September 26, 2018

“Private blockchain” is just a confusing name for a shared database

Banks and financial institutions seem to be all over the blockchain. It seems they agree with the Bitcoin community that the technology behind Bitcoin can provide an efficient platform for settlement and for issuing digital assets. Curiously, though, they seem to shy away from Bitcoin itself. Instead, they want something they have more control over and doesn’t require exposing transactions publicly. Besides, Bitcoin has too much of an association in the media with theft, crime, and smut — no place for serious, upstanding bankers. As a result, the buzz in the financial industry is about “private blockchains.”

But here’s the thing — “private blockchain” is just a confusing name for a shared database.

The key to Bitcoin’s security (and success) is its decentralization which comes from its innovative use of proof-of-work mining. However, if you have a blockchain where only a few companies are allowed to participate, proof-of-work doesn’t make sense any more. You’re left with a system where a set of identified (rather than pseudonymous) parties maintain a shared ledger, keeping tabs on each other so that no single party controls the database. What is it about a blockchain that makes this any better than using a regular replicated database?

Supporters argue that the blockchain’s crypto, including signatures and hash pointers, is what distinguishes a private blockchain from a vanilla shared database. The crypto makes the system harder to tamper with and easier to audit. But these aspects of the blockchain weren’t Bitcoin’s innovation! In fact, Satoshi tweaked them only slightly from the earlier research that he cites in his whitepaper research by Haber and Stornetta going all the way back to 1991!

Here’s my take on what’s going on:

  • It is true that adding signatures and hash pointers makes a shared database a bit more secure. However, it’s qualitatively different from the level of security, irreversibility, and censorship-resistance you get with the public blockchain.
  • The use of these crypto techniques for building a tamper-resistant database has been known for 25 years. At first there wasn’t much impetus for Wall Street to pay attention, but gradually there has arisen a great opportunity in moving some types of financial infrastructure to an automated, cryptographically secured model.
  • For banks to go this route, they must learn about the technology, get everyone to the same table, and develop and deploy a standard. The blockchain conveniently solves these problems due to the hype around it. In my view, it’s not the novelty of blockchain technology but rather its mindshare that has gotten Wall Street to converge on it, driven by the fear of missing out. It’s acted as a focal point for standardization.
  • To build these private blockchains, banks start with the Bitcoin Core code and rip out all the parts they don’t need. It’s a bit like hammering in a thumb tack, but if a hammer is readily available and no one’s told you that thumb tacks can be pushed in by hand, there’s nothing particularly wrong with it.

Thanks to participants at the Bitcoin Pacifica gathering for helping me think through this question. 

Bitcoin course available on Coursera; textbook is now official

Earlier this year we made our online course on Bitcoin publicly available 11 video lectures and draft chapters of our textbook-in-progress, including exercises. The response has been very positive: numerous students have sent us thanks, comments, feedback, and a few error corrections. We’ve heard that our materials are being used in courses at a few universities. Some students have even translated the chapters to other languages.

Coursera. I’m very happy to announce that the course is now available as a Princeton University online course on Coursera. The first iteration starts next Friday, September 4. The Coursera version offers embedded quizzes to test your understanding; you’ll also be part of a community of students to discuss the lectures with (about 10,000 15,000 have already signed up). We’ve also fixed all the errors we found thanks to the video editing skillz of the Princeton Broadcast Center folks. Sign up now, it’s free!

We’re closely watching ongoing developments in the cryptocurrency world such as Ethereum. Whenever a body of scientific knowledge develops around a new area, we will record additional lectures. The Coursera class already includes one additional lecture: it’s on the history of cryptocurrencies by Jeremy Clark. Jeremy is the ideal person to give this lecture for many reasons, including the fact that he worked with David Chaum for many years.

Jeremy Clark lecturing on the history of cryptocurrencies

Textbook. We’re finishing the draft of the textbook; Chapter 8 was released today and the rest will be coming out in the next few weeks. The textbook closely follows the structure of the lectures, but the textual format has allowed us to refine and polish the explanations, making them much clearer in many places, in my opinion.

I’m excited to announce that we’ll be publishing the textbook with Princeton University Press. The draft chapters will continue to be available free of charge, but you should buy the book it will be peer reviewed, professionally edited and typeset, and the graphics will be re-done professionally.

Finally, if you’re an educator interested in teaching Bitcoin, write to us and we’ll be happy to share with you some educational materials that aren’t yet public.

Does cloud mining make sense?

[Paul Ellenbogen is a second year Ph.D. student at Princeton who’s been looking into the economics and game theory of Bitcoin, among other topics. He’s a coauthor of our recent paper on Namecoin and namespaces. — Arvind Narayanan]

Currently, if I wanted to mine Bitcoin I would need to buy specialized hardware, called application-specific integrated circuits (ASICs). I would need to find space for my hardware, which could take up a considerable amount of space. I might need to install a new cooling system into the facility to dissipate the considerable amounts of heat generated by the hardware.

Or I could buy a cloud mining contract. Cloud mining companies bill themselves as companies that take care of all of the gritty details and allow the consumer to directly buy hash power with dollars. Most cloud mining companies offer contracts for varying term lengths, going anywhere from on the order of weeks to perpetuity. For example, I could pay $300, and receive one terrahash per second for the next year. As soon as the cloud hashing provider receives my money, they start up a miner, or allocate me existing cycles, and I should start earning bitcoins in short order. Sounds easy right?

Cloud mining has a bad track record. Many cloud mining services have closed up shop and run off with customer money. Examples include PBmining, lunaminer, and cloudminr.io. Gavin Andresen, a Bitcoin Core developer, once speculated that cloud mining doesn’t make any sense and that most of these services will end up as scams.

Cloud mining has been a popular front for Ponzi schemes, investment frauds where old customers or investors are paid with the money of new customers. In the case of cloud mining Ponzi schemes, bitcoins to pay old contracts are furnished from the payment of new customers. Ponzi schemes tend to collapse when the flow of new customers dries up, or when a large number of customers try to cash out. Cloud mining is a particularly appealing target for Ponzi schemes because the second failure case, cashing out, is not an option for those holding mining contracts. The contracts stipulate a return of bitcoins determined by hash rate. This means Ponzi scheme operators only need to keep recruiting new users for as long as possible. Bitcointalk user Puppet points out a set of 7 useful criteria for spotting cloud mining scams. Out of the 42 operations puppet examines, they identify 30 operations as scams, 14 of which have already ceased operation.

Yet cloud mining persists. That so many cloud mining operations end up being scams may appeal to our basic business intuition. Compare a cloud miner to a traditional bitcoin miner. A traditional bitcoin miner mines bitcoins and sells them on the exchange at their current market rate. It seems that the only way for a cloud miner to do better than a traditional bitcoin miner selling bitcoins at market price is at the expense of the cloud mining customer. It appears there is no way for both cloud miner and their customer to walk away better off.

Yet cloud mining and at least some interest in cloud mining persists. I would like to offer some possible scenarios where cloud mining may deliver the hashes that customers order.

Hired guns? Papers that propose attacks against bitcoin often pose “An attacker with X% of the hash power could do Y.” For example, in selfish mining, as first described by Eyal et al, with 33% of the mining power an attacker could force the rest of the network to mine on top of their blocks. Cloud miners could be used for block withholding attacks too. An important feature of many of these attacks is that the mining power need not be used all the time. These attacks would require flexibility in the mining software the attackers are using, as most off the shelf mining software (thankfully) does not have these attacks built in. Most cloud mining set ups I have looked at don’t allow for enough flexibility to launch attacks, nor are the contract periods on most services short enough. Cloud mining customers typically have a simple web interface, and in the best case are able to chose which pools they join, but they do not have any sort of scriptable direct interface to the mining hardware. At the moment, cloud miners are probably not supporting themselves by executing attacks for others.

Regulatory loophole? Individuals may try to use cloud mining to circumvent Bitcoin regulations, such as know-your-customer. If I want to turn my dollars into bitcoins, I can buy bitcoins at an exchange, but that exchange would have to know my true identity in order to comply with regulations. Unscrupulous individuals may not want to link their identity and cash flow reported to the government. Cloud mining operators and unscrupulous customers may try to skirt these regulations by claiming cloud mining operations are not exchanges or banks, rather they merely rent computer hardware like any cloud computing provider, meaning they do not need to comply with banking regulation. It is unlikely this would be viable long term, or even short term, as regulators would become wise to these sorts of regulatory loopholes and close. This paragraph is the most speculative on my part, as I am neither a regulator nor a lawyer, so I don’t have expertise to draw on from either of those fields.

Financial instrument? Currently most bitcoin miners take on two roles, managing the mining hardware and managing the financial risk involved in mining. A more compelling justification for cloud miners existence is that cloud mining contracts allow a cloud mining provider to avoid volatility in the exchange rate of bitcoin and the variability in the hash rate. Cloud mining is a means of hedging risk. If cloud miners can enter contracts to provide a certain hash rate to a customer for a length of time, the cloud miner does not need to concern themselves with the exchange rate nor hash rate once the contract begins. It then becomes the job of the customer contracting the cloud miner to manage the risk presented by volatility in the exchange rate. This would allow the cloud miner to specialize in buying, configuring, and maintaining mining hardware, and other individuals to specialize in managing risk related to bitcoin. As the financial instruments surrounding cryptocurrencies become more sophisticated, a terrahash could become another just another cryptocurrency security that is traded.

 

Acknowledgment: I would like to thank Joseph Bonneau for the contribution of “cloud mining as a means of managing risk” concept.