Is Blockchain the Answer? Pros and Cons.

Apr 17, 2019   |   by Emmanuel Lai   |   Thought Leaders & More

The Growing Pains of Emerging Technologies

All emerging technologies come with growing pains. Fun fact: the Benz Velo, one of the first cars, had a top speed of 12mph. A horse-drawn carriage could achieve better speeds. There were doubters who thought that automobiles were a fad that would die out in time. As the decades passed, those who rallied against the automotive industry found themselves on the wrong side of history.

Make no mistake - acceptance of motor vehicles did not come overnight. There were plenty of issues along the way. The early 1900s was fraught with car accidents. There was little regulation over driving, and plenty of people were on the roads without ever having taken a test. Accidents were so commonplace that they would go unreported.

Right now, blockchain is in its infancy, akin to the "clunker" era of the automotive industry. While we are still learning more about what blockchain can do, here are some general strengths and limitations.

Pros: Immutability

Immutability is one of the defining traits of blockchain.

Each transaction that occurs on a blockchain leaves a small, digital fingerprint, that alters the ledger ever so slightly. This makes fraud extremely difficult. The settlement process of a blockchain transaction involves a multi-party verification system. A fraudulent transaction will not settle properly.

The possible use cases for a near fraud-proof ledger are plenty.

I believe blockchain will end up being a panacea for the auditing industry. An immutable ledger provides the ultimate support for any financial assertion. Forgery or data inauthenticity will never be up for question. When analyzing blockchain data, an auditor only needs to evaluate the validity of the system's design, and interpret the information accordingly.

Con: Rule of the Mob

The dreaded 51% attack can spell doom for a cryptocurrency. In fact, it has wreaked havoc on Bitcoin Gold.

A 51% attack is where malicious actors gain over 51% of a blockchain's computing power. Because mining equipment can be prohibitively expensive for individuals, individuals often team up with fellow miners and join pools. Miners who are part of a pool share resources and split rewards.

The immense amount of processing power that a large pool wields creates great inequality. A 51% attacker can reverse their transactions, and start mining blocks privately. They can then spend their cryptocurrency on a public ledger, and then force the public to accept their private ledger afterward.

This is antithetical to the democratic currency that Satoshi Nakamoto envisioned.

Con: Scalability

Many blockchains lack a robust system for payment processing. Their capabilities to settle a large volume of transactions lag behind those of conventional forms of finance and lending. This, along with price volatility, poses a challenge to mainstream adoption of cryptocurrency as a legitimate payment method.

Visa currently processes 150 million transactions per day.

Let's do some math. 150,000,000 transactions/day x 24 hours/day x 60 minutes/hour x 60 seconds/minute gives us 1736 transactions a second.

As of early 2019, Bitcoin does around 340,000 a day, or 3.9 transactions/second. The upper threshold for its capabilities hovers around 7 per second.

Litecoin does around 22000 transactions per day. That's less than 1/6000th of Visa's total processing volume. It can handle roughly 56 transactions per second.

These deficiencies have to be overcome if cryptocurrencies are to gain momentum as an alternative to traditional banking.

A Potential Workaround

Solving the issue of blockchain scalability is not a lost cause.

Certain cryptocurrencies were built to handle large volumes of transactions. Ripple has been tested to handle around 1,500 transactions a second (and the team claims the theoretical maximum is even higher).

However, existing cryptocurrencies that are lacking in processing capability can still be brought up to speed. A potential solution is the Lightning Network.

The Lightning Network consists of payment channels. Once a Lightening channel is open, parties can transact with each other outside of the main blockchain. This is known as a second-layer network. To create a payment channel, a user has to first make a small transaction. The transaction can be a fraction of a cent. After settlement, these transactions would then be pushed from the second-layer-network to the main blockchain. This will greatly enhance transaction speed, and make many cryptocurrencies much more appealing as a form of payment.

Anti-Inflationary Effects

Throughout history, fiat currencies have had a pretty poor track record.

Paper currencies originated in China, in the 7th century. The Tang dynasty introduced foldable paper bills, similar to what we use today. However, paper currencies were not always used for everyday purposes. They were favored by merchants, who did not want to be encumbered by heavy metal coins when buying wholesale.

The Song dynasty continued printing paper money, now known as jiaozi. However, the currency did not last. There was a gross misalignment between the interests of the government and the people.

Fiat currencies are vulnerable to governmental manipulation. A government saddled with debt can simply resort to producing more currency to pay its bills. However, this will also devalue their currency. Within a few decades, the jiaozi became next to worthless.

History has an interesting way of repeating itself. After World War I, Germany was ravaged and on the brink of collapse. Saddled with tremendous debt, the government decided to pay off its war debts by printing more money. Suddenly, the German Mark was worth so little that it became cheaper than wallpaper. Families decorated their walls with paper and bought loaves of bread with carts of cash.

While cryptocurrencies are not immune to periods of rapid inflation from speculation, there is one distinct advantage it has over fiat currencies: the amount of Bitcoins or Litecoins that can ever be in existence has already been determined. This provides a degree of protection over hyperinflation, and allow victims of dysfunctional regimes such as Zimbabwe and Venezuela to transact with the rest of the world.

Final Thoughts

It is undeniable that blockchain is in its infancy. Comparing the blockchain technologies available today to twenty years in the future will be like comparing a Model T Ford to a self-driving Tesla.

What will the future of cryptocurrency look like?

I see a future where multiple cryptocurrencies can coexist in harmony with fiat currency. A functional government, with effective monetary policy, can issue tender with low levels of volatility. These fiat currencies can be exchanged for everyday transactions, in the same manner, they are being used today.

However, cryptocurrencies such as Bitcoin and Litecoin can serve as a store of value, similar to the role of gold and silver today. Additionally, different types of crypto assets can be used for different purposes. There are tokens with specific use cases. Crypto assets can be used to raise money, in the same manner as an IPO. They can be used to protect your identity. And they can be used to send money across borders, with minimal transaction fees.

While there is still much more work to be done, the future is looking very bright.

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Emmanuel Lai

Digital transformation professional with a focus on Robotic Process Automation. Passionate about fintech, process engineering, and fitness. Currently serving as a Strategic Adviser for Garden of Crypto.