Blockchain is supposed to be trustless, meaning that it does not require a third party, such as a bank, to validate payments and other asset transfers. As Satoshi Nakamoto, the creator (or creators) of bitcoin, which effectively launched blockchain technology, said: “We have proposed a system for electronic transactions without relying on trust.”
Did Nakamoto succeed? No. Blockchain changes the loci of trust but not the need for trust.
Let me explain why and give some evidence.
What are the technologies in question?
I will focus on two technologies. One is blockchain itself. For those unfamiliar with the technology, AEI provides a quick tutorial here.
The second technology is smart contracts, which are software that execute actions, such as transfers of money or other assets, (although they could do other things) based on triggers. For example, your credit card could be automatically charged for a hotel room stay when you use an electronic key to enter the room. Smart contracts aren’t smart — there is no learning or thinking going on — nor are they contracts in the common use of the term: They don’t necessarily have all the elements of a contract, including offer, acceptance, a legally binding agreement to perform a legal act, an exchange of things of value, and parties of legal capacity (e.g., not minors).
Why not trust the technologies?
They are not easily understandable to the general public. For example, according to bitcoin’s website, one of the reasons people are supposed to trust bitcoin’s blockchain is: “The Bitcoin protocol and software are published openly and any developer around the world can review the code or make their own modified version of the Bitcoin software.”
But for this openness to be useful, users either have to understand the coding or trust the coders. Here is a bitcoin coding change from the week of July 30, 2018:
If Gilda Radner’s “Saturday Night Live” character Emily Litella tried to verify this, I am sure she would quickly say, “Never mind.” Most of us are left with either trusting the coders or distrusting bitcoin. (The above isn’t the complete change, but you get the point.)
Many blockchains have been found to be faulty
A recent study of the 50 top-grossing initial coin offerings (ICOs) highlighted the need to trust coders. The researchers analyzed “how such projects’ software code reflected (or failed to reflect) their contractual promises. [Their] inquiry reveals that many ICOs failed even to promise that they would protect investors against insider self-dealing. Fewer still manifested such contracts in code.”
How far off was real code from what the ICOs promised? For vesting requirements — which are intended to protect investors from the threat of founders deserting the enterprise — of the 30 ICOs that made promises about vesting, only seven actually included the promises in the computer code.
Are some blockchains inherently untrustworthy?
Some probably are. Imagine if Venezuela successfully launches its state-issued digital currency, the petro, or if China goes entirely crypto as some suspect will happen. Some observers believe the petro is a scam. Both of these countries score near the bottom of Freedom House’s political freedom index. What would keep them from using their blockchains to track everyone’s economic activity? It would be perhaps one of the greatest ironies in history if blockchain — which was created in part to reduce or eliminate government controls — becomes an instrument of choice for authoritarian regimes.
Is blockchain bad?
Absolutely not. The technology has many beneficial applications, such as bringing the unbanked into modern economies, distributing aid to refugees, managing inventories and transactions, and managing elections. But it needs trustworthy governance. For example, businesses in this space should develop standards of conduct and ways to enforce them. And businesses should standardize some aspects of the technologies. This would lower development and verification costs.