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On Monday, September 15th, 2008, tourists and locals stood outside and watched as employees of Lehman Brothers left the New York City headquarters on news that the bank would need to liquidate or file bankruptcy.
46 Days later, Satoshi Nakamoto posted the first white paper outlining Bitcoin.
Less than 3 months later, the first Bitcoin code was released and implemented.
How Did Cryptocurrency Get to Where We Are, and Why Now?
In a world of mediocre commentary about whether cryptocurrency is garbage or gold, about whether it will collapse or else disrupt every aspect of our lives, it’s the story of how we got here that’s so often missing. If we want to be smarter about it, to make better long-term decisions, we need a map showing us where we’ve come from so that we can see where we’re headed.
Really, there are 3 histories – 3 stories – that show us not only how cryptocurrency has come about – but more importantly where it’s likely headed.
Cryptocurrency Story #1: Fear, Uncertainty, & Doubt
This is a story as old as time…
In the late 1500s in Spain, too much gold and silver was imported from New World conquests. And because currency in Spain was based on precious metals, the overabundance of supply led to a rapid and painful devaluation (in addition to excess spending on war).
About 50 years later, in 1621, the now-famous Kipper und Wipper (Tipper and See Saw) scandal occurred.
The Holy Roman Empire needed more money for wars, so that it could pay soldiers and mercenaries. Taxes didn’t yet exist, so the government started melting down base metals and counterfeiting the currency of surrounding states/areas.
But it came back to bite them. People stopped accepting the money, soldiers stopped fighting if they were paid with it, and eventually, the money came back to the Holy Roman Empire, where it created a level of monetary uncertainty and doubt that spiraled into an economic crisis.
In the 1870s and 1880s, Argentina was a hotbed for investment, development, and speculation, mostly on the part of European banks such as Barings Bank.
But when Argentina turned south around 1890 because of a drought, collapse of the wheat crop, and government coup, European investors saw the end coming. So, as was permitted at the time, they began converting US notes into gold and then moving the gold to Europe.
The US saw its reserves start to be depleted, so the government turned to JP Morgan to bail them out. JP Morgan put together a group of friends who bought nearly all of the remaining gold and vowed to keep it in the country. (They also made a handsome profit).
Why Does Any of this FUD Matter for Cryptocurrency?
Fear, Uncertainty, and Doubt (FUD) is a common occurrence in history, although we believe each time that it’s either new or else worse than the last time.
However, the crises leading to FUD do appear to be speeding up in modern history. Typically, what happens in history is that people look to overthrow current institutions and replace them with new ones – new people, new governments, etc. They do this because trust is low when FUD is high.
Trust and FUD are inversely-correlated. They’re counter-cyclical.
This is important, because cryptocurrency has to overcome an initial trust hurdle. But that hurdle is much lower in times of Fear, Uncertainly, & Doubt – particularly during or shortly after an economic crisis.
This means that there is a lower hurdle at these times for a technology like cryptocurrency to overcome. In 2008, this was exactly the case.
Cryptocurrency might have caught on at another point in time, but not nearly so easily as during a time when trust in the economy and fiat currency was relatively low.
Countries like Venezuela and Zimbabwe are great examples of this. In those countries, cryptocurrency is even more popular (and often priced higher) because trust in the government, economy, and currency are incredibly low compared to many other nations.
A lower hurdle – although important – is still just a beneficial condition, and it doesn’t mean that a technology is immediately adopted. AirBNB and Uber both needed to overcome similar trust hurdles (for staying in a stranger’s home or for riding in a stranger’s car). Those hurdles are (perhaps surprisingly) a bit lower, but it still took those companies many years to garner the trust they needed.
For the future of cryptocurrency, this story is important. We’ll see FUD again many times. And during those times, cryptocurrency is most likely to thrive (absent an over-riding event, such as a major security breach).
In addition, the particular cryptocurrencies that are mostly likely to survive are those that garner the most trust, which is often a result not just of technological security, but also of network effects, which puts Bitcoin still in a great position.
Cryptocurrency Story #3: Privacy & CypherPunksSecurity without Identification: Transaction Systems to Make Big Brother Obsolete”. This was a critical first step toward imagining a digital, transactional system that worked on principles of anonymity.
Then, in 1992, Eric Hughes, Timothy C May, and John Gilmore founded a small group that became known as the “cypherpunks” in the Bay Area. Eric Hughes subsequently published a paper titled “A Cypherpunk’s Manifesto”.
In that paper and elsewhere, he outlined the primary founding principles of the cypherpunks (quoted below from his Manifesto):
1. Privacy is necessary for an open society in the electronic age…
2. We cannot expect governments, corporations, or other large, faceless organizations to grant us privacy…
3. We must defend our own privacy if we expect to have any…
4. Cypherpunks write code. We know that someone has to write software to defend privacy, and … we’re going to write it…
Their push for protection of privacy was neither unique nor new, but they were able to start writing code that could potentially ensure that protection.
In 1997, Dr. Adam Back published his work on Hashcash, which became the bitcoin standard for proof-of-work (along with Hal Finney’s 2004 work on ‘reusable’ tokens).
Whereas the low levels of trust and high levels of FUD set the proper conditions for cryptocurrency to get started and to thrive, the push for privacy and autonomy is a large part of what propelled cryptocurrency forward. Otherwise, particularly in developed economies like the US, fiat currency and the existing banking system generally works well enough that most people wouldn’t want to abandon it.
When Satoshi Nakamoto published the Bitcoin white paper in 2008, he wasn’t necessarily a part of the cypherpunks, but the aim wasn’t far off. Traditionally, transactions and identities were fully visible (to prevent fraud and double-spending), even if the whole transaction history was controlled and hidden by a trusted third-party.
One of the primary purposes of Bitcoin was to remove the trusted third party and anonymize the data. Although as Arvind Narayanan discussed in Episode 5, anonymous is not nearly the same as private.
And going forward, unless technology and government regulations change course, it appears that privacy is likely to continue to be a driving concern.
It also means that cryptocurrencies that are best able to provide and sustain relevant aspects of privacy (think Monero or ZCash) are likely to thrive. And it’s why even Etherium is working on implementing zk-Snark tech into the core.
Cryptocurrency Story #3: Technology
This is the newest of the 3 stories, although the part of the story I’m least qualified to speak about.
Quite clearly, without certain levels of technology, cryptocurrency wouldn’t be even remotely conceivable. Computers and the internet are obvious prerequisites.
However, there are also two other advances that made cryptocurrency possible and that will shed a bit of light on the future of cryptocurrency. (I won’t get into a lot of depth on these techs, since these topics are complex and covered well in other places.)
Until the 1970s, nearly all cryptography was Symmetric Key Cryptography. In other words, both sides of a message/transaction needed to have the same key/cipher.
It’s like if you use Pig Latin to change a sentence, then the person listening or reading also needs to know the rules of Pig Latin to understand what you’ve written.
Symmetric Key Cryptography is relatively simple, which is part of its downfall. In general, with enough encrypted material, a good cryptographer can eventually break even the most complex symmetrical cryptography codes.
But in the 1970s, Asymmetrical (or Public-Key) Cryptography was invented. One of the first papers to do so was Dr Whitfield Diffie and Dr Martin Hellman’s paper New Directions in Cryptography.
With asymmetric cryptography, you have both a public key and private key. The private key allows you to encrypt/sign messages or transactions. Then, when you send the transaction to someone else’s public key, they can verify that you signed it with the proper private key, but they can never figure out or find your private key – it’s a one-way transaction.
This revolution in cryptography made cryptocurrency possible, because without it, there would be no safe and anonymous way to continually sign and send transactions on the blockchain.
But there was also one additional technological advance that made cryptocurrency possible…
Proof of Work
Although Satoshi didn’t invent proof-of-work, it was this aspect of the Bitcoin white paper that was perhaps most critical and innovative.
The concept was originally considered in 1992 in a paper by Dwork and Naor, but Adam Back’s paper in 1997 gave it more form and a name.
In short, a proof-of-work scheme requires that a certain amount of “work” be done, but that the “work” be easily verifiable.
This “work” is done by miners, and the brilliance of the system lies in its ability to incentivize miners to record the correct and proper entries in the blockchain (rather than trying to cheat). The way this happens is by ensuring that the work is hard enough to make it nearly impossible to change prior blocks. Also, the proof-of-work system ensures that a miner’s reward for correctly recording and solving a block is generally larger than the temptation to cheat, because cheating would effectively forfeit the value of any ill-gotten gains – particularly since the gains would be tokens based on the underlying and now corrupt blockchain.
You might not be as fascinated by the technical advances as I am, but this also makes a difference for the future of cryptocurrency.
In particular, it’s critical to remember just how new and rapidly-evolving this technology is, which also tells you just how unpredictable it is. That’s both exciting and cautionary.
If you’d generally known in 1995 what the internet would look like in 2017, you’d likely have invested in everything you could have. But then most of those companies went belly-up around 2000.
You would have been right about the internet, but at the wrong time and about many of the wrong companies.
It’s no different with cryptocurrency. The future is likely to be big, but in what way and for whom remains to be seen.
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