In February 2015, Chris Skinner coined the term Value Web: “We are now seeing that digital currency emerge to enable the ValueWeb: an internet where value can be exchanged anywhere, anytime by anyone.” The post was a look beyond a traditional understanding of fintech as the digitization of finance and toward a more nuanced view of all assets as digital assets.
In other words, it’s not about creating a digital layer for the economic world; it’s about creating an economic layer for the digital one. It’s a world where the value we already place on things – experiences, relationships, papers, things, fiat money – can be reflected in a digital currency of some kind and that value can be transacted. That digital currency is none other than a cryptocurrency.
Several papers over the past couple months have explored this topic, and here, we do a quick lap through them as weekend food for thought.
In late 2015, Evry dives straight into the Value Web. They propose a basic framework for how blockchain uses are coalescing into different market applications. The most straightforward application of a blockchain is a cryptocurrency, but Evry argues that it’s not the most sophisticated or transformative. In addition, blockchains also enable:
- Value Registry: blockchain as shared ledger for physical assets (like Factom)
- Value Ecosystem: blockchain as a general platform, with features to support applications that are yet unimagined (like Ethereum)
- Value Web: blockchains used for the exchange of any financial assets
(note: the framework is a little confusing, because use cases of value registries and value ecosystems have clear value web applications, but using this framework, Evry can make the case that the value web is more important than the others–and Evry’s core markets include IT and financial services)
“blockchains make third parties powerless and irrelevant. Third parties cost money to first and second parties. And our modern financial system is rife with third parties.”
Regarding the value web, they discuss five use cases, all of which relate directly to financial services: Smart contracts simply make contractual relationships “more efficient, cost-effective, and transparent.” Blockchains can facilitate domestic and international payments enabling by removing the need for intermediary banks and liquidity providers and broadly cleaning up how trades get settled. They facilitate trade finance by automating the relationship between goods movement and payments for goods movement. They can facilitate capital markets by automating many custodian services involved in asset issuance and trade.
Reading between the lines, the point they make is that fundamentally, blockchains make third parties powerless and irrelevant. Third parties cost money to first and second parties. And our modern financial system is rife with third parties.
Just this week, the BitFury Group just released a great overview of how blockchains can be used to manage digital assets. The paper, entitled Digital Assets on Public Blockchains, is dense but rewarding to the dedicated reader.
They start with why digital asset management would benefit from a blockchain in the first place:
- impossible to counterfeit
- ease of transfer and rendering intermediaries
- transparency and ease of auditing
- no overhead related to transaction processing
- network effect brought by the unified infrastructure for multiple types of tokens.
They note that different types of blockchains could serve these purposes, but permissionless public blockchains offer the most potential for creating a ubiquitous infrastructure for the Internet of Value. Meanwhile “private blockchains could retain reliance on trusted third parties for basic operations, thus limiting their innovative potential.” It’s an important insight, because most use cases for blockchains in modern finance are permissioned and/or private.
“blockchains could transform asset transfer in the same way the Internet has transformed data transfer.”
Today, the most secure (in terms of hashpower) permissionless, public blockchain is Bitcoin, and they focus their discussion on how digital assets be managed from it.
They provide a helpful overview of different ways assets could be tied to the bitcoin blockchain (stay tuned for a deeper dissection of these concepts).
- Asset-specific blockchains that are merge-mined with the bitcoin blockchain.
- Colored coin protocols that associate specific assets with specific bitcoins and need custom protocols for verifying whether transactions are valid (since the bitcoin system can only verify whether a bitcoin transaction is valid, not whether the transaction of a non-bitcoin asset is valid).
- Metacoin protocols which use a middleware layer of protocols to link assets to coins (like colored coins) but also manage the assets themselves (such as unique rules for verifying transactions for special types of assets). This solves the problem of just coloring coins and needing to build a custom protocol for verification, though it does introduce a new layer of intermediation.
- Multi-asset blockchains that are merge-mined with the bitcoin blockchain.
- Smart contracts, which maintain a separate ledger of ownership that draws from the blockchain but is needed to independently verify transaction validity.
The report then provides some examples of how these approaches are collectively forming the basis for an Internet of Value. It concludes: “blockchains could transform asset transfer in the same way the Internet has transformed data transfer.”
Both reports are worth reading. In different ways, they raise two issues about digital assets.
First, there remains a fundamental challenge to a blockchain-enabled value web for all types of goods: proof-of-ownership doesn’t guarantee actual ability to use a good unless physical access can be encrypted. If I sell proof of ownership of my car to someone in another state, that doesn’t necessarily mean the other person can then start driving and I can’t. That would require a mechanism of enforcement a blockchain itself doesn’t give. Encrypting access to the car though, would take us one step closer to a world where anything can be exchanged.
Second, if a public, permissionless blockchain will be the foundation for our modern finance system, we collectively need a way to debate and decide on its future. Bitcoin, still mired in the block size debate that has been well known for a year, is not an inspiring case study. This is a topic we at Smith + Crown will be exploring in depth in the coming weeks.