China’s blockchain conundrum

China is a world leader in blockchain development and is testing it in applications from civil administration and tax documents to evidence in the criminal justice system. Yet the technology creates a dilemma for China’s leaders. Their priority on centralized control contradicts the decentralized distribution of data through a blockchain. 

Blockchain pilots are popping up everywhere in China: The civil administration of 1.3 million citizens of the Chancheng district in Foshan has been lifted on a blockchain. The latest addition is a blockchain-based community correction application (区块链+社区矫正), which tracks and evaluates the movement of former prison inmates. Since September 2018, Chinas Supreme Court accepts evidence in legal disputes on a blockchain. Shenzhen has introduced a payment system that generates electronic invoices trough a blockchain. 

A growing number of international tech executives see China in a leadership position in the application of the blockchain technology. Nowhere else are companies hiring more staff with blockchain experience, and in 2017, Chinese organizations, from Alibaba to the central bank, PBoC, led on blockchain patent applications. 

The innovative vigor is spurred by expectations that the blockchain will fundamentally reshape whole industries. The technology replaces cumbersome and expensive external verification processes because the decentralized information distribution guarantees the authenticity of data. Everyone (everyone’s computer) needs to be able to constantly check all past and present transactions within a network. The more people take part in this verification process, the better, which is why participation is incentivized by monetary rewards, i.e. through cryptocurrencies. If everyone is aware of the current distribution of, say, the total money supply, or available property and arable land, no inside or outside crook could cheat the system. 

China’s companies and cadres have acknowledged the potential, too. After banning global cryptocurrencies – scorned for their volatility and bubble character – Beijing has now fervently embraced the underlying blockchain technology. The 13th Five Year Plan declared blockchain a driving factor of the digital evolution. In May 2018, party and state leader Xi Jinping called it “a breakthrough technology,” and the host of a CCTV2 documentary aired in June stated that the blockchain were ten times more valuable than the internet. 

China wants to use blockchain to expand control 

But what China wants to get out of the blockchain is more than what most governments, start-ups and multinationals envision. The international blockchain industry today mostly seeks to raise efficiency in administration and to increase security and trust amongst participants. China is certainly also interested in these administrative efficiency aspects. Finance and logistics along the Belt and Road Initiative, for example, would certainly benefit. 

But China also wants to use the blockchain to expand its centralized control capabilities. Lifting the currency onto a blockchain would fulfill the self-imposed objective of strengthening the “quality of control” over the RMB. Such an immutable and digital crypto yuan would not only be cheaper, it could also help in the fight against corruption. Similarly, credible transaction ledgers could make the distribution of rewards and punishment within China’s soon-to-be rolled out Social Credit System much more accurate. The Chancheng “correction chain” certainly points in that direction. 

But the party state’s attempt to hold the reins of the blockchain creates a dilemma for its developers: How can they make maximum use of blockchain’s decentralized verification powers and efficiency gains, while keeping central political control high and democratic participation rights low.  

Having said that, some of China’s trials make use of fully decentralized, international blockchains, allowing virtually everyone to participate in verification and maintenance. (These designs are often open-source, offer interoperability options with other blockchains and draw from a pool of international tech geeks). Foshan is such a case. The whole civil administration, including the tracking of former inmates, is built on the QTUM blockchain. Only 56 percent of QTUM participants live in China. 

Giving away security and control can hardly be what China’s leaders envision for large-scale projects related to domestic and regime security. This is why there are also projects that, unlike most international blockchains, run entirely behind closed doors on Chinese servers (i.e. centralized alternatives, also known as permissioned or private blockchains). These allow central control over the verification process, including censorship or changes to the algorithm, and they may lead to a China-specific blockchain model, cut from the outer world like the Chinese internet. 

Centralization creates network vulnerability

However, such a centralization comes at a hefty price: vulnerability of the whole network. The reason why (decentral) blockchains are considered to be immutable is because data is stored on so many independent devices that it would require a huge amount of money, computing power or luck (depending on the algorithm) to successfully break them. 

For example, on most public, decentral blockchains participants must pay a minuscule fee for every transaction. One of the major purposes of this fee is to make it too expensive for malevolent attackers to flood and break the network with superfluous requests (also known as DDOS, a common form of hacking attacks). But this protective mechanism requires a cryptocurrency with which participants can pay their fees. Private blockchains, however, could refrain from using a cryptocurrency because there is no need to incentivize public participation, which in turn could open the gates to such hacking attacks. By centralizing power, China would therefore create a centralized potential point of failure. 

China faces the delicate question of how to balance maximum control (centralization) and maximum security (decentralization) for developing its blockchains. If an architecture is too centralized, China risks more severe consequences of hacks than without a blockchain (after having dug it’s on grave by accumulating and centralizing all the data). If it is too decentral, China runs the risk of having foreign entities involved that might potentially influence blockchain processes. Both extremes would seem calamitous to China’s control-fixated leadership. In that light, a large-scale rollout of the blockchain technology in China seems far from self-evident.