Over the past two years, the word “crypto” has acquired a powerful morphological significance. By putting it before any word, we get a new device, a new product, or a new technology that immediately attracts considerable interest. But the magic of this word has little effect on serious sectors of the global economy. Maybe the problem is the “raw nature” of the technology? Or it just does not have enough fuel for a good start? In light of such events, many specialists are trying to present the situation in their own view. One of the statements is, “Bitcoin network problems can only be solved by abandoning the PoW protocol.”
The answer is rooted in the past of digital encryption. The task of cryptography is to change the input data drastically. Or rather, obtain code that can only be decrypted using the software that dealt with its encryption. Of course, explaining the need for encryption is no longer fashionable, because everyone already knows what kind of beast it is. This knowledge was partially used in other areas like cryptocurrencies and blockchain.
P2P technologies, of course, are perfectly combined with the word “crypto,” but the question immediately arises: Why were cryptocurrencies initially run on the PoW algorithm, where the main thing is the computing power of millions of computers? After all, it was known that such a tandem would be subject to constant scaling. And the fact that interest in the technology would provoke an exponential rise in complexity was ever so evident.
Back in 2009, Bitcoin seemed such a complicated and intricate idea to the world that people realized some of the technology’s advantages only a few years later. Already then, blockchain should have been awarded an Oscar for the best role in the economy, but this has not happened so far. And again, the question arises: What is the reason for the low popularity of technology? Misunderstanding by the mass user? Or is something else hindering progress in this direction?
Ten years ago, there was no such computing power in the world that we have today. Perhaps, this factor has played a decisive role in postponing innovation. It took us a few years to provide the technology with enough fuel so that it could revive its development. But the oversupply of power, most of which is idling, again becomes one of the obstacles to a bright future. Well, let’s see how researchers react to this situation.
Proof or Not Proof, That Is the Question…
The pure PoW algorithm has turned into a braking force in the path of digital assets. Despite strong support from mining equipment manufacturers and those who buy it, the value of the coins no longer correlates with the complexity level of their networks. Experts find different explanations for this, but eventually, they come to a common opinion: traditional fuel for the blockchain is too expensive, inefficient, and even harmful for the technology itself.
Experts of BIS (Bank for International Settlements) gathered thoughts and arguments on the topic of cryptocurrency and decentralized computing into an entire study, which is designed to answer the main question: How to develop the potential that the technology (blockchain and cryptocurrency) carries for the economy?
The study also touches upon the pros and cons of mining as a regulator of this sphere. How does traditional mining affect the technology; how effective is this method; is it possible to replace it with something new, energy-intensive, and less expensive? The analysis of these problems opens up new views on the troubled future of PoW-based cryptocurrencies.
The Study Showed
David Chaum was the first to introduce the idea of electronic cash in 1983. And the theory of the Proof of Work algorithm belongs to Cynthia Dwork and Moni Naor, who developed it as a tool to combat spam. In 2005, Nick Sabo saw in all of this a convenient platform for making electronic payments.
But it was not until 2009 that someone named Satoshi Nakamoto saw these technologies from an unusual perspective and presented the world with the blockchain, and then Bitcoin as an example of a product that may exist on it. We can say that Bitcoin has become a kind of fuel for the blockchain. Miners add blocks to the chain, confirm them, and get a reward that has the value represented in fiat money and gives miners an incentive to continue their work.
Satoshi laid several fundamental principles of the blockchain that provided the necessary level of network security at the time:
Any movement in the chain of blocks must be confirmed by miners. For this, the SHA-256 algorithm was developed, with the help of which numerous devices could encrypt and decrypt information in the chain. By solving mathematical equations, the devices consume electricity. Accordingly, these costs should be covered by a network that gives miners rewards for the blocks.
The complexity of computing should be adaptive. The more computing machines on the network, the higher the difficulty should be. And vice versa. The variable complexity of the network must regulate the number of blocks found over a specified period to prevent the network from flooding with unnecessary coins.
All information recorded in the block must be rechecked by several network participants several times to prove its authenticity. The deeper the transaction, the less likely attackers are able to indulge in double-spending. This question, by the way, remains open even in PoS.
These three factors have become the solid foundation not only for Bitcoin but also other cryptocurrencies. Over ten years, however, these rules have created many problems that the developer community is trying to solve at an accelerated pace:
First, this is an endless race for capacity buildup. There is little good in money consuming more electricity than some countries.
Secondly, the last quarter of 2017 showed how unreliable the network could be at peak times. At the time, the Bitcoin block doubled from 500 KB to 1 MB. As a result, all transactions that did not have enough space in one block were queued for confirmation in others. Users felt the “stagnation” of the network and decided to speed it up with slightly higher transaction fees. This provoked strong inflation and pushed the transaction cost to $50 apiece!
“Thirdly” stems from the first two points: one blockchain layer is no longer enough. It is urgent to come up with something.
There are several alternative options to stabilize Bitcoin and raise its status in the eyes of the economy:
Launch a sidechain;
Transition to another consensus algorithm;
Prove that the technology is capable of interacting with the law.
It is possible to fix half of the network problems using a multi-layer blockchain. That is, when another chain is launched atop the main one and functions within the block of the parent network. Thus, it is possible to develop a network of up to six layers. The most famous prototype of such a solution is the Lightning Network. In this case, a few more conditions are added to the general principles of the blockchain.
Suppose there is an agreement that user A shares one coin with user B. They sign a contract which describes how Bitcoin was divided between them. In such a side contract, owners can transfer funds without restriction and the need to confirm transactions with miners. Only after the end of all movements and the closure of the so-called payment channel, information is transmitted to the chain of the main network. The result is something like a superstructure above one of the blocks, where you can perform an infinite number of operations instantly, without delays and unregulated fees.
This option, of course, is not without drawbacks. The most important is that the introduction of the sidechain does not solve the problem, but only postpones it indefinitely. Also, opening channels requires a user to invest some money to support bandwidth. So, if a user wants to replenish a wallet, say, with $200 for pocket expenses, channel support will cost them at least $800–that is, four times the amount needed to transmit.
Of course, one can avoid these expenses and simply use a third-party channel. Imagine the channel of a large company that has the ability and means to maintain decent bandwidth. In this case, we return to centralization. For example, as of January 3, 2019, out of 544 frozen Bitcoins in a sidechain, 362 were concentrated in one place. In other words, two-thirds of the network was controlled individually.
A more advanced solution is the transition to PoS, where changes in the network functioning are controlled by the participants’ obligations to the system.
Simply put, the network selects the miner in random order and, for a specific period, entrusts them with processing transactions, confirming blocks, and supporting the true chain. Luck in this type of mining is not in the amount of mega hashes of computing power, but in staking—the number of coins that the owner “froze” to confirm their honesty. Accordingly, the more coins in the stake, the more trustworthy the account is. If the miner turns out to be a fraudster, they risk losing all of their funds. This is how mining works according to the principle of proof-of-stake.
But such a solution does not completely solve the problem of the Bitcoin network. PoS implies fair processing of blocks on the network, but no one obliges the miner to vote for blocks in a particular chain. They are free to choose which blockchain to support because it is free (no need to pay for electricity). So there is another vulnerability, or nothing-at-stake. This is when the miner—in the event of an intentional or accidental split of the network—can start working on two fronts and perform the same double-spending as the PoW miners.
Such attacks can be easily noticed, and they do not always pose a threat, because to create a fork, one needs to start a new chain long before the actual attack. But the fact remains that the problem of the network is not solved again.
DPoS That Bitcoin Has yet to Grow To
Projects whose blockchain functions on the DPoS consensus already exist not on paper, but in real life, and they do it quite successfully. They can be called pioneers in this direction. They first stepped into unknown territory, mastered it, and made it suitable for the general public.
The DPoS consensus is slightly different from pure PoS and offers the same principles of blockchain data processing, but with one caveat: the miner is chosen not by the network, but by people. That is, third parties (they are users) are invited to vote, who choose the miner not by quantity, but by quality.
Bitcoin cannot yet boast about broad support for various solutions, as developers try to think big and make cautious attempts to upgrade the ecosystem in stages.
The Study Showed
The results of this study cannot be called unique or entirely true. Any opinion has a right to exist, but some things need to be addressed considering the features of a particular area. This concerns the financial component of any project.
It is crucial to remember that any innovation shift in this direction should match moral principles. Until we understand that cryptocurrency is not about anonymity and lack of state oversight, but secure, open, transparent, and honest financial transactions, global recovery will not happen. We need to stop thinking superficially and see Bitcoin as a tool of the traditional economy. Bitcoin and blockchain are the next modules for updating the economy and maintaining it in a stable state. And to manage these modules, the human factor is strictly necessary.