Manjunatha K
Cryptoeconomics doesn’t mean the parallel crypto version of the whole of economics; in simple terms it is the use of incentives and cryptography to design systems, applications and networks, building things, applied cryptography, economic incentives and economic theory into account. Bitcoin, Ethereum, Zcash, Ripple,… all other public blockchains are products of the cryptoeconomics. If we fast forward few hundred year and you can see basic premise of money hasn’t changed much. We all agree what a dollar is worth and each of us has certain number of dollars, which we use to get goods and services, we also provide goods and services to get more dollars. The fact that we can’t just magically produce them whenever we want. So far money to have value, everyone needs to agree to give it value, and it has to be scarce.
How does Bitcoin achieve this ?
Bitcoin’s promise of a decentralized currency is very valuable. It functions like digital cash, it has all the convenience and speed of digitally transferring money without having to relay on a third party, like a bank. These properties, as well as the security in a network that assures they can be fulfilled makes Bitcoin something people want to assign value to. With bitcoin you can send money across the world in minutes without having to worry about exchanging currencies or going through intermediary banks. You also know that your Bitcoins have value on an international level, so you are not tied to your bank or a particular country, per se. Some of the biggest markets for Bitcoins are in countries like Greece and Venezuela. Where national currency’s value is very unstable.
With Bitcoins, people in these countries know that their assets won’t suddenly become worthless when their national economy takes a hit. This is an offer people find very appealing because it goes a step further to give your assets value on the international market and facilitates trade directly on a global scale. The biggest problem digital cash companies face was that people could duplicate their coins the same way you can duplicate the photo or music on your computer. And once they had multiple copies of their cash coins and they could pay the same coins to multiple people as many times as they wanted. So basically everyone could have an infinite supply of the digital coin which ultimately made it worthless. People stopped agreeing to offer each others goods or services in exchange for the coins because they could just make these coins themselves. This issue is formally known as double spend problem. And what made Bitcoin special is that it offers a solution to it, which many had thought was impossible.
For Bitcoin to function as money people need to trust the transaction records were valid and unalterable and people couldn’t double spend their coins. For Bitcoin to function as cash there had to be no middleman between transacting parties. So how did Bitcoin get everyone to behave without third party enforcing the rules or setting disputes? By using incentives instead of expecting people to follow the rules based on an honor system, the blockchain code rewards people who follow the rules while making economically infeasible to cheat. So if each person acted as selfishly as possible and did what was best for him or herself the system would thrive.
In this way Satoshi created a digital scarcity, which gave Bitcoin a sense of value that previously digital coin system couldn’t achieve. He also ensured against inflation by setting up some rules on when and how Bitcoins enter the market. He did this by capping the total number of Bitcoins 21 million.
This means that there will only ever be 21 million bitcoins in circulation. Once this number is reached, no more new Bitcoins can be produced. He also controlled the flow of new Bitcoins to the market to ensure that they don’t flood the market and decrease the value of coin. In fact the only way to create Bitcoins on the network is by mining new blocks
