Jan 9, 2018 - cryptocurrency but also the underlying technology, the blockchain. ..... So, for instance, Zcash, Dash and Monero specialize in privacy and ...
Technical University of Kaiserslautern Chair of Business Informatics and Operations Research
Blockchain technology and its applications
Seminar work by Roman Reimche
supervised by Prof. Dr. Oliver Wendt
January 9, 2018
Contents 1 Introduction 2 The 2.1 2.2 2.3
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technology Disambiguation of the term “blockchain” . The blockchain data structure . . . . . . . Distributed consensus protocols . . . . . . 2.3.1 Definition . . . . . . . . . . . . . . 2.3.2 Differences in protocols. . . . . . . 2.3.3 Comparison of the protocols . . . .
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3 Applications and benefits 10 3.1 From cash system to decentralized societies . . . . . . . . . . . . . . . . . 10 3.2 General utilities of the blockchain technology . . . . . . . . . . . . . . . . 11 3.3 Crowdfunding . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 12 4 Challenges
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5 Conclusion
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Abstract: In this work, we list some motivations that may drive interest in the blockchain technology, then we disambiguate the term “blockchain” and describe the technology and its variations. We also discuss possible applications of the technology and look at the challenges for it.
1 Introduction With the work [Nakamoto, 2008] Satoshi Nakamoto unleashed not only the Bitcoin cryptocurrency but also the underlying technology, the blockchain. The technology is being referred to as highly disruptive, that is, having potential to transform a lot of today’s markets in very innovative ways, bringing higher economical effectiveness, better security and privacy and other benefits [Iasanti & Lakhani, 2017]. However, as stated in [Iasanti & Lakhani, 2017], blockchain is a foundational technology which means that it lays a foundation for completely new ways societies function. Since the initial introduction of the blockchain technology at least 80 000 new blockchain-based projects were started [Trujillo et al., 2017]. Interesting is also that only about 10% of them are started by organizations and only about 8% of the total number of projects have survived up to the time of writing this article (Dec. 2017 – Jan. 2018) with an average lifetime of 1.22 years [Trujillo et al., 2017]. The same study showed that in 2016 about 3 times more blockchain-projects were started than on average over all years. Google Trends also shows a very high increase in people’s interest in the blockchain, as shown on Figure 1. A lot of blockchain-based projects introduce their own “coins” or cryptocurrency tokens, entities which use is normally a prerequisite for making use of system functions that a blockchain endeavor is providing. The tokens are introduced through various mechanisms, such as mining, or through issuance by a central authority. This may happen during system usage or before during a process called ”initial coin offering“ (ICO). ICOs are a new form of crowdfunding. After ICO, tokens are often traded on crypto stock exchanges. The coins are being exchanged for other coins or for fiat currency, which creates certain market value for crypto assets. Today, on 27.12.2017, coinmarketcap.com shows current financial data for 1373 cryptocurrencies with the total market cap of $605.504.039.948 with token price ranging from $7.95e-7 to $16.151,00. All this raises interest of communities in understanding of the technology and new possible applications for it. In this work we want to describe blockchain technology in general, providing understanding of what the technology consists of and how different blockchain projects may differ from each other from the viewpoint of applied technology. At first, in Section 2, we will at first remove some ambiguity of the term “blockchain” clarifying the term and defining its meaning for the purposes of this work. Then we will describe the most essential parts of the blockchain technology. During this, we will skip implementation details of certain blockchain systems and formulate a general form for blockchain data structure and distributed consensus protocol. We will describe one existent taxonomy for blockchains and describe major families of blockchain consensus protocols. In the end of the section we will review some of the efforts to compare various
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Figure 1: The values represent search interest in relation to the highest point in the diagram for the whole world for the 5 years up to 8.07.2017. The value 100 means the highest popularity of the search term, 50 means that the term was only half as popular and 0 means popularity less than 1% of the highest value. The dashed part of the plot represents the partial availability of data. On 01.01.2016 the data collecting system of Google Trends was enhanced which is marked as “Hinweis”. Source: Google Trends [Trends, 2017] families of consensus protocols. In Section 3 we look at various applications of the technology and their evolution. Here we also discuss general benefits of applying blockchain regardless of any particular application area. In the end of the section we write about crowdfunding with usage of cryptocurrencies. Then, in Section ??, we write about some important problem of the technology and in conclusion we summarize the work.
2 The technology 2.1 Disambiguation of the term “blockchain” In this work we want to recall three slightly different meanings of the term “blockchain”. As one can see, the term is built using two words: “block” and “chain”. The term means “chain of blocks” and is related to the data structure that stands at the core of the blockchain technology in [Nakamoto, 2008] and will be discussed later. We will refer to this meaning using the term “blockchain” or “blockchain data structure”. Another meaning is a database which data is structured as a blockchain. This meaning will be referred to as “blockchain database”. And the third meaning is a network of human-machine nodes over which the changes of some data, stored in a blockchain data structure, are being replicated by the rules of one of the distributed consensus protocols. For this meaning we will use the term “blockchain system”.
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2.2 The blockchain data structure Blockchain, as a data structure, consist of a set of cryptographically chained blocks of data [Nakamoto, 2008]. By chaining we mean here that every block is linked to the previous one by including a hash of that previous one. The obvious exception is the first block of a blockchain which is called “genesis block”. This way we can always check if any previous block was changed after adding the next one — there will be a next block that has a hash of a previous block that does not match the current hash of that previous block. Based on [Nakamoto, 2008], [Buterin et al., 2013] and [Swan, 2015], we can say that every block consists of two sets of data. One we will call “utility data”, that is, the data that represents some direct usefulness to the users of the blockchain system. Three most usual subtypes of utility data are: • data about transactions that users realize in a blockchain system (like the movement of ownership of certain assets), • program code to execute when a transaction is made • and data for such a program to use or process. There is, however, no limitation to only these 3 types of utility data and no limitation for combining these types of data — what data to store in a block depends on the purpose and requirements of a blockchain system. Another type of data stored in every block is technical data that allows the blockchain system to function correctly. One of data entities stored as technical data is the mentioned hash of previous block. Others may be the number of the block, the timestamp of adding the block to the blockchain, nonce, further data structures and so on. As in case of utility data the decision of what technical data to store in a block is motivated by design of the system.
2.3 Distributed consensus protocols 2.3.1 Definition At this point we want to propose a definition for the term “distributed consensus protocol” (or “blockchain protocol” or “blockchain algorithm”) that we formulate based on the works of [Nakamoto, 2008], [Buterin et al., 2013] and [Vukolić, 2015]: A distributed consensus protocol of a blockchain system is a way for replication of changes in a blockchain database over the whole network of a blockchain system so that the correctness of functioning of the blockchain system is guaranteed with enough high probability without any central trusted authoritative entity that could provide such a guarantee. The degree of assurance a blockchain system should provide depends on its purposes and design decisions.
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An authoritative entity, to the lack of which we refer, could be represented for example as a system of human notaries in the case of accounting of ownership of an asset. Another example could be a domain name system (DNS) where utility data about domain names and their correspondence to certain IP-Addresses is managed and served by a set of servers. One more example is a government issuing fiat money, giving some guarantees on it and regulating its supply. Blockchain systems, in contrast, do not necessarily require such an authoritative entity. Its role is played by a distributed consensus protocol in accordance to which all the nodes of the system act. These protocols are designed so that if a node tries to act differently, as the protocol prescribes, the probability that the changes the node wants to propagate are adopted by the system with an incredibly low probability that decreases very fast over time. At the same time, there is an incentive for every node to act in accordance with the protocol and a punishment in cases of malicious attempts1 . This makes honest operation for nodes, in general, more preferred as efforts to undermine the system [Nakamoto, 2008]. This, though, is not necessarily true for all possible cases and depends on the state of the system and the rules of its consensus protocol. For example, the Proof-of-Work consensus protocol, that we will describe later, may be hijacked by a participating entity that controls more than 50% of the computation power of the network [Nakamoto, 2008]. In this case, the attacker may gain more value forging his own alternative version of blockchain database and making the whole system adapt it. 2.3.2 Differences in protocols. As was mentioned earlier, various types of blockchain systems are possible. This raises an interest in a taxonomy for such systems. [Christidis & Devetsikiotis, 2016] introduces one such taxonomy for blockchain protocols. This work supposes the following differences among various blockchain systems: • Who has access to the network? Either whitelisted participants do or everyone (permissioned blockchain or permissionless respectfully). • Who can transact? • Who can participate in the process of adding new blocks (mining)? • Who can deploy smart contracts (an advanced functionality of a blockchain system that will be discussed later)? • Bitcoin-style transactions (UTXO model) or smart contracts (account-based model)? As described in [Christidis & Devetsikiotis, 2016], UTXO-model is better suited for systems which purpose is tracking ownership of various tokenized assets. An account-based model like that of Ethereum [Buterin et al., 2013] also includes functionalities to execute arbitrary logic when committing a transaction. This will be discussed later in Section 3. 1
There is an exception for this: at least the first practical BFT-Protocol from BFT-Protocl family described in Section 2.3.2 does not use (dis)incentives.
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Regardless of this taxonomy, generalizing the works of [Vukolić, 2015], [Castro & Liskov, 2002] and extending the work of [Hu, 2017] we would like to propose another taxonomy on the basis of Proof-of-X that is used in the mining process of the protocols. Several families of protocols can be distinguished on this basis: Proof-of-Work (PoW) are protocols, by the rules of which, mining includes solving a computationally expensive task. This guarantees that computing cycles are spent and thus also electric power. This leads to money expenditure for adding a block. In this paradigm, miners are rewarded by collecting transaction costs from other participants. In the original version of the protocol, only that miner is rewarded who solves the task first. The task is designed so that every miner has a chance to find the solution to add the next block. This chance is proportionate to the fraction of all computing power participating in mining that the miner controls. To this family of consensus protocols belong such systems as the original bitcoin blockchain [Nakamoto, 2008] and an advancement over it named GHOST [Sompolinsky & Zohar, 2015] that is used in the Ethereum blockchain system [Buterin et al., 2013]. BFT-Protocols (BFT) are engineered as a solution to Byzantine Generals Problem, a problem where a number of generals should decide if they are going to commit an attack on the city they have surrounded or if they should retreat [Lamport et al., 1982]. Some of the generals may be corrupt and messaging ways are not reliable (messengers may corrupt the messages or fail to deliver them). The first practical BFT protocol is described in [Castro & Liskov, 2002]. Before this work, the proposed solutions required too much communication between parties [Castro & Liskov, 2002]. The solution involves a complex communication scheme between nodes to replicate changes. Because of the complexity of the scheme, we decided not to describe it here. Further advancements of performance, cost and robustness of the approach include such protocols as Q/U [Abd-El-Malek et al., 2005], Adapt [Bahsoun et al., 2015], Zyzzyva [Kotla et al., 2010], A2M-PBFT-EA [Chun et al., 2007] and other. BFT protocols differ from other protocol families mentioned here in the sense that they do not necessarily include (dis)incentive for nodes to operate honestly, but, as [Vukolić, 2015] shows, they also could be used for blockchain systems. Proof-of-Stake (PoS) is a family of protocols where miners, if they try to attack the system, risk with the tokens in their possession or, in some protocols of this type, with the value of the tokens2 . Other protocols of this family require putting serious amounts of token value at stake. This value would be lost if a malicious attempt would be noticed by the system. For correct support of the system, miners receive rewards in form of tokens in a way similar to how this happens in other protocol families. Some of Proof-of-Stake protocols use advancements of BFT protocols as their part [Buterin et al., 2017]. Example of blockchain system adopting 2
In some protocols of this family miners must hold lot of tokens for a long time to effectively take part in mining. This may represent significant market value. So, if they attack the system and succeed, the market value of the tokens will fall dramatically, rendering the attackers broke.
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these protocols are Blackcoin [Vasin, 2014], Peercoin [King & Nadal, 2012] and the upcoming Ethereum Casper update. There is also Proof-of-Stake-Velocity (PoSV) enhancement over Proof-of-Stake where mining nodes are encouraged to make transactions or else their chance of receiving a reward diminishes. Unlike [Hu, 2017] we put this subfamily of protocols into the PoS family, bacause it is still a Proof-of-Stake. Reddcoin is a system that adapts such approach [Ren, 2014]. Proof-of-Burn (PoB) protocols require a miner to burn some of his value in the system, that is, to make it unusable forever. One example of such blockchain algorithm is Slimcoin [Slimcoin project, 2017]. Proof-of-Capacity (PoC) or Proof-of-Space (PoS) systems like Burstcoin [Sean Gauld, 2017] are similar to the Proof-of-Work but instead of computation power, the higher chance to receive a reward is guaranteed by higher storage space available on the miner’s hard drive and in his computer memory. Another project using this consensus protocol is Spacemint [Sunoo Park & Gazi, 2015, Hønsi, 2017]. Proof-of-Deposit (PoD) is another thinkable type of blockchain algorithms where expenditure is represented by losing the possibility to spend crypto tokens for some time. There are no systems implementing this kind of consensus protocol. Another two blockchain taxonomies may be found in the works of [Walport, 2016] and [Swanson, 2015]. 2.3.3 Comparison of the protocols All these families of protocols have their advantages and drawbacks. In the work of [Vukolić, 2015] a comparison of Proof-of-Work vs. BFT-Protocols may be found. The authors show a mostly completely speculative comparison of these protocol families on the axes of performance (transactions per second) and node scalability (for what number of nodes does a protocol function reliable). This comparison may be seen on the Figure 2.3.3. The authors also compare these protocol families on a high level and report that PoW consensus protocols have such benefits over BFT as freedom and simplicity to join and leave the system. PoW protocols also scale much better. The protocols of BFT family, in turn, have the quality of consensus finality3 , have excellent performance that matches network latency, do not waste electric power so dramatically as PoW4 , assume no network synchrony and have formal proofs of correctness. The authors of [Ren, 2014] write about such drawbacks of Proof-of-Work as a financial barrier for entrance into mining and decreasing financial incentive of miners because of the action of the so-called multipools. Multipools are organizations that accumulate 3
Consensus finality is “...a property that mandates that a valid block, appended to the blockchain at some point in time, be never removed from the blockchain...” [Vukolić, 2015]). 4 This is a serious problem of PoW [O’Dwyer & Malone, 2014]: bitcoin mining consitutes 0.17% of worlds electricity consumption which is comparable to what Qatar consumes [Digiconomist.net, 2018].
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Figure 2: A comparison of performance of various species from PoW and BFT protocol families. The grey area represents those for which the results were completely speculative and only a subject for future research at the time of writing of the source article. Source: [Vukolić, 2015]
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mining power of minor miners and thus have higher chance to receive the reward. They also maximise their revenue by switching to mining a cryptocurrency that is easier to mine. They start mining another currency as soon as mining difficulty of the currency they are mining raises so that mining another currency becomes more profitable. Thus multipools are significantly better off than single miners [Ren, 2014]. In the same work, authors say that Proof-of-Stake relies on fair and wide distribution of the tokens which is hard to achieve. Another problem of Proof-of-Stake algorithms is that they encourage hoarding of cryptocurrency instead of usage. They further derive that PoS cryptocurrencies may lack value. The same work suggests that PoS is less secure as PoW.
3 Applications and benefits 3.1 From cash system to decentralized societies As we mentioned in Section 1, there are already a lot of projects in the industry of blockchain. It is very hard to categorize all the possible applications, but some efforts could be found on the Internet. For instance, an effort to describe the landscape of blockchain companies in financial services from 2015 may be found in [Mougayar, 2015] and similar listing of blockchain start-ups in energy and utilities can be seen in [Indigo Advisory, 2017]. There is also a visualized history of the cryptocurrencies on the Internet [Cointelegraf Media, 2017]. The first application of blockchain technology was Bitcoin, a peer-to-peer cash system. This system lets people commit transfers of Bitcoin cryptocurrency, which is issued as part of the mining process. After that, a lot of similar projects were started. They are currently named “altcoins”. These other networks usually differ in some way from Bitcoin. So, for instance, Zcash, Dash and Monero specialize in privacy and anonymity of its users and Litecoin allows higher throughput and lower latency than Bitcoin together with an effort to make mining more distributed and fair and at the same time, Reddcoin, Peercoin and Burstcoin try to apply different consensus protocols. There are also lots of other clones. A further application spotted by the blockchain community is called “smart property”. A smart property is an information about ownership rights of an entity, like intellectual rights or real estate or any other asset, that is registered on a blockchain and some systems may also allow transferring of such rights among users. One example is the Smart-Property Ownership Exchange Protocol described in [Hillbom & Tillström, 2016], another one is Swancoin, an altcoin that represents ownership of 30x30 cm varnished plywood with a picture of a swan and a Bitcoin logo on it [swa, 2015]. Perhaps the most interesting application of the blockchain technology are the so-called “smart contracts”. The term was first time mentioned long before Bitcoin. Nick Szabo used it in the 90ies in [Szabo, 1996] and the term “smart property” is also used in the same work. In [Buterin et al., 2013] smart contracts are used as automatically executing programs that are triggered when a transaction is being sent to a certain type of system account. As one can notice, these contracts function completely autonomously after they are being written. This way a very interesting type of trustless activity is possible. Not
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only can different parties specify contracts on a blockchain and be sure that they will be enforced without any central authority, devices may do so as well. In [Christidis & Devetsikiotis, 2016] author describe how a combination of blockchain with the Internet of Things (IoT) could use an inter-device market of services or how this technology unification may help automate workflows. Further, Distributed Applications (DApps) can be created that function as part of processes happening in a blockchain system. Such applications benefit from decentralization: they cannot be censored or taken down by a government and they do not depend on servers of any company. Instead, they will function as long as the blockchain network, on which they are built, functions. Examples are [Onco, 2015] and [Bertsch, 2015]. The former is a distributed social network platform, where artists can contribute and be rewarded. The latter is a distributed microblogging service. Several more examples could be found in [Swan, 2015] on pages 23-24. In [Swan, 2015] it is said that smart contracts could be used to create Decentralized Autonomous Organizations (DAOs), from corporations to societies and maybe also governments. These systems would function more and more autonomously, removing human factor and reducing costs of administration.
3.2 General utilities of the blockchain technology As was said in Section 2.3.1 before, the discussed technology allows making distributed a lot of earlier centralized human activities. One direct benefit of this is that distributed blockchain systems do have no single point of failure. A cryptocurrency will not fail if any government fails5 , a storage system distributed over the planet (like Storj [Shawn Wilkinson, 2016]) has no datacenter that could cease functioning and information about ownership of assets is practically impossible to forge if it is stored on a blockchain. At the same time, there are countries where one can wake up one morning and discover that his property belongs to someone else because so say the documents of a notary6 . Because of centralization, a lot of resources must be expended at present day. Guarantees cost humanity a lot. Money should be spent to maintain registers of intellectual rights, to pay salaries to the administration of various state institutions or we have to deal with high costs and latency of international money transfers. Removing the authorities can significantly reduce such costs and increase the quality of service. So, reduced costs of operation can be another important potential benefit of integrating blockchains into organizations and societies. The third already mentioned potential utility of using blockchains is that this technology could, at least to some extent, add automatization to various human and humanmachine activities. This means reducing the role of humans in systems and this, in turn, implies reduced amount of errors caused by human factor and thus a better quality of service.
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Unless it is a so-called pegged cryptocurrency which exchange courses are tied to courses of fiat currencies or to something else that could cause similar effect. 6 Because of the lack of an authority that should be trusted for the correct functioning of the system, blockchain networks are also called “trustless”
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3.3 Crowdfunding According to [Vigna, 2017], $12.5 million were raised in 12 minutes in April 2016 in a crowdfunding mechanism known as Initial Public Offering (ICO) by a start-up named Gnosis. The firm collected this fortune without and venture capital or any other classical banking or non-banking investors and without typical legal, jurisdictional and business hurdles [Hertig, 2017, Wulf A. Kaal, 2017]. FirstBlood, another start-up company, raised $5.5 million in 2 minutes in May 2016. Another good illustrations are Brave with $35.5 million in 30 seconds [Keane, 2017] and Bancor Foundation, that collected $153 million in three hours [Wong, 2017]. The authors of [Wulf A. Kaal, 2017] write: ... the exponential growth of ICOs since 2015 culminated in ICO fundraising outperforming venture capital financing of crypto start-ups in the second quarter of 2017. ICO is an event during which a company issues7 and sells its own cryptocurrency that is often then used as a speculation item and as or is used inside the new system [Wulf A. Kaal, 2017]. This unlocks an unprecedented level of liquidity that is potentially available to firms even without necessarily sacrificing their equity to investors. In the same work, authors state that ICO fundraising is substantially less expensive than traditional Initial Public Offerings (IPOs) and unlike other crowdfunding mechanisms it allows investors to have financial stake in the company, including, sometimes, the right to vote on decisions. Cryptocurrency exchange is being done on crypto exchanges like Bitfinex8 and Poloniex9 . There are already about 50 such exchanges [Wulf A. Kaal, 2017]. ICOs also benefit small investors because of the low barrier to entry and of the benefits of online trading [Wulf A. Kaal, 2017]. At current time investors also benefit significantly from high volatility of cryptocurrency markets, so some cryptocurrencies increase their value by thousands of percents in just a year [Wulf A. Kaal, 2017]. This drives a lot of new investors into the market and also criminals. In the same work the authors write about the so-called “Zombie-ICOs”, that lack any solid foundation and are often scam. The work also suggests some red flags to identify such companies.
4 Challenges The blockchain technology is only about 10 years old and it is far from being perfect. There are a lot of problems that require solution and there are already some solutions. One of the most rigid problems is high latency and low throughput [Yli-Huumo et al., 2016]. Bitcoin, for example, is only available for processing 7 transactions per second. This obviously makes it almostly unscalable. However there are already solutions to this problem like Lightning Network10 , Blockchain-NG [Eyal et al., 2016] and Red Belly Blockchain11 . Another problem is that societies still do not understand the technology well [Iansiti 7
This is also called sometimes pre-mining. https://www.bitfinex.com 9 https://poloniex.com 10 https://lightning.network 11 http://redbellyblockchain.io 8
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& Lakhani, 2017]. This makes its adoption harder. From the juridical point of view, blockchain technology is very unclear and sometimes contradictive [Böhme & Pesch, 2017]. There is also the already mentioned problem of resource waste in the case of Proof-ofWork. Other areas that are being researched include advancements in authentication, privacy, usability, and security [Yli-Huumo et al., 2016]. In the same work, one can find a detailed description of the current state-of-the-art of the technology.
5 Conclusion In this work, we have disambiguated the term “blockchain”, described the blockchain technology and its applications at a very high abstraction level. We have also shown the benefits of the technology, some interesting concrete applications and the possibility of crowdfunding. In the end, we have shortly reviewed the challenges that the technology faces.
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