Electronic Coin

Summary

An electronic coin is a history of transfers of ownership. Such ownership entitles you to initiate new transfers in a globally distributed ledger. Nothing more and nothing less. The value of a coin comes from the network that maintains the ledger and the applications built on top.

A conceptual twist

The concept of electronic coins is somewhat misleading. People tends to compare it to physical coins – pieces of metal that we all hold and pass around at some point in our daily lives. However, an electronic coin is purely a conceptual convenience, as such “coin” entity does not actually exist, either physically or even virtually [1]. Rather, an electronic coin is a history of transfers of ownership. Ownership of what? Nothing! Or, something next to worthless in the common sense – a number in someone’s computer. After all, what does it mean to own a number in your Excel spreadsheet? It is this first impression of “lack of existence” stopped the majority at the gate of this new world.

Let us take a closer look at this perception through the lens of origin of money. According to classic economics textbooks, human societies began with barter economies, from which commodity money was discovered; then paper money came into existence, and eventually credit systems were developed. This evolution suggests that measure and store of value first resided in physical things (e.g., goods and commodity) and then gradually transited to things that are more “virtual” in nature (e.g., credit systems).

However, recent research [2] provides evidences to support the Credit Theory of money. According to this theory, money is a not a commodity but an accounting tool. In other words, money is not a “thing” at all. It is a merely a yardstick that measures debts (i.e., IOUs).  Contrary to the mainstream belief, such abstract systems of accounting emerged long before the use of any particular token of exchange. A look at Eurasian history in last 5000 years reveals a broad alternation between periods dominated by credit money and periods in which gold and silver come to dominate, as shown in the following table [2].

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The force behind this alternating pattern is attributed to war. Bullion predominates in periods of generalized violence, while credit systems tend to dominate in periods of relative social peace. For someone to accept gold or silver in exchange for merchandise, he need to trust nothing other than the accuracy of the scales, the quality of the metal, and the likelihood that someone else will be will to accept it. On the other hand, credit money is based purely on trust in its issuer.

We are in no position to argue for or against different theories of money. However, it seems obvious that both sides agree bullion (physical and trustless) and credit systems (virtual and trust-based) are proven forms of money. What is less obvious is that electronic coins appears to be a completely new breed of system for representing value, combining the benefits of two worlds – being virtual like credit money, and being trustless like billions.

Before we move on to more detailed discussion on electric coins, it may be worthwhile to make a philosophical detour. Ancient Chinese wisdom has long pointed out the dynamics between “emptiness” and “fullness”. Rather than being viewed as opposite poles, it is believed there exists a causality relation between them. For one thing, “emptiness” does not mean nothing or worthless, but instead embodies endless potentials. Because numbers are just mathematical abstraction, they can be used to represent physical things whether they have value or not. Being able to electronically transfer their ownership (in a distributed way, more on this later) is indeed a disruptive breakthrough in human history. So let us start our adventure in this new world.

The problems

More formally, an electronic coin is a chain of transactions [3], as depicted in the following diagram.

transaction_example

In order to put this concept into practical use, two problems need to be addressed.

Ownership. First of all, how do we verify and enforce ownership? This problem is relatively easy to solve with a public key encryption system [4]. Unlike a symmetric key system, where the sender and receiver share the same secret key to encrypt and decrypt the message, a public key system uses a pair of keys. A public key, known to everyone, is used to encrypt a message, while a private, known only to the paired-key owner, is used to decrypt the message. This is illustrated in the following diagrams.

250px-public_key_encryption-svg

This paired-key approach ensures ownership through two features as explained below using the example above:

  • Confidentiality. Alice becomes the owner in the first transaction when her public key is in “included” in the transaction (i.e., in the To field). By doing so, only Alice is able “spend” the coin, using her private key.
  • Authentication. When Alice “spend” the coin, she signs the next transaction using her private key (i.e., to create Alice’s Signature). Anyone can easily verify the signature is authentic without knowing her private key.

In the whole process, Alice’s private key remains known only to herself.

Double-Spending. With a public key system, John knows the transaction signed by Alice is authentic, but he cannot verify Alice did not send same coin to other people. This is a considerably harder problem to address.

Conceptually, since the only way to confirm the absence of something is to be aware of all, a common solution relies on a central authority who keeps a ledger of all transactions. This means the entire system is built upon the trust in this central entity.

This is where innovation kicks in: to guard against double spending, the central authority is replaced with a peer-to-peer network, while its ledger is duplicated in each and every computer in the network. Computers in the network communicate with each other, and independently decide which transaction to accept into the ledger, according to a single set of rules. Trust in the network participants is no longer needed. As long as the majority of the computers is not controlled by one vicious entity (e.g., who tries to double spend), the network as a whole maintains a “honest” history of transactions, and ensures this history is irreversible. The technical details is centered around the concept of “blockchain”, which deserves its own discussion.

The Bitcoin network is the first and still the largest peep-to-peer network that maintains a distributed ledger at global scale. Interested readers can refer to [5] for an estimate of the current status of the Bitcoin network.

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References

  1. Andreas M. Antonopoulos, Mastering Bitcoin: Unlocking Digital Cryptocurrencies.  O’Reilly Media, 2014. link
  2. David Graeber, Debt: The First 5, 000 Years. Melville House, 2012. link
  3. Satoshi Nakamoto, Bitcoin: A Peer-to-Peer Electronic Cash System. Technical Report, 2008. link
  4. Public Key Cryptography. Wikipedia. link
  5. Bitnodes Live Map. 21.colink