Category Archives: Bitcoin

I’ve always loved a good analogy as a way of explaining a technical concept to a non-familiar audience, here’s my blockchain analogy… possibly the best blockchain analogy you’ll ever hear:

You know how in a playground football game each player knows what the score is at any one time and you can’t change the score without convincing everyone playing that there’s a very good reason for doing so? Well in a very similar way, each node in a blockchain-based peer to peer network has an identical copy of the network’s ledger of events, and that ledger is immutable.

So both playground football and blockchain achieve a situation where you have multiple participants who have an agreed upon historical record of events and that record cannot be tampered with.

 

Byzantine Fault Tolerance

Byzantine Fault Tolerance is something you want to acheieve if you want to address the concerns raised in a type of game theory called the “Byzantine Generals Problem”. Which sounds really complicated but its actually just a way of getting a group of independent actors (who don’t naturally trust each other) to reach agreement on events that occur within the group (and in what order), despite their trustless relationship and in a way that is resilient to attempts to undermine that agreement. Attempts to undermine agreement might be things like actors in the group trying to alter the historical record for their own benefit or actors leaving the group. It is particularly useful for example, if the actors are people whose only point of connection is the internet and want to trade with each other without having to involve a centralised authority.

Blockchain is currently the most popular and widely implemented example of Byzantine Fault Tolerance in practice.

 

A More Technical Description

 So using more technical terms blockchain can be described as a method for achieving immutable, decentralized and synchronised consensus in a peer-to-peer network via a distributed ledger.

 

Comparing a Non-Technical with a Technical Description

Blockchain is a software solution for reaching agreement within a leaderless group of peers that events have occurred, as they occur and that of these each events is recorded in an indisputable historical list which each peer has a copy of.

vs

Blockchain is a software solution (protocol) for reaching agreement (consensus) within a leaderless (decentralized) group of peers (peer to peer), that events have occurred, as they occur (synchronised) and that of these each events is recorded in an indisputable (immutable) historical list (ledger) which each peer has a copy of (distributed).

 

Back To Playground Football

In a playground football game there is no referee (that would be a centralised authority) and yet the game is played successfully because it’s a group of kids playing a game where everyone knows the rules, and they play by those rules because otherwise they’re not “playing football”. When a kid fouls in some way a decision is quickly made amongst the kids as to whether to act upon the foul, or simply let the game continue by passive consent (consensus is constantly achieved). The “ledger part” is the current score that all the kids are keeping in their heads, and every kid doesn’t actually need to see each goal being scored as long as they all agree what the current score is.

The ledger is immutable because a single kid cannot change the score without convincing a majority that his view of events is the right one.., the analogy does get a little stretched at this point but in my experience kids are real sticklers for the rules, and it’s pretty hard for one kid erroneously convince everyone that they scored when they actually didn’t. The kids also get the advantage that players can leave and the score remains the same, and as many new kids can join the game as the current players allow as long as they too accept the current score.

And it’s in that way, that all those games of footie in the playground were actually examples of a peer to peer network achieving immutable, synchronized and decentralized consensus via a distributed ledger!!

 

And that’s a good way of understanding how blockchain does what it does at a high level.

 

What about a chain of blocks? What about Merkle Trees?

“How” blockchain does what it does, involves chaining together blocks of data to form that ledger, but explaining how blockchain works is the not purpose of this analogy.

 

What about “smart contracts”?

Although smart contracts and blockchain often go hand in hand, a system doesn’t need to have smart contracts to be a blockchain. Smart contracts are a way of defining the set of rules as the basis that each blockchain will operate on and introducing outside data (often pulled in by an “Oracle”) into the blockchain. Smart contracts are one way of getting your blockchain to incorporate and act upon certain GPS data feeds, live financial trading data feeds, the latest weather feeds etc etc.

 

What about Bitcoin?

Blockchain is not Bitcoin and Bitcoin is not Blockchain. Bitcoin is one implementation of Blockchain plus a few extra rules and incentives thrown in to make it a cryptocurrency.

Or how the Cryptocurrency market came of age in September 2017.

POPPING THE BUBBLE
On Monday 4th September the Chinese Government announced that it would officially ban all Bitcoin trading and that from then on any more companies attempting to raise money through an ICO would be breaking the law and that all the money that had been raised must be paid back. Rather than fall foul of the law, domestic Chinese investors were quick to get out of the market (publically at least) and the price of Bitcoin began its most dramatic fall yet.

From Monday 4 September to Friday 15 September, Bitcoin lost $1,600 in value, falling 35% from $4,550 to $2,950. If you take into account its all-time high of $4,900 on Friday 1st, the drop in value was even greater at $2,000 a Bitcoin, a 40% drop in value.

Because Bitcoin still dominates the cyrptocurrency market, the total cyrptocurrency Market Cap also experienced a massive drop, losing 34% of its value from 4 September to 15 September.

Dramatic events indeed.

 

DIMON DINOSAUR ROARS

As you can see from the graph, the price of Bitcoin had sky-rocketed up 300% since January, so it’s easy to understand where the panic has come from. The prognosticators of doom and the “Tulip Bulb” brigade were quick to follow up on the plunge, seeing it as a vindication that Bitcoin was nothing more than a dangerous market bubble. High profile industry figures with decades of experience watching all kinds of market activity then joined in the attack, with JP Morgan’s CEO Jamie Dimon declaring that Bitcoin was “stupid” and that it would “blow up” (Wednesday 13 September).

But since it’s trough on Friday 15 September, the market has quickly recovered, regaining 50% of that loss to $4,000 today (Tuesday 19 September). No matter whether you see Bitcoin as fools’ gold or a new market here to stay, what happens to the market next is going to be interesting.

THE LONGER VIEW

Let’s look at where Bitcoin, and the total cryptocurrency market, has come from. Since 2013 the price of Bitcoin has risen from $135 to $4,000 a share today.

But it hasn’t been one smooth logarithmic rise, in fact apart from a dramatic peak at the end of 2013, the previous 3 years have been active, but fairly steady, only moving $970 to $960 from January 2014 to December 2016. During which there were roller coaster price spikes and sustained periods of price stability (Bitcoin stubbornly remained at the $240 mark for Q2 and 3 of 2015) but nothing that compares to what has happened since January.

Since January this year the price of Bitcoin has risen by 300%, from $936.66 per coin to $4001.36 today.

And the total cyrptocurrency Market Cap has gone from $17.86bn to $138.01 today, a 700% increase.

Which begins to explain where all the attention has come from. The Bitcoin market, and cryptocurrency in general, has gone from curiosity to major force on the world stage. Prompting a summer of tales where middle Americans bought swimming pools and exotic holidays on the back of their part-time Bitcoin hustles, and the US and Chinese Governments weighed in with vociferous intentions to try to regulate this market.

WHAT JAMIE DIMON DOESN’T KNOW BUT THE CHINESE GOVERNMENT DOES

 

WHAT HAS ACTUALLY HAPPENED?

Well, just like a share in the stock exchange, a Bitcoin represents two things, it’s a representative of a tangible asset (in this case a unique cryptographic Hash which can only be generated by “mining” a pre-set number of server calculations) and it’s one unit of a financial class that’s value will go up and down according to demand.

And in the same way that companies would traditionally raise investment capital on the stock exchange through an Initial Public Offering, today companies can also raise investment capital by creating their own cryptocurrency, mining a pre-set number of coins (or tokens) and attempting to sell them in one go during an Initial Coin Offering. So the cryptocurrency market operates according to a very similar set of parameters as a traditional asset class in the financial markets.

Some of these companies, like Bitcoin and Litecoin, are designed purely to be a digital currency to be traded across the internet without regard for national borders. But an increasing number today are using the ICO, not as a way to turbo-charge the starting value of their currency, but instead as a mechanism to raise investment capital for Blockchain related software solutions, the best example of which is Ethereum. And it is this sector of the market which represents the “Blockchain revolution”, these companies are the ones that are spearheading the paradigm shift that Blockchain technology will initiate which so many technology pundits have been talking about.

If you look at how both the number of ICOs, and the level of ICO investment, has sky-rocketed since January 2017, it’s clear to me that this year’s activity in the cryptocurrency market is very far from a “bubble” and instead there are many signs that this market has come of age.

Total Number of ICOs:

2014	7
2015	7
2016	43
2017	120

Total ICO Investment:

Another sign of health in the market is how alongside the increase in total investment, investor numbers and variety of cryptocurrencies; the market share has also begun to significantly diversify.

This year Bitcoin has gone from dominating the market with a continuous 80-90% market share, to a 50% market share, sitting alongside Ethereum (20%) and Bitcoin Cash and Ripple (5% each). This new diversity in market share is a sign that the market is in rude health.

The peak Bitcoin price of $5,000 may well turn out to have been a bubble in the short-term and despite its recent recovery, the price might not return to the $5,000 value for months but pragmatic financial stakeholders like the US and Chinese Governments, recognise that with a value of $138 billion, cryptocurrency is now a major element of the global economy.

And grey-haired technologists know why.

ENTER THE S-CURVE

For decades it’s been understood that each new technology evolves along the lines of an S-curve trajectory.

The first stage features very little growth as the founding concepts and tools are established, technology adoption then enters a rapid period of adoption in a transitionary “improvement period” and finally levels out when performance reaches its physical limit. Despite our iconoclastic age, this “S-Curve Of Technological Progress” has largely repeated itself, just look at the way televisions, mobile phones, and Artificial Intelligence have each begun their existence with fragile beginnings and limited adoption, gone through a period of mass adoption and the matured after nearing peak market volume.

The growth of cryptocurrency and its precocious child, the ICO, is going to follow the same S-curve. And if we look at all the market indicators, we can see that despite its $138 billion value today, cryptocurrency is neither in an infancy stage, nor has it reached its potential capacity. For as long as the risk/reward ratio continues as it is, investor demand will continue to rise and there are many more potential investors who have yet to enter the market. Government regulation ultimately indicates a sense of legitimacy. Cryptocurrency has only just entered the middle “improvement” phase:

Entering the murky world of dragons, fairies and economic forecasting, I have drawn my own S-Curve onto the cryptocurrency total market cap to see what it might look. My graph shows the cryptocurrency market reaching maturity at a total market cap of $300bn in January 2019.

But whenever the cryptocurrency market reaches maturity, it has not reached it yet. National Governments will not put the requisite time and effort required to “kill” off the sector, attempts to regulate a supra-national peer-to-peer network is currently too complicated a problem to effectively institute and in the post-2008 heavily regulated financial markets, investors are keen to find an investment vehicle with bigger rewards.

The rise of cryptocurrency has only just begun.