Back in 2009, Bitcoin became the first decentralized cryptocurrency. The prevailing thinking then was that the cryptocurrency market was going to be a winner-takes-all race due to the strong network effects around mining. And, most thought that Bitcoin would emerge as the winner in this race.

What happened? Bitcoin, and the underlying blockchain technology, never developed a strong use case besides storing value. Bitcoin fell short in becoming an important payment method. Its ecosystem was plagued with infighting, revealing that governance structures weren’t as stable as everyone had assumed. This does not mean the end of Bitcoin; storing value can be a large market opportunity as we have just seen in the run-up of the Bitcoin price over the past year – similar to the role that gold plays in the offline world. But it does open the door to other players in cryptocurrency.

Ethereum and the second act

In 2016, we saw the second act for cryptocurrencies with the rise of Ethereum and its focus on smart contract functionality. Ethereum also introduced an important innovation in tokens. In the Ethereum ecosystem, tokens can represent any fungible tradable good, including coins, loyalty points, gold certificates, IOUs, and in-game items. What makes tokens particularly interesting is that they enable built-in monetization of software projects. From Alex Felix:

“Utilizing a native cyptoasset paywall (or “tokenized ecosystem”) demand for network services is linked to price. Therefore, cryptoassets can both capture and represent value. […] As compared to a traditional third-party shareholder structure, the economic model of a decentralized network helps to align the interests of key stakeholders and allows them to benefit directly from the value they create. As a result, public Blockchain projects are well positioned to overcome a number of key challenges that plagued traditional OSS commercialization.”

While still very early, Ethereum has also unlocked new use cases, like decentralized storage (https://sia.tech/) and decentralized prediction markets (https://www.augur.net/).

The rise of Ethereum shows that cryptocurrency is not the winner-takes-all market that we once had thought. It’s evolving from a sole player with a limited use case (storing value) into an ecosystem with at least two cryptocurrencies at scale, and many others trying to get to scale.

We’re seeing interesting new use cases built on top of cryptocurrencies and the new ability to monetize software and open source. Creating a new financial incentive might actually turn out to be the most important driver for future innovation in this space.

Looking ahead…

While we have never been more bullish than today about the potential of cryptocurrencies, some big questions still remain:

• Using tokens in crowdfunding campaigns is an innovative way to fund projects that were once hard to fund and aligns stakeholders around a project. However, the emergence of tokens has also attracted a lot of weaker projects in search of easy money. The public failure of some of those projects might hurt the underlying innovation, at least in the short term. Will this token-driven crowdfunding market become the equivalent of OTC/pink slip markets, dominated by speculators and promoters? Or, will professional investors emerge and provide a certain level of due diligence and reputability?
• There’s also the matter of security (or the lack thereof). The hack on The Dao, one of the most prominent Ethereum-based projects, confirmed that the security problem has not yet been solved. There’s a lot of potential mistrust in the ecosystem.
• Lastly, some of the emerging use cases might not be perfectly legal…for example, running a prediction market = a betting operation. The current answer is that the operations are completely decentralized which makes then hard to take down (but they’re still not legal). What we need now are more use cases that are perfectly legal in the current legislative environment and provide a true value-add.

2017 could be the year that cryptocurrencies start delivering on the huge potential many people saw in them for a long time and we will be actively investing in the space.