The advent of blockchain technology has had far-reaching implications that go beyond the creation of digital currencies. The blockchain has ushered an entirely new school of economics – called cryptoeconomics – that combines economic principles with cryptography to create decentralized ecosystems that can effectively and efficiently function.
One of the most central principles of the crypto-economy is the intersection between decentralized governance models and economic incentives. This concept is referred to as the Byzantine political crypto-economy. In this article, you will be introduced to this principle and how it fits into the new field of cryptoeconomics.
The Correlation Between Politics and Economics
Throughout history, it has been visible that politics and economics are intertwined. While economic schools of thought are ideally supposed to be developed independently of political leanings, there is evidence that economists are influenced by their political leanings when identifying, creating and outlining their economics.
Additionally, politics is inextricable from economics. This is probably because of one of the essential political battlegrounds in the performance of the economy. As a result, politicians are very likely to put a significant amount of energy into pursuing a particular economic school of thought. This is usually the one that is in line with their political leanings.
One of the most pervasive and long-running debates between economists has been the effect of centralized control over the health of markets. It can be argued that most modern day economics can be classified into two opposing camps, those that believe that markets can benefit from varying degrees of governmental intervention and those who believe markets should be left to self-regulate.
Take, for instance, Karl Marx. While many of Karl Marx’s economic theories have been discredited, the German economist had a significant effect on global history.
His arguments centered around the fact that markets would perform better with the substantial involvement of the government. In Marxist theory, the government would be able to create a well-functioning economy through planning. This includes controlling the factors of production, wages, and prices.
Marx believed this would result in the best status quo for the ordinary man. This was in opposition to capitalism, which Marx believed resulted in the oppression of workers.
Marxism had significant and far-reaching effects on the policies enacted by many governments. “Beginning with the Russian revolution of 1917, a growing number of governments and states claimed to base their policies and constitutions on concepts developed by Marx.”
However, socialism was not without its critics. For instance, Austrian economist Ludwig von Mises argued Marxism would be unable to continue working due to some factors. In his 1920 publication, Economic Calculation in the Socialist Commonwealth Mises stated that one of the most significant problems in socialism was the lack of an adequate information system.
Mises argued that prices in markets functioned as a type of information system. He believed through prices people were able to determine the demand for items. Additionally, this knowledge would dictate how to allocate resources most efficiently.
Mises’ argument was further built upon by another economist named Friedrich Hayek. Hayek published his views in a paper that has been described as” one of the greatest essays in economics.” In ‘The Use of Knowledge in Society,’ Hayek explained that prices worked as a decentralized knowledge network in markets. After the fall of the Berlin wall, it became obvious that Mises and Hayek were right.
Economics and politics are very tightly interlinked. Economics as a school of thought can be characterized as the study of how to create the framework through which it is possible to have a group of people acting independently yet creating a functioning market. The problem of decentralized coordination is at the center of all economic theories. Whether advocating for centralization or against it, economic theories are trying to constitutionally define policies that would lead to the coordination of actors in the market in a way that would result in a system that continues to function while meeting the needs of the most significant number of actors as is possible.
The Concept of a Robust Political Economy
While economists may differ on the methodology or principles that should be applied, many reach a consensus on the way that a well-functioning economy should look like and act. This concept is referred to as a robust political economy.
In their paper titled ‘Robust Political Economy,’ scholars Peter T. Leeson and J. Robert Subrick define the idea. “In the context of political-economic systems, “robustness” refers to a political-economic arrangement’s ability to produce social welfare-enhancing outcomes in the face of deviations from ideal assumptions about individuals’ motivations and information.”
The concept seeks to examine how an economy should function in the face of less than desirable actions form players within the market. While assumptions are usually made about the good faith actions of players in economic models, the robust political economy concept explores the idea of deviations from these assumptions. “It is “easy” for a political economy populated by perfectly omniscient and benevolent individuals to perform well. But what if individuals have cognitive limitations or are self-interested? In this case, reasonable political, economic performance becomes more difficult. While a robust political economy can handle these imperfections, a fragile political economy cannot and will produce poverty where ideal conditions do not hold,” Leeson and Subrick wrote.
The concept further explores the problem of incomplete or inadequate information in the market. Players within a market are likely to make decisions without access to all the information that is relevant to them. In relation, players seeking to coordinate their actions are likely to face challenges.
A robust political economy is one that can create a system that can balance the information network and the actions of the independent players within it. The robust economy produces incentives for its actors due to the features that it possesses. Within this economic system information, incentives, and independent action are balanced leading to a well functioning unit.
Economists agree that for a market to work, it must be able to turn the independent actions of the players within it into productive work while adequately sharing information in a way that further incentivizes the actors.
What is the Byzantine Generals Problem?
The Byzantine General Problem is a challenge that computer scientists contend with especially when it comes to creating distributed networks. The concept explores the idea that a network is likely to have components that fail. Therefore, a network must be able to handle the failure of one or more of its components and continue to function.
The problem is explained by considering a Byzantine army planning to attack a city. The army consists of smaller sections each headed by its general. The generals need to decide on the best time to attack and need to communicate this to each other. However, they can only communicate through messengers who go back and forth.
The problem lies in the fact that the messenger may be unable to deliver the messages. He may be unfaithful, changing the message along the way. Furthermore, he may be attacked and killed while on the way. This is an inadequate information system.
Furthermore, the Byzantine General problem also contends with the fact that there may be traitors within the ranks of the generals. This means that they may not be able to reach a consensus of when to attack the city. Or even if they were to, the traitors would not participate in the planned attack.
The Byzantine General Problem tackles the challenge of creating a system where independent actors can agree even though they have an inadequate method of sharing information. Additionally, the system must be able to achieve consensus even when there are actors who are malicious.
The twin problems of incentives and information are challenges that both economists and computer scientists have been trying to solve. In economics, scholars have been trying to create systems that can influence the actions of independent players with a network of incentives while sharing information most efficiently. Economists try to build this system using principles and ideas.
Economists seek to create a robust political economy in some ways such as creating regulations that support the principles that should lead to the desired effect. These regulations also tend to lead to the creation of institutions through which the rules can be enforced.
Computer scientists have had some degree of success in solving the problem. First witnessed in the Bitcoin network, Satoshi Nakamoto was able to create a network which included a consensus mechanism that doubled as an incentive method and as a deterrent to bad behavior.
The proof-of-work consensus mechanism creates new units of bitcoin which is a financial incentive for players within the network to keep acting honestly. Additionally, there is a cost associated with participating in the network. Thus, dishonest actors will not want to waste their resources to attack the network.
Distributed ledgers can achieve Byzantine fault tolerance through the effective incentive mechanism that is the proof-of-work algorithm. Converse to the methods preferred by economists, computer scientists have achieved this through mathematics and cryptography.
The RMIT Blockchain Innovation Hub – a research center for economics, politics, sociology, and the law of blockchain technology – has been exploring the exciting intersection of the same problem being tackled by different intellectuals and using opposing methods.
What computer science experts have been working on to solve using algorithms, economists have been working on to try to solve constitutionally. Cryptographers found solutions using public key cryptography and consensus mechanisms, while economists found solutions in regulations, institutions, and markets.
RMIT researchers Chris Berg, Sinclair Davidson and Jason Potts conclude that blockchains are one of the most disruptive innovations in recent times because they can effectively align economic incentives with independent, decentralized action.
The Byzantine Political Cryptoeconomy
Blockchains are the perfect expression of the concept of a robust political economy because blockchains balance information networks with independent, decentralized yet coordinated actions. Interestingly, while economists try to solve this problem by introducing varying levels of centralized control, blockchains can achieve this in a completely decentralized manner, which is why it is being called the Byzantine political economy.
While it is true that markets require governance to effectively function, it has been believed that the government needs to be centralized. This is one of the significant roles of the state. The government provides secure records for its citizens. It also provides verifications for transactions and identities for its citizens. However, the blockchain can handle these protocols, albeit in a decentralized manner.
“Blockchains can provide the secure fault tolerant decentralized layer for property rights information and its verification and updating whenever that information changes, which can support a decentralized economic layer of markets,” wrote Cryptoeconomics Australia, which coined the term “Byzantine political economy.”
Distributed ledger technology ushers in a new age where entire economies can be supported by a Byzantine-fault-tolerant technology that negates the need for centralized state control due to its inherent design. This is the Byzantine political economy. A new economy that could help to create freer societies where individuals are economically and socially empowered.