What Problem Blockchain Tries to Solve
Paying with cash is easy. You go to a merchant, give the banknote and receive your goods (let’s say fresh veggies from the market) and your change. Transaction done!
Paying online, however, is a bit more complicated since we cannot just “digitalize” our banknote. The reason is that if we just make a digital copy of it and send it to the online shop, we could make hundreds or thousands of copies. This would render the money useless. The problem has a name: double-spend (since you can spend one banknote twice or even more).
That’s why we need a middle man (or intermediary) who keeps track of our digital money. Such payment service providers (PSV) simply do this by running a database where all our incoming and outgoing payments are recorded and a balance is calculated. If I make a payment, the middle man checks if there is enough money on my account. Although this is very convenient, it has a few downsides.
- Fees: Intermediaries collect fees for their service. In some cases, these fees can be quite hefty. And in some cases, even if you just deposit your money in one of their accounts without moving it around, you have to pay fees.
- Privacy: Your financial service provider has a pretty good insight into your consumer habits, your earnings, and your lifestyle. Some of those things your payment service provider knows about you, you probably wouldn’t tell your best friends.
- Censorship: Since we said the intermediary is necessary to process our transaction it can also decide not to process it at all. With such censorship, individuals, organizations, or whole countries can be excluded from a financial system.
- Trust: We also need to trust our financial service provider that it takes good care of our money deposited. In the past, it happened quite regularly that customers found their accounts empty after a service provider got bankrupt or turned out to be a fraud.
- Money Policy: So far, most money services rely on central banks issuing new banknotes and determining inflation. While this can be very useful, it also can be abused. And there are many cases where hyperinflation destroyed the savings of many people.
A solution to overcome those five issues could be decentralized, digital money. The main issue here is to avoid double-spending. It means we need to find a consensus of what payments were made, what payments are accepted, and what payments get rejected.
