Proof of Keys – A Declaration for Monetary Sovereignty
Anyone who has spent a little time digging into the cryptocurrency rabbit hole has likely come across the problem of fractional reserve banking.
It’s a simple concept that points to the absurdity of our global banking system, yet is often overlooked or entirely ignored by the general public.
Here’s an illustration to explain the fractional reserve system in a nutshell:
Bob earns $1,000 and decides to deposit it in the bank for safekeeping. When Bob does this, he may imagine that the bank is keeping his money in his account for him on his behalf.
In reality, Bob is lending $1,000 to the bank and is therefore compensated for this loan with a tiny interest payment. Another bank client, let’s call him Joe, wants to borrow money from the bank to buy a car.
The bank is allowed to lend out up to around 90% of Bob’s “loan” to other borrowers, charging interest on this loan that is greater than the interest Bob is earning on his original loan. So, Joe borrows 90% of the original $1,000, or $900.
Joe buys a used car for $900 with the loan. The seller of the car, Mary, turns around and deposits the $900 into the bank. Now, where there was once only $1,000, funds now consisting of $1900 in value exist, held in savings on behalf of Bob and Mary.
The bank can then lend out 90% of this new $900 that has been deposited, and so on and so forth. With a 10% fractional reserve, a bank can essentially create about $10,000 in value!
Of course, most of this money does not really exist. If everybody decided to withdraw all of their savings from the bank at once, the bank would not have enough funds for everyone — far from it, in fact.
This is called a “run on the banks” and can result in banks restricting access to savings for bank clients in order for the bank to stay afloat.
The bank might also invest these funds in various ventures, and if things go badly, might lose a lot of entrusted money in the process.
Add to this the fact that money can be printed as needed by central bank authorities, thus causing inflation, and the problems become pretty significant, resulting in a precarious economic system that just might collapse if the wrong financial moves are made.
Enter Blockchain Technology
When Satoshi Nakamoto created Bitcoin, a digital form of “sound money” was born. Due to the wonders of blockchain technology, this form of money could not just be printed as monetary authorities wished. .
Instead, it was designed to be inherently scarce, with a limit of 21 million Bitcoin to ever be created.
No central organization would create this money and it would be impossible to create more of it than is determined by the block reward process, awarding blocks to miners over the course of time with ever-diminishing returns, resulting in scarcity, much like gold, but far more portable and divisible.
Problem Solved, Right?
Not really. Bitcoin, along with most other cryptocurrencies, is mostly traded on centrally-controlled exchanges. These exchanges hold money and crypto on behalf of clients who exchange various cryptos and global currencies.
The problem, however, is that, just like the fractionally reserved bank deposits, the exchange holds the funds in its custody when a client leaves their money on the exchange. It’;s pretty difficult, then, to know if the exchange is actually holding all the funds that clients trust they are indeed holding.
Thus, the #proofofkeys event was born. Trace Mayer, a long-time Bitcoin proponent, encouraged Bitcoin loyalists to take action on January 3, withdrawing their bitcoins from exchanges en masse.
By moving the private keys into wallets that were no longer under the control of exchanges, clients could cause a deliberate “run on the banks”; this time with exchanges instead.
Results were mixed. HitBTC, of all centralized exchanges, acted the most suspiciously, at least according to anecdotal reports whereby users complained that account withdrawals of Bitcoin funds had been frozen.
To be fair, other anecdotal reports showed that many users had no trouble withdrawing bitcoins from HitBTC in the same period of time. In general, the event was relatively muted and did not seem to result in any degree of hysteria or drama outside of scattered reports of frozen withdrawals on a few exchanges.
No other major exchanges exhibited any significant change in behaviour that would have been deemed newsworthy.
Some complained that the entire #proofofkeys movement backfired, giving exchanges a better idea of what quantity of crypto they needed to maintain in reserves in order to hedge themselves against a bank-run. The exchanges now have a better idea just how much they can get away with, critics argued.
Got Your Keys?
If anything, the #proofofkeys movement serves as an important reminder: If you do not hold your private keys, you do not own your crypto.
Instead, the exchange has custody of your crypto and may mismanage your funds or even fall victim to hacks resulting in losses of funds. Take the necessary time to learn about good crypto wallets and make the move to secure your crypto. It’s worth the hassle.
DisclaimerThe writer’s views are expressed as a personal opinion and are for information purposes only. It is not intended to be investment advice. Seek a duly licensed professional for investment advice.
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