3

Can anyone explain what the phrase below, from the Satoshi Nakamoto white paper, means?

  1. Introduction

The cost of mediation increases transaction costs, limiting the minimum practical transaction size and cutting off the possibility for small casual transactions

Can anyone tell me what the writer tried to say?

Community
  • 1
cronus
  • 33
  • 2

2 Answers2

2

What Satoshi is referring to is the traditional financial system's inability to transfer small amounts of money. Traditional money transfer systems such as ACH and various wire transfer services are reversible for a certain period of time, meaning that there is some risk involved. The risk that the bank will have to mediate a reversal in payment (which costs them money) makes it so that they need to charge fees in order to transfer money on your behalf. If the fee is not worth the risk, the bank won't do the transfer.

Let's take the example of paying a friend $5 for picking up the tab at lunch. You tell your bank to transfer $5 to his bank over the ACH system. This system takes 3-5 days to complete the transfer. During that time period, a reversal is possible, and if it occurs, the bank needs to use its resources to mediate it. This might include retrying the transaction, contacting the other bank, or contacting the customer in the case that the $5 has already been withdrawn. These actions all cost the bank money. If the probability that a reversal will occur, P, multiplied by the expected cost to the bank for dealing with the reversal, C, is greater than the fee the bank will earn, F, then the bank shouldn't allow the transaction. So we have a system where the following must be true:

F > C x P

Let's say the bank charges a percentage as a fee, let's say an outrageous 10% of the transaction. That means 'F' is $0.50. In this scenario, it is unlikely that C x P will be less than $0.50, so the bank can't do the transfer.

Let's say that the bank charges a flat rate for transfers, one that will cover any of the risk. A value of $10 for a transfer of any amount would not be unreasonable from the bank's standpoint. However, would you be willing to pay the bank $10 to transfer $5 to your friend?

This is just one of the many problems that Satoshi solved with the invention of the Bitcoin blockchain.

Jestin
  • 8,802
  • 1
  • 22
  • 32
  • Thanks so for the great answer. So, **limiting** here is to mean to increase the minimum practical transaction size so that trusted third parties, such as bank or other financial institutions, stay profittable. – cronus May 18 '16 at 22:01
  • In this case, **limiting** means that traditional financial institutions can only transfer values that are so small. Any smaller and they will hit the wall of being unprofitable. Bitcoin lowers this amount considerably, but does not eliminate it. Also, great answers usually get upvoted ;) – Jestin May 18 '16 at 22:06
  • thanks for the clarification. seems my voting is not reflected as my reputation score doesn't reach 15 yet. let me earn more reputation and up-vote:) – cronus May 19 '16 at 01:21
0

If you accept credit cards on the internet, you'll run into a 'per transaction' fee, which is usually around 30 cents. (I'm generalizing here; some processors like Square charge a flat monthly fee but have volume limits instead.) That means that if you sell something for 50 cents, you'll only see 20 cents of that after the card processor takes its fee.

So, even though there's no minimum amount that you can charge through the credit card system, there is a minimum amount that you can profitably charge.

Why do credit card companies charge these fees?

It's not because they're stupid. Customers want arbitration, and credit card companies can't really avoid mediating disputes or compensating customers who were ripped off. Every time a fraudster uses a card, it costs money everywhere in the system. That costs a certain amount per transaction to fix.

Nick ODell
  • 29,184
  • 11
  • 69
  • 129