks Tessone. “Especially when it’s anonymous,” he added. Blockchain researchers say centralization of power is dangerous because it invites fraud. “That’s why we need laws to regulate cryptocurrencies.”
How did we get here? Tessone blames misplaced incentives for this. Since the method for mining new coins was transparent from the beginning, participants devised ways to exploit the system, for example to gain huge computing power to create proof of work.
“Today, in the world of cryptocurrencies, we see the same phenomenon that is prevalent in the real economy: to those who have, give, or in other words, the rich get richer,” Tessone said. says. Additionally, cryptocurrencies are not typically used as a means of payment. Most coins are stored as speculative assets.
something more convenient
Tessone said the evolution of Bitcoin and other cryptocurrencies is an example of “what can go wrong, despite the best of intentions.” That certainly applies to Bitcoin as well. Bitcoin’s founders wanted anyone with a computer to be able to participate. Satoshi Nakamoto’s own thoughts on this are unknown. He issued his last public message online in December 2010 on his forum Bitcointalk and then disappeared without a trace in April 2011.
Does virtual currency have a future? In his analytical research, Tessone noticed that some cryptocurrencies try to structure their systems in ways that don’t give as much concentrated power to a small number of participants. Whether that is enough to fix the system’s current design flaws remains to be seen.
Tessone believes that the real value of cryptocurrencies lies in the innovations they create. “These innovations can be applied to the broader economy and do more useful things,” the cryptographers sum up.
Fraud in the digital economy
Blockchain technology brings complete transparency to the transactions of digital assets such as non-fungible tokens (NFTs) and coins. When a unique digital asset of that type is sold, the transaction is recorded on the blockchain. Nevertheless, digital transactions introduce a wide range of fraud possibilities.
Claudio Tessone investigates fraud such as wash trading and rug pulling. In wash trading, traders make fake trades by repeatedly buying and selling the same asset to each other at progressively higher prices, creating the illusion that there is demand for that asset. This can potentially trick outside investors into acquiring assets at exorbitant prices.
Tessone’s research found that wash trading was widespread. “This is surprising,” says a blockchain researcher, “because most perpetrators don’t even try to cover their tracks.” It means you know you’re being manipulated.
Another form of fraud is pulling the rug from under you. In this type of scam, investors are promised high returns when they invest in a cryptocurrency project. Once enough money is raised, the project developer runs away with all the liquid funds and pulls the rug out from under the feet of other investors, leaving them holding worthless shares (tokens) in the project.
Tessone finds it incomprehensible that many buyers and investors do not perform thorough due diligence when purchasing digital securities. “They are often naive and don’t understand that blockchain transparency allows them to see that they are being deceived.”
Tessone therefore advocates rules for the digital economy similar to those that govern the brick-and-mortar economy. Switzerland already has such a law in place. “We need them all over the world,” Tessone said. But at the same time, all the laws on the books are useless if investors don’t carefully scrutinize who they entrust their money to.