Distributed Ledger Technology
When we are talking about economies we are typically referring to this information layer that resides on top of what may be called the real economy; the physical production and exchange of goods. Accounting is the basics of how we create that information layer and bring all these physical objects and services into this information system of the economy that we then exchange and analyze. The earliest most rudimentary economies of pre-civilization may have existed purely in physical form but an economy of any complexity requires that the real system is translated into a virtual information form. Not just physical assets and liquid currencies but also identity and contractual agreements, at the end of the day it all has to be converted into an information format.
In order to form organizations and exchange goods and services we need to define ownership and keep track of exchanges and this is done by a series of ledgers. A system of ledgers forms the database of records of who owns what and what has been exchanged within the system.1 Ledgers are everywhere. Ledgers do more than just record accounting transactions. A ledger consists simply of data structured by rules. Anytime we need a consensus about facts, we use a ledger. Ledgers record the facts underpinning the modern economy. All of our economic institutions are at the end of the day networks of ledgers, some simpler, some more complex.
A firm is often described as a ‘nexus of contracts’.2 The firm is, in fact, a ledger of contracts and capital that are arranged in a particular fashion to deliver some function. Firms maintain ledgers in a variety of forms, of property, of employment and responsibility, of the ownership and deployment, of suppliers and customers, of intellectual property and corporate privilege, of physical and human capital. It is safe to say that our economies are ledgers all the way down and at the bottom, we find a government back legal system. Where a ledger requires coercion in order to be enforced, the government is required. Governments maintain ledgers of authority, privilege, responsibility, and access. Governments are the trusted entity that keeps databases of citizenship, taxation obligations, social security entitlements, and property ownership.
Usage of Ledgers
Ledgers can confirm ownership throw property rights. For example, property title registers map who owns what and whether their land is subject to any conditions or restrictions. Ledgers confirm identity. Businesses have identities recorded on government ledgers to track their existence and their status under tax law. Ledgers confirm status. Citizenship is a ledger, recording who has what legal rights and what obligations people are subject to. Employment is a ledger, giving those employed a contractual claim on payment in return for work. Likewise, the electoral roll is a ledger. Ledgers confirm authority. Ledgers identify who can access what bank account, who can validly sit in parliament, who can enter restricted areas etc. At their most fundamental level, ledgers map economic and social relationships they can be understood as an agreement about the facts and when they change. This consensus about what is in the ledger and its accuracy is one of the fundamental bases of a market economy.
Development of Ledgers
Ledger technology has for thousands of years remained largely unchanged. Ledgers originate with the beginning of written communication. Ledgers and writing developed at the same time in the Ancient Middle East to record production, trade, and finance. The ancient clay tablets with cuneiform script listed units of work, taxes, rations, etc. The first international trade networks’ were arranged through a structured network of alliances that functioned a lot like a distributed ledger. The modern era brought the first major changes to ledgers in the fourteenth century with the invention of double-entry bookkeeping.3 By recording both credits and debits, double entry bookkeeping conserved data across multiple ledgers, and allowed for the efficient reconciliation of information between ledgers. The 1800s saw the next evolution in ledger technology with the rise of large bureaucracies and the corporation. These centralized ledgers enabled major increases in organizational size, scope, and efficiency, but relied completely on trust in the centralized institution. In the latter half of the twentieth-century ledgers moved from analog to digital. For example, the national databases of passport ledgers were digitized and centralized. These databases are computable and searchable making them greatly more efficient, however, a database still relies on trust; a digitized ledger is only as reliable as the organization that maintains it.
We can see how the economic structure of modern capitalism has evolved around the structures of these centralized ledgers. The 2009 Nobel laureate in economics, Oliver Williamson, showed that people produce and exchange in markets, firms, or governments depending on the relative transaction costs of the different institutions.4 Building upon the work of Ronald Coase Williamson’s transaction cost approach provides a key to understanding what institutions manage ledgers and why. It might seem strange that a ledger — a rather mundane and practical document associated mainly with accounting — would be described as a revolutionary technology. But the significance of the blockchain is fully based on the significance of ledgers as the foundations to our economy. Because at the end of the day ledgers are nothing more than a kind of database or information technology, how we record value is of course critically dependent upon the information technology that we have available to us.
Traditionally we have required centralized institutions of private enterprise or government in order to provide the authority needed for people to trust a given ledger and the record of exchange. However through advances in information technology, specifically the combination of distributed computing and cryptography, blockchain technology now provides the infrastructure for a network of computers to collaborate towards maintaining a shared, tamper-proof and trusted ledger. Thus the blockchain provides an alternative to traditional centralized ledger systems of firms and governments. As such it is legitimate to say that the blockchain is an institutional technology. It is a new way to maintain a ledger — that is, coordinate economic activity — distinct from firms and governments.
A ledger of contracts and capital can now be decentralized and distributed in a way they could not before. Ledgers of identity, permission, privilege, and entitlement can be maintained and enforced without the need for private organizations or government backing. The ledger is instead maintained by a distributed network of nodes. This changes the very foundations of economic activity with massive repercussions for how economies are structured and function; it literally rewires the channels through which we coordinate in the production and exchange of goods and services in society. Ledgers are so pervasive — and the possible applications of the blockchain so all-encompassing — that some of the most fundamental principles governing our society are now up for grabs.
The blockchain is a distributed ledger that does not rely on a trusted central authority to maintain and validate the ledger. This means that we can create economic networks for the recording and exchange of value that are not dependent upon centralized systems. Such a system for coordination via distributed ledgers would have many advantages. It would drastically reduce the cost of recording and thus make it possible for us to expand formal legal systems and economic activity. For example to the 2.4 billion people that currently have no formal ID or 70% of the global population that has no documented land rights. But also to record extremely small exchanges of value that are currently not feasible, and to account for new and different forms of value that are currently unaccounted for.