‘Bottom line: Bitcoin bad, Blockchain better,’ claims Credit Suisse

Founded in 1856, Credit Suisse is a leading global private bank and wealth manager. The company reported $1.25 trillion under management in 2016, has operations in about 50 countries, and 47,180 employees from over 150 different nations.

The company’s Equity Research team recently released an in depth report on blockchain, “Shared ledger technology and the impact on stocks." The 135 page document contains a reassessment of the company’s view on the extent to which bitcoin and its underlying technology present a, ”disruptive threat and/or opportunity to global incumbents.”

“This report has been written in direct response to the increasing level of investor questions we have received surrounding blockchain technology and its potential to disrupt traditional industries.”
— – Shared ledger technology and the impact on stocks

The report details some of the underlying concepts and technology behind blockchain, in a “deep dive explaining the benefits of a shared ledger,” and how it can structurally disintermediate trusted third parties.

The authors also explain some of the fundamental cryptography and consensus forming characteristics of a blockchain: “These fundamentals expose some of the challenges blockchain faces in balancing security and anonymity with the constraints of scaleability and cost.”

“While the technology is undeniably powerful and will have a material impact, blockchain is not necessarily disruptive in all cases; in many industries, the technology is a solution searching for a problem.”
— – Shared ledger technology and the impact on stocks

While blockchain may be a solution searching for a problem, Credit Suisse states that Bitcoin will remain a niche payment network. The report names 13 barriers to mainstream bitcoin adoption, including two that many bitcoin proponents see as advantageous.

Transaction confirmation is too slow, states the report. While a 10 minute transaction time is widely touted as a positive attribute, transactions with lower fees can take 40 plus minutes on average: “Once recorded in the blockchain, transactions shouldn’t be considered settled until they are six blocks deep – another 60 minutes.”

The fees are another point of contention. While costs are hidden, they aren’t removed, the report claims. “The energy intensive and expensive transaction confirmation process (mining) is incentivized by the coin-reward which itself is funded by the issuance of new BTC. Recently halved from 25BTC to 12.5BTC per block, this raises the questions over future funding gaps, and energy inefficiency.”

“The online technology magazine Motherboard has modeled out the bitcoin network at current growth rates, and concluded that by 2020 the total bitcoin continuous power consumption could rival that of Denmark.”
— – Shared ledger technology and the impact on stocks

To gain mainstream relevance, the report states that bitcoin would need to be capable of scale comparable to large payment processers. This would require a change to the protocol, and leads to the next barrier, “Internal conflict and inertia.”

Potential risks include bitcoin’s growing pains intensifying should the technology ‘cross the chasm,’ developer infighting and intransigence, internal conflict resulting in decision inertia, and bitcoin potentially failing to adapt to match user demands at the protocol level.

Volatility is also mentioned, reducing bitcoins utility as a value store and payment method, although its use as a medium for money-laundering and illicit capital flight is also highlighted. Reduced decentralization is another barrier to bitcoin adoption.

“Rational miners engage in a race to the bottom, producing in the geographical location where the marginal cost of mining is the lowest.”
— – Shared ledger technology and the impact on stocks

Regulatory risk, which is “inherent for disruptive technologies,” is also a problem. So are exchanges and wallet software, “both of which take on responsibilities akin to ‘trusted third parties,’ and are therefore susceptible to fraudulent behavior.”

Unguaranteed security stands out as an unusual topic of contention, not often mentioned in research papers: “There is no mandated minimum security threshold for the bitcoin network. The blockchain would continue to be updated at a total hash-rate of 10/s, or when a single node had 100% of the hash-power.”

“As the hash-rate is a proxy for bitcoin network security, and is proportionate to miner compensation, there is a possibility that the coin-reward sequentially decreases, transaction fees per block may not rise in inverse proportion to the coin-rewards decrease (on a BTC or USD basis). This would result in a reduction in the network’s Security, making the bitcoin blockchain more vulnerable to a malicious hashpower Attack.”
— – Shared ledger technology and the impact on stocks

Irrecoverability is also an issue: “It is a testament to the security of the network that should your private key be lost, the BTC associated with that address are fully unrecoverable. Equally, it is a barrier to widespread adoption.” This barrier goes hand in hand with Irreversibility, “There is no authority or mechanism for error correction.”

“In contrast,” states the report, the underlying blockchain is “a distributed database that holds a secure and immutable record of past transactions,” a “key differentiator in the ability to disrupt.”

“In our view, many barriers to mainstream adoption mean bitcoin doesn’t appear to present a disruptive threat,” states the report. Meanwhile, blockchain shared ledger technology, “may have features that could prove disruptive to multiple industries.”

The broadest conclusion is that blockchain is less relevant in sectors where there has already been significant investment and innovation. Consumer payments and pre-trade execution already takes place in milliseconds, the report argues, “it is hard to see how blockchain could materially improve this efficiency.”

However, in sectors where there is more friction, “blockchain has the potential to materially disrupt the landscape.” The buzz surrounding blockchain is compared to that surrounding the internet in the late 1980s.

“Some go as far as to suggest that blockchain has the potential to reimagine and reinvent key institutions – for example, the corporation. We are less sanguine.”
— – Shared ledger technology and the impact on stocks

Despite listing eight key challenges that have the potential to limit the utility, and therefore reduce adoption of blockchain systems, the report states that “a shared ledger has many advantages over classic centralized systems. Maintaining a distributed authoritative ‘source of truth’ rather than siloed ledgers has the potential to drastically reduce duplication, decrease transaction costs and improve transparency.”