The Bitcoin Standard: The Decentralized Alternative to Central Banking

by Saifedean Ammous

Bitcoin network is not just that attacking it has become expensive, but that the attack succeeding renders the attacker's loot worthless.

This immutability is not a feature of the Bitcoin software, which is trivial to change for anyone with coding skills, but rather is grounded in the economics of the currency and network, and stems from the difficulty of getting every member of the network to adopt the same changes to the software.

Over time, hundreds of computer programmers from around the world have volunteered their time to improve the node software and in the process improve the capabilities of individual nodes. These coders have formed several different implementations, the largest and most popular of which is known as “Bitcoin Core.” Several other implementations exist, and users are free to alter the source code at any point. The only requirement for a node to be a part of the network is that it follows the consensus rules of the other nodes. Nodes which break the consensus rules by altering the structure of the chain, the validity of the transaction, the block reward, or any one of many other parameters in the system end up having their transactions rejected by the rest of the nodes.

The key to running an implementation that gets adopted has proven to be the adherence to the parameters of the original design. To the extent that changes have been made to the software, these changes can be best understood as improvements to the way in which an individual node interacts with the network, but not alterations to the Bitcoin network or its consensus rules.

Any individual coder, miner, or node operator is dispensable to the network.

It is only because of this stable equilibrium that Bitcoin can be considered hard money. Should Bitcoin deviate from these consensus rules its value proposition as hard money would be seriously compromised.

The problem with deciding to go onto a fork is that the only way to help it succeed is by selling your coins on the old chain. Nobody wants to sell their coins on the old network to move to the new network, only to find that not everybody moved and the value of the coins on the new network collapses.

For instance, an edit to increase the issuance rate of the currency to raise the coins that reward miners might appeal to miners, but it would not appeal to current holders, and so they are unlikely to go with such a proposal.

Similarly, an edit to increase the size of the Bitcoin network blocks would likely benefit miners by allowing them to run more transactions per block and possibly collect more transaction fees to maximize return on their investment in their mining equipment. But it would likely not appeal to long‐term holders of Bitcoin, who would worry that larger blocks would cause the size of the blockchain to grow much bigger, and thus make running a full node more expensive, thereby dropping the number of nodes in the network, making the network more centralized and thus more vulnerable to attack.

The coders who develop software to run Bitcoin nodes are powerless to impose changes on anybody; all they can do is propose code, and users are free to download whichever code and version they like. Any code that is compatible with the existing implementations will be far more likely to be downloaded than any code that is not compatible, beca...

As a result, Bitcoin exhibits extremely strong status‐quo bias. Only minor and uncontroversial changes to the code have been implemented so far, and every attempt to alter the network significantly has ended with resounding failure, to the delight of long‐term Bitcoin stalwarts who like noth...

Initially, Bitcoin XT was proposed by Andresen and a developer by the name of Mike Hearn in June 2015, aiming at increasing the size of a block from 1MB to 8MB. But the majority of nodes refused to update to their software and preferred to stay on the 1‐megabyte blocks.

Hearn proclaimed “the resolution of the Bitcoin experiment”, citing the lack of growth in transaction capacity as a lethal roadblock to Bitcoin's success and announcing he had sold all his coins. The bitcoin price on that day was around $350. Over the following two years, the price was to increase more than forty‐fold while the “blockchain consortium” he joined is yet to produce any actual products.

Undeterred, Gavin Andresen immediately proposed a new attempt to fork Bitcoin under the name of “Bitcoin Classic,” which would have raised the blocksize to 8 megabytes. This attempt fared no better, and by March 2016 the number of nodes supporting it began to fizzle. Yet, supporters of increasing the blocksize regrouped into Bitcoin Unlimited in 2017, an even wider coalition that included the largest maker of Bitcoin mining chips, as well as a wealthy individual who controls the bitcoin.com domain name and has spent enormous resources trying to promote larger blocks. A lot of media hype was generated and the sense of crisis was palpable to many who follow Bitcoin news on mainstream media and social media; yet the reality remained that no fork was attempted, as the majority of nodes continued to run on the 1MB‐compatible implementations.

Bitcoin stalwarts have learned to shrug at such attempts, realizing that no matter how much hype is generated, any attempt to change the consensus rules of Bitcoin will lead to the generation of yet another Bitcoin copycat, like the altcoins which copy Bitcoin's incidental details but do not have its only important characteristic: immutability.

From the discussion above it should be clear that Bitcoin's advantages lie not in its speed, convenience, or friendly user experience. Bitcoin's value comes from it having an immutable monetary policy precisely because nobody can easily change it.

rules. It might even be helpful to think of the parameters of Bitcoin as being similar to the rotation of the earth, sun, moon, or stars, forces outside of our control which are to be lived, not altered.

Another example of Bitcoin's antifragility came in September 2017, after the Chinese government announced the closure of all Chinese exchanges that traded Bitcoin. Whereas the initial reaction was one of panic that saw the price drop by around 40%, it was only a matter of hours before the price started recovering, and within a few months the price had more than doubled from where it was before the government's ban.

Even at current low levels of adoption, the demand for digital cash and digital sound money has already raised transaction fees to the point where they cannot compete with centralized solutions like PayPal and credit cards for small payments. This has not stalled Bitcoin's growth, however, which indicates that the market demand for Bitcoin is driven by its use as a digital cash and digital store of value, rather than small digital payments.

Each Bitcoin transaction can contain several inputs and outputs, and using a technique called CoinJoin, several payments can be grouped together into one transaction, allowing several inputs and outputs for only a fraction of the space that would have been needed otherwise. This could potentially raise the transaction volume of Bitcoin to the millions of payments per day, and as the transaction costs rise higher, this is more and more likely to become a popular option.

The most important use cases of Bitcoin, as a store of value and uncensorable payments, are well worth the transaction fees.

In effect, Bitcoin is already being used as a reserve asset in the majority of the transactions in the Bitcoin economy.

Should Bitcoin's growth continue it is only natural to see the number of off‐chain transactions increase faster than the on‐chain transactions.

Such an analysis may contradict the rhetoric that accompanied the rise of Bitcoin, which promotes Bitcoin as putt...

survive as a purely peer‐to‐peer network. For Bitcoin to continue to grow there will have to be payment processing solutions handled off the Bitcoin blockchain, and such solutions are emerging out of the grind of competitive markets.

Another important reason why banking as an institution is not going away is the convenience of banking custody. While many Bitcoin purists value the freedom accorded to them by being able to hold their own money and not rely on a financial institution to access it, the vast majority of people would not want this freedom and prefer to not have their money under their responsibility for fear of theft or abduction. In the midst of the very common anti‐bank rhetoric that is popular these days, particularly in Bitcoin circles, it is easy to forget that deposit banking is a legitimate business which people have demanded for hundreds of years around the world. People have happily paid to have their money stored safely so they only need to carry a small amount of money on them and face little risk of loss.

Even if it were possible for Bitcoin's network to support billions of transactions per day, obviating the need for second‐layer processing, many, if not most, Bitcoiners with significant holdings will eventually resort to keeping them in one of the growing number of services for safe custody of Bitcoin.

One possible technology for how this might be achieved is known as the Lightning Network, a technology under development that promises increasing transaction capacity significantly by allowing nodes to run payment channels off‐chain, which only use the Bitcoin ledger for verification of valid balances rather than transfers.

This does not represent a move away from Bitcoin's function as cash, as is commonly believed. While the term cash has come to denote the money used for small consumer transactions today, the original meaning of the term refers to money that is a bearer instrument, whose value can be transferred directly without resort to settlement by, or liability of, third parties. In the nineteenth century, the term cash referred to central bank gold reserves, and cash settlement was the transfer of physical gold between banks. If this analysis is correct, and Bitcoin continues to grow in value and off‐chain transactions while on‐chain transactions do not grow as much, Bitcoin would be better understood as cash in the old meaning of the term, similar to gold cash reserves, rather than the modern term for cash as paper money for small transactions.

On‐chain scaling solutions are unlikely to be enough to meet the growing demand for Bitcoin over time, and so second‐layer solutions are likely to continue to grow in importance, leading to the emergence of a new kind of financial institution similar to today's banks, using cryptography, and operating primarily online.

It is inaccurate to really say Bitcoin is anonymous, as it is rather pseudonymous.

When it comes to anonymity, it is useful to think of Bitcoin as being as anonymous as the Internet: it depends on how well you hide, and how well the others look.

It is easy to dispose of a device, email address, or IP address and never use it again, but it is harder to completely erase the trail of funds to one bitcoin address.

All of this means that for any crime that actually has a victim, it would be inadvisable for the criminal to use Bitcoin.

The Bitcoin trail of payments itself has been the reason that many online drug dealers have been identified and caught as they fell for the hype of Bitcoin as completely anonymous.

Bitcoin's permanent ledger makes it particularly unsuited to crimes with victims likely to try to investigate. Bitcoin can be useful in facilitating “victimless crimes,” where the absence of the victim will mean nobody trying to establish the identity of the “criminal.” In reality, and once one overcomes the propaganda of the twentieth‐century state, there is no such thing as a victimless crime.

Drug dealing seems to happen on the Bitcoin blockchain, though that is likely more down to addicts' cravings than sound judgment, as evidenced by the large number of Bitcoin drug purchasers that have been identified by law enforcement.

Bitcoin's resistance to attack is rooted in three properties: its barebones simplicity, the vast processing power that does nothing but ensure the safety of this very simple design, and the distributed nodes which need to achieve consensus on any change for it to take effect. Imagine the digital equivalent of placing the entirety of the U.S. military's infantry and equipment around a school playground to protect it from invasion and you begin to get an idea of how overly fortified Bitcoin is.

At the heart of Bitcoin's design there is a fundamental asymmetry between the cost of committing a new block of transactions and the cost of verifying the validity of these transactions. This means while forging the record is technically possible, the economic incentives are highly stacked against it.

Particularly important defenses against these kinds of attacks are Bitcoiners' anarchist and cypherpunk tendencies, which lead them to believe much more in verification than trust.

Should the cost of running a Bitcoin node increase significantly, it would make running a node harder for more and more users, and as a result it would decrease the number of nodes on the network. A network with a few dozen nodes stops being an effectively decentralized network as it becomes very possible for the few nodes that operate it to collude to alter the rules of the network to their own benefit, or even to sabotage it.

The situation is analogous to trying to ban the wheel or a knife.

The typewriter could never be banned or legislated out of existence, but the rise of the PC did effectively kill it.

The demand for Bitcoin stems from the need of individuals all over the world to carry out transactions that bypass political controls and to have an inflation‐resistant store of value.

Hypothetically, if the entire world's banking and monetary systems were replaced with those of the gold standard in the late nineteenth century, where individual freedom and hard money were paramount, the demand for Bitcoin would likely subside significantly.

In practice, however, the possibility of a global return to sound money and liberal government is extremely unlikely as these concepts are largely alien to the vast majority of politicians and voters worldwide, who have been reared for generations to understand government control of money and morality as necessary for the functioning of any society.

Another possibility for derailing Bitcoin would be through the invention of a new form of sound money that is superior to Bitcoin. Many seem to think that the other cryptocurrencies that mimic Bitcoin could achieve this, but it is my firm belief that none of the coins that copy Bitcoin's design can compete with Bitcoin on being sound money, for reasons discussed at length in the next section of the chapter, primarily: Bitcoin is the only truly decentralized digital currency which has grown spontaneously as a finely balanced equilibrium between miners, coders, and users, none of whom can control it. It was only ever possible to develop one currency based on this design, because once it became obvious that it is workable, any attempt at copying it will have been a top‐down and centrally controlled network which will never escape the control of its creators.

After years of watching altcoins get created, it seems impossible that any coin will recreate the adversarial standoff that exists between Bitcoin stakeholders and prevents any party from controlling payments in it.

Nakamoto disappeared in mid‐2010, citing “moving to new projects” and has most likely never been heard from since.9 In all likelihood, there are around 1 million bitcoins that are held in an account that is or was controlled by Nakamoto, but these coins have not moved once.

Even Gavin Andresen, who was in close contact with Nakamoto, and one of the most identifiable faces of Bitcoin, has failed repeatedly at exercising influence on the direction of Bitcoin's evolution.