As Bitcoin Scales, We Need Better Custodial Solutions

Crypto unintelligentsia discourse has been set aflame by this week’s Big Crisis in Bitcoin.

The culprit: big, fat, unwieldy fee rates.

George Kaloudis is a senior researcher and host of CoinDesk TV's "All About Bitcoin."

Until recently you could have sent a bitcoin transaction rather cheaply, probably at a fee rate of 1 satoshi per vByte (equivalent to a fraction of a cent). Now, with the rise of the use of non-fungible token-like “inscriptions” and the BRC-20 token standard on Bitcoin, normal fee rates are comparatively absurd. At time of writing, getting a bitcoin transaction sent in a reasonable time period would cost something like 100 satoshis per vByte.

All things considered, it’s actually still pretty cheap – but it’s way more expensive than bitcoiners are used to. And so, people are upset. The thing is, they are upset not because fee rates are high, but because of why fee rates are high.

See, the Bitcoin blockchain has always had scarce blockspace. “When billions and billions of people want to use bitcoin will it become too expensive to use?” has always been an open question about Bitcoin. It was even a central point of contention during the Blocksize Wars in 2015 to 2017 which led to the introduction of Segregated Witness (SegWit) to Bitcoin and the Bitcoin Cash hard fork.

(Of note: SegWit solved for transaction malleability and opened the door to our most recent reason for fees going up; funny how that works).

This time around, bitcoin fees have skyrocketed because a lot more people want to use bitcoin. And not to send permissionless, sound money to others or because they want to store wealth, but instead to put monkey pictures on the Bitcoin blockchain and speculate on tokens.

Blasphemous. Bitcoin should be used for financial transactions, hence the hullabaloo.

Putting aside the moralistic argument of what Bitcoin should be used for, bitcoiners have never really had a good response to how the network should handle periods of time when transaction fees spike. Canned answers that “people will just pay for the blockspace” or “the free market will figure it out” are setting up a world where the only people who are able to afford to transact on the network are the Bitcoin Rich.

Yuck. So much for unseating the rent-seekers.

Of course, high bitcoin fees have some potential solutions. The most commonly cited solution is Bitcoin’s Lightning Network, which has been pinpointed as a serviceable means to send bitcoin quickly and cheaply. When you’re already on-boarded and using the Lightning Network (and you know what you’re doing), it’s absolutely great. Transactions feel magic. They’re fast and cheap (when they don’t fail).

But the problem is you can’t get to layer 2 without sending initial transactions on layer 1, in this case the currently comparatively expensive Bitcoin blockchain. It’s just like you can’t get to the second story of most buildings without first stepping into the first story. In both cases, you can just wait until fees go down or until the elevator banks free up (or take the stairs, I guess?). But what if fees don’t go down? What if people keep piling into the building you’re in?

One way to solve this could be through third-party custody. That’s like your friend setting up a zipline from another building to the second floor through a window they opened for you so that you can get to the second floor without ever touching the first floor.

See also: SEC Blasted on Custody Proposal by JPMorgan, Crypto Industry

All you need is a little trust. Of course, this is exactly what bitcoin was created to avoid – as a purely peer-to-peer version of electronic cash that can be sent directly from one party to another without going through a financial institution. But it's true, custodial solutions might actually be the easiest way to use the Lightning Network.

Doesn't it feel dirty though?

Unfortunately, the current design of Bitcoin probably doesn't allow for the entirety of the world to efficiently onboard through layer 1. Maybe the big philosophical discussion around being financially self-sovereign ends for most because it really is difficult to be fully self-sovereign, even with bitcoin.

Our future conversations around bitcoin should then probably focus on one thing: trade-offs.

Maybe it's fine that I use my bitcoin in a custodial way because it's easier for me, and you use it non-custodially. Fine. Maybe I’m wrong and you’re right. Maybe it's none of your business how I use my own (or, rather, my custodian’s) money.

The point is: we should be more open to discussing custodial solutions to our problems no matter how dirty it might make us feel. And to that end, applying some custodial products in your financial or bitcoin life need not bar you from using non-custodial products.

You can use both. We just deserve more clarity and options when it comes to these particular trade-offs.