PoW, PoS or what for the Blockchain?

“You can’t always get what you want, but if you try real hard, you can get what you need.” The Rolling Stones

The Blockchain might want to be able to function autonomously and anonymously, but it can’t always get what it wants.

The distributed ledger Blockchain technology is a decentralised method for recording ownership and transactions. The main reasons why Blockchain is believed to be superior to central registries[1] are (i) the central administrator has monopoly power and (ii) single entry ledgers are more vulnerable to attack and fraud.  This latter concern means that if a single entry in the ledger determines title then changing that entry will go undetected, whereas multiple entries in a distributed ledger like Blockchain must all be altered simultaneously to give effect to a fraud.

So, is the Blockchain impenetrable? The simple answer is No.  In the event of a discrepancy across the ledger records, Blockchain invokes a ‘51% rule’ which says that the ‘true’ block is the block which occurs in the majority of the nodes.  It is conceivable that if an organisation obtained 51% control of the nodes, then that entity could simply substitute a completely different set of blocks in the chain with consequential theft of ownership claims.

To combat this small but very real risk of fraud, the Blockchain uses a number of methods to ensure that the number of nodes are large and/or the risk of attempting a 51% fraud is too costly. The Proof of Work (PoW) protocol incentivises miners to search for compensation from the chain by solving ‘hash problems'[2]. Anybody can join the PoW enterprise therefore ensuring a large set of unrelated nodes in the chain.  Free entry to mine makes it difficult to stack the number of nodes in your favour – at least for economically important Blockchains such as Bitcoin. The Proof of Stake (PoS) protocol requires each node owner to back their honesty with their ownership stake in the chain. That stake is lost in the event of an aberrant block record in the chain so that if an entity wants to control 51% of the nodes they need to own 51% of the underlying assets. The consequent risk of loss can be enormous if they start tinkering with the record and get found out.

PoW and PoS methods have their weaknesses. PoW can be costly and slow. It is estimated that the energy cost spent mining for Bitcoin exceeds that of the entire consumption of Ireland while the Bitcoin block can only cope with 20 transactions per second compared with 15,000 transactions on Visa’s credit card network. PoS has greater capacity but fewer and fewer participants in the ledger are prepared to risk their stake as their ownership increases. The 51% rule relates to the number of nodes that are staked, so there is the potential to hijack a chain that happens to operate with only small stakes at hand[3].

The fact that the Blockchain is open to any member of the public and that they can remain anonymous is both an attribute and a weakness.  Crooks are members of the public and they can operate just as anonymously as anyone else which affords them the cover that the physical world does not. The 51% rule in the Blockchain seems like a kitchen-sink solution to the risk of fraud, but it doesn’t stop a coordinated fraudulent attack on its integrity.  So what can the physical world teach the Blockchain?

First, crime and opportunistic behavior is a social reality that can be minimised but not eradicated. There is an optimal amount of crime and the digital world should accept this.  Second, reputation in the physical world is often used  as a form of bonding or guarantee that a particular enterprise is safe.  Some institutions deliberately operate with full public openess in order to lend their credibility to a function and other institutions actually host data platforms with security guarantees. In general, these institutions earn a fee for the reputation that they extend to the platform.

Which of the following structures would you trust more in the event of a discrepancy in a Blockchain: a democratic 51% voting rule of an anonymous set of ledger nodes or the secure records mirrored by a publicly announced group of software giants, audit firms and banks? Adopting some physical world practices might deliver the security guarantees that the Blockchain needs.

[1] For instance, the Depository Trust Corporation is a centralised warehouse for all US Equity Securities.
[2] Hash problems are unique mappings from one number to another number. Solving the problem uses random search algorithm that is computationally intensive.
[3] For example, a chain might only be supported by nodes representing 1% of the underlying asset base. Therefore buying and staking 1.05% of the asset base would give the hacker control of the chain.