Whether Ethereum is a security

https://prestonbyrne.com/2018/04/23/on-ethereum-security/

by pjbyrne • 8 years ago

49 36 8 years ago

SRTP2• 8 years ago

Those 2 charts the author cites describe different things: the Ethereum chart shows _cumulative_ amount of BTC raised over time, while the Swarm chart shows BTC raised per block.

Furthermore, the author's argument that observing a power law distribution is an argument in favor of the Ethereum pre-sale being participated in by "one or very few hands" shows that his understanding of basic statistical concepts is lacking.

Observing a power law distribution is an argument in favor of many, many participants. This is what we see in nature when looking normally distributed variables among large populations.

Stick to law, Preston.

pjbyrne8• 8 years ago

You must not remember how small the Ethereum universe was in 2014. If you think that curve is the outcome of an organic market process, there's a bridge in Brooklyn I'd like to sell you.

SRTP2• 8 years ago

I was actively involved in the Bitcoin ecosystem when the ETH pre-sale launched. I'd argue that the majority of pre-sale participants were BTC holders. That group was not small in 2014.

Also, look at https://en.wikipedia.org/wiki/Cumulative_distribution_functi...

jasonlaramburu2• 8 years ago

Kickstarter campaigns follow a similar pattern to the ethereum graph shown in the article. It’s not because of a malicious user who wants to secretly own all the kickstarters. It’s because time-limited crowdfunding campaigns tend to attract the most donations at the beginning (when enthusiasm/press is high) and towards end of the campaign (when FOMO is high).

Also the author should really state in the article that the swarm graph is not cumulative.

pjbyrne8• 8 years ago

Duly corrected.

jasonlaramburu2• 8 years ago

Nice. I think your point comes across much more clearly now. The eth presale graph is much smoother than all the others.

Could the smoothness be partially explained by the fact that one could only use btc in the eth presale, whereas later token sales accepted eth and btc?

stordoff• 8 years ago

towards end of the campaign (when FOMO is high).

I suspect there is also some degree of not wanting to back things that won't make it/wanting to back at around the time the money is taken.

I know the latter is a consideration for me at least.

drcode4• 8 years ago

Near as I can tell, the Howey precedent is for a type of asset so vastly different from a cryptocurrency such as bitcoin/ethereum that it is pretty much completely at the discretion of regulators as to whether they consider it to be a "security".

I know it would be nice to live in a world where judges can use an objective reading of the law/constitution to decide for certain in one way or another on such a fact, and that it would be nice to live in a world where lawyers like Preston could therefore make a reliable prediction from their expertise as to how courts will rule, but sadly in our world things don't work that way.

In an outlier situation like this, without strong precedents, regulators can make any decision they please and then create post-hoc rationales for defending their view.

(similarly, responses to this comment from either side will be easily able to make equally convincing absolutist arguments as to why bitcoin/ethereum are/aren't securities, given the vagueness in interpretation of precedents.)

pjbyrne8• 8 years ago

Well it's not the regulators who make the decision and set the precedents, it's the judges. Regulators are currently trying to figure out, to the extent existing precedents are inadequate, how to extend by analogy the existing precedents to the new circumstances in such a way as to convince a judge to extend the precedent. This is how a common law system is designed to work.

drcode4• 8 years ago

To be fair, It's totally reasonable that regulators/judges come come to the same conclusions that you make in your post, I just hold more cynical views as to how they arrive at those conclusions.

comex• 8 years ago

Technically, under the (controversial) doctrine of Chevron deference, the regulatory agency’s view has significant weight, but they do still have to convince a judge that their interpretation is reasonable.

wyc• 8 years ago

Summary of argument:

- Some claim that Ether is not a security because it is decentralized and therefore not a "common enterprise" by the Howey test, but the author disagrees with this specific argument because he thinks it's centralized.

- Author believes that a "horizontal commonality" of interested Ether participants can constitute a common enterprise.

- Author believes that that GitHub and commit rights are quite centralized.

- Author speculates that the shape of the Ether pre-sale curve signifies very few participants because it strongly resembles a power curve.

baddox3• 8 years ago

I’m not sure I understand the horizontal commonality argument. It sounds like the author is claiming that a technology (e.g. a computer program) is not decentralized if a large portion of the users of the technology use the same implementation of that technology (e.g. use the same exact implementation of the computer program). In other words, if a group of users all run the same Ethereum client software, then it sounds like the author is considering then centralized by definition, regardless of the reasons each user decided to use that computer program, the fact that they chose the same implementation means that technology is centralized. If I’m understanding that correctly, then I find that argument bizarre.

fjsolwmv• 8 years ago

Why is it bizarre? Users are very intentionally using a specific protocol to create a single shared blockchain, not creating isolated objects of independent value.

twblalock• 8 years ago

In other words, if a group of users all run the same Ethereum client software, then it sounds like the author is considering then centralized by definition, regardless of the reasons each user decided to use that computer program, the fact that they chose the same implementation means that technology is centralized.

Seems logical to me. The motives of the individual users have created an outcome of centralization because they all use the same program to do the same thing.

chrisco2552• 8 years ago

Why does centralization of the holders have anything to do with whether Ethereum is a security or not?

There are four requirements for the Howey test: 1. It is an investment of money 2. There is an expectation of profits from the investment 3. The investment of money is in a common enterprise 4. Any profit comes from the efforts of a promoter or third party

Ethereum tokens are virtual commodities useful for purchasing computational services on the Ethereum network. The token's value increases as the value of the network increases...but this can only increase in part due to Ethereum holders themselves promoting and propagating the network and pluggable services into the ecosystem. By this point alone, number 4 is invalid. Another point is that Ethereum is forkable, which means that anyone is free to take the project in a different direction if they disagree with the governance or stewardship of ETH core devs. It has even undergone one major fork (ETC being a totally divergent blockchain at this point).

Even point #2 is debatable. There certainly are no expectation of profits in the classical sense with Ethereum. That someone is buying up limited supply in anticipation that demand will increase does not a security make. If that were the case, then dot com domains are securities, and all those savvy 90's speculators who snatched up desirable domain names are guilty.

pjbyrne8• 8 years ago

I agree it's all debatable. This post deals only with the "common enterprise" prong as that appears to be the prong of the test that Coin Center and others are trying to challenge most assertively.

Centralization of holders makes it look like a more traditional scheme with a central promoter.

chrisco2552• 8 years ago

Well, what do you think about the forkable nature of blockchain technology and how that relates to the definition of common enterprise? Which "common enterprise" are we talking about at this point, Ethereum Classic or Ethereum? The presale tokens apply to both of these forks after all. At this point, the two chains are completely divergent, run by different devs, and have completely different directions. Anyone is free to fork ETH and take it in a third direction if they like.

dnomad• 8 years ago

There is certainly an expectation of profits. Dot com domains are irrelevant. They are not investing in a common enterprise they are buying an asset they think will accumulate.

Decentralization is also a red herring. The courts don't care whether Ethereum was hosted on a million servers or on a box under Vitaly's bed.

All of this hinges on what is a "common enterprise." Some might argue that Ethereum is a loose collection of volunteers that have come together to work on an open source project for various reasons. The project itself is simply a coordination and collaboration mechanism, indeed as I've been told you could say that cryptocurrencies are not unlike an online game. There is no single server hosting this game, and certain actions in the game require real money, but the important part is that the game is free, created by open source volunteers, and these volunteers do not expect to generate profits in their capacity as volunteers. (The volunteers may on the side actually become players in the game and buy the tokens etc, but they are acting in a different capacity.)

The problem here is precisely point #2 in the article: not all players in the game are equal. Some players have very unique privileges that literally let them change the rules of the game! Sure they're acting in a different capacity, but it's still the same people either way. Now the defense of this is that in theory anybody can come along and fork Ethereum and if they can convince the majority of the network to use their client then they too can change the rules of the game.

But how exactly feasible is this?

And this is where things get very murky. Because when you actually dig into Ethereum and Bitcoin what you find are many shadowy organizations and individuals colluding together to ensure that they win at the game. If it can be shown that certain entities are able to guide the development and price of Ethereum for their own benefit then you could see a judge saying there is a common enterprise at work here. Once you have any kind of "beneficial ownership" due to "effective control" -- no matter what form these may take because the laws are intentionally vague here -- then you almost certainly have an enterprise and what could be considered mega-scale securities violations.

In the end it doesn't really matter. The SEC isn't going to proactively go out and try to settle these questions. It's not how they, or any other regulator for that matter, works. (It's very rare to find a proactive regulator. There is little upside and potentially huge downsides to being a proactive regulator.) So they're going to sit back and wait until people start dying. Only when that happens will they spring into action ito save the day. What will need to happen first is for many investors to file law suits against the Ethereum Foundation (or maybe just Vitaly). There'll also have to be a terrorism/North Korea connection or the like. When it's clear that people are dying or terrorists are winning will the SEC will step in under the guise of "protecting investors" or fighting terrorism.

nivertech2• 8 years ago

Ethereum tokens are virtual commodities useful for purchasing computational services on the Ethereum network

Wrong, ETH isn't a virtual commodity, gas is. But gas isn't tradable, it's a virtual Unit-of-Account which uses ETH as the only accepted payment method.

IMO, ETH is a tokenized membership unit* in Stiftung Ethereum and by proxy a stake in the Ethereum mainnet.

*) Stiftungs not supposed to have memberships or shares, but that is the genius of Ethereum founders that they found a way to hack non-profit Stiftungs in order to use them for for-profit activities.

JumpCrisscross• 8 years ago

For a discussion about certain Ethereum holders forming a common enterprise, I'm surprised to find no mention of the DAO fork [1]. "Management" undoing the DAO was, to me, a defining delineation of Ethereum from Bitcoin.

[1] https://en.wikipedia.org/wiki/Ethereum#The_DAO_event

hudon• 8 years ago

I appreciate highlighting how centralized this blockchain is, but Bitcoin also benefits from centralized coordination. For example, in 2013, two developers and a mining pool operator successfully commandeered a fork away from the fork with majority hashpower [0]. The conclusion in the linked article is a pretty good summary of how we should look at this issue:

In summary, we have a lot to learn from looking back at the fork. Bitcoin had a really close call, and another bug might well lead to a different outcome. Contrary to the view of the consensus protocol as fixed in stone by Satoshi, it is under active human stewardship, and the quality of that stewardship is essential to its security. [2] Centralized decision-making saved the day here, and for the most part it’s not in conflict with the decentralized nature of the network itself. The human element becomes crucial when the code fails or needs to adapt over time (e.g., the block size debate). We should accept and embrace the need for a strong leadership and governance structure instead of treating decentralization as a magic bullet.

[0] https://freedom-to-tinker.com/2015/07/28/analyzing-the-2013-...

blackrock• 8 years ago

Is equity crowdfunding the killer app for Bitcoin?

ENGNR• 8 years ago

I'm starting to think the killer app isn't just breaking the back on public security over-regulation (ie pulling an Uber by just disobeying it until they cave), the killer app might be governance in general. An algorithm to gain consensus, which is virtually the sole reason governing bodies exist

I just made an Ask HN to explore this topic more

thisisit2• 8 years ago

But the Ethereum pre-sale looks perfect – and that’s what makes it worth querying. “Donations” from Eth-heads around the world not only flowed into the Ethereum Project’s wallet in great quantities, but they flowed in with the mathematical precision of a power function, 24 hours a day, 7 days a week, for two weeks straight.

I went through holdings of top 5 ICOs on Ethereum. One of things struck me was that many of the ICOs had huge amount of cross holding. So, X was holding a lot of Y and Z coins, while Z was doing the same with other ICOs. The number of inter-connections was astounding.

So my opinion is that something is off with the ethereum ICO system. I know that sounds tinfoil hat wearing conspiracy and I don't have solid proof or graphs. But given the evidence of Ethereum's distribution it looks more likely.

nivertech2• 8 years ago

Dotcom-style revenue swaps?

"Internet infrastructure companies were simply swapping equipment and putting it on their books as revenue. They essentially handed pieces of paper back and forth and called it money."

https://www.inc.com/niel-robertson/brilliant-failures/dot-co...

thisisit2• 8 years ago

That was an illuminating read. I think the whole ICO system might be something similar.

Whether Ethereum is a security

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