Web3 is being touted as the
future of the internet. The vision for this new, blockchain-based web
includes cryptocurrencies, NFTs, DAOs, decentralized finance, and
more. It offers a read/write/own version of the web, in which users
have a financial stake in and more control over the web communities
they belong to. Web3 promises to transform the experience of being
online as dramatically as PCs and smartphones did. It is not,
however, without risk. Some companies have entered the space only to
face a backlash over the environmental impact and financial
speculation (and potential for fraud) that comes with Web3 projects.
And while blockchain is offered as a solution to privacy,
centralization, and financial exclusion concerns, it has created new
versions of many of these problems. Companies need to consider both
the risks and the benefits before diving in.
Do you
remember the first time you heard about Bitcoin? Maybe it was a faint
buzz about a new technology that would change everything. Perhaps you
felt a tingle of FOMO as the folks who got in early suddenly amassed
a small fortune — even if it wasn’t clear what the “money”
could legitimately be spent on. Maybe you just wondered whether your
company should be working on a crypto strategy in case it did
take off in your industry, even if you didn’t really care one way
about it or the other.
Most
likely, soon after Bitcoin came to your attention — whenever that
may have been — there was a crash. Every year or two, bitcoin’s
value has tanked. Each time it does, skeptics rush to dismiss it as
dead, railing that it was always a scam for nerds and crooks and was
nothing more than a fringe curiosity pushed by techno-libertarians
and people who hate banks. Bitcoin never had a future alongside real
tech companies, they’d contend, and then they’d forget about it
and move on with their lives. And, of course, it would come back.
Bitcoin
now seems to be everywhere. Amidst all the demands on our attention,
many of us didn’t notice cryptocurrencies slowly seeping into the
mainstream. Until suddenly Larry David was pitching them during the
Super Bowl; stars like Paris Hilton, Tom Brady, and Jamie Foxx were
hawking them in ads; and a frankly terrifying Wall Street–inspired
robot bull celebrating cryptocurrency was unveiled in Miami. What was
first a curiosity and then a speculative niche has become big
business.
Crypto,
however, is just the tip of the spear. The underlying technology,
blockchain, is what’s called a “distributed ledger” — a
database hosted by a network of computers instead of a single server
— that offers users an immutable and transparent way to store
information. Blockchain is now being deployed to new ends: for
instance, to create “digital deed” ownership records of unique
digital objects — or nonfungible tokens. NFTs have exploded in
2022, conjuring a $41 billion market seemingly out of thin air.
Beeple, for example, caused a sensation last year when an NFT of his
artwork sold for $69 million at Christie’s. Even more esoteric
cousins, such as DAOs, or “decentralized autonomous organizations,”
operate like headless corporations: They raise and spend money, but
all decisions are voted on by members and executed by encoded rules.
One DAO recently raised $47 million in an attempt to buy a rare copy
of the U.S. Constitution. Advocates of DeFi (or “decentralized
finance,” which aims to remake the global financial system) are
lobbying Congress and pitching a future without banks.
The
totality of these efforts is called “Web3.” The moniker is a
convenient shorthand for the project of rewiring how the web works,
using blockchain to change how information is stored, shared, and
owned. In theory, a blockchain-based web could shatter the monopolies
on who controls information, who makes money, and even how networks
and corporations work. Advocates argue that Web3 will create new
economies, new classes of products, and new services online; that it
will return democracy to the web; and that is going to define the
next era of the internet. Like the Marvel villain Thanos, Web3 is
inevitable.
Or is it? While it’s undeniable
that energy, money, and talent are surging into Web3 projects,
remaking the web is a major undertaking. For all its promise,
blockchain faces significant technical, environmental, ethical, and
regulatory hurdles between here and hegemony. A growing chorus of
skeptics warns that Web3 is rotten with speculation, theft, and
privacy problems, and that the pull of centralization and the
proliferation of new intermediaries is already undermining the
utopian pitch for a decentralized web.
Meanwhile,
businesses and leaders are trying to make sense of the potential —
and pitfalls — of a rapidly changing landscape that could pay
serious dividends to organizations that get it right. Many companies
are testing the Web3 waters, and while some have enjoyed major
successes, several high-profile firms are finding that they (or their
customers) don’t like the temperature. Most people, of course,
don’t even really know what Web3 is: In a casual poll of HBR
readers on LinkedIn in March 2022, almost 70% said they didn’t know
what the term meant.
Welcome
to the confusing, contested, exciting, utopian, scam-ridden,
disastrous, democratizing, (maybe) decentralized world of Web3.
Here’s what you need to know.
In the beginning, there was the
internet: the physical infrastructure of wires and servers that lets
computers, and the people in front of them, talk to each other. The
U.S. government’s ARPANET sent its first message in 1969, but the
web as we know it today didn’t emerge until 1991, when HTML and
URLs made it possible for users to navigate between static pages.
Consider this the read-only web, or Web1.
In the early 2000s, things
started to change. For one, the internet was becoming more
interactive; it was an era of user-generated content, or the
read/write web. Social media was a key feature of Web2 (or Web 2.0,
as you may know it), and Facebook, Twitter, and Tumblr came to define
the experience of being online. YouTube, Wikipedia, and Google, along
with the ability to comment on content, expanded our ability to
watch, learn, search, and communicate.
The
Web2 era has also been one of centralization. Network effects and
economies of scale have led to clear winners, and those companies
(many of which are listed above) have produced mind-boggling wealth
for themselves and their shareholders by scraping users’ data and
selling targeted ads against it. This has allowed services to be
offered for “free,” though users initially didn’t understand
the implications of that bargain. Web2 also created new ways for
regular people to make money, such as through the sharing economy and
the sometimes lucrative job of being an influencer.
There’s
plenty to critique in the current system: The companies with
concentrated or near-monopoly power have often failed to wield it
responsibly, consumers who now realize that they are
the product are becoming increasingly uncomfortable with ceding
control of their personal data, and it’s possible that the
targeted-ad economy is a fragile bubble that does little to actually
boost advertisers. As the web has grown up, centralized, and gone
corporate, many have started to wonder whether there’s a better
future out there.
Which brings us to Web3.
Advocates of this vision are pitching it as a roots-deep update that
will correct the problems and perverse incentives of Web2. Worried
about privacy? Encrypted wallets protect your online identity. About
censorship? A decentralized database stores everything immutably and
transparently, preventing moderators from swooping in to delete
offending content. Centralization? You get a real vote on decisions
made by the networks you spend time on. More than that, you get a
stake that’s worth
something — you’re
not a product, you’re an owner. This is the vision of the
read/write/own web.
OK,
but What Is Web3? The seeds of what would become Web3 were planted
in 1991, when scientists W. Scott Stornetta and Stuart Haber launched
the first blockchain — a project to time-stamp digital documents.
But the idea didn’t really take root until 2009, when Bitcoin was
launched in the wake of the financial crisis (and at least partially
in response to it) by the pseudonymous inventor Satoshi Nakamoto. It
and its undergirding blockchain technology work like this: Ownership
of the cryptocurrency is tracked on a shared public ledger, and when
one user wants to make a transfer, “miners” process the
transaction by solving a complex math problem, adding a new “block”
of data to the chain and earning newly created bitcoin for their
efforts. While the Bitcoin chain is used just for currency, newer
blockchains offer other options. Ethereum, which launched in 2015, is
both a cryptocurrency and a platform that can be used to build other
cryptocurrencies and blockchain projects. Gavin Wood, one of its
cofounders, described Ethereum as “one computer for the entire
planet,” with computing power distributed across the globe and
controlled nowhere. Now, after more than a decade, proponents of a
blockchain-based web are proclaiming that a new era — Web3 — has
dawned.
Put very
simply, Web3 is an extension of cryptocurrency, using blockchain in
new ways to new ends. A blockchain can store the number of tokens in
a wallet, the terms of a self-executing contract, or the code for a
decentralized app (dApp). Not all blockchains work the same way, but
in general, coins are used as incentives for miners to process
transactions. On “proof of work” chains like Bitcoin, solving the
complex math problems necessary to process transactions is
energy-intensive by design. On a “proof of stake” chain, which
are newer but increasingly common, processing transactions simply
requires that the verifiers with a stake in the chain agree that a
transaction is legit — a process that’s significantly more
efficient. In both cases, transaction data is public, though users’
wallets are identified only by a cryptographically generated address.
Blockchains are “write only,” which means you can add data to
them but can’t delete it.
Web3 and cryptocurrencies run on
what are called “permissionless” blockchains, which have no
centralized control and don’t require users to trust — or even
know anything about — other users to do business with them. This is
mostly what people are talking about when they say blockchain. “Web3
is the internet owned by the builders and users, orchestrated with
tokens,” says Chris Dixon, a partner at the venture capital firm
a16z and one of Web3’s foremost advocates and investors, borrowing
the definition from Web3 adviser Packy McCormick. This is a big deal
because it changes a foundational dynamic of today’s web, in which
companies squeeze users for every bit of data they can. Tokens and
shared ownership, Dixon says, fix “the core problem of centralized
networks, where the value is accumulated by one company, and the
company ends up fighting its own users and partners.”
In 2014, Ethereum’s Wood wrote
a foundational blog post in which he sketched out his view of the new
era. Web3 is a “reimagination of the sorts of things we already use
the web for, but with a fundamentally different model for the
interactions between parties,” he said. “Information that we
assume to be public, we publish. Information that we assume to be
agreed, we place on a consensus-ledger. Information that we assume to
be private, we keep secret and never reveal.” In this vision, all
communication is encrypted, and identities are hidden. “In short,
we engineer the system to mathematically enforce our prior
assumptions, since no government or organization can reasonably be
trusted.”
The
idea has evolved since then, and new use cases have started popping
up. The Web3 streaming service Sound.xyz promises a better deal for
artists. Blockchain-based games, like the Pokémon-esque Axie
Infinity, let users earn money as they play. So-called “stablecoins,”
whose value is pegged to the dollar, the euro, or some other external
reference, have been pitched as upgrades to the global financial
system. And crypto has gained traction as a solution for cross-border
payments, especially for users in volatile environments.
“Blockchain is a new type of
computer,” Dixon tells me. Just like it took years to understand
the extent to which PCs and smartphones transformed the way we use
technology, blockchain has been in a long incubation phase. Now, he
says, “I think we might be in the golden period of Web3, where all
the entrepreneurs are entering.” Although the eye-popping price
tags, like the Beeple sale, have garnered much of the attention,
there’s more to the story. “The vast majority of what I’m
seeing is smaller-dollar things that are much more around
communities,” he notes, like Sound.xyz. Whereas scale has been a
key measure of a Web2 company, engagement is a better indicator of
what might succeed in Web3.
Dixon
is betting big on this future. He and a16z started putting money into
the space in 2013 and invested $2.2 billion in Web3 companies last
year. He is looking to double that in 2022. The number of active
developers working on Web3 code nearly doubled in 2021, to roughly
18,000 — not huge, considering global numbers, but notable
nonetheless. Perhaps most significantly, Web3 projects have become
part of the zeitgeist, and the buzz is undeniable.
But as high-profile,
self-immolating startups like Theranos and WeWork remind us, buzz
isn’t everything. So what happens next? And what should you watch
out for? Web3 will have a few key differences from Web2: Users won’t
need separate log-ins for every site they visit but instead will use
a centralized identity (probably their crypto wallet) that carries
their information. They’ll have more control over the sites they
visit, as they earn or buy tokens that allow them to vote on
decisions or unlock functionality.
It’s still unclear whether the
product lives up to the pitch. Predictions as to what Web3 might look
like at scale are just guesses, but some projects have grown pretty
big. The Bored Ape Yacht Club (BAYC), NBA Top Shot, and the
cryptogaming giant Dapper Labs have built successful NFT communities.
Clearinghouses such as Coinbase (for buying, selling, and storing
cryptocurrency) and OpenSea (the largest digital marketplace for
crypto collectibles and NFTs) have created Web3 on-ramps for people
with little to no technical know-how.
While
companies such as Microsoft, Overstock, and PayPal have accepted
cryptocurrencies for years, NFTs — which have recently exploded in
popularity — are the primary way brands are now experimenting with
Web3. Practically speaking, an NFT is some mix of a deed, a
certificate of authenticity, and a membership card. It can confer
“ownership” of digital art (typically, ownership is recorded on
the blockchain and a link points to an image somewhere) or rights or
access to a group. NFTs can operate on a smaller scale than coins
because they create their own ecosystems and require nothing more
than a community of people who find value in the project. For
example, baseball cards are valuable only to certain collectors, but
that group really
believes in their value.
Most
successful forays by traditional companies into Web3 have been ones
that create communities or plug in to existing ones. Consider the
NBA: Top Shot was one of the first NFT projects from a legacy brand,
and it offered fans the opportunity to buy and trade clips, called
“moments” (a LeBron James dunk, for instance), that function like
trading cards. It took off because it created a new kind of community
space for fans, many of whom may have already been collecting
basketball cards. Other front-runner brands, such as Nike, Adidas,
and Under Armour, similarly added a digital layer to their existing
collector communities. All three companies offer NFTs that can be
used in the virtual world — for example, allowing the owner to gear
up an avatar — or that confer rights to products or exclusive
streetwear drops in the real world. Adidas sold $23 million worth of
NFTs in less than a day and instantly created a resale market on
OpenSea, just like what you might see after a limited drop of new
shoes. Similarly, Time magazine launched an NFT project to build an
online community that leverages the publication’s deep history.
Bored Ape Yacht Club is the
biggest success story of an NFT project going mainstream. Combining
hype and exclusivity, BAYC offers access to real-life parties and to
online spaces, along with usage rights to the ape’s image —
further reinforcing the brand. An ape NFT puts the owner in an
exclusive club, both figuratively and literally.
One lesson from these efforts is
that on-ramps matter, but less so the more committed the community
is. Getting a crypto wallet isn’t hard, but it is an added step. So
Top Shot doesn’t require a one — users can just plug in their
credit card — which helped it acquire interested users new to NFTs.
The Bored Ape Yacht Club was a niche interest, but when it took off,
it became a catalyst for people to create wallets and drove interest
in OpenSea.
Some
companies have had rockier experiences with NFT projects and crytpo
features. For example, when Jason Citron, the CEO of Discord, a
voice, video, and text communication service, teased a feature that
could connect the app to crypto wallets, Discord users mutinied,
leading him to clarify that the company had “no current plans” to
launch the tie-in. The underwear brand MeUndies and the UK branch of
the World Wildlife Fund both quickly pulled the plug on NFT projects
after a fierce backlash by customers furious about their sizable
carbon footprint. Even the success stories have hit bumps in the
road. Nike is currently fighting to have unauthorized NFTs
“destroyed,” and OpenSea is full of knockoffs and imitators.
Given that blockchain is immutable, this is raising novel legal
questions, and it isn’t clear how companies will handle the issue.
Further, there’s recent evidence that the market for NFTs is
stalling entirely.
Companies who are considering
stepping into this space should remember this: Web3 is polarizing,
and there are no guarantees. Amid many points of disagreement, the
chief divide is between people who believe in what Web3 could
be and critics who decry the many problems dogging it right now.
The early days of a technology
are a heady time. The possibilities are endless, and there’s a
focus on what it can do — or will
do, according to optimists. I’m old enough to remember when the
unfettered discourse enabled by Twitter and Facebook was supposed to
sow democracy the world over. As Web3’s aura of inevitability (and
profitability) wins converts, it’s important to consider what could
go wrong and recognize what’s already
going wrong.
Skeptics
argue that for all the rhetoric about democratization, ownership
opportunities, and mass wealth building, Web3 is nothing more than a
giant speculative economy that will mostly make some already-rich
people even richer. It’s easy to see why this argument makes sense.
The top 0.01% of bitcoin holders own 27% of the supply. Wash trading,
or selling assets to yourself, and market manipulation have been
reported in both crypto and NFT markets, artificially pumping up
value and allowing owners to earn coins through sham trades. In an
interview on the podcast The Dig, reporters Edward Ongweso Jr. and
Jacob Silverman characterized the whole system as an elaborate upward
transfer of wealth. Writing in The Atlantic, investor Rex Woodbury
called Web3 “the financialization of everything” (and not in a
good way). On a more granular level, Molly White, a software
engineer, created Web3 Is Going Just Great, where she tracks the many
hacks, scams, and implosions in the Web3 world, underscoring the
pitfalls of the unregulated, Wild West territory.
The
unpredictable, speculative nature of the markets may be a feature,
not a bug. According to technologist David Rosenthal, speculation on
cryptocurrencies is the engine that drives Web3 — that it can’t
work without it. “[A] permissionless blockchain requires
a cryptocurrency to function, and this cryptocurrency requires
speculation to function,” he said in a talk at Stanford in early
2022. Basically, he’s describing a pyramid scheme: Blockchains need
to give people something in exchange for volunteering computing
power, and cryptocurrencies fill that role — but the system works
only if other people are willing to buy them believing that they’ll
be worth more in the future. Stephen Diehl, a technologist and vocal
critic of Web3, floridly dismissed blockchain as “a one-trick pony
whose only application is creating censorship-resistant crypto
investment schemes, an invention whose negative externalities and
capacity for harm vastly outweigh any possible uses.”
Questions
abound as to whether Web3 — or blockchain, really — makes sense
as the technology that will define the web’s next era. “Whether
or not you agree with the philosophy/economics behind
cryptocurrencies, they are — simply put — a software architecture
disaster in the making,” says Grady Booch, chief scientist for software engineering at IBM Research.
All technology comes with trade-offs, Booch explained in a Twitter
Spaces conversation, and the cost of a “trustless” system is that
it’s highly inefficient, capable of processing only a few
transactions per minute — tiny amounts of data compared with a
centralized system like, say, Amazon Web Services. Decentralization
makes technology more complicated and further out of reach for basic
users, rather than simpler and more accessible.
While it’s possible to fix this
by adding new layers that can speed things up, doing so makes the
whole system more centralized, which defeats the purpose. Moxie
Marlinspike, founder of the encrypted messaging app Signal, put it
this way: “Once a distributed ecosystem centralizes around a
platform for convenience, it becomes the worst of both worlds:
centralized control, but still distributed enough to become mired in
time.”
Right
now, the inefficiency of blockchain comes at a cost, quite literally.
Transaction costs on Bitcoin and Ethereum (which calls them gas fees)
can run anywhere from a few bucks to hundreds of dollars. Storing one
megabyte of data on a blockchain distributed ledger can cost
thousands, or even tens of thousands, of dollars — yes, you read
that correctly. That’s why the NFT you bought probably isn’t
actually on a blockchain. The code on the chain indicating your
ownership includes an address, pointing to where the image is stored.
Which can and has caused problems, including your pricy purchase
disappearing if the server it actually lives on goes down.
The
potential for disastrous unintended consequences is very real. “While
blockchain proponents speak about a ‘future of the web’ based
around public ledgers, anonymity, and immutability,” writes Molly
White, “those of us who have been harassed online look on in horror
as obvious vectors for harassment and abuse are overlooked, if not
outright touted as features.” Although crypto wallets theoretically
provide anonymity, the fact that transactions are public means that
they can be traced back to individuals. (The FBI is pretty good at
doing this, which is why crypto isn’t great for criminal
enterprise.) “Imagine if, when you Venmo-ed your Tinder date for
your half of the meal, they could now see every other transaction
you’d ever made,” including with other dates, your therapist, and
the corner store by your house. That information in the hands of an
abusive ex-partner or a stalker could be life-threatening.
The
immutability of the blockchain also means that data can’t be taken
down. There’s no way to erase anything, whether it’s a
regrettable post or revenge porn. Immutability also could spell major
problems for Web3 in some places, such as Europe, where the General
Data Protection Regulation (GDPR) enshrines the right to have
personal data erased.
Web3’s
environmental impact is vast and deeply damaging. It can be broken
into two categories: energy use and tech waste, both of which are
products of mining. Running a network that depends on supercomputers
competing to solve complex equations every time you want to save data
on a blockchain takes a tremendous amount of energy. It also
generates e-waste: According to Rosenthal, Bitcoin produces “an
average of one whole MacBook Air of e-waste per ‘economically
meaningful’ transaction” as miners cycle through quantities of
short-lived computer hardware. The research he bases this claim on,
by Alex de Vries and Christian Stoll, found that the annual e-waste
created by Bitcoin is comparable to the amount produced by a country
the size of the Netherlands.
Whether
and how these issues will be addressed is hard to say, in part
because it’s still unclear whether Web3 will really catch on.
Blockchain is a technology in search of a real use, says technology
writer Evgeny Morozov. “The business model of most Web3 ventures is
self-referential in the extreme, feeding off people’s faith in the
inevitable transition from Web 2.0 to Web3.” Tim O’Reilly, who
coined “Web 2.0” to describe the platform web of the early 2000s,
claims that we’re in an investment boom reminiscent of the dot-com
era before the bottom fell out. “Web 2.0 was not a version number,
it was the second coming of the web after the dot-com bust,” he
says. “I don’t think we’re going to be able to call Web3 ‘Web3’
until after the crypto bust. Because only then will we get to see
what’s stuck around.”
If that’s true, then innovation
is going to come at significant cost. As Hilary Allen, an American
University law professor who studies the 2008 financial crisis,
points out, the system now “mirrors and magnifies the fragilities
of shadow banking innovations that resulted in the 2008 financial
crisis.” If the Web3 bubble bursts, it could leave a lot of folks
high and dry.
So,
where exactly is Web3 headed? Ethereum cofounder Vitalik Buterin has
expressed concerns about the direction his creation has taken but
continues to be optimistic. In a response to Marlinspike on the
Ethereum Reddit page, he conceded that the Signal founder presented
“a correct criticism of the current
state of the ecosystem”
but maintained that the decentralized web is catching up, and pretty
quickly at that. The work being done now — creating libraries of
code — will soon make it easier for other developers to start
working on Web3 projects. “I think the properly authenticated
decentralized blockchain world is coming and is much closer to being
here than many people think.”
For
one, proof of work — the inefficient-by-design system Bitcoin and
Ethereum run on — is falling out of vogue. Instead of mining, which
uses intensive amounts of energy, validation increasingly comes from
users buying in (owning a stake) to approve transactions. Ethereum
estimates that the update to proof of stake will cut its energy usage
by 99.95%, while making the platform faster and more efficient.
Solana, a newer blockchain that uses proof of stake and “proof of
history,” a mechanism that relies on time stamps, can process
65,000 transactions per second (compared with Ethereum’s current
rate of about 15 per second and Bitcoin’s seven) and uses about as
much energy as two Google searches — consumption it buys carbon
offsets for.
Some companies are adopting a
hybrid approach to blockchain, which offers the benefits without the
constraints. “There are a lot of really interesting new
architectures, which put certain things on the blockchain but not
others,” he tells me. A social network, for instance, could record
your followers and who you follow on the blockchain, but not your
posts, giving you the option to delete them.
Hybrid
models can also help companies address GDPR and other regulations.
“To comply with the right to erasure,” explain Cindy Compert,
Maurizio Luinetti, and Bertrand Portier in an IBM white paper,
“personal data should be kept private from the blockchain in an
‘off-chain’ data store, with only its evidence (cryptographic
hash) exposed to the chain.” That way, personal data can be deleted
in keeping with GDPR without affecting the chain.
For
better or worse, regulation is coming — slowly — and it will
define the next chapter of Web3. China has banned cryptocurrencies
outright, along with Algeria, Bangladesh, Egypt, Iraq, Morocco, Oman,
Qatar, and Tunisia. Europe is considering environmental regulations
that would curb or ban proof-of-work blockchains. In the U.S., the
Biden administration issued an executive order in March directing the
federal government to look into regulating cryptocurrencies.
With so much of Web3 still being
hashed out, it remains a high-risk, high-reward bet. Certain
companies and sectors have more incentive than others to try their
luck, particularly those that got burned by being left out in earlier
eras of the web. It’s not a coincidence that a media company like
Time is interested in the opportunities of Web3 after Web2 decimated
its business model. Other organizations — like Nike and the NBA,
which already have experience with limited drops and commoditizing
moments — may have simply found that their business models are an
easy fit. Other businesses won’t have as clear a path.
The soaring claims around Web3 —
that it will take over the internet, upend the financial system,
redistribute wealth, and make the web democratic again — should be
taken with a grain of salt. We’ve heard all this before, and we’ve
seen how earlier episodes of Web3 euphoria fizzled. But that doesn’t
mean it should be written off entirely. Maybe it booms, maybe it
busts, but we’ll be living with some form of it either way. What
version — and how your company responds — could determine the
future of the digital economy and what life online looks like for the
next internet epoch. For now, that future is still up for grabs.
Nothing, after all, is inevitable.
by
Thomas Stackpole on May 10, 2022 at the Harvard Business Review
