Is a fixed small block size long term sustainable?

[johnyj]

It will be interesting to see a simulation that reducing the block size to under 256KB, thus every block are full of meaningful transactions, and see if a small block size is long term sustainable

The system might still work, because everyone will reduce their transaction frequency thus they can afford a higher fee to get ahead of the queue

This is similar to credit card cash withdraw: For each withdraw you have to pay a flat fee of $5. Then you would never withdraw $20 bills every day, but withdraw once a month for $500, thus the fee becomes less significant

With bitcoin, if your 0.1 BTC transaction with a 0.0001 btc fee is not able to get confirmed, you would wait until you do a 1 BTC transaction with 0.001 fee, which will more likely to be confirmed in 10 minutes

But this also means that you are not able to spend bitcoin for anything that worth less than 1 BTC. Of course those small daily spending are best to be done with fiat money, because people will always spend fiat money first due to its long term inflation potential

So the consumption in bitcoin economy will more likely to be this: Everyone buy bitcoin once a while, hold it for sometime, and send 10+ bitcoins to exchanges during the next rally, sell or mortgage them for large amount of fiat money to spend

If everyone make one transaction per month, then current 4TPS will make 10 million people possible to use bitcoin. For 100 million people they would only be able to do one transaction per year. Still fits some people's style but definitely not majority

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[DannyHamilton]

- snip -
The problem isn't a limit in general but that 1MB provides so little transaction capacity that, under any meaningful adoption scenario, it will push all individual users off the blockchain to rely on trusted third parties. 1MB is insufficient for end to end direct user access, but it is sufficient for a robust inter-‘bank’ settlement network.

If the cap is not raised to some higher limit; allowing a larger number of users to maintain direct access, then individuals will be priced out of the blockchain. When that happens Bitcoin becomes yet another network with no direct (peer) access; like FedWire, SWIFT, and other private closed transfer networks.  There is no realistic scenario where a network capped permanently at 1MB can have meaningful adoption whilst still maintaining direct access to the blockchain by individuals. To be clear, by ‘direct access’ I mean both parties transacting directly on-chain without relying on an intermediary or trusted third party.
- snip -
If the transaction demand exceeds capacity by a magnitude or more it will lead to direct users being replaced by trusted third parties acting as aggregators.   There are a lot of disadvantages to centralized services but they are more efficient and if the artificial limit is kept it will play right into the advantages of centralized services.  A third party can facilitate instant off-chain transactions.  If demand outstrips the very limited capacity it will force transactions off-chain using trusted third parties which I will call processors. 

Today these processors would include online wallet providers, exchanges, merchant payment service providers, and services where the user maintains a balance under the control of the merchant (casino, poker room).  In time even traditional financial companies and banks could be processors.  The one thing they all have in common is that customers of these services do not have direct control over private keys and do not directly make transactions on the network.  The processor has control over the private keys, keeps the Bitcoins in reserve and maintains an internal ledger of user transactions and balances.   Processors can trivially facilitate transactions between two customers of their service.   Since they control the private keys they simply update the ledger balances of the two customers and many of them do this today.   

However transactions can still occur off-chain even if they involve customers of different processors.  The process is not trustless but risk can be managed.  Two processors would aggregate all the transactions which occur between their customers and then periodically settle the difference.  When a payment from a customer of one processor is made to a customer of another processor the sending processor will notify the receiving processor.  Both processors will update their internal ledgers.  Over time this will result in an accumulated balanced owed by one processor to the other which can be settled with a single on-chain transaction.  The key thing is that there is a one to many relationship between the settlement transactions and underlying customer transactions.   While the 1MB block limit does not provide sufficient capacity for a large number of direct user transactions, third party processors can facilitate a very large number of off-chain transactions using a smaller number of on-chain settlements.  Blocks of a finite size can support a nearly unlimited amount of off-chain transaction capacity with the limitation that it involves the use of trusted third parties.

You can't competing with a 'bank'
You might be considering the point above but dismissing it because you still 'could' submit a transaction to the network.  The processors described above don't have the ability to close the network but a network that you have technical access to but which is uneconomical is effectively no access at all.  The current block size realistically limits capacity to no more than two to four transactions per second.  Two transactions per second is roughly 64 million transactions per year.  A finite number of transactions can't support an infinite number of direct users.  Say at some point there are ten million users and they wish to make two transactions per month.  That is 240 million transactions but only 64 million will fit in the blocks.  What happens to the excess.  If third party processors are attractive the difference will be handled by them. When you consider a settlement network would allows these third party processors to offer instant, 'no risk' transactions at significantly lower fees than on chain transactions the excess demand will be processed off-chain.   If the network continues to grow the profitability of these companies will grow and that will lead to more third party companies.   Those settlement transactions allow more off-chain transactions but at the same time compete with direct user transactions for the limited on-chain capacity.  In a settlement network the upper limit on the number of settlements required grows exponentially with the number of trusted peers.  Just two hundred trusted peers (crypto banks) performing hourly settlements would fill the blocks, all the blocks perpetually.  There may be billions of 'Bitcoin' transactions but they would be nothing more than updates on centralized ledgers.  The blockchain would just handle the settlement between massive financial service providers.  As these entities are collecting fees, and on chain transactions are a necessity of doing business, they can and will pay far more than you to ensure timely inclusion in a block.   When you as an individual have been reduced to a position where you must outbid a 'bank' for space in the blockchain then you have effectively lost access to the blockchain.
- snip -
Now when demand for transactions exceeds what is possible who do you think can pay more in fees?  You or a bank?  If transaction demand exceeds capacity then some transactions will not make it into a block.  Those paying the highest fee will be the ones who retain access to the blockchain and those unable or unwilling to will be excluded.  It is delusional to think it will be the 'banks' that suffer in a situation like that.

The reported 7tps transaction capacity does not exist.
There is a myth that without raising the limit the network could handle 7tps.  It can't.  The limit is 1MB per block the actual transaction capacity depends on the average transaction size and realistically that provides no more than 2 to 4 tps.
- snip -
1MB can not support a sufficient number of direct users even if transaction frequency is very low
One argument made by those favoring the cap is that Bitcoin doesn't need to be used as a transactional currency to be successful.  Users could primarily acquire Bitcoins as a way to secure store of value (savings) and continue to use other currencies for routine purchases.  Bullion and other stores of value have a much lower velocity than transactional currencies.  This means a block of the same size could support more more users.  While the user of a non-transaction currency may not make dozens of transactions a day, meaningful access would at least require access on the order of dozens of transactions per year.  If your savings or brokerage account restricted you to only one deposit per quarter and one withdrawal per year I don't think you would find that acceptable.  Future users of Bitcoin will not find it any more acceptable if they are forced to transaction as infrequently.

Code:

Maximum supported users based on transaction frequency.
Assumptions: 1MB block, 821 bytes per txn
Throughput:  2.03 tps, 64,000,000 transactions annually

Total #        Transactions per  Transaction
direct users     user annually    Frequency
       <8,000       8760          Once an hour
      178,000        365          Once a day
      500,000        128          A few (2.4) times a week
    1,200,000         52          Once a week
    2,600,000         24	  Twice a month
    5,300,000         12	  Once a month
   16,000,000          4	  Once a quarter
   64,000,000          1          Once a year
  200,000,000          0.3        Less than once every few years
1,000,000,000          0.06       Less than once a decade

As you can see even with an average transaction frequency of just once a week or once a month the network can't support more than a token number of users.  When someone advocates a permanent cap of 1MB what they are saying is I think Bitcoin will be great if it is never used by more than a couple million users making less than one transaction per month.  Such a system will never flourish as a store of value as it is eclipsed by alternatives which are more inclusive.  To support even 100 million direct users making an average of one transaction every two weeks would require a throughput of 82 tps and an average block size of 20 to 40 Megabytes.
- snip -
On a transaction fee basis.
Currently the cost of the network is roughly $300 million annually. The users of the network are collectively purchasing $300 mil worth of security each year.  If users paid $400 million the network would be more secure and if they paid $200 million it would be less secure. Today the majority of this cost is paid indirectly (or subsidized) through the creation of new coins but it is important to keep in mind the total unsubsidized security cost.  At 2 tps the network the unsubsidized cost per transaction would be about $5. At 100 tps it would be $0.05.
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Conclusion
Restricting the size of blocks to 1MB permanently is great if you are a major financial services company.   You could co-opt a very robust network, act as a trusted intermediary and force direct users off the chain onto centralized services.  For the same reasons, it is a horrible idea if you even want to keep open the possibility that individuals will be able to participate in that network without using a trusted third party as an intermediary.

[johnyj]

Conclusion
Restricting the size of blocks to 1MB permanently is great if you are a major financial services company.   You could co-opt a very robust network, act as a trusted intermediary and force direct users off the chain onto centralized services.  For the same reasons, it is a horrible idea if you even want to keep open the possibility that individuals will be able to participate in that network without using a trusted third party as an intermediary.

Enough with theoretical calculation, we need some real world examples that show how people will react when they are facing a hard limit. Humans are adaptive, they will always create solutions to adapt

I'm still not convinced that a designer of a monetary system should think like a service provider. A service provider always try to satisfy its customer since he need to make money from his customer. But designer of a monetary system has a totally different sets of concern than a service provider

If you look at Federal Reserve's dual mandate, they are low unemployment and low inflation. They never worry about transaction capacity, since that is a too low level of concern: Humans have been transacting slowly for several hundred years and central banks have never tried to improve on that area, it is the mission of commercial banks and payment processors

Of course bitcoin is different, it is decentralized, thus require different priorities than a centralized monetary system. But still, the way of thinking matters

[tadakaluri]

BitcoinXT can only become the dominant fork if at least 75 per cent of Bitcoin nodes adopt its Bitcoin Improvement Proposal (BIP) 101. This will be determined to have happened when 750 of the most recent 1,000 mined blocks support BIP 101. After this, the Bitcoin community will be given two weeks to update en masse to the new version or employ an alternative solution.

[S4VV4S]

Conclusion
Restricting the size of blocks to 1MB permanently is great if you are a major financial services company.   You could co-opt a very robust network, act as a trusted intermediary and force direct users off the chain onto centralized services.  For the same reasons, it is a horrible idea if you even want to keep open the possibility that individuals will be able to participate in that network without using a trusted third party as an intermediary.

Enough with theoretical calculation, we need some real world examples that show how people will react when they are facing a hard limit. Humans are adaptive, they will always create solutions to adapt

I'm still not convinced that a designer of a monetary system should think like a service provider. A service provider always try to satisfy its customer since he need to make money from his customer. But designer of a monetary system has a totally different sets of concern than a service provider

If you look at Federal Reserve's dual mandate, they are low unemployment and low inflation. They never worry about transaction capacity, since that is a too low level of concern: Humans have been transacting slowly for several hundred years and central banks have never tried to improve on that area, it is the mission of commercial banks and payment processors

Of course bitcoin is different, it is decentralized, thus require different priorities than a centralized monetary system. But still, the way of thinking matters

So you 're saying that Bitcoin should act like the Federal Reserve and serve the banks who in turn will serve the public?
If yes, can't we just have Bitcoin act like Bitcoin and nothing like ANY bank or monetary system has ever done before?
I mean, we have seen how all types of money failed until now.

[uxgpf]

So the consumption in bitcoin economy will more likely to be this: Everyone buy bitcoin once a while, hold it for sometime, and send 10+ bitcoins to exchanges during the next rally, sell or mortgage them for large amount of fiat money to spend

Why would there be any rallies if this happens? Value of bitcoin depends largely on how useful it is and its prospects of growth.

If everyone make one transaction per month, then current 4TPS will make 10 million people possible to use bitcoin. For 100 million people they would only be able to do one transaction per year. Still fits some people's style but definitely not majority

Or the most wealthy parties would make all the transactions, while normal people would be completely blocked out by fees. Though I think that such expensive to use network would just die as even the wealthy players would move elsewhere.

[S4VV4S]

Or the most wealthy parties would make all the transactions, while normal people would be completely blocked out by fees. Though I think that such expensive to use network would just die as even the wealthy players would move elsewhere.

Not necessarily.
As mentioned above, the banks will serve the public.
These "banks" will have their own ledger which will report to the "Federal Reserve" (Bitcoin blockchain).

[Kprawn]

I should say the system should serve the needs of the people using it, not the other way around. We have had enough manipulation from governments and banks based on what they think you should need.

We have a programmable currency, where consensus is needed to make changes, based on what the people need and not what the Reserve banks wants to force.

Let's just adapt according to the need of the mayority of the people using the network. Centralized control is so ....yesterday. 

[ashour]

It will be interesting to see a simulation that reducing the block size to under 256KB, thus every block are full of meaningful transactions, and see if a small block size is long term sustainable

The system might still work, because everyone will reduce their transaction frequency thus they can afford a higher fee to get ahead of the queue

This is similar to credit card cash withdraw: For each withdraw you have to pay a flat fee of $5. Then you would never withdraw $20 bills every day, but withdraw once a month for $500, thus the fee becomes less significant

With bitcoin, if your 0.1 BTC transaction with a 0.0001 btc fee is not able to get confirmed, you would wait until you do a 1 BTC transaction with 0.001 fee, which will more likely to be confirmed in 10 minutes

But this also means that you are not able to spend bitcoin for anything that worth less than 1 BTC. Of course those small daily spending are best to be done with fiat money, because people will always spend fiat money first due to its long term inflation potential

So the consumption in bitcoin economy will more likely to be this: Everyone buy bitcoin once a while, hold it for sometime, and send 10+ bitcoins to exchanges during the next rally, sell or mortgage them for large amount of fiat money to spend

If everyone make one transaction per month, then current 4TPS will make 10 million people possible to use bitcoin. For 100 million people they would only be able to do one transaction per year. Still fits some people's style but definitely not majority

It won't be sustainable for long because future bitcoin applications will need to make many and small transactions. Like exchanges and wallets need to  make hundreds if not thousands of transactions each hour, this leads to long confirmation times.

[DannyHamilton]

BitcoinXT can only become the dominant fork if at least 75 per cent of Bitcoin nodes adopt its Bitcoin Improvement Proposal (BIP) 101.

That is incorrect.  It has nothing to do with the number of nodes at all.  Approximately 75% of the global bitcoin mining hash power needs to report, in the valid blocks that they broadcast, a version number in support of BIP101.

This will be determined to have happened when 750 of the most recent 1,000 mined blocks support BIP 101. After this, the Bitcoin community will be given two weeks to update en masse to the new version or employ an alternative solution.

[brunoshady]

I think it's not. Because at the beginning, people make small amounts of tx, and then nowadays people are making 1 tx per second, which used more than half of the system capability...

[Q7]

But why do we want to impose restrictions upon ourselves to live and adjust to suit the limitations of the systems? Isn't that counterproductive when we can actually turn it the other way round to make the systems convenient for us to use? In effect we are actually asking people to go back to fiat money.

[johnyj]

BitcoinXT can only become the dominant fork if at least 75 per cent of Bitcoin nodes adopt its Bitcoin Improvement Proposal (BIP) 101. This will be determined to have happened when 750 of the most recent 1,000 mined blocks support BIP 101. After this, the Bitcoin community will be given two weeks to update en masse to the new version or employ an alternative solution.

This has been discussed before, suppose that chinese government confiscated all the chinese miners in China, then fork the chain with more than 75% of hash power, their fork will just become an alt-coin that no one cares about

It is the bitcoin user who decide what version they would like to use, not the core devs

[johnyj]

If you are given 2 choices:

A. bitcoin's price will increase 10x every year, but you will only be able to do one transaction per year

B. bitcoin's price will increase 19% per year, but you can do as much transaction as you want

I guess most of the people will select option A

However, although scarcity creates value, it is difficult to prove that limited transaction capacity will work as a catalyst to boost bitcoin's value. If the core devs can prove that the scarcity of transaction capacity will raise bitcoin's value, then maybe a fixed block size will gain more support

[worhiper_-_]

IMO, right now the 1Mb limit is just ok under the current conditions. Although It's not performing great during stress tests. The suggestion that we're going to need a bigger block size cap is based on the assumption that bitcoin's use will grow, and that this use will have to be housed in the bitcoin blockchain.

[johnyj]

The thought behind a larger block size is that more users would be able to benefit from extremely low fee of bitcoin transaction, thus drive it to mainstream adoption

But based on my observation, the low fee and fast transaction does not contribute too much to the adoption. Adoption rate always rise when the exchange rate rises (In a fiat money flooded world, no one really need bitcoin to buy groceries, majority of people treat it as investment/speculation, rest are money launderers, drug dealers and gamblers...)

In fact, the exchange rate risk is magnitudes higher than the fee, so spending 0.0001 bitcoin or 0.01 bitcoin for fee really does not make any difference since the biggest cost comes from exchange rate risk

[worhiper_-_]

The thought behind a larger block size is that more users would be able to benefit from extremely low fee of bitcoin transaction, thus drive it to mainstream adoption

But based on my observation, the low fee and fast transaction does not contribute too much to the adoption. Adoption rate always rise when the exchange rate rises (In a fiat money flooded world, no one really need bitcoin to buy groceries, majority of people treat it as investment/speculation, rest are money launderers, drug dealers and gamblers...)

In fact, the exchange rate risk is magnitudes higher than the fee, so spending 0.0001 bitcoin or 0.01 bitcoin for fee really does not make any difference since the biggest cost comes from exchange rate risk

This is one of the main reasons I believe that pushing for a block size limit increase with the hopes that bitcoin adoption will grow and will have to be contained in the blockchain is faulty rasoning. That in addition to the fact that most adoption bitcoin has had up until now was thanks to some kind third party technologies that made it more accessible, usefull, or somehow appealing to use. To say that a lightning network or any third party technology to support innovation and more transactions per second on top of the existing technology would be bad while praising existing adoption and wanting more is highly hypocritical. We haven't even had a good chance to judge those possible future solutions and FUDsters are already calling the death of bitcoin if it's block size limit doesn't increase. Funnily enough, when not under a stress test, even the 1Mb limit seems big.