Crypto 2.0 systems

Crypto 2.0 systems

Bitcoin is a great system designed for one specific purpose - creating and operating a decentralized currency without a trusted party to manage the system. However, there is a lot of room for growth in that space. Some people do want to create centralized currencies or tokens that would exist alongside Bitcoin or similar currencies. This would allow creation and distribution of say, shares in a company, currencies backed by commodities and a number of other assets people would want to hold and trade. This post is dedicated to exploring some of the more notable systems developed in this space.

Colored Coins

Colored Coins is a project focused on using bitcoins to denote various tradable assets.

The concept is very simple - anyone can denote a specific output of a transaction as creating a new asset - this gives the coins their colour. Each satoshi of that output would denote 1 share in that asset. Anyone holding those shares would have a right to the underlying asset backing them. Trading the assets is fairly simple - one would pay the asking price for them and in turn receive the shares in a Bitcoin transaction. There are some rules as to how colours are handled and preserved in case they are mixed with coins of other or no colour.

The Colored Coins are stored entirely in the Bitcoin blockchain. This gives the transaction the same level of security as anything that happens on the Bitcoin network, although it also has a few drawbacks. Each transaction takes the usual 6 confirmations to process irreversibly, and costs as much as any transaction would (sometimes more since some outputs might be considered unwanted dust). Since we're dealing in satoshis as the smallest unit of accounting, there is only a certain granularity we can achieve in the assets before it becomes too expensive to create such a number of shares (creating 1000000 shares would cost you 0.01BTC). One also has to use a specialized wallet that keeps track of the colours of all the coins in order to be able to transact in them.

Overall, Colored Coins is an interesting project, but it is unlikely it will scale to meet the future needs - it relies on piggy-backing the Bitcoin network too much.

Mastercoin

Mastercoin is a system that is also built on top of the Bitcoin blockchain that allows people to perform a lot of operations impossible in the raw Bitcoin protocol.

Mastercoin allows people to issue their own currencies, enter into hedging contracts, trade assets on a decentralized exchange, do decentralized gambling and will probably grow in feature set as time goes on. Since the Mastercoin project is being overseen by the Mastercoin Foundation it is likely that it will continue to expand. The Foundation has secured funds in bitcoin and mastercoin for this purpose and anyone can contribute code towards a set of goals and earn money this way.

Mastercoin offers all of the features of Colored Coins and more, but since it uses the Bitcoin blockchain as a way of storing information about its transactions, it is burdened by some of the same problems. Confirmation times take 10 minutes, and since the extra data needs to be tracked at all times, there is no easy way to do simplified transaction verification that is possible in Bitcoin. Some people also express very strong opinions as to whether the entire project can deliver on some of its promises.

Overall, Mastercoin is a strong step forward from Colored Coins. It has a strong development team behind it and enough funds to either realize its goals or at the very least give it the best shot possible. At the same time, it might be held back by the need to use the Bitcoin blockchain for storing data.

NXT

NXT is a very ambitious project. It combines a lot of features of projects that already exist into a single product. It uses a Proof of Stake mining algorithm from Peercoin, offers an alias system similar to one found in Namecoin and a messaging system like Bitmessage. There is also a number of other features planned, including a distributed exchange, file storage, smart contracts, turing-complete scripts and many others.

NXT has its own blockchain with 1 minute blocks, as well as its own codebase separate from Bitcoin (unlike a lot of "copycoins"). All coins in the circulation were sold in a fundraiser at coin's inception raising $800k for the development of the project.

There are a few criticisms directed at NXT. First of all, since NXT addresses are way shorter than Bitcoin and use only numbers, meaning that address collisions are inevitable. Because of this, there is a separate mechanism for handling such situations - whoever uses the address first owns it, the next person to generate the same address with a different keypair can't use it. This makes creating addresses offline very dangerous.

Another criticism is the use of PoS algorithm with all of the coins being sold up-front. This essentially gives a lot of power to the initial investors. They will earn most of all the fees in the system and they are incentivized to hoard their coins. With the value of nxts being many orders of magnitude higher than the initial price, some people see it as market manipulation.

Finally, I have heard that the NXT developer community is rather small. If there isn't enough interest in a project like this, it might be the final make-or-break of NXT.

Overall, NXT is a project with a good potential. Unburdened from the use of Bitcoin blockchain it certainly has more room to expand and grow than Colored Coins or perhaps even Mastercoin. At the same time, unless NXT starts gaining more trust and traction, it might not be going anywhere with its ambitious goals.

Ripple

Ripple calls itself an open payment system. What distinguishes it from the other projects already listed is the shifted focus from just representing assets to the fluid conversion of them.

Ripple does away with the traditional blocks and mining model used by various altcoins, instead replacing it by ledgers and consensus. This cuts down the full confirmation time from 6 blocks (1 hour in Bitcoin) to 5-10 seconds. This speed is unheard of in most altcoins.

Similarly to previously mentioned systems, Ripple also created all of its coins - ripples or XRP - at the inception of the system. A number of them have already been given out to a lot of people from the Bitcoin world as well as early developers. Ripple Labs aims to distribute half of the total supply of XRPs this way.

In Ripple, anyone can issue their own currency / IOU. As long as there is someone that trusts you are good for the money, they can accept that currency, be it USD, BTC, gold grams or anything else. Large, trusted entities emerge from this system (Gateways, which are similar to Bitcoin Exchanges), and markets form around the IOUs they provide.

Since Ripple was designed with trading in mind, it allows people to seamlessly trade between any two currencies, as long as there is a market for them. This means that if you give me a price in USD and I only have BTC, we can still do business - my BTCs will be automatically traded on the live market for USD and you will receive exactly as much as you asked for. Such a functionality is essential for Crypto 2.0 systems - it ensures market fluidity.

Similar to NXT, Ripple also aims to incorporate a turing-complete scripting language into its protocol. However, the timeline for this is unknown.

Since it's public release about a year ago, Ripple has attracted a lot of criticism from the Bitcoin community. First of all, a lot of people disliked the fact that all XRPs were created at the start of the system and given to the system creators. This is fundamentally different from how Bitcoin distribution works. Secondly, the system wasn't open source for months after release, standing again in contrast to Bitcoin's opensource philosophy. These were enough for a lot of people to create a mental short cut labelling Ripple as scam.

While the system has become open source already, the negative history will remain to most likely haunt Ripple for a long while. The amount of XRPs held by Ripple Labs can similarly be seen as a Sword of Democles hanging above the whole system. That amount of currency could disrupt the entire system if it was ever "cashed out" at one time - a very unlikely move if one is to believe Ripple Labs want to see the system flourish.

At the same time, that amount of XRPs as well as $9M gathered in funding will most likely be used by Ripple Labs to develop and promote the Ripple system. With that kind of money and a strong team to go along with, Ripple Labs can be a very strong contender in the market.

Overall, Ripple at this time presents itself as the strongest Crypto 2.0 system. The project is well funded, has a strong team working on it, the network is very fast and offers a lot of functionality. The main thing slowing down Ripple is the poor reputation it earned during its launch.

Ethereum

Ethereum is an upcoming project aiming to release the first currency with turing-complete scripting language. The project is still being developed, so the exact details might change before its release date.

The basis for Ethereum is a coin similar to a number seen before - 1 minute blocks, some coins are pre-mined and sold at the inception of the project to create funding for the development, other coins will be mined ad infinitum.

The main selling point of Ethereum that has everyone interested in the project is the turing-complete scripting language. This means that technically any sort of contract or concept can be implemented in the system. One can create their own currency, automated escrow, smart property and a number of other "buzzwords". If implemented correctly, this can be a very powerful selling feature for a lot of people. There are some limitations to all of this of course, but that's a topic for another day.

Probably the greatest challenge for Ethereum will be getting enough developers working on various scripts for it, and probably most importantly, a good user interface for those scripts. Depending on how this is handled, it might be the make or break of the system - if one needs to be a programmer to securely use Ethereum, it might not reach critical mass. At the moment it looks like everyone that uses a given script in the system will need to read it and understand it, or else risk losing their money to a possible scam.

To ensure the script cannot be used for malicious purposes, there is a limit to what data and resources it can access. It appears that it will only be able to access the data from its own blockchain. At the same time, anyone would be able to feed data into the blockchain - be it current price ticker, information about Bitcoin blockchain or a number of other. This might possibly bloat the system a lot if not handled correctly.

Overall, Ethereum at the moment is the Crypto 2.0 system with the most potential to disrupt the space if it succeeds. It holds the promise of virtually unlimited applications that can be built on top of it. At the same time, a few other projects from this list are also aiming to implement similar features into their systems, which would make the space very competitive very quickly.

Conclusions

There are a number of interesting Crypto 2.0 projects being constantly developed. Some of them, like Colored Coins and Mastercoin build themselves on top of the Bitcoin Blockchain for seamless integration with the leading Crypto 1.0 technology. Others, like NXT and Ripple aim at providing a number of key features as their selling points. Finally, systems like Ethereum aim to create solutions that have never been tried before in order to push the limits of what is possible.

Overall, the future looks very promising.

Useful resources

• Great Chain of Numbers, by Tim Swanson
• Vitalik Buterin reveals Ethereum at Bitcoin Miami 2014