January 2, 2022

Crypto ’round the Block

Thoviti Siddharth Crypto, Technology Blockchain, Crypto, Metaverse, NFT, Web3 1

The Blockchain is a fascinating technology and its applications such as Web3, Cryptocurrencies, NFTs, Metaverse, and their corresponding jargon are buzzing. As more people are spending time online, especially with COVID acting as a catalyst, the digital/virtual world is being adopted heavily. Crypto market capital is growing exponentially, profile pictures are representing status symbols by setting them to pixelated art, crypto investors are posting their “retirement by 40” plans on Twitter, and armies (fans) of crypto technologies are over-speculating and sending unsolicited advice like “Buy this hidden 100x gem” on discord groups. Despite the hype, these terms aren’t understood by many. There is uncertainty over the entire crypto/metaverse/web3 space as it is still in its rudimentary stages. This post aims to give an overview of these technologies and my thoughts on them.

Blockchain

What is Blockchain?

In layman’s terms, a blockchain is a distributed database of transactions. The idea tries to solve the problems of data security, integrity, and decentralization. It was conceptualized by Satoshi Nakamoto in 2008 to have a decentralized currency (Bitcoin) that does not rely on third parties such as Banks for the integrity and legitimacy of transactions. It exists on a network of participants who reach an agreement (consensus) and verify each transaction. Therefore, no single authority controls the blockchain. The distribution and decentralization of data provide security and transparency.

How do blockchains work?

Each block consists of data (transactions mined and confirmed), nonce (random 32-bit number), and a 256-bit hash. These blocks are chained together by public-key cryptography. To avoid double-spending, blocks are validated by miners by solving a complex problem (Proof of Work), where miners compete to find the value of the nonce such that it meets the network difficulty criteria. Miners who solve the problem first are rewarded with block rewards or fee per confirmed transaction. Blockchain is decentralized as it is managed on a peer-to-peer network (distributed ledger) such that every node can verify a new transaction and every node has the same copy of the blockchain. No individual or institution can modify the transactions, ensuring data security.

Blockchain has the characteristics of a distributed ledger technology (DLT):

Distributed: All nodes have a copy of the ledger.
Programmable: Smart contracts are programs that define the business logic.
Immutable: A record that is validated and confirmed cannot be modified.
Secure: Uses SHA-256 public-key encryption.
Unanimous: All nodes reach a consensus to validate a block.
Time-stamped: Transaction timestamps are recorded.

Blockchain Applications

Finance: Cryptocurrencies and financial services like lending and borrowing.
Smart Contracts: Used as agreements or business logic for a blockchain.
Games and Non-Fungible Tokens (NFTs): NFTs can be used to digitally validate ownership. NFTs as collectibles, marketing products, and games for monetization.
Digital Identity: Creating a digital and universal identity on the blockchain.
Elections: Smart contracts can be a solution to election fraud, human errors in an election.

As we will discover in this post, most technologies associated with blockchain tech are trying to replicate systems that either already exist like finance, or innovate technologies that abridge the digital and physical world.

Cryptocurrencies

Digital currencies have existed long before blockchain technology. For instance, exchanging a game’s reward coin (points) for products in the game. It was a virtual currency that could only be used to exchange game assets but could not be converted into fiat. Replicating the same system of virtual currency with the ability to be able to be exchanged for fiat, cryptocurrencies aim at providing a better solution than the existing centralized financial services by the means of blockchain technology.

What are cryptocurrencies?

Cryptocurrencies are digital currencies that use blockchain technology to record and secure transactions. Its main purpose was to provide a decentralized, digital, and secure asset. Bitcoin is the first and most popular decentralized cryptocurrency with the highest market cap. Other cryptocurrencies are known as Altcoins (alternate coins). Some popular altcoins include Ethereum, Solana, Binance Coin, Polkadot, Cardano, Polygon, and Ripple. Cryptocurrencies can be used as a currency or an asset and can be traded on a crypto exchange.

Cryptocurrency Advantages

Decentralization: It is self-governed, which means that it is not controlled by any central authority.
Secure and private: Uses blockchain’s cryptography to maintain security and personal information leakage is unlikely.
Immutability: Consensus algorithms such as proof-of-work help in achieving immutability
Transparent: Every transaction can be publicly accessed on the blockchain network.
Speed: A fast solution to transactions across the border.
Cost-effective: Lower transaction fees when compared to third parties like Paypal or VISA.
Mitigates inflation: A limited supply coin like Bitcoin can prevent inflation.
DeFi: Decentralized finance services like lending, borrowing, staking, and yield farming.

Cryptocurrency Disadvantages

Illegal transactions: Can be misused for money laundering and illegal deals.
Unregulated: Risk of manipulations in the market and high volatility.
Immutability: Immutability prevents the reversal of accidental transactions.
Data loss = Financial loss: Loss of private keys or backup phrase of wallet could lead to loss of funds.
No intrinsic value: Cryptocurrencies are not backed by a physical commodity. It is backed by trust in the technology or people backing it.
Security: Quantum computers could break public-key cryptography. (Although, this problem can be fixed by quantum computing itself)

In my home country, India, cryptocurrencies would never be used as currencies or be made legal tender. We already have one of the world’s fastest payment methods known as Unified Payments Interface or UPI that is well adopted and trusted. Due to their unregulated and volatile nature, cryptocurrencies face a major hurdle in adoption. Countries are slowly trying to accept cryptocurrencies but still struggling to regulate them to prevent fraud and money laundering. Some countries have already started rolling out their own Central Bank Digital Currency (CBDC) and trying to form a legal framework to regulate crypto markets.

Non-Fungible Tokens (NFTs)

What is the meaning of Non-Fungible?

Any good or asset that can be exchanged or replaced with other goods or assets of the same type is known as a fungible good or asset. A non-fungible means that the asset cannot be exchanged or replaced; that it is unique. For example, currencies like the dollar can be exchanged for dollar, one bitcoin can be exchanged for bitcoin. An example of a non-fungible asset is the original painting of Monalisa. There is one and only one original painting.

What are NFTs?

Non-fungible tokens are digital assets or digital representations of physical assets whose ownership can be validated through smart contracts on the blockchain.

NFTs Advantages

Validation of ownership: Smart contracts allow validation of ownership and proof of authenticity.
Appreciation in value: Like any other investment, NFTs also possess the potential for an increase in value.
Revenue Source/Fundraising: Artists can sell NFTs of their art.
Gaming: In-game purchases such as digital plots of land, characters, skins, and other items can be tokenized as NFTs.

NFTs Disadvantages

Digital representation of physical assets can never give the same allure of physically owning it.
Ownership doesn’t guarantee control over distribution or duplication.
Uncertainty: Hype and over-speculation may lead to an economic bubble which may eventually collapse.
Environmental Cost: Each transaction on the Ethereum blockchain requires significant computing power, which requires significant energy.

The NFT technology is interesting as it allows the exchange of any good, asset, content, a product that exists on the blockchain as an NFT. For example, two different games’ skins could be exchanged through NFTs or an in-demand virtual plot of land next to the virtual Taj Mahal could be exchanged for something as bizarre as the Brad Pitt avatar NFT in the virtual world. As such, games like Axie Infinity champion the play-to-earn business model where people are getting paid in Axie tokens to play the game which can be redeemed at crypto exchanges for fiat money. Filipino merchants are already accepting Axie’s Smooth Love Potion (SLP), an in-game reward token that is awarded for successful wins. Gaming workers, if we can call them so, are even saving their rewards and staking them.

Although the NFT technology provides a digitally verifiable method to validate ownership, NFTs collectible marketplace is over-hyped. “YOLO-all-in” people buying into the hype should beware of the possibility that more than 90% of NFTs collectibles will be worthless in the future. Not everything is as precious as they are marketed to be. That being said, I believe that NFTs will ultimately be used to represent content that needs to be collected or monetized on web3. Any content ranging from text, audio, video, and documents such as digital insurance policies, tickets to virtual events, digital contracts will be manifested through NFTs. Recently, NBA top shots were sold as NFTs and musicians are selling exclusive NFTs that come with perks like limited VIP tickets at concerts and early access to their music. The future of the NFT market may be uncertain but the technology is here to stay.

Metaverse

Modern humans are more inclined to be occupied with screens than real-life interactions. After computers and touch screen phones, virtual reality and augmented reality are ready to shift our minds into an immersive virtual experience. Games like Second Life had existed for a while to provide an escape from reality or reinvent reality in a computer game with unlimited liberty. Extending these ideas with improved technology and monetization of this technology through crypto is what makes the metaverse fascinating.

What is metaverse?

Metaverse: A persistent, live digital universe that affords individuals a sense of agency, social presence, and shared spatial awareness, along with the ability to participate in an extensive virtual economy with profound societal impact.
Piers Kicks

The metaverse is a broad network of a 3D virtual world with an immersive multi-sensory experience like the real world. It literally means a world beyond the universe. Metaverse thrives on the futuristic belief that humans will eventually spend more time in the virtual world than the real world. It can also be thought of as a bridge between the digital and physical worlds. Technologies such as blockchain, virtual reality, augmented reality, and game theory are the building blocks of the metaverse. Blockchain is perfectly suited for an expanding space such as the metaverse since it provides data security and immutability.

Metaverse ecosystems are becoming popular with the growing adoption of crypto and the popularity of games. Crypto metaverse space provides an opportunity to monetize virtual assets. The intersection of NFTs and metaverse make the blockchain-based gaming metaverse. For example, buying a plot of virtual land in Decentraland (virtual real-estate) or buying digital pets (Axies) on Axis Infinity as NFTs. Thus, crypto powers metaverse with real-world economic value.

Why metaverse is awesome?

To provide a futuristic perspective on the metaverse, imagine being able to:

Create a virtual world.
Create our character/avatar and style it.
Socialize with people: Meet friends and new people, host virtual events.
Transact in Virtual Economy: Buy real-estate (virtual plots), set up businesses, and work in the same world. Creators could sell their multi-dimensional content represented by NFTs in the virtual economy of the metaverse, powered by decentralized finance (DeFi).
Teleport: Visit any part of the world. For instance, travel to Italy and walk through the virtual 3D mesh reconstruction of the Colosseum in Rome.
Obtain education: Virtual reality is already being used to teach different groups of learners like visual learners in health care, auditory learning for communication-based jobs, kinesthetic learners like architects, engineers, and skilled workers like electricians, plumbers who need to physically manipulate objects/tools to understand concepts. Study at a virtual university where lab sessions and experiments could be rewinded at one’s leisure.
Attend sporting events happening in real-world stadiums from home through VR and AR.

Web3

To understand web3, its ancestors must be understood.

Web 1.0 (1991 to 2004)

Web 1.0 was the first WWW that consisted of static pages served from a static file system. Since it was a read-only web, users were consumers and not producers.

Web 2.0 (2004 to present)

Web 2.0 is referred to as the web that enabled users the ability to create and post content on the internet. It allowed the retrieval of information from databases instead of static file systems. The pages were dynamic and responsive to user inputs.

Web 3.0

Web 3.0 is World Wide Web based on blockchain. Its primary function is to run a decentralized internet that gives the user more power than any authority. Web 3.0 in the context of blockchain is decentralized applications (dApps) that run on the blockchain. In a Web 2.0 scenario, a single web server’s storage (Cloud) would contain the front-end and back-end code of the website, whereas Web3’s infrastructure leverages blockchain technology to distribute the code to all the nodes (Edge) in the network and builds decentralized applications by using protocols like Filecoin and Arweave for storage, The Graph for information retrieval using GraphQL and the obvious method for payment is cryptocurrencies. The logic is developed using smart contracts. Wallet addresses are used as identity on web3.

Why do we need Web 3.0?

No unique point of failure: Web3 does not have a single point of failure unlike in Web 2.0 where a malicious actor may attack the central authority’s web server.
Exploitative Businesses on Web2: The Web2 platforms use their exploitative business models once growth in the form of creating a user base is attained. Web3 allows monetization-free products that let the users decide the way they provide and access content. NFTs allow creators and consumers to directly connect without a third party. For example, the music industry’s monetization and game streaming platforms’ business model on Web3 platforms, pay an unfair price to the creator. Web3 and NFTs solve this problem by removing intermediaries.
Breaking Centralization: Censorship in Web 2.0 is common. In Web 3, central authorities do not have control over what content a user can access.
Security and Privacy: Web 2 users do not have complete control over their data. For instance, third parties running platforms are focused on creating personalized ads that exploit user data. Web3 offers security and privacy with its cryptography and unique identity mechanism respectively.
Web3 aims to overcome these problems by using a decentralized architecture that empowers the users.

Challenges of Web3

Web3 can be slower than web2.
High computational cost requires more computational resources to manage throughput.
Consensus might be harder to reach in case of disagreements related to protocol changes.

Summary

Blockchain is a decentralized database of transactions. It uses cryptography to secure data. Data is immutable on the blockchain.
Cryptocurrencies are digital currencies that use blockchain technology to record transactions.
NFTs are digital assets whose ownership can be validated on the blockchain.
Metaverse is a 3D virtual world that uses technologies such as blockchain, virtual reality, and augmented reality. It aims to provide an immersive experience that bridges the virtual world with the physical world. Metaverse enables virtual economy through NFTs and decentralized finance (DeFi).
Web3 is a platform for decentralized applications where users can engage in economic activity using decentralized finance without a central authority.
Technology in crypto/metaverse/web3 space is still evolving. There is a huge opportunity in terms of development and investment but one must beware that this space is still in its rudimentary stages. It is quite contradictory to the advice of “being early” but over-speculating and investing in the hype that is uncertain can lead to financial loss. Investing in technologies with a solid concept with strong founders might be a safer bet.