13Nov 2018

Blockchain vs Crypto

by Tim Johnston

“I’m big on blockchain, but I’m not so sure about crypto…”

…is a comment we’ve been hearing often.

There is a great deal of hype around blockchain revolutionising the world. Crypto is a scam, blockchain is robust.

Unfortunately, the hype, and this line of thinking, misses the mark.

Private blockchains are little more than glorified databases. They might lead to incremental improvements, but the greater technological leap forward is crypto networks – open, decentralised markets that allow participants to transact with a new basis of trust.

Blockchain and crypto are inseparable, and require a new, unfamiliar way of thinking.

Naval is a vocal critic of the ‘blockchain not crypto’ line of argument

Naval is a vocal critic of the ‘blockchain not crypto’ line of argument

Before I explain, let’s make sure the basics are clear.

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Blockchain is a ledger that keeps track of crypto tokens that are the subject of that ledger.

Let’s dive deeper, using Bitcoin as an example.

The “Blockchain form of accounting” was invented to keep track of bitcoin. When a Bitcoin transaction occurs, the transaction is bundled together with other transactions into a ‘block’. The network needs to validate the transactions, to ensure they are free from fraud and error. Bitcoin miners and market participants prevent double spending by validating the block of transactions using a combination of computational power and mathematical cryptography (the basis for the broader name ‘crypto’). Once the block of transactions is validated, it is added to all previous blocks of Bitcoin transactions. Herein lies the term blockchain – the block is added to a chain of blocks, and we have a blockchain.

Fun Fact: the term “blockchain” was not used in the original Bitcoin White Paper published in 2008.

Crypto (or “Open Blockchains”)

Crypto assets (or ‘cryptocurrencies’, ‘tokens’ or ‘coins’) are traded on a blockchain. In the case of the Bitcoin network, bitcoin is the subject of the transactions. Bitcoin is transacted from one person to another and the Bitcoin blockchain keeps track of the transactions. If we think of Bitcoin as digital money, the system of maintaining the ledger is critically important. A system is needed to introduce scarcity to digital assets, otherwise participants could simply create more money or transact fraudulently, undermining the whole system and inevitably making it worthless. The blockchain solves this problem by preventing double-spending and introducing scarcity to these digital assets.

Crypto networks are a technological breakthrough. Crypto networks redefine trust. For the first time, people can transact peer-to-peer globally, at scale without the need for a trusted third party. Crypto networks are decentralised. Whereas previously a centralised party such as a bank or financial institution was required to process a transaction, now, with blockchain technology, the network processes the transaction. Participants can transact with each other with a new basis of trust. Trust is placed in the open, verifiable system that in turn relies on mathematics and computer code. The removal of centralised third parties removes inefficiencies, costs and has created enormous value.

One of the key takeaways is that crypto networks are open. The network is open to anyone with an internet connection to both transact and validate transactions. The more independent users that take part in the verification, the more secure and decentralised the networks. This openness is related to the trust equation above. The openness lends itself to this new basis of trust.

“As society gives you money for giving society what it wants, blockchains give you coins for giving the network what it wants”

Open blockchains are not without limitations. Open blockchains are not a good solution to store data and they are currently limited by scaling issues. Both of these limitations relate to the structure of an open, decentralised network. Each piece of information stored in a blockchain, such as details of a transaction, sits in hundreds or more nodes around the world (more than 100,000 in the case of Bitcoin). This is in contrast to the alternative – a centralised repository that stores and controls the data. The structure of storing data in multiple places around the world can make open blockchains costly and slow, although it should be noted that some of the world’s best developers are working on ways to solve these problems.

Private Blockchain

A private blockchain seeks to modify blockchain technology for use by a private consortium. A private blockchain does not use crypto tokens or assets.

We have seen in the press a number of stories about how private blockchains will revolutionise the world, increasing efficiencies, saving companies billions of dollars. IBM has developed the “Hyperledger Fabric,” an emerging de-facto standard for enterprise blockchain platforms. Walmart has announced it is putting its lettuce supply on the blockchain, pushing suppliers to use IBM’s blockchain-based software. Global shipping giant Maersk has announced a collaboration with IBM, sharing information about individual shipment events in an effort to reduce shipping administration costs.

While the hype is impressive, it is exactly that, just hype. A private blockchain is a glorified database. There might be incremental improvements for re-structuring the private database, such as improved error checking and validity, but it’s hardly groundbreaking. If people tracking lettuce want to input incorrect information on the blockchain, they can still do it. If Walmart wants to reverse lettuce transactions, it still has the power to alter the data. IBM have taken new technology that doesn’t need a middleman and have made themselves the middleman.

If a trusted third party could administer the ledger, then a blockchain is a “solution in search of a problem.” CB Insights

In 2016, global mining behemoth BHP Billiton announced a program to apply blockchain technology to its supply chain, to enhance security around real-time mining data, including the movement of rock and fluid samples. The hope was coordinating disparate contractors and moving them onto a standardised blockchain based system. In April 2017, the program was abandoned. BHP cited immature technology that wasn’t ready for enterprise adoption. However, I suspect the real reason is a blockchain simply wasn’t required.

The groundbreaking part of blockchain technology is an open system in which anyone can participate, removing centralised third parties and transacting with a new basis of trust. A private blockchain is, by definition, closed and does not offer these qualities.


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Internet vs Intranet

A similar example to crypto versus closed blockchains is the Internet vs Intranet. In the early days of the internet, people used to talk about the intranet as the really big innovation – and the public internet as being untrustworthy and unregulated – “no one will ever bank or shop on an open internet”. The rest, as we say, is history. It will likely be a similar outcome – private blockchains will likely exist but will not be nearly as significant as public blockchains.

Why The Hype?

The most obvious reason for the hype is the PR machine. “Blockchain” is like “Artificial Intelligence” and “Medical Marijuana” – it’s a buzzword du jour. At the start of the year, at the peak of the hype, Kodak announced KodakCoin, an Initial Coin Offering to help track photo rights and royalties for digital photographers. The stock price promptly tripled (although since the announcement, the stock price has unsurprisingly dropped back below pre-January prices). It is inevitable that we will continue to see more blockchain hype in the media.

I have developed my own theory as to why people like blockchain, but not crypto. My theory relates to availability bias – failure of logic due to placing more weight on information that is available to the individual. People are familiar with corporations and controlled entities. The idea of a blockchain being controlled by a government or company is easier to digest than an open blockchain. A private blockchain fits within the framework of familiarity. Crypto assets do not. Crypto networks are a new, difficult concept to understand. It’s a frictionless path to gravitate to the familiar, instead of wrestling with the new. I believe this is the main reason why people make the statement at the beginning of this article: “I’m big on blockchain, but not so sure about crypto.

The idea of a blockchain being controlled by a government or company is easier to digest than an open blockchain. A private blockchain fits within the framework of familiarity. Crypto assets do not.

Apollo Capital’s view is that understanding crypto assets requires a different, new way of thinking. An open-mind is a crucial first step. Public blockchains and transparency around transactions is a new concept, at odds with how society has previously functioned with closed, private transactions. Many of today’s crypto enthusiasts took a long time to understand crypto – myself included. We encourage people to keep an open mind, keep learning, reading, listening and following updates from reputable sources like Apollo Capital (#selfplug).

Tim Johnston

Tim is the Managing Director at Apollo Crypto. He has substantial expertise in both traditional financial services and technology investing. In financial investing, he worked at DMP Asset Management, a boutique Australian Equities Fund Manager, and was part of the investment team that managed a $33 billion super fund. On the technology side, Tim has worked as a venture capital Associate at Dominet Venture Partners and has been active in crypto markets for over four years. Tim is a CFA charterholder.