Do People Really Care about Decentralization?
Decentralization is the number one keyword in the cryptocurrency ecosystem, but how many people actually care about it? Is it really that important if a blockchain is decentralized?
In this article we’ll sort out fact from fiction and answer the question once and for all, does decentralization matter?
What Does Decentralization Mean?
Decentralization means that a network is not controlled by a single person, corporation or organization. PayPal is a good example of a network that’s not decentralized. The PayPal company has complete control over everything that happens on their network. They can freeze accounts, stop users from accessing their money and even reverse transactions.
Another problem with a centralized network is that the company isn’t the only entity that can control what happens, governments also have control. Government agencies like the FBI have the legal authority to force PayPal to freeze a user’s account and/or seize his or her money.
With a centralized network the user must trust the company or organization in control. Can you trust PayPal? For the most part, yes. However, a decentralized blockchain can offer a lot of benefits that PayPal can’t.
On a decentralized network no single user or company has control. Nobody can reverse a transaction on Bitcoin, or stop someone from accessing their Ethereum account. The FBI cannot force the Bitcoin network to seize a user’s BTC.
Decentralization means network control is divided between multiple people and organizations. In the case of Bitcoin, the world’s most decentralized internet blockchain, network control is split between miners and developers. No group has complete control and making changes to the network requires widespread consensus.
The Problem with Decentralization
Even though decentralization is a good thing, a few problems are associated with having a decentralized internet blockchain.
Scalability is the largest problem with a decentralized blockchain. Decentralized networks are famously difficult to scale. That’s why Bitcoin is the most decentralized blockchain and it can only clear about 7 transactions per second (TPS). A blockchain like Ripple XRP, which is more centralized than Bitcoin, can clear hundreds or thousands of transactions per second.
Ethereum is another great example of a decentralized internet blockchain with huge scaling problems. A lot of people want to use Ethereum but the network can only clear about 15 TPS. High demand plus low supply means high transaction fees.
Recently the fees have gotten so bad on Ethereum that sending a regular transaction can cost as much as $20. Doing an asset swap on Uniswap can cost as much as $100 during periods of peak demand. Due to these high fees, some applications have started migrating to other blockchains like Tezos and Polkadot, which are more scalable.
So if it’s difficult for a decentralized blockchain to scale, we have to ask: is decentralization worth it?
Is Decentralization Worth it?
Decentralization is like a premium product that may, or may not be worth paying for. For some users decentralization can be very important. As mentioned, on a decentralized blockchain like Bitcoin, no person has control and just as importantly, no government.
It might sound paranoid to think that a government can take your money, but it’s not paranoid to think that if you live in Argentina. The Argentinian government took over the bank accounts of their citizens and millions of people lost money. If you live in Argentina you probably only want to use decentralized blockchains that offer the most security and protection against seizure.
Having money that the government can’t seize is a good example of why decentralization matters. Gaming is an example of an application where decentralization is not very important.
Within the next five years there’s going to be a cryptocurrency that’s widely used in video games. Instead of having different types of in-game money, all of the platforms will use the same cryptocurrency.
The most important feature for an in-game cryptocurrency won’t be decentralization, it will be scalability and fast transactions. This crypto will need to clear thousands, or even tens of thousands of transactions per second. Decentralization won’t be that important because most people only keep $20 or $50 worth of money in an in-game currency, not $10,000 or $10,000,000.
When it comes to storing large amounts of wealth in a cryptocurrency, decentralization really matters. For other applications it’s just not that important.
How much is decentralization worth?
Decentralization is worth whatever the market decides it’s worth. At the moment the market is telling us that decentralization is important. That’s why Bitcoin is worth more than all of the other cryptocurrencies combined.
In the future this could change, and other features could become more important. If the market decided that scalability is the most desirable feature, a blockchain like EOS could gain market share while money flows out of Bitcoin.
What premium would you pay?
Ethereum users are willing to pay huge premiums to use Uniswap, which is still the number one generator of transaction fees on Ethereum. Even though a trade on Uniswap can cost $50 or $100, some users are willing to pay the fee. However, it’s unclear how much longer they’ll be willing to do so.
SushiSwap has set up a new version of its exchange on Binance’s Smart Chain (BSC), where the transaction fees are significantly cheaper. Other DeFi protocols may also begin to migrate to less decentralized, more scalable blockchains if Ethereum can’t scale soon enough. As always, the market determines what premium decentralization is worth.
Decentralization and the Legal System
Decentralization can also be important from a legal point of view, especially in the United States. Bitcoin and Ethereum are largely exempt from regulatory pressure because they’re decentralized and not controlled by any one person. As the joke goes, you can’t force the Bitcoin CEO to testify in front of Congress.
Centralized blockchains are different. Case in point: Ripple XRP. The SEC has set up a multi-billion dollar lawsuit against Ripple, claiming that they’ve been selling XRP as an unregistered security.
Even though Ripple claims that XRP is decentralized, it’s a tough argument to make. Ripple owns billions of dollars’ worth of XRP and the company controls who can run a node on the network. For anyone asking does decentralization matter? It definitely matters if you don’t want to get on the wrong side of American regulators.
Legal attacks are also a reason why more projects are choosing to remain anonymous. Developers are not revealing their identities since they don’t want to be charged by regulators in the future.
This actually raises an interesting question: can an American regulator sue a developer who creates a financial product like an exchange? A decentralized exchange (DEX) like Uniswap is nothing more than a smart contract running on Ethereum. What kind of legal protection does a developer have?
These are questions that we haven’t figured out yet. For the most part the United States government appears woefully unaware of blockchain technology and how it works. That could change in the future though, and if American regulators really start going after crypto coins it will be the decentralized blockchains that are best prepared to handle that threat.
The Decentralized Blockchain
Does decentralization matter?
Having a decentralized internet blockchain matters for several reasons. The most obvious reason that decentralization matters is that it protects the blockchain user. For a government or corporation to steal your Bitcoin they would have to compromise the entire network.
Taking over Bitcoin would require a significant amount of effort and months, if not years of planning. Compare that to PayPal. The FBI can get an order from the judge in the morning, deliver it to PayPal headquarters at lunch and PayPal will freeze your account before dinner.
Decentralization also matters since it means that no single person or organization can change the rules of a blockchain. For example, according to Bitcoin’s code there will only ever be 21 million BTC.
Changing that hard cap limit would require consensus between all of the important Bitcoin developers and miners. The likelihood of getting everyone to agree to the change is almost zero.
In some situations decentralization really matters, and in other situations it’s just not that important. Everyone can choose which blockchains they use, and whether they want to pay higher transaction fees to use the most decentralized cryptocurrencies.
This content is for informational purposes only and is not investment advice. You should consult a qualified licensed advisor before engaging in any transaction.