Some Simple Economics of the Blockchain

Abstract

We rely on economic theory to discuss how blockchain technology will shape the rate and direction of innovation. We identify two key costs affected by the technology: 1) the cost of verification; and 2) the cost of networking. The first cost relates to the ability to cheaply verify the attributes of a transaction. The second one to the ability to bootstrap and operate a marketplace without the need for a traditional intermediary: When combined with a native token (as in Bitcoin and Ethereum), a blockchain allows a decentralized network of economic agents to agree, at regular intervals, about the true state of shared data. This shared data can represent exchanges of currency, intellectual property, equity, information or other types of contracts and digital assets - making blockchain a general purpose technology that can be used to trade scarce, digital property rights and create novel types of digital platforms. The resulting marketplaces are characterized by increased competition, lower barriers to entry and innovation, lower privacy and censorship risk, and allow participants within the same ecosystem to make investments to support and operate shared infrastructure without assigning market power to a platform operator. They also challenge the existing revenue models and accumulated knowledge and resources of incumbents, and open opportunities for new approaches to startup fundraising, the provision of public goods and software protocols, data ownership and licensing, auctions and reputation systems.

Keywords: blockchain, cryptocurrency, market design, tokens, initial coin offerings, ICOs, smart contracts, distributed ledgers, Bitcoin, Ethereum, open source, auctions