Curated by: Luigi Canali De Rossi

Monday, June 27, 2005

P2P Can Cut Banks Out Of The Picture: Ripple

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Conceived by Ryan Fugger and quite formally defined by Sylvain Poirier, Ripple is a P2P monetary system based on trust that already exists between people in real-world social networks.

By cutting out the institutional middlemen, Ripple is both more community-oriented and more efficient as a means of exchange.

Photo credit: Ryan O'Connor

National monetary systems rely on trust in large financial institutions. A bank account balance, stored as electronic bits in a computer, represents a promise by the bank to pay the account holder. That promise is only meaningful if the bank is trustworthy. Banks, in turn, leverage those deposits to issue new money by making loans to trustworthy individuals as determined by an often labour-intensive screening process.

Ripple cuts the banks right out of the picture by allowing anyone to act as a bank and grant credit within the Ripple system to anyone they know.

The system keeps track of the source of all IOUs (I owe you), so that debts that are not repaid are automatically borne by the issuer.

Ripple is based on a simple idea that has only recently become feasible, thanks to computer technology and the internet.

Banking and the Trusted Intermediary

Banking was invented to solve the problem of the trusted intermediary: I'd like to buy something from you on credit, but you don't know if my credit is good, so you can't accept my IOU.

If we can find someone who you trust, and I can obtain their IOU, I can use it to pay you.

Goldsmiths were trusted by everyone in the region because they held gold in their vaults, and so they were natural candidates to be ideal trusted intermediaries. The catch was, you had to obtain their IOU, which was the original paper money, either by borrowing it at interest, or by earning it from someone who already had it.

We have become so used to our banking system, we do not realize that any trusted intermediary will do.

For example, a mutual friend might vouch for me by agreeing to assume the debt if I failed to repay. We might even arrange for the mutual friend to simply assume the debt so that I could just pay her. In general, a chain of more than one trusted intermediaries, each a mutual, trusted friend between the previous and the next, works the same way.

How Does Ripple Work?

Each participant indicates which other participants he or she trusts, by offering to accept their IOUs up to a certain amount, like a line of credit.

To make a payment to someone who trusts you, you simply adjust your IOU balance with them to indicate that that you owe them the amount of the payment.

To pay someone who doesn't trust you, the Ripple system finds a chain of credit connections between you and the payment recipient. Then you pay the first person in the chain, who pays the second person, and so on until the recipient gets paid.

This is exactly what happens when someone writes a normal cheque.

Their bank deducts from his account (which is his IOU balance with the bank), and pays the central bank, who credits the recipient's bank, who further credits the recipient's account.

In other words, the payer gives some of his bank's IOUs back to his bank, his bank gives some of the central bank's IOUs (national currency) back to the central bank, who passes them along to the recipient's bank, who issues its own IOUs (bank account digits) to the recipient.

Note that all three intermediaries are banks. Ripple lets everyone act like a bank.

Ripple Key Traits

1. Ripple is a way to make payments across currencies

Think of Ripple as a way for a user of one community currency to pay and accept payments from users of other community currencies. Ripple allows someone who uses two currencies to easily act as a broker or intermediary for transactions between the two currency communities of which he is a member. But more than that, Ripple is a protocol for discovering chains or two or more of such intermediaries, so that payments can be made between two currency communities that have no members in common. All this can be done quite seamlessly to the end user.

Integrating Ripple into a community currency means that the power of that currency is no longer limited by the number of people that accept it, but rather by the number of people in the Ripple network that it is connected to.

This allows the smallest community currency to become just as useful for payment as a national currency, and overcomes the primary advantage of a national currency over community currencies.

This can all be done without adding any complexity for the end user.

2. Ripple allows anyone issue their own currency

A currency issuer could be defined as one who acts as a payment intermediary between subscribers to that currency. It does this by vouching for the currency put forward as payment between two subscribers, and agreeing to make good on the debt it represents.

Every Ripple node is like a LETS system, in that it operates as a payment intermediary, vouching for payments between its neighbouring nodes, just like a LETS system operates as a payment intermediary between its members.

Ripple allows all these separate currency issuers to connect to a larger payment network without interfering with the operation of their individual currencies. Ripple makes no assumptions about how a currency is issued, except that balances be electronically stored by the issuer.

Give Me An Example

Imagine you went on a camping trip with your friend and a group of her friends who you had just met. At the end of the trip, everyone has to chip in for gas, but you have no cash to pay the driver. Since you don't really know him, it makes no sense for you to owe the driver. Instead, you arrange for your friend to owe the driver, and for you to owe your friend. Your friend is acting as an intermediary, vouching for you IOU to the driver.

In this simple example, there is no need for an automated system to keep track of the debt chain, and the debts will probably be paid off in normal currency. But Ripple builds on this exact concept to create a web of automated intermediaries.

Suppose Alice and Bob grant each other $100 credit on the Ripple network, and Bob and Carol do the same. Now suppose that Alice wants to buy a $10 item from Carol, whom she doesn't even know. Ripple finds that Bob is a one-link chain connecting Alice and Carol. Alice pays Bob by passing him a $10 IOU, and then Bob passes Carol his own $10 IOU (not Alice's). In the end, Carol is owed $10 not by Alice, whom she doesn't know or trust, but by Bob, whom she trusts enough to loan up to $100. This is fine with Bob, since he knows the IOU he has from Alice balances what he now owes Carol.

How does this so-called "payment" do Carol any good? Suppose she wants to buy something for $5 from Dan, a complete stranger to her, but a friend to Alice. Ripple will find the connection through Bob and Alice, and then she will pay Bob by cancelling $5 of his $10 debt. Bob will pay Alice by cancelling $5 from her debt, and Alice will pay Dan by passing him a $5 IOU. After all that, Alice owes $5 Dan and $5 to Bob, who owes $5 to Carol.

Give Me More

See also:
Social Credit: Make Your own Bank by Sepp Hasslberger

Ryan Fugger - [ Read more ]
Readers' Comments    
2005-09-11 18:53:02

Mike Aldana

"The pure monetary medium, when it comes, will be an instrument intrinsically valueless, evidencing the transference of a value that is unidentified with any commodity, yet has a relative requisitionary power upon all."

E.C. Riegel

2005-09-11 17:56:12

Mohsin Jaffer

Thank you for this development. We have in hand P2P relationship based services based micro community set up, a collection of these independent microcommunities exist within a macrocommunity which allows for inter community based on the individual agreeing to relate to the any other individual by personal choice. For the micro community members we are experimenting using Cyclos from Stohalm, Ripple looks like it would be the solution allowing inter Cyclos members to interact independently, I look foreward to researching more on how the interactions could be made possible with Ripple.
Kind regards
Mohsin Jaffer

2005-07-12 10:49:51

Sylvain Poirier

Seeing that you reference me here, I added a comment on my web page about the Ripple project: I lead an independent project (Trust-Forum) with much broader goals and I think would work better than Ripple for money, and I invite programmers to join me.
By the way, I see that to write here I must bother with antispam security code. My project will solve the spam problem in forums and private communication without this fuss.

2005-06-29 18:59:28

Riccardo (bru)

Thank you for reporting this!
It's quite an enlightening proof of concept of economic application of social networks!

Let's see how it develops

posted by Robin Good on Monday, June 27 2005, updated on Tuesday, May 5 2015

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