Trust, But Verify: Why the Blockchain Needs the Law

Privacy and Security, Networks, the Internet, and Cloud Computing and Cloud Computing

Article Snapshot

Author(s)

Kevin Werbach

Source

Berkeley Technology Law Journal, 2018 (forthcoming)

Summary

Blockchain is an important development in information technology. Blockchain systems can be dangerous if not effectively governed, but application of rigid rules could discourage blockchain-based innovation. Blockchain systems can develop governance systems that link up with traditional legal institutions.

Policy Relevance

Blockchain developers and lawmakers should work together now to avoid problems in future. Governance mechanisms combining law and computer code will ensure blockchain systems are trustworthy.

Main Points

  • A blockchain uses computer code and digital cryptography to create a distributed but accurate record of transactions; everyone maintains a copy of the ledger, and all the copies remain the same, although there is no central ledger.
     
  • Blockchain systems have two benefits:
     
    • Using a blockchain system, one can have confidence in transactions, even if one does not trust a given individual, intermediary, or government.
       
    • The distributed ledger replaces the need to maintain many private ledgers, reducing transaction costs.
       
  • One block-chain based system is Bitcoin, a private digital currency outside the control of national governments; Bitcoin works as a store of value and a mechanism for trade, without traditional regulations used to address fraud, money launder, or terrorist financing.
     
  • Blockchain proponents see such systems as a way to escape the problems of national legal systems; critics see it as a way to escape legal accountability.
     
  • Blockchain-based systems must be integrated with traditional legal and regulatory mechanisms to avoid catastrophic failures; a thief absconded with a third of the funds held by DAO, an online crowdfunding system build out of software modules known as smart contracts.
     
  • Blockchain systems need law because they provide mechanisms of trust; the blockchain system provides verification, but trust requires mechanisms to address mistakes and problems.
     
  • Governments cannot disregard the growing significance of blockchain systems; they can adapt the law to these system by offering blockchain firms a safe harbor, that is, give the firms immunity from liability if the firms take steps to police themselves.
     
  • Blockchain systems can be made more compatible with traditional legal enforcement institutions in three ways:
     
    • Smart contracts consisting of computer code can be linked to human-readable text, a legal contract.
       
    • Legal enforcement mechanisms such as arbitration can be integrated into the terms of smart contract.
       
    • Blockchain platforms can develop law-like governance mechanisms.
       
  • Blockchain systems may need to develop dispute resolution systems similar to arbitration; like the blockchain systems themselves, these dispute resolution systems may need to be decentralized.
     
  • Once a blockchain system has been established, it is hard to change its foundational rules; Bitcoin developers adopted a voluntary signaling mechanism called BIP 9 to enable participants to signal willingness to adopt changes and upgrades.
     

 

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