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Facebook’s recent announcement of its Libra “cryptocurrency” has drawn somewhat predictable criticisms that the move will allow an already-dominant firm to increase its control over the world’s commercial and social interactions. Signature Bank of New York Co-founder and Chairman Scott Shey proclaimed: “Allowing Facebook to mint its own coin, the Libra, would turn it into the greatest anti-competitive trust case in history. It would make the early 20th century Morgans or Rockefellers seem downright competitive.”
The Facebook furor, however, masks some interesting consolidation trends within the maturing cryptocurrency sector. Research presented at the Sixth Workshop on the Ostrom Workshop conference at Indiana University last week on the effective control of blockchain governance suggests that, despite their promise of democratic currency systems owned by no one, existing distributed ledger currency systems such as bitcoin and Ethereum might concern antitrust authorities due to their vulnerability to influence by concentrated interests.
Distributed ledgers, multiple nodes
The defining feature of cryptocurrencies such as bitcoin and Ethereum is their use of distributed ledger systems. These systems use common-pool software, complex incentives based on game theory, and cryptography to maintain multiple distributed copies of an “authoritative” ledger that is “tamper-resistant,” without relying on a single centralized authority controlling either the right to participate or to access ledger data.
The larger the number of “nodes” holding copies of both the ledger and the software used to update and validate ledger content, the more “distributed” the system is and, arguably, the less likely it is that a single node can appropriate effective control of the system. The software, which is common to all nodes, manages these processes.
Who controls the nodes?
However, a single real-world entity may exercise control of the system if it can assume governance control of a majority of nodes at low cost. Such control can be manifested by the coordinated nodes agreeing to “fork” by adopting a new software and thereby “defecting” to a new system. While many forks have occurred due to the ease of copying both the ledger and its open-source software, most forks fail because too few nodes coordinate to maintain a stable, valuable currency that end users wish to use. This creates a real “first-mover advantage” for “original” blockchain currencies such as bitcoin and Ethereum, precisely because successful forking is, if not unlikely, costly.
A high-profile fork occurred when Ethereum forked in 2016 into Ethereum and Ethereum Classic when the node-operating community disagreed about how to address one user expropriating a large quantity of ether by exploiting a weakness in an Ethereum platform application’s code. This fork was, however, costly (off the system) in regards to the amount of time spent by interested parties in debating the changes on various forums and in the loss of value of both Ethereum and Ethereum Classic.
Low-cost control could be achieved if, for example, one entity owns a majority or near majority of the nodes. Arguably, one such entity is the Chinese firm Bitmain. Through its manufacturing of specialized node-operating (mining) equipment designed to optimize bitcoin software operation, ownership of the large “mining pools” Antpool and BTC.com, leasing of access to third parties, and its large stake in ViaBTC, Bitmain already has the ability to exercise considerable influence. Bitmain has around 75 percent market share of mining equipment, and its affiliated mining pools accounted for nearly 50 percent of Bitcoin traffic in September 2018.
A further significant concern attends the number of nodes actively engaged in operating cryptocurrency systems. In cryptocurrency’s early days, system incentives embedded in the software encouraged node operators using “proof of work” puzzle-solving systems to agree on ledger content favoring node expansion. Hence, the number of active nodes is expected to grow.
However, as the system stabilizes over time, node operation can become standardized (fine-tuned to the software algorithms). Those nodes, able to operate more cheaply, have an advantage over those with higher costs. Inefficient node operators cannot compete and exit from the system, leaving only the more cost-effective operators in business. The number of active nodes can be expected to decrease. The very incentives embedded in the bitcoin system software have given rise to the opportunities that Bitmain has capitalized on, in both manufacturing and mining pool operation.
How many nodes are there now?
Evidence that significant node consolidation is occurring in both Bitcoin and Ethereum as they mature is clear in data from Coinmarketcap.com. On May 1, 2019, the site recorded 9,476 active Bitcoin nodes and 8,856 active Ethereum nodes. The respective numbers on January 9, 2019 were 10,226 and 10,078.
To put these numbers in perspective, it was estimated that on May 1 there were in excess of 20,000 separate copies of the Netflix video content library held on servers all over the world. This was driven by Netflix’s policy of enabling all internet service providers that serve more than a specified number of its customers to hold a copy of the library on their servers to improve Netflix’s content delivery performance.
Centralized control of decentralized nodes
Centrally issued software maintains the data integrity of both Netflix libraries and cryptocurrency ledgers. Those controlling the development of cryptocurrency software can exert control over those systems that, as shown in the above data, render them vulnerable to potential anticompetitive abuse. As such, antitrust authorities may be interested in more than just Facebook’s pending entry into the crypto sphere.
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