
Whether Ethereum is a security - pjbyrne
https://prestonbyrne.com/2018/04/23/on-ethereum-security/
======
wyc
Summary of argument:

\- Some claim that Ether is not a security because it is decentralized and
therefore not a "common enterprise" by the Howey test, but the author
disagrees with this specific argument because he thinks it's centralized.

\- Author believes that a "horizontal commonality" of interested Ether
participants can constitute a common enterprise.

\- Author believes that that GitHub and commit rights are quite centralized.

\- Author speculates that the shape of the Ether pre-sale curve signifies very
few participants because it strongly resembles a power curve.

~~~
baddox
I’m not sure I understand the horizontal commonality argument. It sounds like
the author is claiming that a technology (e.g. a computer program) is not
decentralized if a large portion of the users of the technology use the same
implementation of that technology (e.g. use the same exact implementation of
the computer program). In other words, if a group of users all run the same
Ethereum client software, then it sounds like the author is considering then
centralized by definition, regardless of the reasons each user decided to use
that computer program, the fact that they chose the _same_ implementation
means that technology is centralized. If I’m understanding that correctly,
then I find that argument bizarre.

~~~
twblalock
> In other words, if a group of users all run the same Ethereum client
> software, then it sounds like the author is considering then centralized by
> definition, regardless of the reasons each user decided to use that computer
> program, the fact that they chose the same implementation means that
> technology is centralized.

Seems logical to me. The motives of the individual users have created an
outcome of centralization because they all use the same program to do the same
thing.

~~~
baddox
Doesn’t that effectively mean that no decentralized network system/protocol
can possibly exist according to this definition? Of course users have an
incentive to be able to communicate with one another.

------
SRTP
Those 2 charts the author cites describe different things: the Ethereum chart
shows _cumulative_ amount of BTC raised over time, while the Swarm chart shows
BTC raised per block.

Furthermore, the author's argument that observing a power law distribution is
an argument in favor of the Ethereum pre-sale being participated in by "one or
very few hands" shows that his understanding of basic statistical concepts is
lacking.

Observing a power law distribution is an argument in favor of many, many
participants. This is what we see in nature when looking normally distributed
variables among large populations.

Stick to law, Preston.

~~~
pjbyrne
You must not remember how small the Ethereum universe was in 2014. If you
think that curve is the outcome of an organic market process, there's a bridge
in Brooklyn I'd like to sell you.

~~~
SRTP
I was actively involved in the Bitcoin ecosystem when the ETH pre-sale
launched. I'd argue that the majority of pre-sale participants were BTC
holders. That group was not small in 2014.

Also, look at
[https://en.wikipedia.org/wiki/Cumulative_distribution_functi...](https://en.wikipedia.org/wiki/Cumulative_distribution_function)

~~~
pjbyrne
All of the pre-sale participants were BTC holders because that is the only
currency the Foundation accepted for presale Eth.

The question is how many of those BTC holders there are and whether
presales/ICOs usually follow that pattern. Most don't, they use all their
powder in the beginning (there's no Indian summer surge of donations towards
the end of the sale). Even when they do it is not as pronounced as here.
That's what makes the curve weird.

~~~
drcode
This is totally wrong: Since there was no "upper limit" on total cap of ether
in the presale there was a significant incentive in waiting until the last
minute to benefit from additional information (i.e. to know what percentage of
ETH supply you were bidding on) and similarly to withhold bid info from
competitors- This was partially offset by a gradual decline in ETH/USD
exchange rate set by the presale terms.

It seems pretty clear that you haven't studied the mechanisms of these sorts
of crypto auctions, since you are ignoring a lot of the underlying complexity
and the many differences between different auctions in practice, or you have
forgotten a lot of the intricacies of this particular auction. (which may have
been a good or bad design in this case, both cases can be made.)

If you think it's common for actors in an auction system to "use all their
powder in the beginning" unless there's a explicit reward for bidding late
then you've clearly never been a victim of ebay bid sniping LOL

~~~
pjbyrne
I've updated the post to include a chart of the Tezos raise, which was both
much larger than the Eth raise and I think illustrates my point rather well.

~~~
drcode
So I'll grant you that the differences in the smoothness in the ethereum vs
tezos charts is interesting, but your argument is still unconvincing to me for
two reasons: First of all, you're basically saying "The ethereum graph is so
perfectly what you'd expect from an ideal auction that it can't possibly be
ideal" which is the sort of argument that requires more convincing evidence.
Secondly, the Tezos auction had many differences in the auction design from
the ethereum auction, which could be a more mundane reason for differences in
these curves.

...also, I feel like you still need to explain more explicitly why bidders
making purchases in multiple lots is a nefarious thing- Does the argument just
boil down to saying there were too many big fish, which means that ethereum
may not be "decentralized" and therefore a security? If allowing arbitrary
people to make their own purchasing decisions on an asset is not adequately
decentralized, then it seems you've defined "decentralized" to the point where
no asset could ever reach your threshold to fall under that definition.

~~~
pjbyrne
Well, it's either the ideal auction or it isn't. The question is how likely is
it that a coin auction running for two weeks would produce a curve like that.
I can't find any others in crypto so far, though I am open to being proven
wrong if someone can show these are common and rule out promoter action as
being the cause.

Making purchasers in multiple lots isn't nefarious at all, it just disguises
how many purchasers there are, which is a relevant consideration for the
_Howey_ analysis. If (arguendo) 85% of the tokens are in the hands of 1
person, that would militate against a finding that Ethereum is like Bitcoin
and lacks the necessary degree of organization to constitute a scheme in which
any one person shoulders personal civil or criminal liability.

If, again for sake of argument, they find that the largest hodler only holds
1% of the tokens, then that tends to make it more difficult to identify a
central promoter and parallel investors (think: LPs without a partnership
deed) which is usually required to bring enforcement.

I'm not making normative claims here, just saying that those three factors
(common fund, repo, likely centralization of Ether holdings in few hands)
tends to suggest the scheme is in the "regulated" bucket rather than the
"unregulated" bucket.

~~~
pazimzadeh
The sale lasted for 42 days.

> The price of ether is initially set to a discounted price of 2000 ETH per
> BTC, and will stay this way for 14 days before linearly declining to a final
> rate of 1337 ETH per BTC. The sale will last 42 days, concluding at 23:59
> Zug time September 2

[https://blog.ethereum.org/2014/07/22/launching-the-ether-
sal...](https://blog.ethereum.org/2014/07/22/launching-the-ether-sale/)

How much of it did you graph?

------
jasonlaramburu
Kickstarter campaigns follow a similar pattern to the ethereum graph shown in
the article. It’s not because of a malicious user who wants to secretly own
all the kickstarters. It’s because time-limited crowdfunding campaigns tend to
attract the most donations at the beginning (when enthusiasm/press is high)
and towards end of the campaign (when FOMO is high).

Also the author should really state in the article that the swarm graph is not
cumulative.

~~~
pjbyrne
Duly corrected.

~~~
jasonlaramburu
Nice. I think your point comes across much more clearly now. The eth presale
graph is much smoother than all the others.

Could the smoothness be partially explained by the fact that one could only
use btc in the eth presale, whereas later token sales accepted eth and btc?

~~~
pjbyrne
Thanks!

Possibly, I don't know. The point of the post really was to show that the pre-
sale process was amenable to a more forensic/scientific analysis than anything
else.

------
drcode
Near as I can tell, the Howey precedent is for a type of asset so vastly
different from a cryptocurrency such as bitcoin/ethereum that it is pretty
much completely at the discretion of regulators as to whether they consider it
to be a "security".

I know it would be nice to live in a world where judges can use an objective
reading of the law/constitution to decide for certain in one way or another on
such a fact, and that it would be nice to live in a world where lawyers like
Preston could therefore make a reliable prediction from their expertise as to
how courts will rule, but sadly in our world things don't work that way.

In an outlier situation like this, without strong precedents, regulators can
make any decision they please and then create post-hoc rationales for
defending their view.

(similarly, responses to this comment from either side will be easily able to
make equally convincing absolutist arguments as to why bitcoin/ethereum
are/aren't securities, given the vagueness in interpretation of precedents.)

~~~
pjbyrne
Well it's not the regulators who make the decision and set the precedents,
it's the judges. Regulators are currently trying to figure out, to the extent
existing precedents are inadequate, how to extend by analogy the existing
precedents to the new circumstances in such a way as to convince a judge to
extend the precedent. This is how a common law system is designed to work.

~~~
drcode
To be fair, It's totally reasonable that regulators/judges come come to the
same conclusions that you make in your post, I just hold more cynical views as
to how they arrive at those conclusions.

------
JumpCrisscross
For a discussion about certain Ethereum holders forming a common enterprise,
I'm surprised to find no mention of the DAO fork [1]. "Management" undoing the
DAO was, to me, a defining delineation of Ethereum from Bitcoin.

[1]
[https://en.wikipedia.org/wiki/Ethereum#The_DAO_event](https://en.wikipedia.org/wiki/Ethereum#The_DAO_event)

~~~
hudon
I appreciate highlighting how centralized this blockchain is, but Bitcoin also
benefits from centralized coordination. For example, in 2013, two developers
and a mining pool operator successfully commandeered a fork away from the fork
with majority hashpower [0]. The conclusion in the linked article is a pretty
good summary of how we should look at this issue:

> In summary, we have a lot to learn from looking back at the fork. Bitcoin
> had a really close call, and another bug might well lead to a different
> outcome. Contrary to the view of the consensus protocol as fixed in stone by
> Satoshi, it is under active human stewardship, and the quality of that
> stewardship is essential to its security. [2] Centralized decision-making
> saved the day here, and for the most part it’s not in conflict with the
> decentralized nature of the network itself. The human element becomes
> crucial when the code fails or needs to adapt over time (e.g., the block
> size debate). We should accept and embrace the need for a strong leadership
> and governance structure instead of treating decentralization as a magic
> bullet.

[0] [https://freedom-to-tinker.com/2015/07/28/analyzing-
the-2013-...](https://freedom-to-tinker.com/2015/07/28/analyzing-
the-2013-bitcoin-fork-centralized-decision-making-saved-the-day/)

------
chrisco255
Why does centralization of the holders have anything to do with whether
Ethereum is a security or not?

There are four requirements for the Howey test: 1\. It is an investment of
money 2\. There is an expectation of profits from the investment 3\. The
investment of money is in a common enterprise 4\. Any profit comes from the
efforts of a promoter or third party

Ethereum tokens are virtual commodities useful for purchasing computational
services on the Ethereum network. The token's value increases as the value of
the network increases...but this can only increase in part due to Ethereum
holders themselves promoting and propagating the network and pluggable
services into the ecosystem. By this point alone, number 4 is invalid. Another
point is that Ethereum is forkable, which means that anyone is free to take
the project in a different direction if they disagree with the governance or
stewardship of ETH core devs. It has even undergone one major fork (ETC being
a totally divergent blockchain at this point).

Even point #2 is debatable. There certainly are no expectation of profits in
the classical sense with Ethereum. That someone is buying up limited supply in
anticipation that demand will increase does not a security make. If that were
the case, then dot com domains are securities, and all those savvy 90's
speculators who snatched up desirable domain names are guilty.

~~~
pjbyrne
I agree it's all debatable. This post deals only with the "common enterprise"
prong as that appears to be the prong of the test that Coin Center and others
are trying to challenge most assertively.

Centralization of holders makes it look like a more traditional scheme with a
central promoter.

~~~
chrisco255
Well, what do you think about the forkable nature of blockchain technology and
how that relates to the definition of common enterprise? Which "common
enterprise" are we talking about at this point, Ethereum Classic or Ethereum?
The presale tokens apply to both of these forks after all. At this point, the
two chains are completely divergent, run by different devs, and have
completely different directions. Anyone is free to fork ETH and take it in a
third direction if they like.

------
thisisit
> But the Ethereum pre-sale looks perfect – and that’s what makes it worth
> querying. “Donations” from Eth-heads around the world not only flowed into
> the Ethereum Project’s wallet in great quantities, but they flowed in with
> the mathematical precision of a power function, 24 hours a day, 7 days a
> week, for two weeks straight.

I went through holdings of top 5 ICOs on Ethereum. One of things struck me was
that many of the ICOs had huge amount of cross holding. So, X was holding a
lot of Y and Z coins, while Z was doing the same with other ICOs. The number
of inter-connections was astounding.

So my opinion is that something is off with the ethereum ICO system. I know
that sounds tinfoil hat wearing conspiracy and I don't have solid proof or
graphs. But given the evidence of Ethereum's distribution it looks more
likely.

~~~
nivertech
Dotcom-style revenue swaps?

 _" Internet infrastructure companies were simply swapping equipment and
putting it on their books as revenue. They essentially handed pieces of paper
back and forth and called it money."_

[https://www.inc.com/niel-robertson/brilliant-failures/dot-
co...](https://www.inc.com/niel-robertson/brilliant-failures/dot-com-mistake-
silicon-valley-start-ups-still-make.html)

~~~
thisisit
That was an illuminating read. I think the whole ICO system might be something
similar.

------
blackrock
Is equity crowdfunding the killer app for Bitcoin?

~~~
ENGNR
I'm starting to think the killer app isn't just breaking the back on public
security over-regulation (ie pulling an Uber by just disobeying it until they
cave), the killer app might be governance in general. An algorithm to gain
consensus, which is virtually the sole reason governing bodies exist

I just made an Ask HN to explore this topic more

