PART 1

If there is one thing I’ve learned that my study into the nascent blockchain market, it is that nobody knows how this all plays out. There is a lot of virtue signalling in this space as very bright (and dim) folks tousle it out in intellectual (and animalistic) debates on Twitter. What a time to be alive..

At best, we are taking the observed events over the last 11 years, making assessments on the viability to date and extrapolating that into the future to identify opportunities today. The reality of whether Bitcoin’s fixed supply Proof-of-Work issuance is sustainable, Ethereum’s Proof-of-Stake inflation leads to an oligarchy or Decred’s Hybrid governance system wins out, only time will tell.

 

It is a confusing and befuddling process which for me personally, has resulted in immeasurable flip-flops on so many concepts, so many times. I am very aware that I am still in the maze. That said, I have learned a lot along the way.

 

At this stage, the market has come to a conclusion that Bitcoin’s model is the most valuable, Ethereum is a faraway second and pretty much everything else is a science experiment. This results is many Bitcoiner’s claiming victory over the hill and planting a flag that will never be surpassed. They claim everyone else is wrong.

 

My opinion is that everyone is wrong, just some folks are less wrong than others.

Bitcoin is not perfect

Today I want to explore some of the realities that I see arising with Bitcoin’s model so as to pull the wool from our eyes and take a rational position. I almost succumbed to the Bitcoin only position until I found Decred and what it was solving that Bitcoin could not, the human voice side of the equation.

 

This forced me to question if all altcoins are indeed worth zero or if there is room for innovation in the space. There is no question that the vast majority of alt-coins are worth zero. But Bitcoin is not perfect, and that leaves room for competition.

 

Monetary Policy

Bitcoin’s most distinguished feature, its 21M supply cap and pure PoW issuance schedule. As the first piece of digital real-estate, bitcoins are likely to remain immensely valuable for the next decades. At minimum, bitcoins will revert back to collectors items and at best become a global reserve asset, a role once filled by Gold.

 

PoW energy Demand

 

Now a big difference between Gold and Bitcoin is that Gold does not require continual energy expenditure to keep it alive. It has the benefit of resistance to degradation and corrosion where as bitcoins require miners to continually burn energy to secure the network. This comes at the trade off of being censorable and difficult to verify.

 

Is this energy expenditure viable long term? At the moment I think yes as the efficiency gains over fiat currency are immense and Gold costs human life to extract which is a cost worth eliminating. However we must remember Bitcoins issuance schedule drops to below 1BTC at the 2032 halving (0.7825 BTC) and the fee rate will become increasingly important in sustaining miners costs.

 

Hasufly recently published a study indicating that ASIC hardware is actually the dominant cost associated with mining and in general, miners are ‘pre-purchasing’ two years of future bitcoin supply today to acquire this hardware. Technology needs to adapt to give ASICs a longer effective lifespan else competition will eat all profitability and security will be impacted.

 

The reality is we don’t know if the halvings coupled with PoW energy expenditure are actually Bitcoin’s greatest weakness yet. With climate change on the agenda, proof of work will be in the crosshairs despite all its technical merits for blockchain security.

 

At a minimum, I expect Bitcoin to be the dominant and only pure PoW chain. Any other chain needs to reduce its energy footprint and be able to adapt to market sentiment to compete. Thus is a bullish case for Decred’s Hybrid system and Ethereum’s PoS switch which are sane alternative bets (however not without trade-offs and experimentation).

 

Fees are getting expensive by Default

 

At the same time that fees become essential for sustaining miner subsidy, the dust limit will come creeping up. As I modelled for the 29 Sept RSC Newsletter, we could see dust limit fees in the realm of $20 to $500 as early as 2028 if Plan Bs model has any semblance of reality.

Figure 1 – Bitcoins dust limit in USD terms assuming Plan Bs model hold true.

This leads me to the conclusion that the vast majority of people in the world will never use Bitcoin on the base layer (which is not a bad thing). I expect most people will be onboarded and exist solely in Layer 2 and above protocols like lightning network or alternatives. Thus this technology stack needs to be developed quickly because the halvings are coming whether we like it or not.

 

The implication of this is that layers built above the protocol will be less secure and have their own trade-offs. For the purpose of sending coffee money, you do not require base layer security. Conversely, when buying a house, you want to be absolutely certain that no roll-back occurs on your funds. This will add complexity but is a natural limitation of decentralisation and high energy expenditure.

 

Network Governance

Bitcoin functions on a system of rough consensus where there is no formal mechanism to coordinate and reach an agreement at the human level. In one regard this is a strength in that it makes Bitcoin hard to change and reinforces the position of sound, untamperable money.

 

The flip side is that BCH, BSV and BTG are the result of factions forming with a different idea of consensus. People have disagreements all the time and if we assume that there will only be one winner, does that mean everyone else is wrong? Maybe but this ensures one thing is certain, people will fight and it will get messy.

 

The more money that gets locked up in Bitcoin, the less capable it is to change. This includes technological upgrades and adaptation to the future unforeseen challenges. There are a number of layers that make this system cumbersome and potentially dangerous:

 

Blind Trust of Bitcoin Core

How many of you have actively participated in deciding whether an upgrade to Bitcoin was valid or contained code you agreed with? Buy upgrading your node, you are voting for whatever the change is. Now how many of you have any idea what is actually in that code update?

 

Bitcoin core developers are some of the smartest people on earth but this is balanced by the fact that very few can properly audit the codebase. The developers are still people and they a) make mistakes and b) have a price and pain threshold. The reality of the matter is that we trust the 5 of 6 people who have write access to the Bitcoin core repository with all of our savings.

 

To paint a grim scene, how many of those developers have the skin to deal with threats to their or their families safety? Would they import whatever code necessary to prevent a criminal organisation or nation state bringing harm? As Bitcoin grows, these people become targets.

 

Motivation of capital

More and more organisations are entering the space of funding Bitcoin developers. Sure, it could be good will and a desire to profit from the explosion of the asset into a financial product. But they also want to make as much money as possible. Given Bitcoin is a public asset, it relies solely on people and organisations donating time and resources.

 

Blockstream is an example that is heavily tied to the Bitcoin Core developers and is backed by a number of venture capitalists. How much say do those VCs have over the direction of protocol development? Who could stop them if they have enough write access keys to the repository? You can see very quickly that yes, we may not update our nodes, but we also are powerless to prevent code we cannot understand from entering circulation.