What is cryptoeconomics?

“A formal discipline that studies protocols that govern the production, distribution, and
consumption of goods and services in a decentralized digital economy. Cryptoeconomics is a
practical science that focuses on the design and characterization of these protocols.”
The blockchain technology runs on the principles of cryptoeconomics.
Cryptoeconomics comes from two words: Cryptography and Economics. People tend to forget the
“economics” part of this equation and that is the part that gives the blockchain its unique capabilities.
The blockchain wasn’t the first time that a decentralized peer-to-peer system was used, torrent sites
have used it for ages to share files. However, in every sense of the word, it has been a failure.
We often imagine Bitcoin and other cryptocurrencies like the Wild Wild West: no rules, no social
norms, only greed, selfishness and mining. This perceived lack of law and order makes the crypto
world scary to many people. However, in reality, there are rules that govern decentralized peer-to-
peer (p2p) networks such as Bitcoin. These rules are coded into protocols and deliver the framework
for how participants of a network interact with each other. They help us create a secure, trustworthy
and valuable system, just like laws deliver a framework for a better society. Cryptoeconomics asks the
question of how we can design these rules and incentives, so that the networks stay secure and create
value for everyone. Cryptoeconomics uses cryptographic tools, game theory and economic incentives
to achieve this goal.
In order to understand how complex and valuable these decentralized p2p networks are we need to
understand some basic cryptoeconomics behind them. If you have a better grasp of basic
cryptoeconomics, you will understand why the emergence of cryptocurrencies is more than just hype.
Why is cryptoeconomics so important, what are its use cases and why do we even need it?
Even if you have never heard the term “decentralized p2p network”, you’ve likely used one or at least
heard of it in the form of former filesharing websites, like Napster or BitTorrent. Generally, they’re
systems in which humans interact with each other and exchange value. Value can be anything we
collectively deem valuable, like a material item or service. Most people would probably think of fiat
currency as valuable because it is widely accepted as such and because we trust in its stability and
longevity. Nowadays, even cryptocurrencies like bitcoin partly fulfill this role.
These systems are designed, much like our nation states, governments and democracies, by writing
down and enforcing laws. Unlike our nation states, decentralized p2p networks are designed by
writing code into protocols. Unlike our nation states, we put trust in the code rather than the
government.

 How we design these protocols influences how we interact with each other in these systems
and thus how much value we can create and share. Ultimately cryptoeconomics lays the
foundations for everything that happens in decentralized p2p networks.
 When designing these protocols, we make certain assumptions and theorize about how the
protocols will be used and how they might be misused. We try to use these assumptions to
maximize the value of the system for its participants.
 In the crypto world, programmed protocols enforce rules within decentralized p2p networks
and therefore ensure value and security. In comparison to our larger nation states, the nice
thing about decentralized p2p networks is that:
 Nobody can force you to participate.
 There is no central authority (like a government) who can misuse their monopoly of power
(think about the horrid things corrupt and unethical governments have done, like genocide,
slavery, discrimination.)
 There is no physical violence used to make participants stick to the rules.
 You trust in open-source code to provide you with security.
Perception for Cryptoeconomics
Goals: On a very high level, the goals of a decentralized p2p digital network is to be safe and to
provide value. In more concrete terms:

 Things we want to encourage:

 Trusted execution (you can trust that your transaction will be executed)
 Open Access (everyone can access and read the code, nothing is locked away to be
viewed by a privileged few)
 Fast Finality (transactions are executed quickly and irreversibly)
 Decentralized Control (there is no central authority which controls the protocol and
the network)
 Inexpensiveness (encourages many transactions)
 Things we want to avoid:
 Safety Failure (e.g. someone steals your tokens)
 Censorship (e.g. someone decides that a certain group of people should not be
allowed to transact)
 Slow finality (opposite of fast finality)
 Centralized Control (opposite decentralized control)
 Expensiveness

On a deeper level, these goals can be achieved by the following:

 Convergence (one block goes on top of the other block and thus keeps the correct
sequence in the blockchain)
 Data Availability (open access facilitates decentralization)
 Validity (each transaction is valid, helps avoid double-spending)
 Availability of the network to all, which is equal to censorship resistance
 Timestamping (which helps us determine block sequences, transaction validity and
more)
 High performance under several cryptoeconomic security models
Introduction of Security Models

The very last point, cryptoeconomic security models,  is an important fundamental concept.

These security models are fundamental to the design of decentralized p2p networks.

Security models are assumptions about the state of the network and its participants. They also more
technical challenges that come with the decentralized nature of the network. Security models can
speculate what percentage of participants are honest or whether they act individually, whether they
can collude, or whether they can be bribed.

Thinking, about the blockchain space through the lens of cryptoeconomics is helpful. Once
you understand the idea, it helps to clarify many of the controversies and debates in our
industry. For instance, “permissioned” blockchains that are centrally managed and do not use
proof-of-work have been a source of constant controversy since they were first proposed. 
Secondly, we should expect that there will be cryptoeconomic consensus protocols that do
not rely on a literal chain of blocks. In the past years, we’ve moved from thinking about this
new field solely through the lens of one application (bitcoin), to thinking about it in terms of
one underlying technology (blockchains). What needs to happen now is to step back once
again and view this industry in terms of a unifying approach to solving
problems: cryptoeconomics.
- TEJESH PATEL (1927323)