TIP160: BITCOIN MASTERMIND DISCUSSION

W/ CHARLIE LEE & TUUR DEMEESTER

15 October 2017

In this episode, Preston Pysh has an in-depth discussion about Bitcoin and upcoming changes to the protocol. Before we have this mastermind discussion with Charlie Lee and Tuur Demeester, Preston provides a monologue on the importance of understanding cryptocurrencies. Our two guests are some of the biggest names in the space. Charlie Lee is the founder of LiteCoin which is a digital cryptocurrency with a market capitalization of $3 billion dollars. Tuur Demeester is one of the first crypto writers and invested in Bitcoin when it was only $2 a coin.

IN THIS EPISODE, YOU’LL LEARN:

Why Central Banks are manipulating markets and why Bitcoin is important.
What is Segwit 2X?
What is the lightning network?
What is an atomic swap?
What capabilities will be important for bitcoin in the future.
What the future price of bitcoin might be worth.

TRANSCRIPT

Disclaimer: The transcript that follows has been generated using artificial intelligence. We strive to be as accurate as possible, but minor errors and slightly off timestamps may be present due to platform differences.

Preston Pysh 0:02

Boy, oh boy, do we have an interesting discussion for you guys today. We’re going to be talking about Bitcoin and cryptocurrencies. When we first started covering this on The Investor’s Podcast back in 2015, the price of 1 bitcoin was around $200 to $220. And today, it’s literally at $5,200. So in short, the price has gone up 25 times higher just in that short amount of time that we’ve been talking about it, and we have two guests on the show.

The first is Tuur Demeester. He’s been a key influencer in this space since the very early stages. We’ve had him on the show before and I think anybody who heard the first interview with Tuur knows how brilliant he is in this space. He’s got one of the most impressive understandings of the technology and the implications for economic impacts. Additionally, Tuur works with a high-profile hedge fund and investors that want to enter the crypto space. So he understands the ever increasing investments that are being made into this field better than almost anybody.

Our second guest is a graduate of MIT (Massachusetts Institute of Technology), and has been a part of this space since the very beginning. In fact, Charlie Lee is the founder of his own crypto coin, and it’s called, Litecoin. Litecoin is one of the biggest crypto coins in the world with a market cap of $3 billion. Charlie is probably one of the most technically sound people in the world to talk about blockchain technology because he’s literally worked on the code for Litecoin since 2011.

Charlie was a former employee at Google. He was also the director for engineering at Coinbase for several years. For anybody that doesn’t know what Coinbase is, it’s one of the biggest exchanges in the world for trading fiat currencies for cryptocurrencies. So when we think about Charlie’s vantage point and understanding of this stuff, it’s quite profound because he’s worked in this space at the very highest levels from numerous ends of the spectrum, from actually designing the code and working on the code of blockchain to doing the engineering side over at Coinbase, which is one of the exchanges.

So, before we jump into the Mastermind discussion with Tuur and Charlie, I start the episode after our soundtrack here. I start the episode by talking about why Bitcoin and cryptocurrencies are so important. I think a lot of people that don’t understand this stuff might think that it’s a little bit crazy. I would tell you, this is going to be an important part of the episode, [especially the] first 20 minutes because that’s where I make the pitch on why this is important for people to understand.

I’m not saying that you invest in it, but I think what I’m saying is, and I’m not telling you to not invest in it as well, but what I’m trying to say is that I make a pitch for why I think it’s important for people to understand it, and to try to learn more about it.

So, I give a little bit of background on how they work, and I try to give everyone enough context so that they can understand the essence of our conversation that we’re going to have in the Mastermind. Things get quite technical at a few points. And I wanted to ensure everyone to enjoy this conversation by providing a little bit of context with that 20-minute introduction.

Finally, Stig wasn’t able to participate in this discussion. He was on travel and we just couldn’t get our schedules all lined up. So, sorry about that, but Stig will be joining us for next week’s episode. All right, so I hope you guys enjoy this one as much as I did. So, let’s do this.

Intro 3:27

You are listening to The Investor’s Podcast while we study the financial markets and read the books that influence self-made billionaires the most. We keep you informed and prepared for the unexpected.

Preston Pysh 3:47

Alright guys, so like I said in the introduction, I’m going to start off by giving you a little introduction to what we’re going to be talking about today with the Mastermind. So when we think about where we’re at with financial markets here in 2017, things are strange and not like they used to be if you’d go back a decade earlier. For example, many places around the world have negative interest rates or close to it. And when a person thinks about how that’s even possible, they can’t possibly make any kind of sense of it. So, it doesn’t make sense that if I lend somebody else money, I should get less of that money back whenever they return it. That makes no sense whatsoever.

The reason that this is happening is extremely complex and difficult to understand. Billionaire, Charlie Munger and Buffett, these guys say that if you feel like you understand it, you’re probably definitely missing something. But I think if we were going to try to simplify this so that it makes a little bit of sense for people. I think one of the main reasons that we can talk about why this might be happening comes down to central banks around the globe, [which] are playing a major role in the buying and selling of financial assets at an extreme degree. I mean, you go to Japan. They’re practically nationalizing the entire securities, the equity market over there.

So you might be asking yourself, “Why are they doing this? Why are central banks buying all this stuff?” And the simple answer is that they’re trying to stimulate or sustain the economy by providing these cash infusions into the system. They’re trying to pump as much cash into the system as possible because there are these enormous deflationary forces that have been at play for 35 years here in the US, at least.

And so, whenever I say deflationary forces what I’m saying is that when you look at interest rates from 1980 to 1981 until where we’re at today, interest rates have continued to be pushing lower and lower and lower, and most of this is because the Fed keeps on adjusting that federal funds rate and adjusting interest rates down, and the way that they do that is by putting cash into the market and buying back bonds or short term bonds with the federal funds rate.

So, for example, when we look more recently, like in the last credit cycle, quantitative easing [QE] is something that the US Federal Reserve conducted for numerous years after the 2008 crash. And all that was happening was the US Fed was buying bonds off the market and putting the cash into the hands of the people that were selling them the bonds. So those sellers that were selling the bonds would then use the money into the economy, and they take that liquidity and they’d buy some other asset or some other stock, and that’s why you see the stock market go wild through all this.

The problem with this approach is that it manipulates the markets so that they’re not free and open like they used to be if you go back a couple decades ago. In fact, since the 2008 crash, these central banks have been buying so rampant in the US, Japan and Europe that if you go back and you look at the numbers of how many trillions of dollars they’ve spent, it’s somewhat mind blowing. So here’s where Bitcoin and any cryptocurrency comes into the picture of what I’m describing here.

So we’ve described all these major economies. The ones that are really having a big impact on the world. These big giant global economies have no incentive to have a strong currency. The debasement and continual printing appears to be the only solution to create growth inside of their own country. So if you’re talking about Japan, for them the debase to currency and make it the currency cheaper is a good thing because that creates this inflow of international investment into the country because they’re able to get labor cheaper, they’re able to get goods cheaper because the currency is cheap.

And so, like Larry Summers has a perfect example. He describes this process that everyone’s basically competing to devalue their currency and he describes it as you’re watching a show, say you’re watching a movie or a play or whatever, and the person in front of you stands up, so the only way you’re gonna be able to see it is that if you’re behind them, then you got to stand up. And then next thing you know, everyone in the entire auditorium or wherever they’re watching this is now standing up. And the only thing that’s happening is that everyone’s legs are getting weaker and they’re more annoyed that they’re having to stand up and that they can’t get high enough to see the show because everyone around them is taking advantage of this.

And so what he’s explaining in that example, is this idea that all these central banks around the world are trying to devalue their currency. And they’re just trying to devalue it faster than the next guy. And because that creates domestic growth inside of their country, whenever they do that at the expense of everybody else, that’s in the global economy.

So the issue for the people around the world at this point, especially the ones that are dealing with these fiat currencies that are devaluing faster than others is that the fiat currency is a terrible store of value, and the buying power for people of these countries just continues to disappear.

This is why when you look at the price of gold back in like 1960, it was $35, and today it’s $1,300. The gold supply has barely changed, relatively speaking. But what has changed is the enormous amount of fiat currency that’s been added to the system. So, that’s why you’re seeing the price go up is there’s no more gold, no more, no less of the gold but there’s a lot more of the supply of the cash. That’s why you’ve seen the price go from $35 to $1,300.

So since there’s no global pegs, and when we go back in time, and we look at whenever there’s a peg, a currency that’s pegged to gold which has a fixed supply, you find that you don’t have these big slow gradual bubbles. They’re more abrupt because people can basically exchange their fiat for gold at that point. It keeps everything in check, and it keeps it all pegged.

So whenever you don’t have that peg any longer, which is what we’ve basically had since 1971 here in the United States, that creates the situation that we’re seeing today. I’m not one of these big gold bugs, but I definitely feel like there’s an advantage to having a pegged currency because it forces decision makers within the country to spend reasonably. Because whenever they don’t, what happens is the currency devalues, everyone will then suck the gold out of the country, and that’s how it basically is kept in check. But if there’s no peg, then there’s no incentive to do that. Now there’s only an incentive to debase the currency.

So that’s where this Bitcoin and everything kind of comes into play here is because that’s what Bitcoin is really ultimately trying to solve. It’s trying to become a digital gold and a digital global currency that will peg all these fiat currencies, and basically hold all the governments behind the fiat currencies responsible for their decision making and their debasement.

The idea of Bitcoin is fairly simple, but its application and definitely the technical side of it is anything but simple. The only difference between gold and Bitcoin or cryptocurrencies is that you can spend it with a smartphone instead of actually having to deliver physical gold. You can send an exchange via smartphone. You can send it to the other side of the globe instantaneously without having to physically move it.

In the past, this could never be done because no one had ever figured out how to ensure a digital file was unique and uncopyable. And so for example, if you and I were standing in a vault and I gave you one ounce of gold, there’s no way anyone could argue that I still possess the ounce of gold because I physically don’t have it. But when you’re moving into the digital space, this was very difficult to replicate. And so in 2008, a guy named Satoshi Nakamoto, or at least that’s what it goes by invented a thing called, blockchain technology. And so blockchain technology is what solves this issue in the digital space.

The blockchain is a software protocol. Think like HTTPS, which is the protocol that’s used to run the internet. That’s a protocol. There’s protocols for email, there’s protocols for all this kind of stuff, but Bitcoin is a protocol, and it uses this blockchain technology that solves a mathematical problem to prove that something can’t be copied or reproduced.

So, if you have one unit or you have one bitcoin on this protocol, and I send that Bitcoin to another person, I literally do not have that unit, that digital unit in my name or in my possession in my digital wallet any further. The person that I sent it to is the only one who has that, and that’s what’s so fascinating.

Everyone probably hears blockchain. They don’t understand what that really represents. But what it represents is this idea that I can’t replicate or I can’t copy that Bitcoin and keep one for myself and send it to another person. That can’t be done anymore through encryption and the blockchain technology that’s been invented with this protocol.

So with this technology, there’s no need for a clearing house and everyone that participates on the network effectively has a bank in their pocket. If the technology behind what I’m describing sounds fascinating, I don’t know how you couldn’t think that this is fascinating.

But I’m really excited to say that we found an amazing resource on the web that people can use and learn a lot of this blockchain technology completely for free, and it’s by Princeton University. They’ve built a 65-video lesson on how Bitcoin and blockchain works. It is 100% free. It’s on Coursera. We’ll have a link for this course in our show notes.

And I would strongly encourage people if this stuff sounds interesting, and you want to learn more about this, [do check it out]. This course is such a fabulous resource. You’re going to learn everything you need to learn about blockchain and how it works and the encryption behind it, the hashing and the miners. All that kind of stuff. It’s all in this course.

I’m telling you, folks, whether you and you buy bitcoins, or you find it just interesting, and you don’t ever want to buy it, it doesn’t matter. I would tell you to take this course because it’s so worth your time to learn about this stuff. It is just fascinating.

So if this internet money that we’re talking about here, in fact proves to be a better store value because the monetary baseline can’t be manipulated and increased every time a country outspends its tax revenues. Then, there’s a potential for citizens, businesses, and even governments around the world to start using this technology. This means people can take their fiat money and exchange it for this internet money or this Bitcoin or any other crypto coin that we’re talking about. If enough people continue to do this, then the price of each Bitcoin or crypto coin or whatever you want to reference will continue to get bid higher until this global currency hits a steady state.

Today, the Bitcoin protocol is worth about $70 billion. That means if you take all the coins that are out there and you multiply it by the price of one coin, you will come up with about $70 billion. The price of one bitcoin today is about $4,400 or somewhere in that realm.

So now, when we think about how big this market could get because I mean, we’re really talking about replacing fiat currency in the world right now. So when we talk about how big that market cap could be, there’s people throwing around trillions of dollars as figures that are in the realm of possible here.

I mean, call it, $1 trillion to an excess of $100 trillion is where this thing could go. And it’s only at $70 billion today. So there’s a lot of people that think that there’s an asymmetrical upside to a lot of this, which even further makes this such an interesting discussion and study for somebody out there that’s just newly learning about this.

So that’s why Bitcoin is so important to understand and why it has become such a big deal and why you’re seeing it in all the news, and you’re seeing this thing on. It’s one of the most searched things on Google right now. So, if you think that what I’m saying here is a little far fetched about all this cryptocurrency stuff. On the sixth of October in 2017, the Wall Street Journal had a large insignificant article about the International Monetary Fund looking into the idea of turning their special drawing rights or SDRs into some form of blockchain or cryptocurrency. In fact, the chief of the IMF, Christine Lagarde has written the following, “It may not be wise to dismiss virtual currencies. Instead, citizens may want they prefer virtual currencies.” And that’s the end of the quote.

Now, we’ve had people like Jim Rickards, on our show numerous times. And the thesis that he keeps talking about is that the IMF is the only central bank, which is a global central bank, and it’s going to bail out all the domestic central banks during the next crisis. Jim suggests that the SDR is the currency that will allow all that to happen. So what we’re seeing is something that’s very interesting here because I know when Jim talks about it, he isn’t necessarily tying in the crypto piece to this, and this is something that is emerging out of the IMF just in the last few months in the last few quarters.

So what’s so interesting here is that on one side, we have Silicon Valley working at a rapid pace to create this new digital crypto currency. And we also have governments and global authorities looking into the implications of using similar technology whether it’s the IMF or other central banks around the world that are talking about using some form of crypto to back their monetary baseline. Now, let me give you a little prep into the conversation you’re about to hear. So, this gets very technical at various points but I think it’s important for people to hear because they can really quickly learn how real this stuff is.

At the start of our Mastermind discussion, we’re talking about a thing called, SegWit2x. When Bitcoin was originally introduced, it had a one megabyte block. With the protocol block is produced every 10 minutes and with the Bitcoin protocol, it’s every 10 minutes. Inside of each one of those blocks are a bunch of transactions that took place. So recently, within the past year, the number of transactions that are occurring in each one of these blocks have become so numerous and large, that the one megabit amount of space that was allocated for each block wasn’t enough to fit all the transactions into it.

And so as a result, people were having to increase the transaction fees, which I think the easiest way for people to understand this is to think of it as like a tip. So if I wanted to have a transaction with you, and I wanted it to be included on the blockchain but they’re running out of space on the blockchain, if I include like a tip like, hey, here’s an extra dollar, here’s an extra $2 for this transaction I’m trying to have with my buddy, that tip went to the miners which I’m not even going to get into the discussion about miners here. But that tip would go to the people that are basically processing the transaction through the encryption.

The tips were starting to go up. The fees were going up for these transactions. So a lot of people that were using Bitcoin are like, this is not a good thing here, that people were having to pay large fees to conduct transactions because now this is no better than fiat currency because it’s costing so much to conduct transactions.

So there was a ton of interest in this. The Bitcoin community saw this coming a mile away. They saw the transactions increasing. They saw it approaching that one megabyte threshold for the block size. And so, there was a solution that was resolved for this bottleneck, and I think that’s the best way to really describe this. It was a bottleneck for the amount of space that was available on each block.

So this caused the decentralized group of programmers that work on Bitcoin to develop a solution and the solution was a thing called SegWit2x. The solution was broken down into two parts. The first part is the SegWit part, which stands for segregated witness. And then the second part was the 2x part, which was the increase of the actual block size so that it was bigger than one megabyte. So after this agreement was reached on updating the protocol, the solution would occur at two different points in time. The first point was the SegWit part, and that would be done in August. It’s complete. It has already happened.

And then the 2x part was it was phased later and it’s expected to occur in November of 2017. So next month is when that’s supposed to happen, the 2x part. So the first part of the software update, the SegWit part is this really interesting idea, and we’re going to talk about it in the Mastermind portion here. But what it is, is it allows people to do off-block transactions. So, if I want to have a transaction with one of my friends in Bitcoin, we could conduct that transaction, we could conduct a couple different transactions, and then after a certain amount of time, the difference between all those transactions, say, I sent my buddy 100 bitcoins, and then he sent me back 50 bitcoins, the balance would be 50 bitcoins. That transaction difference is what then would be shot up into the blockchain. This would be all off the chain, and this is called the Lightning Network is what we’re talking about, and this is all a part of the SegWit upgrade that happened in August.

So by allowing these off-chain transactions, there was an enormous alleviation of the need for larger block sizes because now people weren’t shooting as many transactions onto the blockchain. They were doing them off blockchain since August, and so this is still developing. This is not anywhere fully mature. This is like 7% of these transactions are happening off the blockchain from the SegWit update from August. As a result of this change, since the scaling agreement, many people in the community want to avoid conducting the upgrade in November for the 2x part because they don’t feel like there’s really a need for it anymore because now people were doing these off block transactions and it’s freed up all the space and people aren’t having to add the tips and the fees, if you will.

So I know that’s a lot of information if you’re just learning about this stuff, and you hear me talking about this, it might be like what in the world is he saying, but I would tell you to really dig into this stuff and try to understand what’s happening and to learn a lot more about this because this stuff is becoming very real and very fast. I hope you guys enjoy the discussion. The discussion for the Mastermind is going to pick up talking about this 2x upgrade that’s about to happen in November, where they’re trying to increase the block size, even though this SegWit thing has already happened, and it’s already alleviated a lot of the pressure for the transactions being fit into the block. So that’s where this is going to pick up.

And although we don’t know how this is all going to end up. We do know one thing and I’d like to steal a quote from Bill Gates whenever he said blockchain technology is a tour de force. And we couldn’t agree more with Bill Gates on that. So I hope you guys enjoy this Mastermind discussion.

All right, so guys, such a pleasure to have you today. I don’t feel like I could be talking to a better group of people about what’s happening right now in the cryptocurrency space than you guys. So let’s just jump right into this. There’s a 2x debate that’s happening right now, specifically on the Bitcoin blockchain in November.

Tuur, can you take us through kind of the basics of what’s happening and why this is a big deal? What led up to it, kind of give everybody the generic version that might not be up to speed as to what it is and then we’re going to dive a lot deeper into this to extubate.

Tuur Demeester 24:43

Right. So the way I see it is that we had a big scaling debate the past few years. And the question was, are we going to do on-chain scaling with a hard fork? Are we going to be more conservative and do on-chain scaling with a soft fork? And one proposal that was a soft fork was SegWit. And that was on the table for a long time and was heavily protested against by Bitcoin miners, [who] mostly didn’t want to implement that. But then eventually, some people came together and made an agreement in New York that was in May. Or at least, those people agreed on a certain strategy, and the idea was there to agree on SegWit and then later have a hard fork that will double the capacity once more because SegWit itself already increases the on-chain capacity.

And so, at the same time, there was an initiative, a user-activated soft fork initiative that basically put more pressure on the miners, in particular, to go ahead [and] agree on SegWit. So in a way, the way I see it is that the SegWit2x agreement of New York was kind of a way to save face and say, all right, we are going to do SegWit, but it’s only because we’re also going to do the hard fork.

So now, we have SegWit. It has been merged. It’s active. People are using SegWit transactions. We also have BitcoinCash, which was an initiative I believe by, at least backed by Bitmain, the largest Bitcoin mining company, which was basically an alt coin.

It’s also a version of Bitcoin with bigger blocks, and that version of Bitcoin does not have SegWit. So it’s starting to become, I guess confusing from people that come from the outside. But that version is also live. People can transact on it. It is, however, totally separate from the Bitcoin network. It’s really its own thing.

And so now, the question is: Do we even need this hard fork? It’s called the 2x fork. Do we even need that? Why do people want to implement that? Why is there haste? Because people want to do it in November. Why do people call it an upgrade to Bitcoin? Something that is achieved by consensus, even though so many people are protesting against it. So there’s a lot of questions about that. And based on what I see, it’s hard for me to call it anything else but an attack by some people who prefer to have a different power structure in Bitcoin, maybe a more centralized way of making decisions because I don’t understand the haste for having another doubling of the blocks.

Preston Pysh 27:51

So Tuur, let me let me ask you this. So when you’re saying the word, scaling, you’re really talking about the transaction costs that it costs for somebody to transact. So if I want to send you Bitcoin and I want to send you money, for me to conduct that transaction, it was costing a lot of money because there wasn’t enough space on the block for people to all fit on the block. So what happened was people were tacking on fees, correct? And those fees were rising at a rapid rate.

And so, the core developers and all the people that are preparing the code for this, introduced this SegWit update, which then allowed people to conduct transactions off the blockchain and then they would be, this gets very technical, but then those would be added into the blockchain at a much more affordable price. Have we seen the fees come down since August since they implemented the SegWit in August?

Tuur Demeester 28:38

Yeah, they’ve come down very significantly. It’s actually not directly because of SegWit, like only 7%, which I think is significant. It’s growing every day. 7% of Bitcoin transactions are SegWit transactions now. But the reason why they’ve come down I think is because the actors who really wanted to promote their hard fork solution, they would benefit by having a lot of transactions on the blockchain.

And they would benefit by having high transaction fees because it would strengthen their narrative that things are very urgent. But now that SegWit has been merged, even though in practice right now, it doesn’t make that much difference. Because in reality, the network is not really congested. The fees have come down a lot. I’ve just seen recently, just today a message of somebody who paid $0.08 for a Bitcoin transaction, whereas before, we were talking about $1 to $2, just a few months ago.

Preston Pysh 29:43

And what was it before August, $1 to $2?

Tuur Demeester 29:46

Yeah, something like that.

Preston Pysh 29:48

And Charlie, do you agree with Tuur’s synopsis of this?

Charlie Lee 29:53

Yeah, the transaction cost has definitely come down. SegWit is being used, and one of the reasons why the transaction cost has come down is because there has been less spam transactions recently. So we don’t know who is doing this. But previously, there were people who were spending spamming the blockchain with lots of transactions, basically, trying to create a need for a block size increase by spending money to use up all the block space. So, we’ve seen that this has stopped since SegWit has activated. Because of that, the transaction fees have gone down considerably.

Preston Pysh 30:35

Wow. I mean, that sounds crazy to me. Immediately, my reaction to that would be it has to be somebody who was part of the original development of this, who has just a ridiculous amount of bitcoins and a ridiculous amount of wealth in order to spoof that. Would that be a good assumption or do you think that people were just wanting to spend money to spend money on? I mean, that doesn’t make any sense.

Charlie Lee 30:59

It’s either someone who has ulterior motives that want this hard fork. I mean, some people are thinking this hard fork is a good way to soak on fire the core devs because the core devs are not agreeing to it. So if the hard fork happens potentially, we could replace the core devs with another set of developers so that the core devs have less influence. So that may be a motive. It could also be just miners doing this because spamming the blockchain increases the fees, which means they take home more bitcoins for every bought mine. It costs miners nothing to spam the blockchain because they’re paying the fees to themselves. So the miners came together and decided to spam the blockchain to make it seem like there’s more activity, they could just make more money. So, that’s also a possibility.

Preston Pysh 31:49

So when I hear that, wouldn’t making the block size even bigger be even a larger problem for that? Because now they can even spam it harder, or am I out in left field?

Charlie Lee 31:58

No, actually making the blocks larger means that it will cost more to throw the blocks with spam. So make it harder for this kind of attack.

Preston Pysh 32:07

So guys, talk to me about one of the other things in there is replay protection. So I get very confused when I’m hearing people say there’s replay protection and what the impact is in November. So can you guys, first explain what it is, and then explain what the impact might be whenever November hits?

Tuur Demeester 32:26

I trust Charlie more than myself to explain what it is.

Charlie Lee 32:31

So replay protection. This issue came up during the Ethereum hard fork. So the Ethereum hard fork, if you guys remember the one that was done to reverse the DAO hack. That hard fork was done pretty quickly to try to undo the DAO hack. And they did it in such a way where it didn’t protect from replay protection. What that meant was that a transaction done on the Ethereum network would be replayable across the Ethereum Classic network and vice versa. So, if I was sending 10 ethers to you, I would also accidentally send 10 ether classics to you.

Preston Pysh 33:17

Oh okay, gotcha!

Charlie Lee 33:18

Yeah. And the replay is not always guaranteed. Sometimes it’s doable. Sometimes it’s not. And it has to be done deliberately. So someone has to take an Ethereum transaction, and replay that on Ethereum Classic network and see if that works. So, it made the whole situation really complicated and confusing for normal people. When they’re trying to send ether, they’ve accidentally sent out their ether classic and vice versa. So, the way people had to handle it, they had to split their ether and ether classic into separate addresses. And once it’s split into separate addresses, then you can send transactions without worrying about the other side being replayed because there aren’t any coins on the other side.

Preston Pysh 33:59

Wow.

Charlie Lee 33:59

All this becomes very complicated. It’s almost like an alternate dimension, where something happens in one dimension, it could also affect something else. Another dimension. So that’s what replay attack is, which is someone replaying your transaction and causing you to send out coins he didn’t plan to. The replay protection is a feature where you can prevent this replay attack from happening.

So when you’re doing a hard fork, you can make it so that transactions on one coin is invalid on the other coin, and vice versa. And this is actually pretty easy to do. And for the Bitcoin cash hard fork, they added strong replay protection, which means it’s replay protected on both sides, and Bcash or Bitcoin Cash transactions, if you will, are not replayable on the Bitcoin network and vice versa.

Preston Pysh 34:53

But when we go to November, and we’re talking about this 2x hard fork, they’re not putting replay protection in it, correct?

Charlie Lee 35:01

It’s still in the air. They’re talking about it. The reason why they don’t want to put replay protection is because they don’t want to be seen as something different from Bitcoin, right? Their SegWit2x is supposed to be an upgrade to Bitcoin. So there’s no reason why the transaction format has to change in any way because it is supposed to be Bitcoin.

But in reality, there’s so many people that [think] it’s such a contentious hard fork that there are lots of people that want to keep their Bitcoin [and] the SegWit2x coin separate from the original Bitcoin coins. So, they’re pushing for replay protection.

Tuur Demeester 35:43

Yeah, and I think there might be a bit between a rock and a hard place. The people who are trying to push 2x through because even though they say they have support of over 90% of the Bitcoin miners which remains to be seen. It’s really a matter of whether the 2x token or chain is going to be supported by the Bitcoin exchanges. And if so, how is it going to be named? Is it going to be named just BTC [Bitcoin]? And is then, the way it happened with ether, is the legacy chain then going to have a different name? Or is the 2x chain going to have its own name, like an old coin, so maybe the ticker would be B2X?

And also, are the exchanges going to list it at all because before Bitcoin Cash came out, and this is probably the reason why Bitcoin Cash implemented replay protection exchanges were very clear, we will not list this unless there is strong replay protection. But, maybe the situation now is a little bit different. If it is true that the B2X team has the backing of so much hashing power, that was not the case with Bitcoin Cash. So maybe they have a little more leverage, but I’m skeptical. I think they’re actually between a rock and a hard place. And at some point, they’re going to have to implement replay protection. And then it’s going to be clear that it’s a contentious hard fork, and we’re actually talking about an old coin rather than an upgrade to Bitcoin. That’s just my view.

Preston Pysh 37:16

Wow, so that’s how you see it happening in November. Charlie, I’m curious if you see a similar dynamic playing out in November.

Charlie Lee 37:23

It’s really unclear what would happen in November, so I’m hoping that the fork doesn’t happen. But the people on the side of the SegWit2x seems to be pretty adamant on pushing this through. And supposedly they have a majority of hash rate on their side. But hash rate doesn’t really dictate consensus change in Bitcoin. I mean, Bitcoin is a decentralized currency where people value Bitcoin in a decentralized way, right?

So if people all refuse to honor to see SegWit2x as an upgrade to Bitcoin, and continue to use and give the old [and] current Bitcoin value in the market, then the hash rate would follow that. Miners will not mine the coin that is not worth anything. So, if the SegWit2x fork is worth a lot less than the original chain, then miners will stay on the regional chain no matter what they promise with the New York agreement. So, it’s kind of playing chicken, and seeing who pull budgets first. But, I think the side is on the on users. So, I think we’ll be fine but it’s going to be a bit scary.

Preston Pysh 38:33

So guys, talk me through how does the voting rights [work], if you will from the core developers that are pushing these changes through? How does that occur? Like to me, whenever I see the chatter on Twitter of everyone there, I mean, there are a lot of people saying that they don’t want this. So, if that’s a representative body of the people that are using Bitcoin, how could it change that so many people don’t want [it] to get pushed through? I don’t understand that.

Charlie Lee 39:00

Yeah, so what could happen is, if the miners all decide to mine SegWit to export without listening to the users. If that happens, then they could make the original chain be open for tax and have no one mining it. So that could decrease the value of the original chain. It’s complicated. Bitcoin’s an experiment, right? So we don’t know how well it would handle this kind of contentious upgrade.

Preston Pysh 39:40

You’re saying that if the miners are all over on the 2x side, and only a few people are hashing over on the legacy chain. It could be susceptible to a 51% attack. Is that what you’re saying?

Charlie Lee 39:54

Yeah, the miners could 51% attack the legacy chain themselves if they want to try to kill it. So, it’s always a question of, does mining hash rate give Bitcoin value? Or do people using it give Bitcoin value? So, I think the answer is both. The security gives it value and people wanting to use Bitcoin also gives it value, but who has the ultimate say? In reality, probably neither party has ultimate say. So without consensus, this is a very tricky situation.

Preston Pysh 40:30

So I’m sure if a person has a couple of bitcoins in their Coinbase account or wherever they’re at, and they’ve been riding this massive wave of value for the last couple of years. They’re hearing this and they’re probably very concerned. So, how does a person like that treat it? Do they just continue to huddle their coins and not do anything and just sit back and let everything work its way out, because you’re effectively going to have coins on both chains, whether you go with the 2x or the legacy. You just sit back and let this thing duke itself out or is there a better approach?

Tuur Demeester 41:03

So the way to protect yourself from the 2x fork as an investor is, the simplest way is to take your coins, store them cold, and maybe in a hardware wallet before the fork happens. So maybe early November, you move your coins off the exchange, you put them in your hardware wallet, and then some people are going to come up with tools to split your coins so that you can then cleanly send one version to the exchange if you want to or another version, because then you’re not dependent on particular exchanges, whether or not they’re going to allow you to trade the new token, for example, with Bitcoin Cash.

Some exchanges, I believe, Kraken was early. [It] immediately allowed users to split the coins that they had on the exchange and sell or buy either. And then other exchanges like Coinbase, they said, We can’t guarantee that everybody will get their Bitcoin cash.

And in the meantime, the value of Bitcoin cash has fluctuated from .1, all the way up to .2 bitcoins for a Bitcoin Cash and now has dwindled to I think it’s .08, somewhere around there today. So, I don’t think, especially if you go with the more established exchanges that you have to worry that you will never get the 2x coins. It’s more of a worry about when would you get them? So I think the safest way is to store your coins, you know, off of an exchange, not online.

Preston Pysh 42:39

And, Charlie, do you agree with that? Or do you think people run the risk of not knowing what they’re doing and sending things to the wrong addresses because now they’re dealing with multiple coins at this point?

Charlie Lee 42:48

Well, definitely at the time of the hard fork, people we should be careful about creating add up transactions on the network because that could potentially be replayed and they could be sending the others’ coin without knowing. So before the fork, to protect themselves, my suggestion would be to put all your coins, keep all the private keys yourself in a hardware wallet. So send all your coins to a hardware wallet, and just keep it there and just kind of wait it through. If you don’t want to trade either coins and you are afraid that something could happen, just wait until the hard fork goals happen or not, and wait for everything to settle down before you move your coins. That’s probably the safest way.

Tuur Demeester 43:33

Yeah, I agree with that.

Preston Pysh 43:34

Awesome, guys. So that’s some good, good information for a lot of people out there that are listening to this. So, the next thing I want to talk about today is the Lightning Network. I am so excited to ask Charlie about this because Charlie, is this the correct statement, are you the first person to ever do a transaction on the Lightning Network?

Charlie Lee 43:52

No, definitely not. The Lightning Network has been in development for a while. People have been doing Lightning Network transactions on test net, and on main net since Bitcoin has been activated, they’ve been doing transactions on main net. I’ve done transactions on main net also. So, I’m definitely not the first that did a Lightning Network transaction.

Preston Pysh 44:16

But you’re definitely one of the very earliest people to start playing around with it. So now explain to our audience what this is because this stuff is beyond fascinating. I can’t wait for the audience to hear this.

Charlie Lee 44:30

Yeah, the Lightning Network basically is a second layer scaling solution. So, with incentives sending Bitcoin on chain, which means sending a Bitcoin transaction, having a mine on a blockchain. With Lightning Network, everything is off-chain. What that means, it’s similar to IOUs. So it’s, I owe you $10 and then if you pay me back $5, I now only owe you $5. But the thing with normal IOUs obviously, it’s easy to not pay back. But with Lightning Network, everything is cryptographically enforced, so that the payments have to happen, eventually all do settle on chain. So eventually, it will become a Bitcoin transaction.

So with lightning there, what happens is I give you a signed transaction saying that I’m going to give you 10 bitcoins. And if I send you 5 bitcoins, then we redo the transactions offline, to say, now I only owe you 5 bitcoins. And this transaction at any time can be sent on the Bitcoin network to kind of finalize the final balance. But before that happens, you can just send money back and forth on this channel between you and I. And none of that had to be written to a blockchain and pay[ed] a blockchain fee or miner fee. So Lightning Network makes it, so that you can do a lot of transactions very quickly, instantaneously, and paying very little fee.

Preston Pysh 46:09

So is that Lightning Network still decentralized? Or is there going to have to be some type of organization at a local level that handles all those IOUs that are happening and then broadcast those back up into the blockchain? How does that work?

Charlie Lee 46:24

It will be decentralized. So what I described previously is just a payment channel between two people. But the network will comprise of payment channels between various parties. And as long as I’m connected to you via a few nodes, I can send you a payment. I send this person payment, he sends the second person payment and the second person sends you a payment. And this is all enforced by the Lightning Network protocol.

So money, coins will definitely go from me to you through this network of nodes, and depending on who decides to run Lightning Network nodes. This will affect what the network layout of Lightning Network would look like.

So, potentially there will be large nodes like maybe Coinbase who run a node that’s connected to thousands of other nodes. And so it all depends on how the network gets formed. It will definitely chain a bit different from Bitcoin, in terms of centralization. So it might be more centralized like, you may have to go through if you want to send large payments, you may have to go through larger nodes that have more payment channels open. Those nodes can potentially censor your transaction. But if there are enough nodes, you can always find another path to the intended recipient.

Preston Pysh 47:49

So something I don’t understand is, who’s paying for those resources? Because when you’re on the blockchain, it’s the miners. They’re getting rewards for that but how is somebody incentivized to run the computers and the resources that are allowing the ledger of these transactions to occur.

Charlie Lee 48:06

For the Lightning Network, the Lightning Network nodes decide how much they want to charge if you want to route your payment through that node. They would base that charge off of how much their costs are on the actual on-chain transaction they need to do, so they would have to pay on chain fees when they create these on-chain transactions.

So, if they route like 1,000 payments for every on-chain transaction, then fees can be very small compared to an on-chain fee. If one node costs a lot more than another node, then you would route through the cheaper node to send a payment because there are various different ways. It’s kind of like poles on a highway. There’s many different ways to get from one place to another, depending on which roads and highways, and which toll roads you take, and you just find the cheapest and fastest way to get there.

Preston Pysh 48:59

So this is what I don’t understand with all of this is now that SegWit is activated, we can do lightning on the Bitcoin network, and we can do these very cheap transactions. We can do an abundance of them, why do we still need the 2x on the blockchain that we were talking about in the first segment of this growth? Why is that even required? It doesn’t make any sense.

Tuur Demeester 49:24

Well, it all depends on your perspective, I guess. If you feel like, maybe if you are a startup and you have a high burn rate, and you kind of counted on having free Bitcoin transactions as part of your business model, you are probably in a hurry to just quickly double the block size and give yourself a little more runway.

On the other hand, if you’re a Bitcoin investor, and you have a 10 or 20-year timeframe that you’re looking at, and you value censorship resistance and immutability, then you’re not going to feel like in a hurry to do a hard fork, especially a contentious one. That’s always where the risk is. So yeah, I would say it depends on your perspective. And I think that the biggest reason for this hasty, hard fork proposal or program is really a political agenda rather than a sound technical argument.

Preston Pysh 50:27

Okay, so, who’s going to win in November? If you had to put your money on one side or the other, is it going to be the legacy chain or is it going to be the 2x chain?

Tuur Demeester 50:36

Well, I think the second perspective makes more sense. I think that people who have been holding Bitcoin since 2010 to 2013 have seen this distributed group of core developers about 100 people spread around the world, most of them working voluntarily. They’ve seen them make significant improvements over the years. They’ve seen them be incredibly thorough with testing. They’ve seen them make predictions of caution and then being proven right over and over when they were for example with Bitcoin Unlimited.

There were a lot of cautionary warnings that turned out to be very valid. And so, I think that investors have put their trust in this decentralized, non-corporate, [and] very loose group of developers. And I think investors also see that these new proposals are not really technically backed by a critical group of people. If you look at the pedigree of the people behind 2x or the people behind Bitcoin Cash or earlier, the people behind Bitcoin Unlimited, and before that it was Bitcoin XT, the pedigree of those people never came even close to what’s known as the Bitcoin core developers.

So I really don’t see long term holders, not only holding on to the 2x coins, but in addition selling legacy coins in favor of, because that would be needed for the 2x chain to win, in favor of 2x. So yeah, and when it comes to the miners, it’s possible, they can make big statements about that they will back 2x. But miners also are a fairly loose group of economic actors.

And when they see that the legacy coin has a much higher value than the 2x coin, then they’re losing a lot of money by staying on the 2x chain, and then on the contrary, miners who choose to mine legacy coin, they have a huge economic advantage all of a sudden. They can make a lot of money doing that.

So I think that miners follow the money. We’ve seen that over and over in alt coin space. It’s never the case that, at least not to my knowledge, I’ve never seen the value of a coin being led or pulled forward by miners.

Preston Pysh 53:11

Charlie, I’m curious to hear your thoughts.

Charlie Lee 53:12

Yeah, we’re seeing it play out with the Bcash coin right now, where if Bcash liquidity drops below a certain point and becomes a lot more profitable to mining Bcash. A lot of miners will jump over to mining Bcash and vice versa when it becomes really hard or really difficult to find a Bcash block. They just leave and go back to Bitcoin mining. So miners are profit-driven, which makes sense and that’s how Bitcoin works. And there are very few ideological miners that will stick around and mine at a loss compared to the other coin, just to help out this one coin.

So yes, miners right now are kind of making a bluff, so to speak. To say that they’re going to support 2x, but in reality, they just followed somebody. So, I think that’s how it’s going to play out. If as long as the exchanges list both coins, then we’ll see which coin has more value, and the coin that has more value will win.

The fear is that if the people who signed the New York agreement all come together and kind of decide for the users that SegWit2x coin is the real Bitcoin and they’re only going to list that and they’re going to just decide for the users, then they’re kind of forcing it on people that this is Bitcoin, and the other coin is, we’re not going to touch it.

If that happens, then it’s going to be very messy because I know a lot of people will just stop using these centralized services and just keep running their Bitcoin full node that supports the legacy chain and just kind of do that. So we’ll see what happens.

Tuur Demeester 55:00

I’d like to comment on that, too.

Preston Pysh 55:02

Yeah, go ahead, Tuur.

Tuur Demeester 55:02

Yeah. So what Charlie says is true, like if the industry as a whole decides to just ignore the legacy chain, then they will be pretty difficult for users. But I think that’s extremely unlikely to happen. Because even if you look at the actual New York agreement or I don’t actually like to call it that way, it was just a meeting and a couple people put their signatures on a piece of paper.

Those are more people that back a certain proposal. If you look at who signed that, and also I look at the volumes of Bitcoin exchanges, I just checked a few days ago, out of the top 10 Bitcoin exchanges by volume, only two of those signed the Bitcoin New York piece of paper. And that was early in May, and a lot of those companies were under the impression that SegWit2x would be supported by the core developer community, which now is very clear that that’s not the case.

So two out of ten only signed the New York agreement. And then when you look at, for example, over the counter, I just talked to a large over the counter broker yesterday, and I asked them like, so, what are you going to do? And he said, well, we are just going to trade whatever people want to trade. Keep in mind, about a third of Bitcoin transaction volumes when it comes to buying and selling happens over the counter. This is where you pick up the phone and you order $1 million or $10 million with a Bitcoin that is not happening on the exchanges.

So Cumberland Mining is a large OTC broker. I believe Kraken has an OTC desk. They have not signed the New York agreement. So they will just trade whatever people want to trade. I think the market makes it clear that you cannot enforce across the globe censorship like that. And then also there’s pretty significant legal liability, I think.

If you as an exchange lists 2x coin as BTC, then people can basically be misled. And they can say, “Oh! I want to buy Bitcoin!” And then you give them 2x coin, you might be liable for a lawsuit. So I think that would be a very risky strategy legally speaking for exchanges to take.

Preston Pysh 57:29

I think the exchange is no better than to just list one or the other. I think they’d have such a massive fallout. Would you agree with that, Charlie?

Charlie Lee 57:37

Yeah, definitely. I talked about this recently in a Reddit post that, like my recommendation for Coinbase and other exchanges is, this being such a contentious hard fork, you kind of have to list both coins. You can’t choose one or the other being the real Bitcoin because you just don’t know. Basically when you let the market decide which is Bitcoin, and the market will. What if you exchange lists [of] both coins, the price you’ll see right almost right away I predict that the coin that people believe is Bitcoin will be valued a lot higher. And that’s what happened with the Bcash hard fork. Even before Bcash came into existence, there was a future’s market showing that the value of Bcash is worth like a 10th of the value of Bitcoin. So, the market will figure out which is Bitcoin and which is not. I have no doubt that the legacy Bitcoin is the real Bitcoin and the market will show that it’s the case in November.

So as long as all the exchanges listed, I think will be fine. SegWit2x coin would be a minority fork and it could potentially live on just like how Bcash is currently living as a separate alt coin. We have like hundreds of alt coins, so it’s not any different.

Preston Pysh 59:07

Just to give the audience a little context. So back in August, when Bitcoin and Bcash basically had their fork, and they split. Today, we’re recording this in October 2017, Bitcoin’s market cap today is $70 billion and Bcash’s market cap is $6 billion. So it’s less than 10% of the value of Bitcoin, even though as soon as that split happened, that’s whenever everything just kind of went crazy and all the prices were all over the place.

But now, after it’s settled down for a little bit, it’s less than 10% of the value. Would you guys expect the same kind of dynamic to play out here in November with the 2x and the legacy chain as far as, not saying which one’s going to win, but would you see a similar market cap valuation to be one, the worth 10% of the other one?

Charlie Lee 1:00:00

The way I see it is that Bitcoin Cash and Bcash. Bitcoin Cash set out to be in all coins so they’re defined as being a different coin from Bitcoin, whereas SegWit2x is trying to upgrade Bitcoin. So the design for SegWit2x does not allow for two coins to coexist because the way Bitcoin is designed, if they’re running on the same mining algorithm, if all the miners are mining Bitcoin, then the other coin would take forever for difficulty to chain.

So, the blocks would be like hour long or even like days long before you find a block and it takes like months or even a year or two for difficulty to adjust. So the minority chain for this hard fork would be really at the disadvantage, and it probably would not survive like the way Bitcoin Cash is surviving right now.

Preston Pysh 1:00:55

So it’s a winner take all kind of thing.

Charlie Lee 1:00:57

Yeah, I believe so.

Tuur Demeester 1:00:58

My best bet is that at the very last minute, they will implement replay protection, and then it will be an alt coin. So I guess from the perspective of long term Bitcoin holders, I think once a hard fork’s coin goes above between 10% and 20% of Bitcoin’s value, that sends a strong signal to these early adopters that hey, you can make a windfall right now by selling some of your coin. And so to me, if of course 2x has replay protection, the combined value of Bcash and 2x coin, I don’t think will exceed 20%. And of course, I wish that I could have some data to back that up. I would love to see a future’s market where people could bet on the value before the fork actually happens that would give a lot of information to all participants, but right now we don’t have that, so my best bet is the combined value would not exceed 20%.

Preston Pysh 1:02:04

Absolutely fascinating. Go ahead, Charlie.

Charlie Lee 1:02:07

We’ll also have some more data this month because Bitcoin gold is being hard forked on October 25. We don’t know too much about it, but it’s supposed to be similar to Bitcoin Cash hard fork where it’s going to be a clean split with replay protection, and it’s going to be GPU [graphics processing unit] minable. So they may choose different mining algorithms. So we’ll find out like that’s going to do another split of another kind of dividend for Bitcoin holders so that they can sell their Bitcoin gold for Bitcoin if they want to. So, we’ll have more of these.

Preston Pysh 1:02:47

So let me ask you guys this question, because I think anybody listening to this is saying, this is nuts. This is crazy that all these forks can happen. I don’t know how you’d answer this question. Is this good for Bitcoin in general moving forward, 5 years from now or is this really bad? Is this totally destructive?

Tuur Demeester 1:03:09

I think it’s really good. Like, this probably sounds weird, but I think it’s actually really good but because we’re seeing Bitcoin being attacked from all angles, and this is just another attack scenario. It’s kind of like a brand attack, like the way you could envision Coca-Cola in the early days, it became popular, and then people came up with Safari Cola, and all kinds of derivatives to try and hijack the brand.

It’s a matter of how strong the brand is whether or not it survives, but eventually I think, if you have 10 attacks like that, and Bitcoin still survives, and the same core developers that are still making it better and better, eventually that runs out of steam.

I think, long term, this is way preferable over some kind of central committee that decides where Bitcoin is going and using the litigation to try and get rid of copycats. I think it looks a little bit dirty and messy, but in the end, I think it’s just what comes with the package of a robust peer-to-peer decentralized protocol.

Charlie Lee 1:04:19

I agree with Tuur. I think that it’s a different territory. Like, Tuur’s example of Coke. Imagine that there’s no trademark laws and someone can actually come out with Coke, too, and branded as Coca-Cola, and there’s nothing that Coca Cola company can do to sue it. And the question is, will that survive? Will that all of a sudden be seen as a better Coke because it’s Coke, too?

The market will figure out that that’s not the case. And this is what we’re going to see. Something similar happened with Bitcoin Cash. Bitcoin Cash is trying to use the Bitcoin name and claim that they’re the real Bitcoin and keeping the Bitcoin name.

So it’s causing confusion in the market and some exchanges have come out to say like Biffen X, they came out to say Bitcoin Cash is not Bitcoin so we’ll call it Bcash, and we’ll use the ticker symbol BCH to refer to Bitcoin Cash or Bcash. That name has stuck to a lot of people because you don’t want confusion. So the market, [or] at least certain parts of the market have decided that that’s not Bitcoin. That’s Bcash, and we’re not going to let you steal Bitcoin’s brand.

The same thing will happen with SegWit2x. The market will decide what’s Bitcoin and what’s not Bitcoin. And this is a good learning experience for Bitcoin to see how it can handle this kind of attack where certain parts of the community, miners and industry are trying to upgrade Bitcoin with thought consensus from users and developers. And when that happens, would it work? Would a corporate takeover work? Or would it fail? And we’ll learn a lot from that in November.

Tuur Demeester 1:06:15

Yeah, one comparison that works for me is about whether or not we’re talking about dilution here. Whether these copycat brands, whether they can really undermine Bitcoin, is to look at the domain name space. It’s not a perfect one-to-one valid comparison, but I think there’s something there.

So domain names started off with .com, .gov and .org. But over time, there was more permissiveness for people to launch very exotic, I think it’s “top-level” domain names is the word [I’m looking for], so like .science and .ipo, and all kinds of things.

And you would think like the more high-level domain names there are, the more the value of a .com name would be under mine. If you can have pizza.com and then have pizza.net and pizza.science, wouldn’t that undermine the value of that domain?

And well, the practice shows, the market really shows that that’s not the case at all. pizza.com will sell for $10 million and a pizza.net will only go for about 1% or less of that price. And if you look at the entire space, the market space, 90% of the value in terms of deals happens in the .com space still.

The reason why people attach value to .com is because it’s this virtuous cycle. People know that it costs more to have a short .com name, and so they associate that with long term business interests that don’t really pursue maliciousness.

And if you look at the amount of malware associated with top level domain names, for .com, that’s only .5%. And other domain names like .science have over 50% of domain names associated with malware. So, the general public is right to have a little bit more faith in .com, and I think that sort of applies to Bitcoin too. I see Bitcoin as the .com. And then, a Bitcoin Cash would be another top level domain name and not .com. So less trustworthy.

Preston Pysh 1:08:29

That’s a really interesting point. So, let me transition into another subject that kind of relates to what we’re talking about here. So we’ve got all these alt coins. When you look at the market cap of all the coins combined, it’s $142 billion today, and Bitcoin makes up $70 billion of that. So about half of the overall market cap for all crypto is Bitcoin, and there’s hundreds of coins.

But, Charlie, I know you’ve done some things called atomic swaps. So talk to our audience about what an atomic swap is, and how, when you get all these miners and all these different coins, and when you think about what an atomic swap is, and how it might allow people to convert those coins as alt coins into bitcoin, I find this idea really fascinating. So explain this to our audience of what this is.

Charlie Lee 1:09:22

Atomic swaps are basically a way where you can convert Bitcoin to another coin, let’s say Litecoin for example, without going through a third party and doing it in a way that is atomic, meaning it either happens or it doesn’t, and neither side can steal money from the other side. So if I’m trading 1 bitcoin for 10 litecoins, for example, [and] I send you 1 bitcoin, you send me 10 litecoins, and we did trade.

Previously, before atomic swaps were possible, you would need a third party escrow to make sure that the trade is done in a fair way where neither party steals from another party, or you’re using an exchange to do it. With atomic swap, you can do it just by yourself without relying on a third party. And, technically what it does is you send these contracts on both chains to send your coins to the contract where the contract either unlocks for both for you or it doesn’t. And if it does go through, then the coins get swapped, you get a bitcoin like at the litecoin. If it doesn’t, then we get our coins back.

Preston Pysh 1:10:35

The transaction costs for this is nothing? What is it?

Charlie Lee 1:10:39

It’s just on-chain transaction fees. So we’re due for two transactions on each trade.

Preston Pysh 1:10:46

And so if the transaction fees are a couple pennies, then that’s it.

Charlie Lee 1:10:50

Yeah. So this is the general atomic swap booth on chain. So on-chain atomic swaps take some time because you need to do on-chain transactions, and it costs transaction fees. The other kind of atomic swap is possible, eventually or very soon is via lightning networks.

With Lightning Network, if you’re on the lightning network of both chains, you can swap your coins through the lightning networks of both chains and do it instantly for much lower fees because binary fees should be much less than the on-chain fees.

So when that technology actually is fleshed out and actually works, then you can do off-chain atomic swaps in suddenly between currencies. The future I see is that people may not even know which coins they’re actually using.

Similarly to today, when you’re using the internet, you don’t care which protocol you’re using, as long as you’re getting like the Netflix video or whatever you’re browsing, or you don’t care if it’s TCP/IP [transmission control protocol/internet protocol], UDP [user datagram protocol] or anything else. I think in the future, people will be using money cryptocurrency without knowing the underlying transaction whether it went through a Litecoin Lightning Network or not, and that would be pretty cool.

Preston Pysh 1:12:15

This stuff is absolutely mindblowing. Whenever I’m thinking about all these coins and I’m thinking about atomic swaps and what you just described, now it seems like if you’re a miner and you’re jumping down to the, let’s just say dash is one of the crypto coins out there. And dash is being projected to be very favorable for a miner to be mining coins on dash because it’s financially beneficial for them compared to Bitcoin. They so they move all their hashing power down the dash there. They’re mining these coins and then they’re just doing atomic swaps back into Bitcoin. Is that kind of how you see this playing out?

Charlie Lee 1:12:52

Yeah, they could definitely be doing that. Or one example I like to give is, right now people are holding on to ether to spend it when they use it for decentralized application. But in the future, maybe you don’t need to hold on to ether. You can only buy it, or you only swap to it when you need it.

The example I give is, like today, when you’re driving your car, you don’t need gas, or you don’t need stockpile barrels of gasoline in your house just to drive your car. You can always just go to a gas station and buy it when you need it. So that could be in the future where you don’t need to speculate on the price of ether. You only need to buy when you need to use it. And that exchange rate varies just like how gasoline prices vary on a daily basis.

Preston Pysh 1:13:45

So when I’m thinking through this long term, we fast forward 10 years into the future. The thing that would be valuable to me would be a blockchain that had a lot of security and then the next part is something that had a lot of application, or you were calling them DApps, decentralized applications that I could use.

So if there’s a lot of people using Ethereum doing options or derivatives or whatever, and there’s a ton of inflows to that, I would think that that would bring up the value of whatever ether is. So those would be the two things that I would think would emerge in the end would be applications and security. Would you agree with that, or do you see that being a little bit different in the future?

Charlie Lee 1:14:26

Well, yeah, definitely application and security. I also see payment as a big feature. So Bitcoin being the most secure. Lightning Network will make payments cheaper, but I mean, that’s why I created Litecoin being potentially a cheaper, less secure way, compared to Bitcoin, but a more throughput and a cheaper way to do transactions.

Preston Pysh 1:14:53

So lower cost. So you’re buying coffee, you’re gonna use Litecoin, but if you’re buying a house, you’re just doing it right straight through Bitcoin, correct?

Charlie Lee 1:15:00

Yep.

Preston Pysh 1:15:02

Unbelievable.

Charlie Lee 1:15:03

Yeah, and Lightning Network would help. And if you’re buying a house, you’re not going to be using lLightning Network, and you’re not going to be using Litecoin. You’re going to be using Bitcoin. You’re going to be using on-chain Bitcoin transactions. Potentially, the fees will be high, but you’re sending a million dollars, right? So you don’t care if the fees are like $1 or even $10.

And because you want the security that Bitcoin on-chain provides, for Lightning Network, the security is a bit different. Decentralization aspect of laying there which is a bit different from Bitcoin, potentially some nodes could censor you.

So it’s not as unsensible as a Bitcoin on-chain transaction. And payment channels will be a lot smaller, so you can’t send a million dollars to the Lightning Network. I don’t think it will support that. But you can send like thousands of dollars, maybe.

Preston Pysh 1:15:52

So going back to what we were originally saying, if at the end of this and we’re looking at what emerges as the winner 10 years from now from a pure user standpoint of what they desire – security, applications and low fees are the things that really kind of are going to emerge out of this. The question then becomes: Isn’t 2x bad for the security part? Doesn’t that make the Bitcoin blockchain less secure if you go to 2x blocks?

Charlie Lee 1:16:18

Yeah, it’s a trade off. Increasing the block size is a trade off between security, decentralization and fees and throughput. So on one side, people want low fees and lots of transaction today. On the other side, people think that the reason Bitcoin has value is because it’s decentralized and it’s secure. And we don’t want to give up that to get more transaction because we can do that on layer two networks. So yeah, I think 2x is bad today for Bitcoin.

But in the future, maybe it would make sense because in order for the Lightning Network to really address and be accessible to billions of users, there will still need to be more on-chain transactions for that to happen. Lightning Network nodes have to open and close payment channels which are on-chain transactions. So potentially in the future, we may want to do a 2x or even a 4x increase. We’ll see at that time what we can do in a safe way. But doing a 2x today in November is pretty stupid, in my opinion.

Tuur Demeester 1:17:29

One thing to keep in mind is that when you’re thinking about block size, it’s not just what comes to play with running a Bitcoin node. It is not just storing the history on your hard drive. Of course hard drive space is cheap, but it’s also the fact that you have to up and download a lot of data.

And I believe it was Bitfury who came up with a study where they estimated that if Bitcoin blocks, this was before SegWits, so I think if Bitcoin blocks were growing in size from 1 megabyte to 4 megabyte in a period of six months, likely, based on their statistical analysis, about 95% of the nodes would go offline because their bandwidth requirements would at least quadruple as well.

That I think is significant because the fewer nodes there are in the network, the more vulnerable it is to centralization. And when you think about the bandwidth that you need to run a node, one way to really think of it is that it’s not just bandwidth you need, you need censorship resistant bandwidth.

And so, imagine if you’re in Iran somewhere, or in Turkey, or maybe in China where the government does throttle or control internet traffic, it’s a lot harder to break through the firewall if you need to send 10 gigabytes a month, or if you need to send 100 gigabytes a month through that network.

Preston Pysh 1:18:58

Okay, so guys, I want to talk about the Ethereum blockchain because so many people out there have Ethereum. It has a large market cap, but I constantly hear about how big the block size is and how it’s unlimited. It seems like the blocks are getting so huge that to me, it sounds scary, but for you guys it might not. I’m curious to hear your thoughts on this, on the scaling piece of this.

Tuur Demeester 1:19:23

I can speak a little bit. Yeah, the problem is for me as an outsider, it is hard to see how exactly the Ethereum nodes, how they compare to Bitcoin nodes because you can learn running light node, and you can run a full node, but then in Ethereum, there’s also something in between. And so the people who are not that worried about, like I was just talking about bandwidth, they’re not that worried about bandwidth, they say, it’s enough for you to run like a semi-light node. You still don’t have to trust everybody to do that.

So while I think it’s very clear that Ethereum is less secure than Bitcoin, [it] has a way bigger attack surface. And to me, it’s clear that it’s also less decentralized at this point than Bitcoin, because the mining is likely more centralized. Also, fewer nodes and higher bandwidth requirements per node. It’s hard to quantify that.

I’ve been becoming a little more careful to say that the Ethereum blockchain is now 320 gigabytes versus Bitcoin being like 170 gigabytes because it’s just a different technology. They store the transactions in a different way, so the verification of the integrity of the blockchain also happens in a different way.

Preston Pysh 1:20:54

Charlie?

Charlie Lee 1:20:56

Ethereum blockchain is definitely increasing at a much higher rate than Bitcoin. And that’s expected because Bitcoin is focused on doing payments. So the blockchain is pretty slim. All it does is payments, whereas Ethereum supports contracts. It supports turning complete contracts, so you can a lot more stuff with Ethereum. But it comes at a cost because it will scale. Scaling is a lot harder on Ethereum.

Ethereum will face a much tougher scaling problem than Bitcoin because there’s just a lot more data. I guess we’ll see how they handle it. I don’t think it’s that bad because if you want to use decentralized apps, you just have to be able to handle all the contracts that are going through.

Preston Pysh 1:21:45

Would this be more appropriate on a second layer, though? Do you really think that that needs to be done on a foundational protocol layer?

Charlie Lee 1:21:51

I guess it remains to be seen. So Rootstock is going to support either contract on a side chain for Bitcoin and Litecoin. We’ll see how that plays out whether or not a side chain makes more sense for contracts to exist on. And the main chain being just a secure platform for sending transactions. Given the current price of the Ethereum market cap, the market is telling us that there is a need for a decentralized application blockchain. We’ll see if that’s true in the future.

Tuur Demeester 1:22:31

Yeah, it’s interesting to look at some of the scaling proposals for ether, like one that’s come up recently is plasma. And I don’t know the details, but I do know that there’s some similarities to Bitcoin side chains, where basically the computations would happen no longer on the Ethereum main chain, but in another environment.

The hash of those computations would then be brought back to the main chain. So basically, you’re using the main chain for just a series of stamps, of course, if you push that to the limit and assume that everybody starts using this plasma solution. And there is the question of like, well, if that is the scaling solution that people want to go for, what is then the benefit to using the ether main chain that is less secure than the Bitcoin main chain, because Bitcoin can also aggregate stamps or signatures.

But of course, that’s not the only scaling proposal that’s on the table for ether. People are still talking about sharding and proof of stake, which supposedly would scale things a little better too. Whereas with Bitcoin to me, it seems a little more clear how it’s going to scale. A lot of the proposals with ether require some significant breakthrough is still like it’s very much in the very early stages where it’s not even clear whether it’s feasible, whether the technology can be invented.

Preston Pysh 1:24:03

It almost seems like they’re trying to do a little too much at the foundational level, and it’s going to make things perform more like a Rube Goldberg Machine than something that’s clean and secure and stacked, I guess in the appropriate manner and getting the network effects in the right order. Do you guys see the transition? If you had to bet against or for Ethereum in the future, what would you say?

Tuur Demeester 1:24:28

I would say the risks are way higher and exactly like you say, “Model is not very modular.” It’s not really built in a systematic way where they’re like, let’s do this first and do it well, and then move on to the next thing, and do that well. They tried to do a lot of things at the same time. So I think that just means a lot more risk and a lot more question marks with regards to scaling.

Preston Pysh 1:24:57

Alright guys, so this is the last one that I want to talk about. And this is, what for you is a narrative or something that you feel is really important that no one’s talking about in this space?

Tuur Demeester 1:25:06

So something that is not talked about enough, even though it is talked about, is that the entire cryptocurrency space right now is $150 billion. What people say a lot is they point back to 2015, and they say, hey, it was only $5 billion then, and it’s $150 billion now. And of course, we could see a big crash. That’s totally possible. But in the grand scheme of things, if you’re talking about disrupting just liquid store of value, just that vertical, that’s about a $100 trillion dollar market, right? If you look at M1 [money], M2 [money], if you look at gold, offshore deposits, [and] liquid government bonds [and] put all those together, you’re talking about $100 trillion.

So Bitcoin is not even, and all the other cryptocurrencies combined are not even $1 trillion, right? We’re only talking about $150 billion. So even though there is volatility right now, there will be very high volatility going forward. I think it’s still a drop in the bucket. I think that technology is sound. I think we do have a lot of vaporware. I think we have a lot of things that are going to fail, but the core is solid.

And it’s not just something that fell out of the sky like a meteor nine years ago. Bitcoin was built on a multi decade tradition and a multi decade effort to come up with digital money. And the master, the genius of Satoshi was that he combined several elements in a fantastic way. So I think that I’m very, very optimistic going forward in terms of the money coming in.

The big problem now is still custody, like how do you custody these assets in a responsible way. And that’s why you’re seeing a lot of smaller funds come up that each have their own custody solutions. And then, the larger multibillion dollar funds, they use those funds as a way to get into this space. But this is very, very early days still is what I’m saying.

Preston Pysh 1:27:14

So what’s interesting is that’s 100x from where we’re at right now. So you’re, you’re saying, and this would be your top end estimate? Tuur, do you think that there could be a potential for 100x still to go in this space?

Tuur Demeester 1:27:28

I think in the next 10 years, Bitcoin is going to go to about $100,000 for a Bitcoin. I think that’s a realistic goal for let’s say, 10 to 15 years. I think a million dollar would be possible, but in terms of my personal target, that’s something that I think is realistic.

Preston Pysh 1:27:46

Wow. And Charlie, your narrative?

Charlie Lee 1:27:50

Yeah, I think something that people aren’t talking about is the additional things that SegWit on Bitcoin now brings to that makes possible. So people are too focused on scaling. They forget that SegWit is actually technology that allows for a lot of other things which includes Schnorr signatures, confidential transactions and MAST [Merklized Abstract Syntax Trees]. All these technologies will come in the new future, and all can be done with a soft fork now. And all because SegWit was activated.

Go to a little bit like Schnorr signatures allows you to have signatures that are smaller so it helps with scaling. Also helps with privacy where you can combine transactions in signatures. MAST would allow more complex contracts done on the Bitcoin network. And confidential transaction will let you hide your transaction amount so making Bitcoin more fungible and more private. And all these things are just going to be amazing improvements to Bitcoin. I think this is something that people are just not aware or are not talking about because they’re all focused on SegWit2x, scaling and all these other distractions.

Preston Pysh 1:29:09

Wow. Charlie, Tuur, thank you guys so much for coming on the show and talking about this stuff. This was so much fun for me to talk to you guys specifically because you guys are a huge force in this movement. And I just really appreciate your time because I know it’s extremely valuable.

Charlie Lee 1:29:27

Thank you.

Preston Pysh 1:29:29

Well, I hope everyone has enjoyed this Mastermind discussion. If you’re looking to learn more about Bitcoin and cryptocurrencies in general, I’m going to have a bunch of free sources listed in our show notes. So if you guys want to check that out, I think it’s going to be a great resource for you to dig into this more, specifically, I’ll have that link to the 20 plus hours of free classes that Princeton University has posted online about Bitcoin and cryptocurrency and blockchain technology.

Additionally, if you guys are enjoying the show, please let us know what you think by going to iTunes And leaving us a review. That helps us out so much, and we’re always so thankful for all the people in our community that are always helping to try to make the show a success.

So with all that said, thanks for listening, and we’ll see you guys again next week.

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