This post is syndicated from rubin.io.
Welcome to day 2 of my Bitcoin Advent Calendar. You can see an index of all the posts here or subscribe at judica.org/join to get new posts in your inbox
This is the first of four posts in an advent mini-series about four fundamental pillars of Bitcoin. I know, I know, a series within a series. What am I, nuts? But it’s important that we begin our journey by setting the stage with a few big picture objectives for Bitcoin before we get into why Smart Contracts matter.
After all, we’re trying to build the hardest money possible, not Crypto Kitties… right?
The four pillars I’ve chosen to focus on are Scalability, Self Custody, Decentralization, and Privacy. Are there other properties that are also important? Sure. Might there be a “more fundamental” name for each pillar? Ok. But generally I find that these 4 categories are different enough from one another and capture a very wide swath of what Bitcoin is and not overly specific or overly general. Otherwise we’d just have one pillar for Bitcoin: “To Fix This”.
Now onto the content.
Scalability is a controversy generating issue. Throughout Bitcoin’s history there have been acerbic disagreements about what sort of scale is required and how to accomplish it. Back then I even helped create a conference series, Scaling Bitcoin, where people got to present to/shout at each other in person!
But why is scalability so important? And why does it generate controversy?
Famously, certain folks have remarked that, “you can’t buy coffee with Bitcoin” because fees would be too high. This is an issue that’s easy to empathize with; if transactions cost $10 who wants to do that for a $5 coffee – No One!
The common response is that Bitcoin isn’t for trivial purposes like buying a cup of coffee, it’s The Hardest And Most Sound Money To Ever Exist And If You Buy Coffee With It You Are Stupid.
There’s some truth to that. Bitcoin doesn’t need to function to enable your trivial day to day purchases, it needs to exist to help you take self-sovereign control over your money! Forget about your coffee, stack sats, survive hyperinflation, avoid the pod, don’t eat the bugs. Capiche?
So what’s the rub? Well, if Bitcoin is to really be the vaccine against autocratic rulers and corrupt financial systems, it needs to protect everyone, not just elite sat-stackers who can afford to use it. Scalability represents our desire for Bitcoin to be affordable for all who could benefit from it. Many who live under abusive or corrupt regimes today might already be priced out. Imagine earning 1000 satoshis per day and spending 300 satoshis to do a transaction. Real bummer. And what if fees go up? There’s also the insulting concept of dust in Bitcoin, 546 satoshis, currently about $0.30. Some people work hard just to earn that much! Where do you think people who fall on this low end of the economic spectrum live… in the freest of the free western countries? No, they’re Congolese children mining cobalt. Maybe it’s OK that they’re priced out: Bitcoin preserves wealth (and freedom), it doesn’t create it. And just having cheaper fees isn’t going to free the child workers. But still, wouldn’t you rather have Bitcoin be able to benefit anyone who might have the need to use it, regardless of net worth?
Good news: there are techniques that exist today for scaling access to Bitcoin. Bad news: they all have different tradeoffs.
Early on in Bitcoin’s history a contingency of Bitcoiners felt strongly that Bitcoin should scale by increasing the size of Blocks to accommodate more transactions per second and keeping fees low. While mild block size increases (e.g., as done with SegWit) are probably ok, the ever-increasing block size would threaten Bitcoin’s decentralization and make it harder for anyone to be able to run and audit the system. And if you can’t run and audit Bitcoin yourself, you might as well be using the legacy financial system.
There are some efficiency improvements that can shrink transactions marginally, contributing to an effectively larger block. But Blockspace will always be scarce, no matter how space efficient transactions are.
The Lightning Network is a very popular means of scaling bitcoin. It makes a second layer on top of Bitcoin where you can make cheaper and lower latency payments. It functions sort of like the equivalent of Venmo versus Bank Wire Transfers. You set up a “payment channel” with a counterparty, and are able to make many cheap payments between you and the counterparty. You can even route payments through friend’s channels if you don’t have a direct link. A few major downsides to this approach are as follows:
In countries like El Salvador, which have begun adopting Bitcoin as legal tender, many users of the Lightning Network are doing so through a centralized service provider which doesn’t protect users from the types of abuse possible in current banking paradigms. In theory, this central service provider isn’t there because the El Salvador government is some kind of soon-to-be dictatorship, but rather because solving the problems of capital loan, regular online presence, and durable storage are hard problems for citizens of a poor country.
Another popular approach is to make federated sidechains, such as RootStock, Liquid, Nomic, or ThorChain, etc. A Federated Sidechain is essentially a “fancy multisig”, where funds are sent into the custody of a set of entities (usually such that many independent entities would have to collude to steal funds). The federation then runs some sort of cryptocurrency backed by the deposits. Users are granted virtual bitcoin on the sidechain which they can use in accordance with the rules of the sidechain. Eventually they may request that whatever balance they have on the sidechain be sent out of the sidechain and into a normal bitcoin address of their choosing. This achieves a sort of scalability because the base layer does not have to validate or store any of the transactions occurring on the sidechain. However, the tradeoff is severe: the funds are completely owned by the Federation, which means that users are not guaranteed to be able to access their funds. It’s basically a bank with a cool API.
This post doesn’t end in a fun or upbeat way: we want everyone to be able to access and benefit from Bitcoin; we can’t get everyone for access in the obvious way of bigger blocks or we risk unravelling Bitcoin’s core guarantees; and the solutions using layers on top of bitcoin reduce some of the core properties that make Bitcoin valuable to society in the first place. Some of these tradeoffs may be acceptable in certain cases, but we must always strive to support the most users with the strongest Hard Money properties we can.
In future posts we’ll see how more sophisticated smart contracts could improve Bitcoin’s scalability, or at least provide a different set of tradeoffs compared to the solutions above.