Qiao Wang, a mathematician, engineer, and trader, recently published a post on Medium titled: “Crypto Networks and the Theory of the Firm.” In his writeup, Wang noted that cryptocurrency platforms could be increasingly used to “organize economic activity” in the future.
Markets Versus Firms
He also questions why firms, or centralized companies, exist considering that open financial markets may be more efficient at allocating resources. According to Wang, a firm “is an institution where economic activities are centrally coordinated” by its CEO or owner.
A market “is an institution where economic activities” are initiated, or dependent, on a price mechanism that is “coordinated” by the market’s participants in a decentralized manner, Wang wrote.
Wang then gave an example of a freelancer who is offered a $50 per hour contract and a $100 per hour contract for the same type of job from different contractors in a market. More than likely, the freelance worker will choose to accept the contract that pays more, Wang argues.
Wang, who works at Messari, an open data library that provides curation tools to help researchers understand the cryptocurrency market, explains that “in the firm … a [worker] jumps from project A to project B … not because B offers a higher compensation, but because he is ordered to do so. This is coordination mechanism by the” firm’s owner or CEO.
Firms Reduce Transaction Costs
Wang then questioned why all economic activity is not being “carried out in a completely decentralized [manner through a market] by means of contracts between individuals.” Given that the market is seemingly much more efficient at allocating resources compared to a centralized firm, then why are they so “prevalent”, Wang asked.
He believes firms exist because they significantly help reduce the costs associated with conducting transactions. These costs, as explained by renowned British economist, Ronald Coase, include “search and information costs” – meaning we need to search for who we are going to do business with.
Other costs, according Coase, are “bargaining and decision costs” and “policing and enforcement costs.” These costs are considerably lower when working within a firm, Coase explains. That’s because “information flows more freely within the firm … [and the firm’s manager] can more easily find a suitable employee to execute certain tasks.”
“Openly And Fully Communicating” With Open-Source Code
There is also no need for bargaining, therefore no bargaining costs, because the manager simply instructs the employees to complete assigned tasks. There are no policing or enforcement costs either because the firm’s manager can “punish underperformers by demoting or firing them”, Wang wrote.
The crypto trader then compared the emerging role of cryptocurrency networks to the functions performed currently by traditional markets and firms. He noted crypto networks allow people to interact through “pure economic incentives instead of orders, in activities such as money supply, computation, storage, prediction, content production, and content curation.”
Wang observed that because most cryptocurrency projects are fully open-source, they have provided a way for market participants to “openly and fully communicate” what the terms and conditions of a contract should be. In case anyone is not satisfied with a particular offer, they may “propose new terms by forking the code and changing the parameters”, Wang noted.