by Jason Potts (Blockchain Innovation Hub, RMIT University), John Humphreys (School of Economics, University of Queensland) & Joseph Clark, (Brisbane, Australia)

We propose a model for a global, decentralized, universal basic income that uses “bottom-up” coordination, instead of the conventional “top-down” approach. Using modern financial instruments and blockchain technology, we conceive of a welfare system based on personal income swaps (personal equity contracts) coordinated through smart contracts.

WHAT IS A UNIVERSAL BASIC INCOME?

A universal basic income, or UBI, is an attempt to radically simplify and generalise the welfare state by furnishing an unconditional cash transfer to everyone (that’s the universal part) in order to provide a hard floor under income, so that no one will fall below a particular level (that’s the basic income part). A UBI might furnish, for instance, a basic income to every adult over 18 of say $20,000, funded from general taxation.

It is often suggested that a UBI should replace all other welfare transfers, including unemployment payments, pensions and social security, veteran payments, child support, tax expenditures, and so on. The idea is that this radically simplifies the social welfare and tax system, reducing its cost and so better enabling a society to afford the UBI. This is why UBI has proponents across the political spectrum: it provides universal income support, which the left wants; and reduces government cost and complexity, which the right wants. Win-win.

The modern welfare state developed through the 20th century does a reasonable (albeit complex and costly) job at providing an income safety net. In one sense, a UBI is simply an extension and simplification of the welfare franchise to universal coverage. However, the case for a UBI is often argued in terms of a societal protection against the coming job apocalypse from automation from robots and artificial intelligence, particularly affecting low skilled workers (think loss of taxi and truck driving jobs from automated vehicles).

PROBLEMS WITH UBI

Like all good things in life, there are problems. First, a UBI will be expensive. Simon Cowan from the Centre of Independent Studies thinks it will be utterly unaffordable for Australia, with implied income tax rates of over 50 percent. Though back in 2005 the CIS also published a monograph from one of us that outlined a UBI system with more modest payments and a 30 percent income tax. Obviously, the affordability of the scheme depends crucially on the generosity of the scheme.

Second, a UBI may lead to perverse incentives, potentially creating a nation of ‘house cats’ in the form of people with little incentive to seek work. Others claim that the freedom of a guaranteed income would lead to greater human flourishing, as people were able to take more risk in developing their skills and human capital, which would ultimately lead to greater specialization and societal benefit. Again, the truth of the matter rests crucially on the generosity of the scheme, and how quickly the benefits are removed when people start earning income.

To some degree, these are empirical questions, and to that end basic income has moved from theory to experiment. Finland recently conducting a large scale two-year pilot involving 2000 Fins receiving about $AU800 per month.

An additional problem with UBI is that it is still a centralized system tied to the nation state, involving tax collection and centralized transfer. Governments can still seek to control this system with conditional obligations, and it still fails to achieve elimination of poverty or material need on a global scale. There are alternatives. Welfare in general (including UBI) is a form of social insurance, and to consider an alternative solution we need to unpack how insurance works.

TWO TYPES OF INSURANCE

Insurance is a way of laying-off risk. There are two ways to do this: pooling and counterparty contracts.

With pooling, which is by far the most common insurance mechanism, all agents facing an unknown event jointly pool that risk, thus reducing individual variance of outcome for a known up-front fixed cost (the premium). The insurance company organizes the pool, and takes a cut of that. Social insurance is when that company is the government, and this can be efficient when the pool needs to be very large and compelled. Both privately provided car insurance and publically provided job insurance (i.e. the dole) work like this.

The other way of laying-off risk is to find a specific counter-party willing to take that risk, i.e. to contract it. This doesn’t tend to work for many circumstances (e.g. car insurance) because of the transaction cost of finding a counterparty and writing the contract. Pooling is a more efficient mechanism. But in some cases, for instance when an insurance company needs to buy insurance (so-called re-insurance) a counterparty contract can be efficient.

The standard model for a UBI is a pooling model (with the government as the pool-maker). We think a better model is to build a UBI as a counterparty contract. Blockchain technology allows this to be done in an efficient way.

FIRST ATTEMPTS AT UBI ON BLOCKCHAIN

There have been several attempts already to develop a UBI using blockchain technology. For instance, in 2016 the Grantcoin Foundation has launched a tokenized model as an experiment that anyone can sign up to. A similar proposed model is Circles, which has seemingly not got past the whitepaper stage.

The problem with these models is that they only go part way to decentralisation. They take government out of the system through tokenization mechanisms (although it remains unclear how sustainable levels of funding gets into the system). But they still use a pooling equilibria insurance mechanism.

TOWARD COUNTERPARTY SOCIAL WELFARE

In order to develop a globally scalable and incentive compatible universal basic income system of social insurance we need to shift the underlying architecture of social insurance to a counterparty contracts model. This can be done using personal equity contracts (PEC).

The idea behind personal equity contracts was first developed in the mid-late 20th century. As explained in this article published in Policy magazine in 2006, personal equity has several potential uses, including the financing of higher education. One of us (JH) went on to set up the Human Capital Project in 2007 as a charity to offer Personal Equity Contracts as a way to fund higher education in Cambodia.

A related idea is the concept of a “personal equity swap” (PES), where two or more people agree to “swap” a fixed percentage of their incomes with each other. By choosing a particular set of counterparties with uncorrelated income streams, you can create an insurance product. (An uncorrelated set is also known as a diversification strategy.)

For instance, suppose I offer one percent of my annual income to 30 people in return for one percent of their annual income, on an ongoing basis. I’m now ‘paying’ 30 percent of my income to others, but receiving an expected value of 30 times 1 percent of other people’s income. So there is money going out and money coming in. So long as those other 30 people’s income is uncorrelated with mine, which can be achieved by ensuring they are as different from me as possible, i.e. living in another country, engaged in another profession, with different skills etc, then I have effectively laid-off risk.

Different configurations can achieve different expected values, for instance I might offer 2 percent of my income to 20 people, or to 30 people, or 0.5 percent to 80 people, and so on. I might draw from several populations, like an ETF, or offer different rates (e.g. swapping 5% of my income for 2% of yours if mine has lower expected value) and so on. The exact logistics would require a more nuanced discussion, but for our purposes we can overlook the logistical details to consider the general implications of this idea.

One potential criticism of this system is that some people may be left behind if they are unable to find counterparties with whom to swap personal equity. Who will swap with the feeble and the indigent? The answer is that the government will. In fact, the government already does through the current welfare system. By allowing willing private buyers to set up their own personal equity swaps, the cost to the government will dramatically decrease.

Indeed, the government will need to get in quick in most sympathetic cases of need. After the extreme efficiency of income swaps as a form of private charity becomes widely known, the government might have to make do funding only those who are both poor and broadly unlikable, such as sex offenders and violent criminals.

The main outstanding problem behind these income swaps, as first conceived well before blockchain technology was invented, is dealing with transactions costs, monitoring and enforcement. (An attempt to study this was undertaken by one of us here.) However, these problems are significantly ameliorated using smart contracts.

PERSONAL EQUITY CONTRACTS AS SMART CONTRACTS

A personal equity contract can be operationalized as a smart contract. The beauty of this mechanism is that it is the blockchain that coordinates the contracts, calculates transfers and ensures payments all without having to trust the counterparty or rely on government involvement and intervention.

A smart contract is a self-executing contract, written in software and that lives on a blockchain (such as the Ethereum blockchain, which was built to enable smart contracts.)

A PEC-smart contract (a smart personal equity contract, or SPEC) would be, in essence, a commitment to use a particular crypto-wallet (or a linked crypto-wallet DAPP into a decentralized autonomous organization, or DAO) for all inbound income, and to link that wallet to the other counterparties in a way that cannot be unlinked except by the terms of the contract. It is in effect a voluntarily entered but hard coded mutual financial constitution among a distributed community.

A smart contract instantiated personal equity contract is incentive compatible because it solves both the monitoring and enforcement problem associated with income swaps, namely that I have an incentive to underrepresent or even hide my income to minimize outbound payments, and I also have the reciprocal problem of enforcing your payments to me. By writing PECs to smart contracts this takes the volitional and discretionary component out of the equation.

Smart contracts also help alleviate the time inconsistency and moral hazard problems by locking you into such payments over long horizons, making it safer for you to enter into reciprocal contracts too.

WILL DUBI-SPEC WORK?

A Decentralized universal basic income (DUBI) (built from smart personal equity contract, or SPEC) is a bottom-up mechanism by which a globally scalable DUBI-SPEC system could actually both emerge and work. It has a plausible starting point, in that all it needs to start is say 20 people. It could grow from there, and would become more efficient as it grew through higher-level emergent pools and through the development of supporting institutions.

Another nice feature of DUBI-SPEC is that it is naturally global in scope, and actually works best at global scale because that will ensure uncorrelated income streams. Basically, DUBI-SPEC can exist wherever blockchains can exist, which is wherever the internet can exist, which is already much of the world. It is not reliant on effective government, or even government agreement. It would be a privately provided social insurance mechanism.

One obvious limit of DUBI-SPEC is that they still require a mechanism to ensure all private income passes through the SPEC crypto-wallet. Note this is the same problem that Governments have with income tax collection, and there may be reasons to seek to combine these two problems. However, that forces DUBI-SPECs back into a nation-state and government monitored mechanism.

The argument for a decentralized universal basic income operationalized through smart personal equity contracts is compelling for several reasons.

Historically, this is actually a return to the private provision model of Friendly Societies (or mutual societies) that provided social insurance for centuries prior to the modern centralisation of the welfare state, but with the added advantage of operating at global scale and in a trustless context.

Theoretically, a DUBI-SPEC should tend toward maximum de-correlation of risk, and with minimum transactions costs in the mechanism and distortions in incentivized behaviour.

Practically, DUBI-SPEC can grow from small beginnings through an app-based software model (a decentralized application, or DAPP, with a DUBI-SPEC as a DAO).

A lot of people believe that we need to transition toward a universal basic income, and we agree. Blockchain technology presents a plausible way for us to get there at global scale, and without bankrupting governments.