Crypto may be down, but the underlying tech has never looked better

April 12, 2024
By 
Michael Gao
8
 minute read

Crypto was never a sedate part of the digital economy. Still, even by its own lowly standards, 2022 proved to be an unbelievably tough year. Every passing month brought new scandals and villains, and institutional collapses that rocked confidence in this nascent sector.

Celsius. FTX. TerraLuna. The list goes on and on. And on.

Faced with this bloodbath, it’s hard to find cause for optimism. From an outside perspective, crypto (and, by implication, the adjacent Web3 and DeFi spaces) are little more than a high-tech Ponzi scheme, or a digital Wild West that’s rife with bad actors seeking to separate investors from their hard-earned money.

Here’s the thing: These scandals are a symptom of a wider disease. Namely, the emergence of blockchain technologies allowed a bunch of silver-tongued hucksters to sell a vision of a new form of business—one that isn’t rooted in the legacy financial system, where rent-seeking gatekeepers hold incredible sway.

The allure for investors was obvious. Invest in this token, or sign up for this ICO, and you can get in on the ground floor. For true believers, it was the equivalent of being offered shares in Apple right after its 1980 IPO.

But there was a problem with this dewy-eyed vision for the future. Put simply, the technology didn’t exist to make it a reality. It’s not enough to merely have a blockchain. You need the tools to process, manipulate, and extend blockchain data in a way that’s scalable, practical, and computationally affordable.

That’s the disease. Blockchains are foundational to decentralized applications, but we lacked the other essential components necessary to build meaningful (and commercially viable) products. Until now.

PUTTING THE CRYPTOGRAPHY IN CRYPTO

This piece isn’t intended to relitigate the sordid recent history of crypto. We’re all familiar with the recent failures of governance and design that led to the multibillion-dollar meltdowns of FTX and TerraLuna. Nor will I shine a light on the various Web3 and DeFi failures—whether caused by simple market failure, or by the actions of bad actors. There are simply too many of these to count, and again, we’re all familiar with them.

Rather, I want to make a really simple point: Early Web3 and crypto pioneers made a bunch of promises that went unfulfilled because they simply weren’t technically possible. But now, thanks to the seismic evolutions in cryptographic technology witnessed over the past few years, they are.

A good starting point is to define what we mean by Web3. This term is, for obvious reasons, inextricably linked with crypto. But it’s more nuanced than that. Ultimately, it comes down to two things: ownership and decentralization.

Let’s talk about ownership. Packy McCormick, a prolific investor and blogger, describes Web3 as a vision of “the internet owned by the builders and users, orchestrated with tokens.” This description is anathema to the current web that isn’t merely rooted in the legacy financial system, but also deeply centralized, with user data held in the iron grip of a handful of internet giants.

As McCormick alludes, this control is inherently disempowering to builders. In plain terms, it makes it nigh-on impossible for individuals to switch providers. You can’t, for example, take your Facebook data and plug it into a blockchain-based social network. It’s more complicated than that.

From here, decentralization naturally follows. Blockchains are incredibly valuable here. Truly decentralized blockchains are effectively databases, albeit not under the sway of any one company. And so, it’s conceptually feasible to build products that embody the inherent advantages of blockchain systems: resilience, distribution, and interoperability.

Things get tricky when we try to put these lofty ideas into practice. Manipulating data in a conventional MySQL or MongoDB database is easy. It’s something taught in a freshman web development class. It’s also relatively computationally cheap and simple. The same—until recently—could not have been said for blockchain systems.

This unhappy fact made it impossible for builders to create decentralized apps that were genuinely competitive with their traditional (or legacy, or Web 2.0—pick your pejorative) counterparts.

And so, the first crop of decentralized apps was undeniably unimpressive. Most (and by that, I mean the products that weren’t shameless scams or rug-pulls) either replicated the functionality of existing products, or failed to meaningfully improve upon them. “Decentralized” became yet another tech buzzword. And here we are.

CRYPTOGRAPHY: A SLEEPING GIANT

Cryptography is an essential component in cryptocurrencies, not to mention DeFi and Web3 applications. It’s also—apologies to any cryptographers reading this—a sleepy, almost narcoleptic discipline within mathematics and computer science.

I mean no disrespect here. Cryptography isn’t just important; it’s also a largely unsung field. It only enters the public eye when something goes wrong. The rest of the time, they’re focused on building the cryptographic algorithms that protect our information as it flies through the fiberoptic underbelly of the internet.

But in recent years, we’ve seen the emergence of new cryptographic technologies that lend themselves to decentralized applications. These algorithms promise to be as significant to Web3 as TLS was for the wider internet, unlocking new capabilities and possibilities.

More specifically, we now have the cryptographic tools that will allow us to manipulate and process blockchain-based data in a way that’s not merely secure, but also scalable and accessible.

I’m going to introduce you to two. The first algorithm is Fully Homomorphic Encryption. In a nutshell, this solves the problem of how to process data that’s stored in an encrypted format without first decrypting it.

Okay, so let’s compare and contrast. Let’s suppose Alice wants to send Bob some data that he’ll use in an application. Previously, Alice would encrypt the data and send the file to Bob, who would then decrypt it and run his calculations.

This exposes two problems. First, Bob needs the means to decrypt the file. Secondly, once the file is decrypted, it exists as a plaintext form that anyone with access to Bob’s machine can read.

With Fully Homomorphic Encryption, that file is never decrypted. And yet, Bob can still run his calculations on the data. For obvious reasons, this is a game changer, particularly within decentralized applications.

For the sake of transparency, Fully Homomorphic Encryption isn’t necessarily new. The first implementation dates back to 2009, around the same time the original Bitcoin white paper was published. But the early algorithms were slow, complex, and hugely computationally expensive to run.

To put that in context, running a mathematical calculation using the first Fully Homomorphic Encryption algorithm was about 100 trillion times slower when compared to the same calculation against a plaintext number. Newer algorithms are significantly faster, making this something that is viable to use within decentralized applications.

Another major cryptographic breakthrough is the recent emergence of Zero-Knowledge Proof cryptography. Put simply, this allows someone to prove the veracity of a statement to a third party without providing the statement itself. Again, we’ll use the metaphor of Alice and Bob here.

Suppose Alice wants to prove something to Bob: let’s say, for the sake of example, her age. To accomplish this, she could email Bob a scanned copy of her passport. But that throws up a few problems. The biggest is that it requires her to provide a copy of a sensitive identity document to a third party. What if Bob gets hacked? Or if Bob turns out to be untrustworthy?

Zero-Knowledge Proof cryptography solves that problem. Alice could say: “I’m 33.” Bob could then use an algorithm against an encrypted form of her document that effectively asks: “Is Alice really 33?” The algorithm then replies with an affirmative. Again, this happens without Alice needing to disclose the original document.

The potential uses of Zero-Knowledge Proof Cryptography in decentralized applications are immeasurable. It’s not hard to see how these can be used in “Know Your Customer” workflows, where businesses need to verify the identity of their users for regulatory reasons, but may not want the hassle and risk of dealing with identity documents.

Zero-Knowledge Proofs can also play an important role in cleaning up the tarnished image of Web3 and DeFi, where the financial health of a business is routinely obscured in the name of “security and privacy.” ZKPs could, for example, allow people to verify the reserves of a crypto exchange without also requiring the exchange to open up their accounts to the wider public.

But that’s just the start. Because ZKPs are relatively computationally cheap to run, they will allow for the creation of more sophisticated smart contracts, which can leverage wider sources of data in their calculations.

And that’s a big deal. Smart contracts are basically computer programs. Many are written In existing programming languages like Python, Rust, or JavaScript. But they don’t really act like computer programs when it comes to what they can do. They’re constrained by the cost of compute.

Or, put another way: they require a lot more power to run when compared to normal programs. And so, they can’t do as much.

ZKPs will bring that cost down. We’ll see more sophisticated smart contracts: ones that don’t merely scale, but also incorporate data and resources from other (more conventional) corners of the internet.

NEW TOOLS, NEW OPPORTUNITIES

These advances in cryptography won’t merely breathe new life into the decentralized space, unlocking possibilities that didn’t exist before. They’ll also give something that’s previously been absent from the decentralized space—a reason for existence.

I alluded to these early disappointments earlier. The first waves of decentralized applications were either completely lackluster, limited in their capabilities, or outright scams. Some builders made earnest, sincere efforts to build something useful. But, due to the inherent technological limits of the times, they just couldn’t.

Now, that’s changing.

But more importantly, these new leaps in cryptographic technology will bring new trust to the crypto and Web3 space. For the first time, consumers and investors will be able to determine the validity and financial health of a business. We’ll have the technology to weed out the endemic bad actors and permanently exclude them from the space.

And that’s a big deal. It’s hard to understate the damage wrought by individuals like Sam Bankman-Fried and others, who, through their own misdeeds, have turned the wider public against the crypto and decentralized space.

At the very least, the emergence of a firewall against these bad actors is a good thing, even if it’s too late to reverse the destruction they’ve caused.