Why Tezos Will Weather The Cryptoverse Wars
Between Polygon finding traction to rival Ethereum and Solana raising 314 million dollars, Tezos is an improbable topic. Correct, that mega ICO from 2017 that became embroiled in legal issues and went off the hype radar.
Yet, the Tezos ecosystem appears ready for take-off. Hic Et Nunc and Kalamint have become top NFT marketplaces, and plans announced by McLaren, OneOf and Red Bull Racing herald continued momentum. Likewise, DeFi is finding its wings on platforms like Kolibri, Plenty, Quipuswap and Wrap. And, whether in Aspen or Bangkok, security token offerings on Tezos accounted for 12% of the global total in 2020.
The case for Tezos, however, transcends this momentum. To articulate it, let us begin with a fiat analogy. What makes you chose the Swiss franc over the Lebanese pound?
Easy, you probably believe the Swiss franc to be a sounder and more usable asset. Similarly, cryptocurrencies are compelling if they are sound and have a robust ecosystem.
These attributes go hand-in-hand. The US dollar has a massive network effect, but its long-term value is questionable if Fed policy dilutes the majority of holders. Conversely, Bitcoin offers algorithmic scarcity, but this only matters if people care.
What about technology?
Solid technology is a minimum, but it can hardly create a moat in a space that is fundamentally permissionless and open-source. If cryptocurrency is a social, political or economic construct, what future-proofs it goes beyond technology.
After all, why do Bitcoin and Ethereum dominate the space when they are, relatively speaking, technological dinosaurs?
On Sound Money
Bitcoin tells a simple story: hard-capped supply, and rising demand from individuals, institutions and states projecting it as the hard money of the digital era.
Ethereum, on the other hand, is more complicated. It has established a tremendous network effect, but it is only with EIP-1559 that its asset (ether) becomes non-inflationary and gains protocol-level utility — i.e. paying the transaction base fee.*
* While highly impractical , fees can theoretically be paid in other currencies prior to EIP-1559, a point recently highlighted by Ethereum core dev facilitator Tim Beiko.
However, this utility remains minimal, which is a major reason for the bullish sentiment around Ethereum switching to proof-of-stake consensus. Namely, proof-of-stake would give ether a value capture mechanism: holders will have the right to produce blocks, and thereby earn inflationary block rewards and transaction fees.
If proof-of-stake secures itself by paying validators with inflation, the store-of-value quality of its native asset depends on the ensuing dilution of other holders. If rewards accrue to validators only, everyone else pays an inflation tax. If they accrue to all holders in proportion to their balance, inflation has no practical relevance.
Where does Tezos fit in? To begin with, it has been live as a feature-complete proof-of-stake network since mid-2018, more than you can say for Cardano or Ethereum 2.0. Roadmaps might be more exciting than functioning products, but a successful track record in production matters more.
Moreover, its delegation mechanism is highly favourable to non-dilutive inflation. Any address (including smart contracts) can delegate XTZ to a baker without transferring custody or being exposed to slashing risk. As delegations increase a baker’s chance of producing the next block, bakers compete on the percentage of rewards they remit to delegators.
The non-dilutive nature of XTZ inflation is a key point. By way of analogy, imagine if the Fed conducted monetary policy by distributing fresh dollars to all holders in proportion to their balance. Bitcoin and Tezos might not compete, but this turns Bitcoin’s sound money framework on its head.
What about other proof-of-stake chains? Algorand and Cardano have similar models, but BSC, Celo, Polygon, NEAR and Solana all lock delegated tokens and subject them to an unbonding period. Polygon and Solana even expose delegators to slashing risk. Ethereum 2.0 is set to follow this model, which creates — in my mind — a tension between the usability of an asset and its quality as a store-of-value.
On Sustaining Network Effects
Bitcoin has a large, fervent community. Remember that strange moment in Miami? To grow this network effect, the argument goes, Bitcoin only needs to be itself — digital scarcity backed by consistent, predictable technology. The Lindy effect is Bitcoin’s ally, and makes it harder to disrupt.
Ethereum, on the other hand, aspires to be a global computer. Despite having birthed a thriving ecosystem, it is more vulnerable to disruption by superior technologies. In fact, high fees and scaling problems have already caused Ethereum’s network effects to fragment into alternative EVMs like Polygon or BSC. Ethereum 2.0 continues to lag without a firm timeline, and this certainly hasn’t helped.
This speaks to a larger problem: a blockchain must upgrade itself to preserve its network effects, but upgrades are difficult to execute on decentralised systems. Solving this comes down to governance, an eminently subjective topic that can hardly be settled in a single article. What I do observe, however, is that governance on Ethereum is neither scalable nor effective.
First, there is no formal mechanism to measure support towards an improvement proposal. This effectively places the responsibility on Ethereum core developers, whose burden has grown with the size of the ecosystem. Likewise, activating an upgrade requires significant amounts of coordination with node operators, a struggle whose collateral effects became visible when Ethereum applications “went dark” in November 2020. Vitalik speaks of “problems related with people”, and the track record speaks for itself.
Tezos, on the other hand, starts with the principle that a blockchain — itself a mechanism for decentralised, trustless coordination — can be used for its own “self-amendment”. The canonical protocol is stored on-chain, and can be modified through a formal procedure.
In an open process, any baker can submit a proposal to amend the protocol. The most upvoted proposal continues through two rounds of voting and, if approved, is hot-swapped with the current protocol and activated on mainnet. Although bakers are casting the votes, users are given a concrete say through Tezos’ delegation mechanism. In what effectively gives Tezos a means of funding its development, the proposing baker can also include an invoice, which is settled in freshly minted XTZ if the proposal is approved.
Importantly, governance on Tezos is not a roadmap idea, it has a track record. Since inception, Tezos has delivered six upgrades, covering features and optimisations alike. Delphi, for instance, implemented gas optimisations with concrete benefits for ecosystem applications. Edo, on the other hand, integrated technology from ZCash to enable privacy-conscious use cases on Tezos.
This cadence of decentralised upgrades is not only important to preserving network effects, but also a means of turning the entire space into an R&D department. Just as Tezos borrowed from ZCash on privacy, it is borrowing from Cosmos to activate a new consensus mechanism based on Tendermint.
Ultimately, governance systems are complex, subjective and never conclusively designed. What Tezos can rightfully claim, however, is its place at the vanguard of decentralised L1 governance, battle-testing its model with every quarterly upgrade. And no need to take my word for it: Gavin Wood, co-founder of Ethereum and creator of Polkadot, recently stressed the importance of upgradability, highlighting Tezos as “at the moment … the only one [that has] this kind of functionality”.
To conclude on a note of pre-industrial wisdom, Charles Darwin is said to have stated that “it is not the strongest of the species that survives, nor the most intelligent [but the] one most adaptable to change”. He would have liked Tezos.
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Not financial advice. Long all currencies mentioned in this article. Want to get started on Tezos? Activate your Kukai or Temple wallet, and check out the dapp store. 🚀
Shoutout to cryptocodeschool.in who coined the term “Cryptoverse Wars” before I did. Check out their Tezos development tutorials.
And, special thanks to Arthur Breitman, early architect of Tezos, for helping me understand the Tezos vision through his blog posts and podcasts.
