Eric Budish on (expensive) blockchain technology

The Economic Limits of the Blockchain
by Eric Budish
May 3, 2018

Abstract: The amount of computational power devoted to blockchains such as Bitcoin’s must simultaneously satisfy two conditions in equilibrium: (1) a zero-profit condition among miners,who engage in a rent-seeking competition for the prize associated with adding the next block to the chain; and (2) an incentive compatibility condition on the system’s vulnerability to a“majority attack”, namely that the computational costs of such an attack must exceed the benefits. Together, these two equations imply that (3) the recurring, “flow”, payments to miners for running the blockchain must be large relative to the one-off, “stock”, benefits of attacking it. The constraint is softer (i.e., stock versus stock) if both (i) the mining technology used to run the blockchain is both scarce and non-repurposable, and (ii) any majority attack is a “sabotage” in that it causes a collapse in the economic value of the blockchain; however, reliance on non-repurposable technology for security and vulnerability to sabotage each raise their own concerns, and point to specific collapse scenarios. Overall the results place potentially serious economic constraints on the applicability of the Nakamoto (2008) blockchain innovation. The anonymous, decentralized trust enabled by the blockchain, while ingenious, is expensive.