Ideasroom

Why you should care about blockchain

If we want financial systems that are open and borderless, controlled by people and not centralised institutions, then blockchain has the answers, writes the University of Auckland's Dr Cristiano Bellavitis

This year Facebook’s new global payment initiative, the Libra Project is due to start, with interesting implications. This new virtual currency will utilise blockchain technology and join already existing cryptocurrencies like Bitcoin.

You may well ask why the average person should care about blockchain and its applications such as cryptocurrency? After all it is just technology used to facilitate an alternative medium of exchange to money.

To quote the old cliché – money makes the world go round – but unlike money that's controlled by banks and governments, cryptocurrencies that use blockchain technology, such as Bitcoin, are intended as a decentralised system of exchange open to all. Theoretically, this type of voluntary exchange enables new global economic freedoms, detached from traditional institutions that control the supply and flow of money. So far, so good.


Blockchain technology was invented to advance this economic freedom by allowing peer-to-peer transactions without the need for the old centralised institutions. The theory is that by reducing the involvement of centralised institutions, transaction costs are reduced, and no one is excluded from participating.  

Blockchain is a leaderless, borderless system that can eliminate the rich and powerful from having complete control. Bitcoin users create a money supply using a computational system which enables them to pay for goods online to someone who has a Bitcoin wallet. In two small steps: money is created without a central bank; money flows and we have commerce without banks.

Having said this, Bitcoin is not particularly useful as a transaction mechanism. It is considered slow and expensive. Over the years, other cryptocurrencies have emerged. New cryptocurrencies such as Ethereum or Ripple are faster, can handle more transaction, and with lower transaction costs.

Whether this system will ever be scaled up and allowed by governments is another matter, but it is technically possible.

However, despite these technical capabilities, there are other factors that could limit blockchain-based decentralised finance. These limits concern the nature of decentralised platforms and trust. Decentralised finance can lack accountability as it is unclear who should be held accountable for the wrongdoings on a decentralised financial ecosystem. Additionally, decentralised finance tends to rely primarily on the rule of code rather than human judgments. In short, there are ongoing issues related to fraud, volatility, usability, and regulatory uncertainty and these must be addresses if decentralised finance is going to succeed.

For example, a healthy ecosystem must be created that encourages responsible innovation and guards rigorously against fraud. It must also create stability which is currently being achieved by stablecoins which are pegged to fiat currencies – that is, currencies which are backed by the issuing government. The New Zealand dollar is a fiat currency, as is the US dollar, UK pound, euro and most major world currencies. A healthy system must also be user-centric, giving users control, choices and flexibility that hasn’t always existed in previous systems. 

Further, to expand into the mainstream, a clear regulatory framework that supports responsible innovation is needed. The current regulatory uncertainty and scrutiny deters entrepreneurship and innovation. For example, regulatory scrutiny was so intense while Facebook was developing its cryptocurrency that some corporate partners withdrew their support.

Which leads us nicely back to Facebook’s Libra and raises the question: Does Libra offer any fundamental difference from standard cryptocurrency versions like Bitcoin? Well the main difference is this – where Bitcoin is a community-controlled cryptocurrency, Libra will be run by the Libra Association, a group largely comprised of a consortium of global companies.

Now this seems to be a trend away from the original dogma of cryptocurrencies, i.e. moving from decentralised to more centralised entities, so appears to reduce the original idea. However, having companies being able to operate independent monetary chains, still reduces the power of central banks and banks.

Enthusiasts argue that Facebook’s new cryptocurrency Libra can dramatically lower the cost of digital payments, but sceptics contend that it may allow Facebook and other large corporations, to gain too much control over our financial lives. There are also concerns about privacy issues.

Together with Dr Yan Chen, Assistant Professor from the Stevens Institute of Technology, I produced a paper, Blockchain Disruption and Decentralized Finance: The Rise of Decentralized Business Models that analyses the potential and limitations of blockchain.

And although Libra might not appeal to everyone, cryptocurrencies still have a lot to offer: If we really want financial systems that are open and borderless, controlled by people and not centralised institutions, then blockchain technology, even with its limits, has the answers.

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