The Social Cost of Blockchain

In some quarters, blockchain technology is seen as something like a Holy Grail. Apart from romanticised visions of an environment completely detached from, and alternative to, the traditional legal system, a decentralised ledger holds great promise for lowering the cost of transacting with strangers, paving the way for a more seamless and efficient global economy. Drawing on the foundational Coase theorem, blockchain as a decentralised decision-making mechanism is thus expected to outperform centralised regulation, potentially leading to substantial efficiency improvements. Additionally, it has the capacity to enhance property rights allocation and minimise transaction costs.

However, in our new paper, we show that many of these enthusiastic expectations regarding blockchain technology may be exaggerated. We demonstrate that blockchain introduces a variety of new externalities which decentralised users cannot effectively manage, challenging the notion of complete autonomy and self-regulation within this innovative ecosystem. Despite the decentralisation and efficiency objectives of blockchain technology, it does not inherently eliminate externalities but redistributes them in novel ways, creating a complex web of interconnected risks and benefits that must be carefully navigated by all participants.

A critical example of this is the environmental externality linked to the energy-intensive mining process, raising important questions about sustainability and the long-term impact of blockchain’s energy consumption on our planet. Moreover, there are immediate externalities arising from operational and legal risks associated with participating in blockchain transactions, particularly evident in the cryptocurrency economy where regulatory uncertainties and security concerns loom large, underscoring the need for robust governance mechanisms and legal rules to ensure the stability and integrity of the system. Furthermore, challenges related to blockchain governance might aggravate these issues. Generally speaking, the incomplete nature of blockchain contracts underscores the indispensable role of the law in facilitating efficient transactions and addressing externalities.

Moving forward, regulatory interventions must strike a delicate balance between nurturing innovation and safeguarding against negative impacts, recognising the dynamic and evolving nature of blockchain technology and the diverse range of stakeholders involved in its development and implementation. We propose a set of regulatory principles to guide policymakers in navigating this complex landscape, emphasising the importance of tailored approaches that consider the unique characteristics of blockchain interactions.

We also stress the importance of ongoing dialogue and collaboration among stakeholders to ensure that the regulatory framework keeps pace with technological advancements, fostering a culture of cooperation and knowledge-sharing that can help to address common concerns and promote best practices in blockchain governance. As blockchain continues to influence various sectors of the economy, it is crucial for regulatory efforts to be adaptable and responsive to emerging challenges and opportunities.

Fundamentally, the law serves as the missing piece in unlocking the full potential of blockchain technology while mitigating its social costs. By embracing a pragmatic and nuanced approach to regulation, policymakers can foster an environment conducive to innovation, efficiency, and social welfare in the blockchain ecosystem.

The authors' complete article can be accessed here.

Eduardo Martino is Assistant Professor of Law & Economics at the University of Amsterdam (UvA).

Wolf-Georg Ringe is Professor of Law and Finance and Director of the Institute of Law & Economics at the University of Hamburg and Visiting Professor at the University of Oxford.