Proof of improvement

In this post, I would like to suggest an alternative to Proof of Work and Proof of Stake in Crypto. I will call it Proof of Improvement.

The idea behind proof of improvement is that crypto tokens represent a real world improvement in state of something. This way, as that thing improves over time, the value of the token and the entire network improves.

A little background to the other two methods. Proof of Work requires that a bunch of computers number-crunch in order to keep the crypto networks running. All these computers crunching require a lot of electricity (and hardware) to do this.

Proof of Stake involves people tying up their tokens in some way or the other, and getting rewarded with more tokens for doing this.

Proof of Work is a very wasteful way of keeping the crypto networks running. A lot of electricity is being used up, and most of it is not doing anything particularly useful to the world. Proof of Stake, on the other hand, while not being particular wasteful, disconnects the tokens from the real world. Without any form of inherent value, most crypto tokens will be at serious risk of collapsing into nothing.

Proof of improvement solves this - the ‘hard problem’ being solved is something that has real-world utility (and is hard to improve, as a consequence). It also prevents tokens from collapsing, as they represent something with real world value.

Let me give an example - I own a tiny Palm Fruit plantation. This plantation has about 700 trees in it. Each tree produces a bunch of palm fruit on it, which will be converted into oil and can be sold on the market. It costs about $1 to plant a palm tree, and you can make maybe $50 per year from each tree, till the tree stops producing.

Imagine that each tree was allocated a token for my imaginary crypto-currency: PALMOILCOIN. Each token then represents exactly one tree. The token also represents all the economic value that that tree will produce over its lifetime. A person holding this token is then entitled to the entire profit of that particular tree.

When a tree is planted, then the token is worth $1 (the cost of planting). Over time, the value of the token increases, because the risk decreases. After 2 years, when the tree starts producing oil, the token is worth the annual production multiplied by the years the palm tree is still likely to produce.

The discount on the value comes from the risk factor. When a tree is planted, there is no guarantee it will grow. So a price of $1 is fair. When it produces, you are sure of at least $50, but what happens if a flood comes the next year and completely destroys the plantation? So you can price the next year at $40. The further in the future one looks, the more one discounts the price. So perhaps the coin could be priced at something like $50 + $40 + $30 + $20 + $10, representing the value in each year, discounted by the risk. This digitally tradable token is hence storing the value that that palm tree will produce. So people can trade this future value with each other, and whoever holds that token gains the future profits from the asset the token represents.

However, there is a huge problem. I am just some guy who claims he owns palm trees in Nigeria (of all places). You have no idea if those palm trees exist. You have no idea if I actually own it. You have no idea if I will honour my side of the bargain and actually pay up when it comes time to do so. There is so much risk in an exercise like this - and a network built on this alone would be instantly filled with scammers.

So hence comes the second part of the Proof of Improvement network - the Improvement Insurer (who is a bit like a miner). Anyone can be an Improvement Insurer, and what they do is to issue a statement validating that a particular asset has actually improved. They do so by staking some of their own tokens into the coin being improved. In return, they take a percentage of the future return.

Every token purchase pays out a dividend as the asset improves over time. The dividend rate is estimated by the token issuer. The Improvement Insurer provides an independent evaluation of what the dividend rate will actually be, and advertises a % of this dividend in return to provide a continuous assessment of the risk value of the token.

Should a token issuer default, the insurer loses all or some of their staked tokens, as well as credibility. The projections on which others ’trusted’ them on an asset return will no more match the return. This credibility score is also recorded on the blockchain, and is visible to anyone buying in. It becomes one of the primary ways that decisions are made about a particular investment.

Over time, improvement insurers that are very good will attract the trust of the community, and earn a good return by providing the de-risking service. The token issuers will be happy because they can raise capital for their projects. The investors will be happy because they now have relative certainty in their investments and a clear return.

All investment is risk, and the primary utility digital tokens have shown themselves to have is as a way of investing. The proof of improvement method makes investing central to digital tokens, while building in mechanism that minimize, while not eliminating risk. Projects can get financed (or sold when on-going), and people can speculate and earn good returns if they speculate right.