DIGITAL CURRENCY DEEP DIVE: HEY WHO’S IN CHARGE AROUND HERE?

By David S. Evans on May 12, 2014

Introduction:  Remember the day when a coin was just a bothersome piece of metal that you were happy to toss in the tip jar to benefit the underpaid baristas at your local coffee shop? Well no more. Now a coin might be worth more than many people make in a week. Over the next few weeks Economist David Evans will be taking a deeper look at bitcoin“why it is so special, whether it can provide stable value for investors and if it has a future far beyond its embryonic phases as a digital currency.

Missed the first two edition? Don’t worry, you can read the first installment of the Digital Currency Deep Dive: What Makes Bitcoin So Special here, and It’s The Protocol Stupid here You can also get a look at Dr. Evans’ technical paper on his  SSRN page here.

Ok, this is a pop quiz.  Check off all the correct answers to the question, Who’s in charge at Bitcoin?

  • No one
  • Your Uncle Bob
  • The Bitcoin Foundation
  • Karen Webster
  • Satoshi Nakamoto
  • Every bitcoiner

Keep reading to find out the correct answer.

The fact that this isn’t a stupid question, with nonsensical answers, is the subject of the piece today.   The decentralized public ledger platforms aren’t like anything you have ever seen in financial services.

Most of the bitcoinesque currencies are run as open source projects.  That method of organization and governance has proven its success, but also shown its weaknesses in the software world.

The Open Source Revolution

Open source projects have lead to several massively successful software products.

More than half of smartphones use an open source software platform”Android.  In fact a survey last year found that more than 80 percent of smartphones shipped used Android.  Like all open source code Android is free.  Any smartphone manufacturer can download the code and use it.  No license fees or anything. Not only that, after they have downloaded it smartphone makers can customize the software platform so that their version of Android is different from other smartphone makers.  Android has helped promote competition in smart phones and has been especially important in making the entry of low-priced smart phone manufacturers possible.

Android, in turn, is based on the biggest open source hit of all time. It uses the Linux kernel which started as a small operating system written in 1991 by Linus Torvalds while he was a student at University of Helsinki.  Linux turned into a global collaboration that resulted in a powerful software platform, a boon to many cash-strapped Internet companies, and one of the first major headaches for Microsoft.

And there are other very successful open source projects.  All of them are based on global collaborations of developers. These developers find bugs and fix them and write extensions to the software.  The software grows and improves over time as a result.

Herding The Cats

These projects don’t just run themselves though.

In theory they could be completely decentralized. Different people make changes to the software. People decide whether or not to use it. And the version of the software that most people have agreed to becomes more widely used.

In fact the people behind these projects have generally imposed some structure on this.  Often there is a hierarchy of developers and someone at the top of the pyramid approves whether software code gets included in the standard version. That doesn’t prevent anyone from going off on their own but it basically establishes some authority over the process.

It turns out that there is a great real of diversity in how these projects get run. Charles Schweik and Robert English did a survey of more than 100,000 open source projects that use SourceForge to organize the collaboration among developers. Basically, if you want to organize an open source project you can go to SourceForge, say what the objectives are, post code, identify core developers, and use it as a hub for the collaboration.

They find that many open source projects involve a small number of developers. The members of the club basically agree among themselves. There really isn’t a massive number of others involved.  The cats herd themselves. No problem.

Most of the large successful projects, though, tend to have a benevolent dictator. There’s someone who is basically in charge.  That could be a person or there could be a firm that is behind the project.

Linux is a great example.  Not because he necessarily wanted the job but, by popular demand, Linux Torvalds has become the Benevolent Dictator of the Linux Empire.  The Linux Foundation, which has a lot of corporate money behind it, employs Linux. He steers the software platform.  By all accounts if you were going to choose a benevolent dictator, this low-key non-egotistical Finn would be the guy.

Then there’s Android. Now this is a more complicated story. The Open Handset Alliance is behind this but Google is behind that. The search giant invests money in Android and helps steer the global collaboration. As with all open source projects, Google’s ability to control the code is limited. If someone wants to take the code in their own direction it can’t prevent that. But, that aside, Google is more or less running the show here.

There are other examples like this.

A multitude of open source projects, however, don’t have much in the way or organization. And in part that has led to many open source projects being abandoned after they get started. People lose interest or lack the time to really push it.  Anyone who has been part of a group of volunteers knows the score.

Not the Finest Open Source Hour

Then there are other ones that muddle along with a small group of volunteers. That brings us to the famous Heartbleed Bug Debacle.

OpenSSL is an open source security protocol for the Internet.  It is pretty much used everywhere and the basic code that websites rely on for security. Hundreds of thousands of web servers rely on it as do lots of products. In fact many multi-billion market cap tech companies depend on it.

But it basically consists of a small group of developers”about a dozen”that work on it in their spare time as volunteers.  One of those volunteers made a boo-boo that resulted in the bug that has cost websites lots of money fixing and has exposed just about everyone to having their passwords stolen (and that’s just the start of this debacle).

Governing the Digital Currency Public Ledgers

The bitcoinesque currencies are mainly organized as open-source projects.  For most of them the code is available under an open-source license, there’s an open-source project listed on SourceForge, there’s a core developer team, and there is at least the opportunity for developers around to world to collaborate on it.  It is possible for developers to take the code and run off in a different direction. Litecoin, for example, is a forked version of the bitcoin code and particularly of the protocol.  The bitcoin open source project, for example, is organized here and like many larger open source projects has a foundation that employs some people to help drive the initiative.

The bitcoinesque open source projects are, however, much more complicated endeavors than anyone has tried before.  Open source projects are typically about developing software code. As I mentioned last week the digital currency public ledger platforms need to operate an incentive system to conduct all of the verification and recording work on the public ledger and to operate the peer-to-peer network of computers.  Moreover, as we have seen a number of complementary businesses have emerged to support these currencies”such as exchanges”that raise their own set of issues.

Despite this added complexity”I dare to say exponentially greater complexity”the bitcoinesque currencies at this point in time have primitive systems of governance.  More like your local soccer club than like Facebook.

Bitcoin is the best example in part because it is the oldest and by far the largest of these new platforms.

It had a natural candidate for a benevolent dictator it would seem.  Satoshi Nakamoto whoever he or she may be is sort of the Linus Torvalds of bitcoin.  But, very oddly, Satoshi has chosen to remain anonymous and take no leadership role at all.

To the extent there’s a governance structure it consists of the core group of developers and the five-member board of directors at the Bitcoin Foundation. So far that has been a strange story too. One of the board members was arrested for money laundering and stepped down. Another, was the disgraced founder of Mt. Gox who did the same.  The Bitcoin Foundation has opened elections for fill these two slots but so far no one has garnered the required 52 votes.

Based on the Schweik and English work, one would not be terribly optimistic that this sort of organization could successfully govern a large open source software project.  That’s even before we get into the rather inauspicious start of the foundation itself.  There’s certainly no basis in the history of open source to believe that this level of organization is going to manage a global financial services platform.

Time to Herd the Cats

Of course things can change.

One possibility is to pursue an entirely different model than bitcoin. Ripple is basically a company that is relying on elements of open source to operate a for-profit public ledger.  Unlike Google it has basically started with a for-profit project and then opened it up to open source while keeping it under fairly tight corporate control.  Android has been successful in part because it started as and has been run as a true open source project which Google hopes to benefit from but has rather limited control over.

Alternatively VCs and some of the successful digital currency platform businesses could start pouring money into foundations and try impose structure.

The other thing we know from Schweik and English though is open source programmers”and perhaps this would be true of the bitcoin miners as well”are a persnickety lot.  They don’t like to be bossed around. The benevolent dictator works when he or she has the respect of the community. Hard to buy respect though.

To me, this is one of the major challenges the decentralized public ledger platforms have to crack if they are to have any hope of developing successful financial services alternatives.  As we have already seen with bitcoin there are many issues”from defects in the source code to the incentive system to controlling bad actors to dealing with regulators”that will need to be sorted out. As the ecosystem grow these problems become greater, more complex, and more time sensitive.

It is naïve to think that a decentralized collaborative community is going to solve them.  We know that won’t work because it largely hasn’t worked in the 30 plus year history of the free software movement and it generally isn’t how successful projects have decided to organize themselves.

The bitcoinesque currencies need a firm governance structure to guide them forward.  If that isn’t a benevolent dictator it will need to be some other structure that impose rules and regulations on the ecosystem, adjust incentive schemes as need be, and mobilize resources to fix problems when they arise.

Now, if it turned out the Linus Torvalds was really Satoshi Nakamoto, and agreed to jump from Linux to bitcoin, then I might get out of pork bellies and into bitcoins.

By the way, you get an A+ if you checked off (1) no one; (6) everyone; and (3) the bitcoin foundation. All of those answers could be true”at the same time!”given how open source projects are governed.  You don’t get credit for (2) Uncle Bob or (4) Karen Webster unless you know something I don’t which could very well be.

About the Author

Name
David S. Evans
Title/Location
Chairman, Boston
Phone
617-320-8933
Expertise
Antitrust/Competition Policy, Labor and Discrimination, Financial Regulation