Using centralized ledger systems

Imagine a village of 20 people living on an island in the middle of the ocean, without connection to any other tribes or countries. We will call this village, Village Alpha. They live a peaceful life in a resourceful environment where no one lacks anything.

Question: How do the people of Village Alpha exchange and trade goods and services between each other?

Avoiding the downsides of bartering, they invent a gold-minted coin, a form of money similar to a dollar bill in today's economy. Because this coin is portable and easy to identify and has a value in the eyes of all of the villagers, it quickly becomes the principal means of payment within the community. To ensure proper trade between each other, they record every exchange in a ledger and appoint one of them as the referring bookkeeper to maintain its accuracy and authenticity. The appointed bookkeeper is rewarded for his/her integrity and honesty by collecting a fee on every transaction.

And that's it! People can buy and sell goods with their gold-minted coins. The truth is ensured by the bookkeeper who keeps the ledger up to date, incentivized to behave fairly by levying fees on transactions. Anyone can challenge him/her by checking the transactions to ascertain proper recording.

The villagers found a solution to their problem, unknowingly inventing the banking system that prevails nowadays.

Now, let's assume that the bookkeeper is dishonest. Imagine he/she modifies the ledger during the night and erases some transactions or adds new ones? What if he/she destroys the ledger?

You can see that this system has its shortcomings. The villagers are currently using what we call a centralized payment system where everyone relies on the bookkeeper to ensure the truth.

In our modern society, the bank plays the role of the bookkeeper. When you send money to a friend, you trust the bank to carry out the correct fund transfers

This has major downsides:

• A single point of failure: Imagine a storm wipes out the village and the ledger with it.
• A trusted third party that can be dishonest: Imagine the bookkeeper modifies the transactions.
• A double-spending problem, which, however, is not applicable in our example because we assume they exchange physical goods. If the villagers were exchanging digital value, double-spending would have been an issue in the way that they would need an infrastructure to prevent replication of the digital assets. In other words, they would need a means to prevent an asset to be spent twice. More on that later.