The Bitcoin white paper doesn’t mention the word decentralization once – but it’s obviously there by another name: peer-to-peer. The Ethereum white
The Bitcoin white paper doesn’t mention the word decentralization once – but it’s obviously there by another name: peer-to-peer. The Ethereum white paper mentions decentralization about 40 times. And when the President’s Working Group on Financial Markets (PWG) released its report on stablecoins two weeks ago, 15% of it was dedicated to the concept of decentralization and how to appropriately manage it when most of financial services remain heavily centralized (and analog).
Decentralization is one of the more hard-to-define words in an industry filled with confusing neologisms. It seems to describe a simple concept: activity that isn’t organized by a central authority. But defining it, and why it matters, and how to regulate it, isn’t so simple. Getting these answers right will have significant implications for the future of the digital asset economy.
Jared A. Favole is a senior director of communications and policy at Circle, the principal operator of USD Coin (USDC).
As a starting point, policymakers should get comfortable with the idea that some projects will be fully (or close to it) decentralized. The industry needs to avoid advocating only for projects that are 100% decentralized – that brings to mind for some, particularly regulators, the idea of runaway code. And the last thing anyone wants with their money is for it to run away.
Decentralization and centralization operate on a spectrum: There’s decentralized autonomous organizations (DAOs) on one side and centralized entities on the other side (Coinbase, for example) that benefit from decentralized technology. Both forms of organizing can, will and must coexist for us to realize the full potential of blockchain and crypto technologies.
Decentralization – or the degree of decentralization – has important technical, marketing and legal implications.
Decentralization is great. The continued existence of Bitcoin, even in the face of crypto bans by nation states, speaks volumes about the power of decentralization (and public-key cryptography). It’s something to marvel at and cumulatively it has given rise to a now $2+ trillion asset class.
But Bitcoin, and decentralization, have drawbacks. For example, making changes in decentralized systems is often difficult and slow.
From a marketing perspective, decentralization can help attract developers who scoff at the idea of using their talents to help another centralized entity amass power. That power-to-the-people approach runs deep in crypto, which isn’t surprising because many in the industry had to suffer through the consequences of the Great Recession, infamously with the downfall of large, centralized financial institutions.
The legal importance of decentralization became clear a few years ago, when securities regulators suggested bitcoin and ether aren’t subject to securities regulation partly because the networks they run on are sufficiently decentralized.
Projects have since strained to demonstrate their decentralization by setting up foundations or separate legal entities. The thinking of some founders goes something like this: If our project is sufficiently decentralized then the activity isn’t subject to securities regulation. Perfect!
But the government isn’t fooled. The PWG report stated:
“In some cases, despite claims of decentralization, operations and activities within DeFi are highly concentrated in and, governed or administered by, a small group of developers and/or investors. Despite some asserted distinctions from more traditional or centralized financial products, services and activities, DeFi arrangements often offer the same or similar products, services and activities, and raise similar investor and consumer protection, market integrity and policy concerns.”
If projects are dishonest about their level of decentralization, that casts a shadow on the projects that truly are decentralized. It’s worth noting, too, that centralization has benefits. When people assemble in a centralized way, be it at a company or a sports team, they can do great things, while also producing single points of failure, cabals or monopolies.
Both/and instead of either/or
The future success of blockchain and crypto technologies doesn’t need to rely upon 100% decentralization. In fact, the industry is so successful today because it is built on the back of decentralized technologies AND centralized organizations. Much like the debate about artificial intelligence, which often pits man vs. machine instead of acknowledging the real power comes when man AND machine work together, meaningful innovation in crypto often comes when centralized entities work with decentralization.
For example, venture capital firms like a16z and Digital Currency Group, crypto companies like Coinbase and FTX, and media companies like The Wall Street Journal and this publication, have all played an important role in popularizing decentralized technologies.
Missing from the list of centralized entities that can help…
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