The “Red and Black” of Blockchain—China’s Illusion of Financial Idealism?

[Zero] The account book on the island

On a small island, a new way of accounting (consensus mechanism) has emerged. Unlike other islands, they do not use leaves (the leaves grow every year) as an intermediary to exchange goods, but record each person's transactions in a ledger. As long as it is recognized by N people (nodes) on the island, the system considers that the account is correct. All transactions are represented by numbers in the account. Because the accounts are open and transparent, every islander can check the bills, eliminating the possibility of fraud. This account is called "blockchain". In essence, it is a decentralized database, which is rooted in the underlying technology of Bitcoin and generates data blocks through a data verification algorithm (sha256).

From a purely rational perspective, blockchain and Bitcoin are two sides of the same coin and cannot be separated. However, both the financial and technology circles, while collectively singing the praises of blockchain, stay away from Bitcoin, the "black singularity". Since blockchain is considered a disruptive innovation in financial technology, why do you refuse to accept Bitcoin's monetary attributes! Since you have been looking for the best application scenarios for blockchain, but you keep silent about the killer applications that come with blockchain? This is the "red and black" of the blockchain world. Why do such contradictory events occur? Is blockchain a killer weapon for financial idealists, or a dazzling capital game? Let's talk about the history of blockchain development from the following four eras and explain the source of this contradiction.

[I] In ancient times, how to crack the “entropy of legal currency”?

1971~2008 is the "ancient times" of blockchain. In 1971, US President Nixon announced the end of the dollar and gold exchange, marking the collapse of the Bretton Woods system. After the collapse of the system, the legal currency of the nation-state completely entered a chaotic and disordered world. Before the Bretton Woods system, it was still the gold standard era. After the gold standard was abandoned, no one could stop the arrival of the "legal currency entropy" era.

Entropy is a measure of the ignorance of an isolated system and the tendency of energy dissipation to be evenly distributed to the maximum degree of freedom. If there is no "Maxwell's demon", an isolated system will always tend to chaos, disorder and low dimensionality. This is what the current monetary system is like.

Let's take an example to make it clearer: you fell down, and a gust of wind blew the $5,000 in your hand onto the street. The money was picked up by many people. No matter what you do, you basically cannot get the money back, because the "energy" of the $5,000 is dispersed among many people. If you want to reverse the change, it is almost impossible. This is the principle of increasing entropy. Now the legal currency systems around the world are basically doing this. Almost all central banks are printing legal currency, and no country is willing to stop in this regard.

Entropy increase chart of legal currency

If money is not scarce, there will always be more and more leaves on the island until one day they have no value. The financial crisis in 2008 was a major outbreak of "legal currency entropy", and it is certain that because of the existence of "legal currency entropy", similar crises will become more and more frequent.

How to crack the "entropy of legal tender" is a question that many top financial scholars around the world have been discussing. Even the great economist Friedman has mentioned the issue of free currency. There are more than 1,000 studies on electronic currency and Internet currency every year. It was not until 2008 when Satoshi Nakamoto proposed "Bitcoin: A Peer-to-Peer Electronic Cash System" that the possibility of cracking the "entropy of legal tender" really emerged. Finally, a "Maxwell's demon" appeared in this isolated and chaotic currency system.

What is entropy? Here we can supplement the quantum theory. Entropy is proportional to the logarithm of the quantum configuration that the system can reach. Its formula is:

The k in front is the Boltzmann constant, which is the number of quantum configurations of the system. The Boltzmann relation has withstood the test of time and has become one of the most important formulas in physics. Boltzmann made entropy the symbol of the macroscopic state, which means that the irreversible thermodynamic change is a macroscopic state tending to probability. The Boltzmann relation links the macroscopic quantity S with the number of microscopic states, building a bridge between the macroscopic and microscopic.

［II］In the barbaric era, the dark road of Bitcoin

If 1971 to 2008 was the ancient times before the development of blockchain, then 2008 to 2012, from the birth of Satoshi Nakamoto's paper to the operation of the Internet of the Bitcoin open source protocol, from the initial CPU mining to the emergence of professional chip ASIC mining machines, was the "barbaric era" before the formation of blockchain theory. Why is it called a barbaric era? Because at that time Bitcoin was still outside the law, a paradise where the light of capital could not reach, and the world of computer geeks, monetary idealists, adventurers, science fiction writers, and anarchists. At that time, it was a world of minorities. Except for the Bitcoin protocol, no rules were the only rule.

So what exactly is Bitcoin? In abstract terms, Bitcoin is a P2P-based cryptocurrency on the Internet. P2P transmission means that it has its own decentralized payment system, and the payment system is the essence of blockchain. Many economists still do not understand this point, and always think that Bitcoin is a simple digital currency. In fact, its payment system is the most valuable, and the technical theory of blockchain is derived from this. The Bitcoin network issues currency according to the open source protocol agreed upon by the entire network. Based on the sha256 algorithm, the hash value is violently calculated through the PoW mechanism, and the distributed database nodes composed of nodes in the P2P network are used to confirm and record transaction behaviors. While confirming these transactions, the fastest confirmer is rewarded with bitcoins. This is the entire operating mechanism of Bitcoin.

Bitcoin is born with idealism. From its birth to now, its development direction has gone against fundamentalism, such as the centralization of computing power, payment blockages, community division... But no matter what, Bitcoin is still a great monetary practice.

It is also undeniable that Bitcoin has been walking a dark path since its birth. It has its own MLM system (incomplete), walks in the gray area (Silk Road), has a highly concealed product design (anonymity), easily manipulated capital reserves, is a natural favorite of MLM organizations, and gathers anarchist believers, including some ambitious fundamentalists, who have been trying to subvert the central bank's right to issue currency and sovereign states' control over currency. Each of these has made regulators in various countries quite wary of it.

This is the dark side of blockchain, and it is also a minefield that many financial experts carefully avoid. This is why blockchain technology only appeared in 2009 and did not become widely known until 2015.

If we broaden our vision and include Bitcoin, gold, and fiat currency into one system, then Bitcoin is the "Maxwell's demon" in this monetary system. It can reduce the pressure on this hopelessly increasing monetary entropy system. Gold could have done the same, but its non-Internet attributes make it powerless.

Maxwell's demon is a hypothetical demon in physics that can detect and control the movement of individual molecules. Maxwell realized that there is an energy control mechanism in nature that counteracts the increase in entropy, but he could not clearly explain this mechanism. He could only humorously assume that a "demon" is a prototype of a dissipative structure. Simply put, an insulated container is divided into two equal compartments, with a small "door" controlled by the "demon" in the middle. When the air molecules in the container perform irregular thermal motion, they will collide with the door. The "door" can selectively put faster molecules into one compartment and slower molecules into another compartment. The significance of Maxwell's demon is to make chaos orderly and prevent the closed system from becoming stagnant.

[III] In the chaotic years, blockchain became the “second generation of red” of the Internet

2013~2015, this is the time when blockchain theory was truly formed.

On November 5, 2013, the People's Bank of China issued five regulations. The "Mt. Gox crisis" that occurred on February 26, 2014, and the high-multiple short-selling mechanism that accompanied it on major Chinese trading platforms, almost brought Bitcoin to a dead end in 2014. During this chaotic, turbulent and unclear period, many Bitcoin startups went bankrupt one after another.

But after the Bitcoin storm in 2013, many IT executives of large companies and financial scholars with technical backgrounds began to pay attention to Bitcoin. At the same time, the Bitcoin community became more and more rational and moderate, no longer emphasizing the liberal nature of Bitcoin, but re-emphasizing its basic technology, blockchain. It was also during this stage that blockchain turned from black to red, and was quickly recognized as the new engine of Internet development and the "second generation of red". Even central banks of various countries began to follow suit.

There are many reasons for the brilliant transformation of blockchain, but the most fundamental reason lies in its technology itself. Blockchain technology has the characteristics of high transparency, decentralization, no need for trust system, disintermediation, immutability (full node maintenance), and encryption security. These properties reflect the concept of DAC (Distributed Autonomous Corporation) distributed autonomy, which was quickly accepted by financial idealists and first received the greatest attention in the financial field. Because the superposition of these advantages can solve two problems that have long existed in the financial industry: the "double-spending" problem and the "Byzantine" generals problem, and these two problems extend to rebuilding the credit building for more fields.

Since 2015, blockchain has quickly become a new area of ​​greatest concern to capital:
In September 2015, the R3 blockchain alliance was established, with more than 40 international banking organizations joining and members spread all over the world.
In September 2015, Wanxiang Holdings, a Chinese company with a market value of hundreds of billions of yuan, established a blockchain laboratory.
In December 2015, the Hyperledger blockchain project was initiated by the Linux Foundation.
In February 2016, the framework of IBM's Open Blockchain was basically formed.
In December 2016, the People's Bank of China stored the database of the central bank's digital currency issuance fund on a private cloud.
…………

From a purely theoretical perspective, blockchain and the Internet are indeed naturally complementary. 1. The more Internet users there are, the less secure it is, while the more nodes there are in the blockchain, the more stable it is; 2. The Internet's neural network is a discrete topological structure, while the blockchain's neural network is a linear chain traction; 3. The Internet's disordered entropy increase leads to information forgetting, while the blockchain maintains orderly entropy without loss; 4. The Internet creates order in chaos, while the blockchain connects chaos in order. The Internet has brought an era of information fragmentation to mankind, while the blockchain is re-focusing on human linear thinking. Therefore, it is not too arbitrary to say that blockchain is the new engine of Internet 2.0.

[IV] The Golden Age: The Chinese Illusion of Financial Idealists?

From 2016 to now, everything seems to have become better. Whether it is the capital circle or the financial world, whether it is traditional bosses or entrepreneurs, whether they have a deep understanding or have heard about it, whether they have hated Bitcoin or have criticized Bitcoin, they all express a feeling that they have met blockchain too late. Everything is trying to show that this is the golden age of blockchain.

At the same time, there is no blockchain project that has solved practical applications. The real money is still made in Bitcoin mining and exchanges. Recently, the exchanges have also been sealed by the central bank...

What shocked the industry even more was that on February 21, 2017, the bad news came that after spending $59 million on large-scale research, the once "famous" R3 blockchain alliance suddenly announced that it would completely abandon blockchain technology, declaring "there is no blockchain because we don't need it." This decision really surprised the entire blockchain circle.

This once blockchain star company, which was highly regarded by more than 60 international banks, ended up like this after less than two years of operation. This is a heavy blow to financial idealists who have long been tired of the SWIFT protocol. Could it be that the financial expectations for blockchain are just a Chinese illusion directed and performed by us?

It does not start from the application scenario, nor does it talk about the controversy between private and public chains, nor does it discuss the consensus mechanism. From a purely technical perspective, the financial upper-layer application of blockchain is not easy. Compared with the underlying protocol, the upper-layer smart contracts and applications are more complicated.

In order to ensure consistency, the technical core of blockchain is dimensionality reduction + hashing, but this violates the content consensus mechanism and greatly reduces the security of the system. The process of dimensionality reduction hashing is similar to "compression", which requires compression based on specific information such as data content, file characteristics, and timestamps. The core is to use program algorithms to replace people to execute contracts. The execution algorithm process of smart contracts is complex and arduous, and the workload is huge.

［V］Conclusion: The consequences of blockchain are unpredictable

In fact, the red and black of blockchain are not important, what is most important is to solve the problem . It is not important whether blockchain is a phantom or not, what is most important is to find an application scenario to solve the problem. If Bitcoin is a currency that subverts traditional financial methods, then blockchain may have opened up a social experiment to establish a new era.

Internet + blockchain may build a new application scenario, truly rebuild the future credit building, construct the "human contract theory" through smart contracts, and rely on a more reasonable PoS consensus mechanism to make each blockchain node a Maxwell demon of the Internet, thereby making human Internet civilization more prosperous . Similarly, blockchain + Internet may also lead to another outcome. Blockchain, with its own orderly connection, will establish a real neural network for the chaotic Internet. The evolution of machine civilization will grow as fast as the current computing power, thus quickly evolving into a real machine civilization .

Blockchain is ultimately a technology. Like other great technologies, it is always overestimated in the short term, which is why it is so popular in the financial circle. However, it is underestimated in the long term. It may reconstruct civilization!