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Chris Larsen: Ripple is HTTP for money

(@dannybradbury) | Published on May 27, 2013 at 07:57 BST

Chris Larsen is no stranger to virtual finance. The Californian entrepreneur took consumer loan company e-Loan to a successful IPO in 1999, before setting up peer-to-peer lending site Prosper. Last month, his new firm OpenCoin scored funding from investors including Andreessen Horowitz, FF Angel, Lightspeed Venture Parnters, and Vast Ventures. Armed with this heavyweight backing, it hopes to boost its new venture, called Ripple. It’s a combined currency and payment network that Larsen hopes will make a big splash in the math-based currency community. It’s like a protocol for currency exchange, or as Larsen puts it, “an HTTP for money.”

“It’s analogous to the bitcoin networks. Any user can use the protocol just like they would HTTP. You can build on top of it without licensing it from anybody,” he says.

Larsen looks for three things in a currency: trust, utility, and liquidity.  So far, the closest we’ve got to that is gold.

“Why is gold trusted? It’s because it’s a math relationship of 79 protons in a gold atom,” he says. So far, alchemy hasn’t enabled us to subvert that relationship. “Gold has awesome trust, but we already moved beyond that. Gold doesn’t have utility.” It’s a good store of value, but it’s a poor medium for exchange: it’s hard to move around and store.

In Larsen’s world, everything before mathematics was political. He argues that gold and the dollar are fraught with politics, and it debases them. “Math-based currencies are trying to address the eroding trust in these political currencies,” he says. Mathematics can be trusted. It’s open and transparent, and it also has ultimate utility.

Ripple consists of two parts: the currency (called ripples, or XRP), and the payment system. Both of them have to verify transactions, but Ripple does it in a fundamentally different way to Bitcoin. Bitcoin uses mining, which Larsen calls brilliant, but flawed.

“The mining is rewarding people to run supercomputers. Mining isn’t necessary – it’s simply a method to prevent double spending. We thought that mining was quite wasteful,” he says, citing the energy used, and its undemocratic aspect.  Bitcoin in particular relies on SHA-256 hashing, which allows people to simply throw more computing power at it by creating specialist ASIC miners. That means those with the fastest computers win.

He fails to distinguish Scrypt-based currencies such as Litecoin, which are anti-ASIC, leveling the playing field somewhat by restricting mining to CPU and GPU users.

OpenCoin’s founders took their own approach with ripples, by simply creating all of them already in its general ledger. In bitcoin terms, they were effectively pre-mined, although there was no mathematical problem to solve. The founders simply created 100 billion of them.

“Since there is no mining we can give away large amounts of the currency to as many people as we can on the planet,” says Larsen. “That is a design goal because for maximum utility, we need to get it to tens of millions of people.”

The other key difference with Ripple is that the currency is intrinsically linked to the payment system, which is what processes and verifies transactions. In other math-based currencies, the currency itself is king, and the payment system is simply a means of exchange. Larsen thinks that the tail is wagging the dog.

“In our model, it’s the currency that enables the payment system. It’s kind of the reverse,” he says.

One thing that makes the Ripple payment system’s first-class status clear is that it is currency-agnostic; it supports not only ripples, but any other currency – including those that they make up themselves. The key is that someone else has to be willing to trade in it. To set up those trades, users create trust relationships with people. This enables them to send digital ‘IOUs’ to each other in the currency of their choice, along with payment terms.

“Ripple is flexible enough that you could have local currencies, or even neighbourhood ones. As long as there are enough people trusting that new currency,” Larsen says. You could even have a currency just for your own family (Dan dollars, anyone?)

“We think the bigger use case, though, is around sending ripple and having gateways that produce balances in traditional currencies. That’s good for commerce,” says Larsen. “Most merchants will want to receive the currencies that they’re comfortable with. You could hold your math-based currency, and you can send it and it will show up as a currency of the merchant’s choice.”

Gateways are what allow currencies other than ripples to get in and out of the system. These are created by organisations including cryptocurrency exchanges, and – Larsen hopes – banks. OpenCoin recommends establishing trust relationships with gateways. Bitcoin exchange Bitstamp is among the largest gateways right now, enabling people to trade bitcoins in and out of Ripple.

“Gateways are the regulatory point. That’s how you might redeem or trade XRP to dollars or euros,” says Larsen.  “They go through the anti-money laundering (AML) or know-your-client (KYC) steps.”

Users can trade with each other – or with gateways – in either ripples, or non-ripple currencies. If trading in ripples, they don’t need trust relationships with the other user – they can simply send. Ripples can also be traded for any other currency. When looking for exchange rates, Ripple will consider multiple payment paths to find the best option.

So, how are transactions verified in Ripple? In Bitcoin, transactions are verified as miners calculate new blocks. Bitcoin blocks are solved every ten minutes on average, which is why it’ll take ten minutes for your transaction to go through. But Ripple isn’t mining. Instead, it works by consensus.

The Ripple system isn’t operated by OpenCoin. Instead, it’s a peer to peer system, in which participating computers all connect to the network, as nodes. Some nodes do nothing but make and receive payments for their users. Others operate as servers, gaining faster access to the network’s information. Servers are good at watching the network and determining what’s happening, which makes them good participants in the consensus process.

“Consensus isn’t based on trust, it’s based on no-one colluding,” Larsen says. “You may not have to trust a server. MIT might run a server, the Bank of India might, and the FBI might. What’s important is that all those three parties are unlikely to collude with each other.”

But what are they agreeing upon? They’re looking at the ledger, which is a snapshot of transactions on the network. “The way to view Ripple is as a global ledger,” says Larsen. “The whole world shares a common ledger.” Unlike conventional blockchains, the ledger isn’t a view of everything that ever happened anywhere in the network – it’s simply a current state of play.

Nodes in the distributed network update the ledger every 2-20 seconds with new transactions, but they must agree on which transactions will be included. Not all nodes participate in the consensus process – that might not be scalable. But enough will to make it safe, according to Larsen.

But what happens if someone tries to flood the ledger with tiny transactions, designed to slow the network down or break it? That’s where Ripple’s native currency, (known as XRP or ripples), comes in.

To make any trade in Ripple, a user must have a reserve of ripples in their account, because it costs a small amount – a tiny fraction of a ripple – to send money. Those ripples are destroyed, meaning that the XRP ledger is very slowly decreasing.

However, ripples also serve as a native currency to Ripple, because they can be exchanged for any other currency on the payment system. “Ripples are the one currency that doesn’t need a gateway,” says Larsen. They’re effectively tokens for seamless currency exchange, which gives them value in their own right.

Here’s where some of the criticism has emerged about Ripple. All of the ripples were created by the founders, who gave 80% of them to OpenCoin. Of those, around 55 billion will be given away in some form or other. Another 25 billion will be used to finance OpenCoin’s operations. That still leaves 20 billion in the founders’ pockets. If ripples gain in value, they stand to benefit.

Larsen is resolute. He’s trying to build something big here, and isn’t afraid to take the rewards if it works. “We wanted to ensure that the founders were the creators, and therefore the company was simply a recipient, and that way the company could stay more focused on being a software company,” he says, pointing out that the mysterious Satoshi was mining bitcoins for himself very early on in the game (he is estimated to have around $100m in bitcoins today).

“Payments have not been made consistent with where the internet is,” Larsen says, explaining that the payment network offers the chance to expand easy payments globally, but that OpenCoin has to get enough support from merchants to make it truly useful. “If we can do that, it’s good for the world, then I think rewards should come of that. If we can’t do that, then we haven’t succeeded.”

Why would merchants bother? OpenCoin touts the benefits – no draconian account freezes, a global reach, and something that he hopes will appeal to everyone – lower transaction fees.

One problem with existing payment systems is that the banks who conduct transactions for users have to pay fees to other organisations, which he calls ‘payment rails’.

“Visa and Mastercard are payment rails that banks have to use and pay fees on too. Ripple is a payment rail that’s free.” The idea is that gateways will still charge some transaction fees, but they can be lower, because they don’t have to pass on expensive payment rail fees to customers. “You’re already seeing that with gateways. Bitstamp does free creation and redemption of balances. They just charge 0.2% each time their balance is sent to someone else.”

This is all very well, but Larsen faces some challenges. The system is supposed to be open sourced, which is necessary to introduce transparency and gain user trust. But it isn’t yet.

“We have a couple of things that we want to do to the network. It’s much easier to do these tweaks before it’s open sourced,” he says, maintaining that open sourcing the system is an integral design goal. “We want to have a minimum number of users, but that’s quickly approaching, so we think we’ll get a position here too.”

In the meantime, OpenCoin has to fend off attacks from anti-Ripple sites, set up by skeptical naysayers to attack what he’s doing. “That’s always going to happen. There are definitely some of the old Bitcoin people that don’t want to have another system. But there are plenty of Bitcoin people who are very supportive,” he says.

“It’s natural. We tell the team to just build the best product we can. You’re always going to have critics. That’s ok.”

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