The holy grail revisited: a decentralized bitcoin exchange market

I propose a solution using three (largely automated), interlocking markets.

A. Characteristics

A.1. Decentralized

  • no trusted central store of coins, that is, no Mt.Gox
  • no trusted central store of fiat cash, that is, no fiat banks needed

A central store of fiat cash must be avoided, because  it would most likely have to interface with the fiat banking system. This must be avoided, because fiat banks are known to:

  • arbitrarily shut down bank accounts and in that way disrupt the service of such centralized fiat cash store
  • impose onerous KYC/AML requirements (Know Your Customers / AntiMoney Laundry)

A.2. Commercial

Everybody supposed to assist in the process gets paid a fee for his efforts. Organized on a sufficiently large-scale, the fees should be increasingly competitive and even become rather nominal.

A.3. Privacy

The three interlocking markets are pseudonymous. No official, real names are used anywhere.

B. The three marketplaces

B.1. A cash mover market

Alice in Tokyo wants to pay Bob in Osaka 300 dollars. Solution: Alice visits the “cash mover” marketplace and selects Charlie, who has listed his service to move cash from Tokyo to Osaka in the marketplace. He charges 10 dollars for that.

It goes as following: Charlie deposits 310 dollars worth of bitcoin in the marketplace in a 2of3 multisignature contract between the market, Alice, and Charlie. Charlie picks up 310 dollars in Tokyo from Alice. If Charlie does not deliver before the agreed deadline, the market will assist Alice to release the 310-dollar escrow back to her. Charlie delivers the fiat cash in Osaka to mister Bob, who digitally signs for delivery. On receipt of Bob’s digital signature, the market assists Charlie to release the 310-dollar escrow back to Charlie, minus the 5% marketplace commission, that is, 0.5 dollars.

This first marketplace allows us to move around fiat cash around the globe. The solution is obviously trustless. It is the first pillar of our 3-pillar solution.

B.2. A cash safekeeping market

Alice uses the fiat mover marketplace to deposit 500 dollars with Bob who operates a cash safekeeping store. Bob charges a deposit fee, a withdrawal fee, and a daily safekeeping fee for his services. When Bob receives the fiat cash, he deposits 500 dollars worth of bitcoin in a 2of3 multisignature contract between the marketplace, Alice, and Bob. When Alice deposits, the escrow amount increases. When Alice withdraws, it decreases. When Alice transfers fiat cash to Carol, the corresponding amount escrowed also gets signed over to Carol.

If the bitcoins escrowed no longer cover the amounts deposited, Bob will escrow additional amounts, until all deposits are covered again. This is indeed the Achilles heel of the entire system. As long as the bitcoin exchange rate goes up, the system will probably work fine. If it goes down, however, the fecal matter may indeed start hitting the fan. There are solutions possible that will deal with this problem, but it falls outside the scope of this proposal.

This second marketplace allows us to store fiat money anywhere on the globe. It is the second pillar of our 3-pillar solution.

B.3. The decentralized bitcoin exchange market

Alice wants to sell 3 bitcoins to Bob for 950 dollars. How does it work? Alice finds Bob on the decentralized exchange. She puts the 3 bitcoins in 2of3 multisignature escrow with the marketplace and Bob. Bob transfers the fiat that he holds in the cash safekeeping store to Alice. On receipt of the cash safekeeping store’s digital signature for payment of Bob to Alice, and the signature that transfers the escrowed amount protected this deposit, the market assists Bob to release the 3 bitcoins in escrow to Bob. Of course, Alice now can use the cash mover network defined in step 1 to withdraw the cash stored in the cash safekeeping store defined in step 2.

Cash safekeeping stores are necessary and cannot be replaced by fiat banks.

First of all, fiat banks are not capable of digitally signing bank transfers. They never do. Therefore, it would be impossible for Alice to obtain a proof of payment that she paid Bob, from a fiat bank, to show to the marketplace in order to release the escrow.

Furthermore, there is no escrow protection available for money deposited at fiat banks. Unlike in the case of a cash safekeeping store, where your deposit is covered by the bitcoins escrowed for this purpose, your money is effectively at risk at a fiat bank.

C. What if something goes wrong?

The system is highly recursive. If Alice sends fiat cash to Bob through Charlie, but something goes wrong, on expiry of the time allowance that has been registered for Charlie to complete the delivery of the money, the bitcoins escrowed to protect the cash movement get released by the cash mover market to Alice, who will sell them on the exchange market, causing a fiat safekeeping store to send again the fiat cash to Bob, as a withdrawal, this time through Carol. In other words, Alice will lose time but not lose money in the case of an unexpected event.

The same holds true for any fiat money stored at a fiat safekeeping house. The inability to withdraw the cash, automatically leads to fiat safekeeping market releasing the bitcoins escrowed to protect the cash storage, while the sale of these bitcoins will lead to the original fiat cash to automatically rematerialize in another fiat safekeeping house.

D. Conclusion

I think it is possible to do it. However, hedging against the bitcoin exchange rate is a major issue. Solving that particular problem will require another marketplace.

 

Advertisements

Published by

eriksank

I mostly work on an alternative bitcoin marketplace -and exchange applications. I am sometimes available for new commercial projects but rather unlikely right now.

2 thoughts on “The holy grail revisited: a decentralized bitcoin exchange market”

  1. Might as well include a hedging marketplace as a standard part of the decentralized exchange market, rather than leaving it as an afterthought in D.

    After all, at a certain point (in some years), it is fiat exchange rates that will need to be hedged against, rather than large, successful cryptoasset network tokens like Bitcoin.

    Like

Leave a Reply

Fill in your details below or click an icon to log in:

WordPress.com Logo

You are commenting using your WordPress.com account. Log Out / Change )

Twitter picture

You are commenting using your Twitter account. Log Out / Change )

Facebook photo

You are commenting using your Facebook account. Log Out / Change )

Google+ photo

You are commenting using your Google+ account. Log Out / Change )

Connecting to %s