It’s fork time!

Segwit2X locked-in on July 21st with +90% miner support so many people could now be tempted to assume that the scaling debate is over and Bitcoin is now good to scale to the masses. Unfortunately that is not the case at all and a Bitcoin fork is still almost certain. Segwit2X activation has just changed the dynamics of the scenario that will most likely play out during the reminder of 2017. What follows is a description of what I believe at this point is how things will most likely develop.

Bitcoin Cash forks on August 1st.

Bitcoin Cash (BCC), as it has been named, is a Bitcoin implementation without segwit and other minor features like replace-by-fee transactions. I believe it is the alternative implementation that Bitmain claimed was being developed as a contingency plan in their User Activated Hard Fort (UAHF) block post here. Despite claims that the UAHF would only trigger in case of the BIP148 User Activated Soft Fork (BIP148 UASF) it looks like in the past few weeks the project became autonomous and some people have decided to go ahead regardless of miner support. Interestingly the BCC developers have also added a ‘slow’ mining difficulty reduction algorithm just in case miner support is low. Furthermore there are at least 3 client implementations that will be supporting BCC one way or another. These are Bitcoin ABC, Bitcoin Unlimited and Bitcoin Classic. What all this means is that a segwit-less chain will form on August 1st even if miner or user support is very low. The difficulty reduction algorithm will make sure that the BCC blockchain will eventually continue to be extended.

Leaving philosophical consideration regarding Bitcoin aside one would be tempted to consider BCC a futile experiment given the super majority of miners that are currently supporting Segwit2X. However there is more to this story if you follow the rabbit’s hole deep enough.

Firstly, I expect at least 5% or maybe even 10% of the current hashing power to follow the BCC chain from the beginning. I’m reasoning by analogy with the split between Ethereum and Ethereum Classic one year ago. There is a subset of miners that will stay faithful to what they may see as Satoshi’s true vision of Bitcoin scaling and will follow their conviction regardless of short term financial considerations. Also if the difficulty is goes down enough some marginal miners with less efficient asics or even gpus could join. Furthermore mining BCC could be a potentially very lucrative speculative trade as it will become clear later on in this post.

Secondly, I do believe that some of the miners that are currently supporting Segwit2X have a vested interested in keeping the BCC blockchain alive. This could mean that miners could direct a fraction of their hashing power to the newborn BCC blockchain or at least keep that hashing power ready to switch in the likely event that BCC blockchain will be attacked. But why would miners engage is this apparently irrational behavior? To answer this question we need to fast forward Segwit2X by 3 months.

Segwit2X Take 2: The Hard Fork.

Segwit2X is a political compromise to end a years long stagnation in Bitcoin scaling development due to disagreements on how it should be done. Basically Segwit2X implements Segwit now plus an automatic hard fork to raise the block size limit to 2 MB in approximately 3 months time. Even though BTC1, the reference Segwit2X implementation, has the 2X part built in, a miner that does not intent to fork can simply switch back to an implementation that will not enforce the fork like for example Bitcoin Core. In other words there is absolutely nothing in Segwit2X forcing a miner or user to accept bigger blocks in the future.

I have been spending quite some time researching the possible moves of so called ‘small blockers’ post Segwit2X lock-in and is pretty clear to me that there is a very significant portion of Bitcoin developers and users that have no intention whatsoever to carry on with the 2X part of Segwit2X. Of course 3 months still need to pass and in this period of time people could change their minds but that is highly unlikely. Many people in the Bitcoin ecosystem have strong economic incentives to make the blocksize as small as possible and to keep the network running at full capacity with very high fees to sell ‘layer 2’ solutions like lightning network services an so forth.

Segwit2X has not avoided a fork in Bitcoin, it has just delayed its onset by 3 months max.

The Future of Bitcoin Cash.

As time passes and we get closer to the Segwit2X block size increase hard fork it will become increasingly clear that a significant fraction of actors in the ecosystem will not follow the fork. At this point in time miners willing to fork to 2 MB will be left with 2 alternatives. Either carry on with the original Sewit2X plan therefore creating a 3rd Bitcoin fork (BCC, Segwit and Segwit2X) or abandon Segwit2X altogether and start mining on the BCC blockchain. I believe that the latter would be more attractive to miners as BCC will already be trading in some exchanges and will have at that point achieved ‘proof-of-concept’. Remember that miners need to convert part of the bitcoins they mine to fiat currency to pay for their electricity costs therefore they need to mine coins that have a market.

One can take this scenario a little bit further and even speculate that the whole Segwit2X is really a decoy by big block miners to get rid of small blockers and Bitcoin Core by luring them into a chain they will later abandon with the excuse that small blockers didn’t follow through with the hard fork piece. This assumption is only wild speculation on my side but I think it would be a brilliant and elegant strategy if it really exists. Of course if we get to this point there will be lengthy discussions around what defines Bitcoin and which blockchain is the real Bitcoin. If you find yourself in doubt I suggest that you take a look at Satoshi’s white paper. Bitcoin is the chain with the most mining work on it and the reason being that Bitcoin’s security model depends on the collective efforts of miners. Ceteris paribus more miners mean a more secure and hence valuable Bitcoin. Everything else is in my opinion just hot air.

A Word Of Caution Before August 1st.

Cryptocurrency forks have been sold to the public by some gurus as inherently dangerous. This statement can be accepeted by most people as true since a coin split is not a very natural phenomenon in the sense that we are not used to seeing our fiat currencies split. (Interestingly though discussions in the Eurozone some years ago pointed to the Euro splitting but that hasn’t materialized, at least until now.). The fact is that a coin split from the perspective of a coin holder is really not that evil because if you own a coin before the fork you will still own that same coin on each branch. I know I am making simplifications and assumptions regarding the technical skills of the coin holder here but fundamentally you only lose money in a fork if the aggregate value of the new coins is smaller than the original coin. Of course if the aggregate value of the new coins is bigger then the fork has a positive impact in your net worth.

When fork time comes a prudent bitcoiner will make sure that her bitcoins are stored in a wallet she owns the private keys and not in an exchange. If you still be leaving your coins in an exchange come August 1st I strongly recommend that you chose an exchange that has publicly committed to allowing customers to withdraw coins from all forks. Some significant exchanges have already announced that they will not be supporting the BCC fork. What this really means is that the exchange is planning to keep the forked coins for themselves. Just think how ugly things could get if BCC later turns out to be valuable.