13 Apr 2017

Crypto-currency Hype Has Gotten Far Ahead of Reality

I was listening to a podcast where a Bitcoin enthusiast was bragging about transactions completing in 10 minutes. Well, IMPS and RTGS transactions complete in seconds, and have been doing so for years, so Bitcoin is a step back. Even 10 minutes is an exaggeration — average transaction times have at times exceeded 2 hours:

Slowness isn't the only problem. Sometimes, transactions have failed as the network became overloaded. Who wants an unreliable payment system?

Then, Bitcoin can be user-unfriendly, as a crypto-currency expert says.

Crypto-currencies are also insecure. The two major contenders — Bitcoin and Ethereum — have both been hacked. Bitcoin alone has been hacked multiple times. Mt. Gox, a Bitcoin bank, lost a massive $460 million to hackers. It turned out that the hackers had been skimming money for years without Mt. Gox's knowledge. Then, in 2016, another Bitcoin company, this time Bitfinex, was hacked for $65 million.

"There is a long tradition of blaming the victim in the bitcoin community," says a CS professor who researches crypto-currencies.

It's not just Bitcoin that has been hacked. Another crypto-currency, Ethereum, has had $50 million stolen.

If my bank were hacked, I have recourse. The government will get involved and do something about it, such as forcing the bank to pay me out of their own pocket. There's also deposit insurance [1]. Bitcoin, by virtue of operating outside the traditional financial system, has no such safeguards. I wouldn't put my money in a system that has no safeguards and has been repeatedly hacked. All the more so when I may be the one who ends up having to bail out other customers.

Leaving security aside, Bitcoin's value has been extremely volatile, losing as much as 78% value at one time.

Why would you save your money or maintain a balance in such a volatile currency, anymore than in Zimbabwean dollars?

A real currency like the rupee, which isn't the most stable currency in the world, has lost only 19% value in this time period, peak to trough.

Crypto-currencies are also fragmented. If I have Bitcoin, and you have Ethereum, we can't seamlessly transact. Crypto-currency enthusiasts should make gateways to make this seamless, just as I can buy an app in dollars using my rupee-denominated credit card.

Worse, even a single crypto-currency like ethereum fragmented, because the developers couldn't agree on whether to reverse the aforementioned hack. We now have Ethereum (ETH) and Ethereum Classic (ETC), which are now two different currencies, with different values. Someone who accepts one isn't guaranteed to accept the other.

Talking of fragmentation, there are more than 700 cryptocurrencies! Do the people behind the 700th one really think their currency has something unique to offer that the first 699 don't? Even if you were to look only at currencies with a market cap of $10 million or more, there are 52 of them!

This is a perennial problem with open-source, where too many people don't understand the value of unity, that their efforts will yield more fruit if put behind one of the market leaders in the space, rather than doing their own thing. Doing your own thing is fine if it's a radically different vision, say a multi-currency system like Ripple as compared to a single-currency system like Bitcoin. But most of the time, the new thing is different only in minor ways, which the founder may be passionate about, but nobody else cares about. The value of putting all your wood behind a few arrows exceeds that of a minor difference splitting the community. We don't need the 700th crypto-currency.

Fragmentation is particularly a problem for crypto-currencies, whose value derives entirely from network effects. Unlike, say, a text editor, In other words, I could theoretically use a text editor of which I'm the only user in the world, if it works better for me than the others. But I can't use a crypto-currency that no one else accepts. Fragmentation in crypto-currencies is even worse than fragmentation in text editors [2].

Moving on from fragmentation, some crypto-currencies like Bitcoin consume thousands of times more energy than a credit-card swipe. That's fine as long as they're niche, but they can't scale. And not just because of energy consumption but also due to other factors like blockchain size and increasing transaction fees. Bitcoin can handle only 7 transactions per second, because of a limit in the protocol, while Visa handles 2000 per second.

Then there are transaction charges, which are sometimes more than credit-card transactions.

Finally, Bitcoin has a toxic community and politics, with DDoS attacks against people who disagree on technical issues, and even death threats.

A major contributor to Bitcoin community says it has failed. Maybe that's true, maybe not, but when a prominent member says that, it should give you pause before rushing in to jump on the newest bandwagon.

The Gartner Hype Cycle

... says that when a new technology comes out, expectations get out of hand, leading to disillusionment when we compare reality with the rosy promises:

But eventually, we realise that the new technology has some use, even if it wasn't as much as was promised. We then reach a plateau of productivity, where we benefit from the technology, even if in a more modest way than was claimed.

Crypto-currencies now have inflated expectations. The reality is nowhere as good as promised. I do think they have significant long-term potential, but as with any new technology, we should be careful not to confuse long-term potential for today's reality. I won't be opening a crypto-currency wallet this year, and neither should most readers of this blog post.

[1] Even if for a small amount, like ₹1 lac, in India.

[2] Though the point still holds that, of the dozens of text editors that exist, the developers of the least popular ones would be better off contributing their efforts to one of the market leaders.

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