Interpreting the Bitcoin Fork: Is the Fork Good or Bad for the Development of Cryptocurrency?

For quite some time now, I have been asking the same question to the wise men – What actually is Bitcoin?

I asked this question to Mike Sofaer of Brian Kelly Asset Management when I saw him at the recent Scaling Bitcoin conference. Mike responded: “Bitcoin is collective insurance against the collapse of the fiat monetary system.”

His answer left me with a new question: Why can't we have many insurance companies?

Assume we have a decentralized system - this means that miners (at least those with consensus) do not work together and their decisions are mostly uncorrelated with each other. As a result, each miner verifies the work of all other miners and exclusively follows the rules.

This setting is similar to an insurance company with a sufficiently diverse policy base: the probability of two identical claims of a certain proportion occurring at the same time is effectively zero.

This is how insurance companies work – they have policies for floods and policies for forest fires, although of course these two disasters cannot happen at the same time.

So how can the cryptocurrency economy develop similar robustness? Perhaps forks are part of the answer.

About Forks

Taking a step back, previous forks (and failed forks) of Bitcoin have shown that even in such unpredictable circumstances, Bitcoin, as the first cryptocurrency, is stable enough.

But to be clear, the types of forks I discuss in this post meet the following criteria:

1. They have a common trading history;

2. They use the same encryption method – in other words, the private key of a forked wallet can also open the wallet of other forks;

3. They use the same mining algorithm (in this respect they differ from other forks which change the algorithm to prevent 51% attacks).

The main reason for Bitcoin forks is a fight for control over the future development of Bitcoin. The Bitcoin system itself is decentralized – but obviously, there are differences of opinion on how to further improve Bitcoin.

if:

1. Bitcoin is completely anonymous;

2. Miners are dispersed enough that they do not form mining pools;

3. The number of transactions per second can be increased in proportion to demand

-If Bitcoin can do this, there will be no need for a fork.

In this case, the system will get closer and closer to perfection, achieving the desired security guarantees and true decentralization - then it is very likely to succeed.

But obviously, Bitcoin does not achieve all three.

Who benefits from the fork?

There are several vested interests in these forks:

1. Bitcoin miners. They are relatively indifferent to what they mine — for them the only concern is maximizing rewards, so more forks means more choices.

2. Speculators are looking for a mature technology that provides them with high liquidity, high volatility, and adoption. (A Bitcoin fork has an advantage over other cryptocurrencies because it inherits the Bitcoin codebase)

3. Users who wish to use cryptocurrencies for high-value transactions in the grey economy. Forks indirectly lead to increased trading liquidity, as there are more instruments to trade, and the market capitalization of all cryptocurrencies is growing, creating more opportunities for value transfer between chains. At the same time, governments find it increasingly difficult to track different cryptocurrencies, while transaction fees fall due to the level of competition.

Ultimately, however, forks have a range of consequences, both positive and negative.

On the negative side, they undermine investor confidence in Bitcoin (which one is the real Bitcoin?). They also create inflation, which is one of the main arguments against forks.

If we fear inflation, then we would undoubtedly equate Bitcoin with the same scarce services. For example, if there is only one hair salon in town, then the price of a haircut at that salon will be higher than at a hundred other salons. But despite this, you can own as many copies of the "Mona Lisa" as you want, but their number will never affect the value of Leonardo da Vinci's original.

Besides the negative effects, forks have some positive benefits. One example is that forks lead to technological progress because they force teams to compete with each other.

Behind the fork

The biggest challenge for any Bitcoin-type fork is truly decentralizing control. Consider Bitcoin Cash (BCH), where the majority of mining operations have been concentrated in the hands of a small number of people (and there are concerns about Bitcoin Cash holders selling and where it can be traded).

Obviously, not all of these people will sell their Bitcoin Cash (since Satoshi didn’t sell his Bitcoin either). However, the opportunity for price manipulation in Bitcoin Cash is far greater than it was with the original Bitcoin. So far, the Bitcoin Cash community has not developed any clear standards to prevent price manipulation, so it’s hard to say whether it has the ability to develop such.

On the other hand, it must be acknowledged that if both forks were completely anonymous, then the fork with ten thousand miners and millions of users would be exactly the same as the fork with three miners and a hundred users (since we don’t know who controls the hashrate or the accounts).

Metrics in terms of volume and market cap are useless in the face of price manipulation and people trading privately.

If the Bitcoin experiment succeeds, it will teach us how to create provably decentralized, anonymous distributed systems. And these forks can start competing with each other on the same level of true decentralization, security, quality of service, and transaction fees.

Of course, this assumes that the “traditional” financial system could be transformed into something like this: every country, whether real or virtual, could manage its own currency with its own “central bank” – for example using smart contracts, which analyzed statistics on economic performance and used that to establish monetary policy.

Free fork

In my opinion, there are more new forks to come, especially for Ethereum, which may fork when it switches to PoS proof of stake (PoS proof of stake is much easier to create a fork than PoW proof of work). For Bitcoin, there is a high probability that new potential improvements will appear - the introduction of which will require a hard fork (such as MimbleWimble, a method to improve Bitcoin transaction privacy).

We must note that a large number of Bitcoin forks with the same mining algorithm will increase the likelihood of double-spending attacks. This may be how the next Bitcoin fork will be attacked. But the upside may be that the real experience brought about by this attack will provide data to prevent similar attacks on other networks in the future.

I have come to think that forks have positive value - as long as they don't compete to be the best. If we go down the path of decentralization, then there should be many ways to achieve decentralization.

Based on this principle, users should be free to choose any fork at any time. Bitcoin is just a "founding father" who opened the way for decentralized development.

Forking provides thought leaders with an opportunity to put their ideas into practice without getting caught up in endless arguments with others.

More importantly, this does not mean that the fork is a new cryptocurrency that starts from scratch and tries to win more user support - because the fork inherits the original Bitcoin chain, those who previously held Bitcoin will also get the forked currency.

In the long run, this approach will be beneficial for the development of cryptocurrencies - because it will allow different technical solutions to be tested independently and the best one to be selected.