Peercoin University (Community Review & Feedback)


#1

This thread has been a long time coming. For those who are not aware, for the past 5 months I have been writing an education section for the new Peercoin website. This originally began as two pages that covered the security and economics of Peercoin, however as I got deeper into it I realized that we needed something more in-depth.

Peercoin has always lacked a proper guide to introduce beginners to the technology and what makes it so special. The original whitepaper from Sunny King for example is not very newbie friendly. It’s very technical and leaves out most of the important arguments and insights about the technology.

This document I’ve written here is designed to be more friendly to beginners and fills in many of the gaps that are not covered by the original whitepaper. My hope is that it can act as the ultimate beginner guide for understanding Peercoin.

Much time was spent in trying to figure out how to order the information. I wanted to create something that was self-contained in which the reader did not need much prior knowledge in order to understand. For example I could not just begin by explaining proof-of-stake. I wanted the reader to understand everything, so I started at the very beginning.

First I explained why we are moving away from centralized entities. Then I explained distributed public ledgers, what the blockchain is and how it benefits society. Then I moved on to consensus protocols and first explained how Bitcoin’s security model works. Then I explained the many faults of proof-of-work. Finally I wrote about Peercoin and the benefits of proof-of-stake as well as its economic model and philosophy on scalability.

So it’s a pretty complete piece I believe. One thing I did not write about though is nothing at stake. If we want to include something about that then I will need more help. Many months were spent researching to write this and I felt I had already spent too much time on it. Delaying it yet again to further expand it did not feel like the right thing to do when we still need our website redesign to be finished. Now that this text is finished I will spend more time on the redesign so we can make more progress on it.

What I need from the community is for all of you to review this text. It’s very long and it’s possible I may have misunderstood something or made a mistake somewhere. I need help verifying whether all the information sounds correct. During this review process, please point out any errors you can find in this thread. If there is something missing that you think should have been included, please let us know below. Also if you think something I wrote could have been phrased better and you think you can help improve the text, don’t hesitate to let us know.

What we need right now are lots of eyes on it and people that can provide constructive feedback. My current plan is to place this text on the new website in its own section and it will be there for people who want to learn more. It is not the only learning material though as I understand I can’t expect people to read 47 pages in order to understand Peercoin. We will have much lighter reading for example on the home page along with graphic visualizations, however this text will also be available for those who wish to delve deeper.

I’d like to thank @peerchemist for putting up with and answering many of my constant questions during my research period. I know he anticipates the new website as well and was eager for me to finish this project up. Now I can move on to the next step in the process. I also want to thank everyone who reads this in the near future and provides feedback.


Table of Contents

1. Introduction

2. What is a Blockchain?

  • Centralized Private Ledgers
  • Distributed Public Ledgers
  • The Blockchain
  • Distributed Consensus Protocol

3. Benefits & Use Cases

  • Blockchain as Money: Cryptocurrency

4. When Decentralization Fails

  • Controlled by the Few
  • Consensus on a Single Shared Truth
  • Incentivizing Security by Validators

5. Bitcoin & Proof-of-Work Consensus

  • Mining Blocks by Solving Problems
  • Hashing Algorithms
  • Searching for a Valid Hash
  • Block Rewards
  • The Cost of Lying
  • Blockchain History Protection

6. Centralization of Bitcoin

  • Mining is a Profit Driven Competition
  • Mining Pools
  • Difficulty Adjustments
  • Domination by Large Mining Pools
  • Majority Attacks
  • Unsustainable Energy Consumption
  • Geographical Centralization of Miners
  • Diverging Interests of Miners & Users

7. Bitcoin’s Lack of Sustainability

  • Voluntary User Transaction Fees
  • Block Reward Halving
  • The Tragedy of the Commons
  • Short-Term Behavior Sabotages Long-Term Security
  • Security is Dependent on Price

8. Bitcoin’s Lack of Scalability

  • The Block Size Limit
  • Block Size Limit Increases & Centralization of Full Nodes
  • 2017 Bitcoin Chain Split
  • Transaction Fee Market
  • Block Size Limit Solves Block Reward Halvings
  • Block Size Limit Impacts Network Usability
  • Bitcoin as a Settlement Network
  • Secondary Layers & Off-Chain Transactions
  • The Lightning Network & Payment Channels
  • Blockchain as a Base Layer
  • Putting it all Together
  • Fee Competition Between Miners & Secondary Layers
  • Conclusion on Bitcoin & Proof-of-Work

9. Peercoin & Proof-of-Stake Consensus

  • Time as an Alternative Scarce Resource
  • Time Based Rules & Restrictions
  • Majority Attacks are Cost Prohibitive
  • Attackers are Financially Tied to the Network

10. First Efficient & Sustainable Blockchain

  • Qualities of Proof-of-Stake Consensus
  • Higher Resistance to Censorship
  • Reduced Incentive for Minters to Centralize
  • Minting Pools
  • Cold Minting

11. Economics of Peercoin

  • An Unlimited, but Ultimately Scarce Supply
  • The 1% Standard
  • Pure Proof-of-Stake Distribution Problems
  • Hybrid Blockchain: PoS Security & PoW Distribution
  • Dynamic Proof-of-Work Block Reward
  • Inheriting the Mining Industry
  • Deflation Through Transaction Fee Burning
  • Benefits of a Fixed Transaction Fee
  • A True Digital Replacement for Gold

12. Scalability of Peercoin

  • The Backbone of Crypto
  • The Original Base Layer Settlement Network
  • Compatibility of Minters & Second Layers
  • Dynamic Block Sizes

13. A Stronger Foundation to Build Upon


1. Introduction

Peercoin was launched in 2012, making it one of the first blockchains to be released. It introduced a number of new innovations which substantially improved on the design of other blockchain protocols that existed at the time, principally Bitcoin’s proof-of-work. Peercoin’s alternative to proof-of-work, proof-of-stake, remains unrivaled to this day as a blockchain consensus protocol and one which is achieving more mainstream adoption with each passing year.

For the newcomer, understanding why Peercoin’s blockchain technology is superior first requires some understanding about blockchains in general, as well as understanding Peercoin’s primary competitor, Bitcoin; therefore we will start by learning what blockchains are, and what they offer. Once we understand this, we’ll cover the main problems behind the world’s first blockchain, Bitcoin, and how Peercoin has fixed these flaws.

You will discover that Sunny King, Peercoin’s original creator, had incredible foresight into the future of proof-of-work networks, and how Peercoin has been designed as a drop-in replacement in preparation for their inevitable decline.

2. What is a Blockchain?

Ever since the initial launch of Bitcoin in 2009, blockchain technology has proliferated throughout the world in many different forms. This new and exciting technology has the potential to impact society in innumerable ways. In this section we will explain what a blockchain really is, how it functions and its core purpose.

Centralized Private Ledgers

At its core, the Peercoin blockchain is a distributed public ledger. A ledger is a document such as a spreadsheet in which accounts are kept of economic transactions, including credits, debits, and balances. They are generally used to keep track of an individual or organization’s financial standing or other recordable data such as assets, liabilities, income, expenses and capital.

Before the invention of the blockchain, in order for individuals to manage their financial accounts it was necessary for them to place their full trust in a centrally managed third party organization or business which maintained its own private ledger. Examples of services like this include banks, credit card issuers, money transfer services or other financial institutions based on customer or user trust.

A high degree of trust is placed by customers in these centralized services and the people running them, all of whom are human and fallible. The ledger of customer data for each individual organization is kept private and not shared with the public for independent verification. In this outdated model, the customer is forced into a situation where they need to fully trust that the organizations handling their financial accounts are being truthful.

This lack of transparency is a central point of failure because it forces the customer to trust that the organization is acting in their interest and not against them. This requirement to trust without the ability to verify can invite errors, unaccountability and even outright fraud and corruption within an organization, which can eventually impact the customer in a negative way.

Distributed Public Ledgers

Blockchain technology however completely removes the requirement of the user to place full trust in a centralized organization to accurately manage its own private ledger. The blockchain instead introduces the concept of a shared or distributed public ledger where a copy of the ledger is held by a large group of people all around the world who work together to validate transactions that are initiated by users of the blockchain network. The individuals who carry out this important work are called validators.

Each validator hosts a full copy of the public ledger and operates a node, which is a program that validates incoming transactions and relays them to other nodes. Together, these validators form a global network of nodes that secure the blockchain by preventing fraud from double spending attempts, which is a problem unique to digital currencies that allow a potential attacker to spend the same coins multiple times. Transactions initiated by users of the blockchain are broadcast out to this network of nodes and these transactions are either validated and accepted or detected as a double spending attempt by a malicious user and rejected as invalid.

Rather than trust being concentrated in a central entity to manage its own private ledger without transparency or oversight, the blockchain instead distributes trust both publicly and globally to a wide number of these validators who work to prevent errors, alterations and acts of fraud against the ledger. This open and transparent sharing of the public ledger allows each of these security providers holding a copy of the ledger to independently verify its legitimacy. In this way the public ledger acts as a digitally shared truth about the state of the network.

The Blockchain

A blockchain can be accurately described as a continuously growing list of individual transaction records called blocks. When combined together these individual blocks of data form the entirety of the public ledger, which consists of all the transactions that have ever taken place on the network.

As transactions are initiated by users of the network they are broadcast out to the network of validation nodes. One by one these transactions are validated, grouped together and recorded into a block which is then attached to the end of the blockchain as the next link in the chain. Therefore every block is linked, forming one long cryptographically secured chain of blocks.

In Bitcoin and Peercoin, about every ten minutes a new block is added onto the chain which contains all the transactions initiated by users of the network over the past ten minutes. Account balances on the public ledger are consistently and automatically updated with each new added block to reflect changes from these transactions.

Distributed Consensus Protocol

Unlike a centrally managed entity that depends on user trust of authority figures who are capable of errors or intentional acts of fraud, the blockchain is designed with no such central point of failure. Instead user trust is placed in a blockchain’s distributed consensus protocol, which is an automated process responsible for achieving majority agreement among the network’s many validators on whether the public ledger can be considered valid or not. If the majority of validators working to secure the network can verify and agree that the public ledger is accurate and has not been tampered with, then it can be trusted as legitimate and held as absolute truth by all participants of the network.

A private ledger usually comes in the form of an account book or computer file, however a blockchain which hosts the public ledger runs on a coded set of rules called a distributed consensus protocol. This protocol and its underlying rules are entirely responsible for how a blockchain functions as well as its process for validating transactions and blocks. The protocol is also what gives the blockchain its many beneficial qualities, many of which are described below.

Automated: Since a blockchain protocol runs on code, security providers do not have to partake in a time consuming process of manually validating transactions and blocks. This means the consensus and verification process of the public ledger is able to be completely automated so that no manual labor is necessary on the part of security validators. From the standpoint of the end user, a submitted transaction is automatically processed by the network. From the standpoint of the security validator, transactions submitted by users of the network are automatically verified and accepted or rejected by the node software they are running.

Trustless: This is a significant development as for the first time in history this results in an automated network that is transparent, verifiable and can be trusted by all parties as it is impartial by its very nature. This unbiased or neutral quality of the blockchain is made possible only by the public nature of the ledger and the ability of a large and globally decentralized group of security validators to verify its accuracy.

This prevents the falsification of transactions and leads to a state of trustlessness in which all participants of the network can be assured that their data is guaranteed to be accurate. This state of trustlessness is the core value proposition of the blockchain. In this state the users of the network no longer need to trust anyone because security is automatically handled for them by the blockchain’s consensus protocol. Users only have need to trust that this protocol continues functioning as it was designed to.

Censorship Resistant: Censorship resistance is another vital quality of the blockchain. Banks and payment processors for example are centralized entities that have power over their users and are free to censor transactions or freeze funds at will. They can take actions against their users for any reason, but especially if being coerced by governments. The blockchain introduces a level playing field where no one has power over anyone else and censorship of transactions and freezing of funds is not possible.

Immutable & Tamper Proof: The blockchain is also immutable, meaning that recorded data is permanent and cannot be altered. This data is therefore locked into the blockchain forever. This immutability makes the blockchain tamper proof, which means attackers, governments or other external threats cannot alter the blockchain or falsify transaction data.

3. Benefits & Use Cases

Ultimately, all of these qualities combine as one to create a self auditing and trustless public record which can be used as a tool by people and organizations all over the world to conduct their day to day business. Use cases for the blockchain are plentiful and new ones are popping up every single day. At a basic level it features trustless mechanisms for money and data transfer, traceability and the chronological ordering of data. Digital identities can be created to represent data on the chain and provide proof of exactly when a piece of data was created, its history as well as the ability to prove ownership of data through the use of the blockchain’s native public and private key technology.

Data Verification: Immutability of the blockchain allows for the creation of a robust audit trail of data hosted on the chain, which can be helpful for situations involving data verification. Searchability is improved as the blockchain can act as a common database for relevant records or even carry pointers to externally hosted data.

Many industries still rely on physical documents to verify data, which is a manual process that is very time consuming and prone to loss of information and errors. Leveraging blockchain technology to speed the digital evolution of various industries that are still heavily reliant on outdated manual verification practices can improve the efficiency and integrity of virtually any process involving data validation.

Smart Contracts: Other use cases include smart contracts, which are self-executing applications with the terms and conditions of an agreement written directly into code. The rules and penalties coded into a smart contract do not require the services of a middleman as all obligations are automatically self-enforcing. Smart contracts are great for setting up automated agreements for exchanging different forms of value without conflict or interference from third parties.

Tokens: Further still are token protocols, which make it possible to create assets or tokens that are hosted on top of the blockchain. Tokens can be made to represent anything, anywhere from equity in a company to property or even coupons at a grocery store. Tokens are great for seeking investors for business ventures through crowdfunding or initial coin offerings.

Distributed Autonomous Corporations: Token protocols also make it possible for distributed autonomous corporations to be created, which are organizations or profit driven companies that exist solely on the blockchain. A distributed autonomous corporation can organize itself in a number of different ways, including allowing token holders governance and decision making power over the business through voting rights and the ability to receive a portion of the company’s profits through dividend distributions.

Blockchain as Money: Cryptocurrency

It also goes without saying that blockchains have the potential to become large competitors to traditional state sponsored paper fiat money in the form of cryptocurrencies. The first blockchain, Bitcoin, for example was originally invented by Satoshi Nakamoto as a replacement for fiat money, a peer-to-peer electronic cash system. It is believed by many that with enough time, development and adoption cryptocurrency can eventually rise up to challenge existing financial institutions like central banks, which are responsible for managing monetary policy in various countries.

Where a central bank manages the supply of money in a centralized fashion with decisions being made by a core group of bankers, blockchains instead have strict coded rules about how new supply is introduced into the economy, how much and over how long a period of time. This makes distribution of new supply in cryptocurrencies more controlled and predictable and not subject to the changing opinions of central bankers.

Each blockchain can have its own separate rules regarding inflation of the supply and those rules can only be changed if a majority of network validators around the world agree to the upgrade, which prevents sudden changes from happening and helps maintain trust and stability in the system. In addition to controlled and predictable inflation, the blockchain also has a number of other benefits when being used as money:

Irreversible: Transactions are irreversible, which prevents chargeback fraud like seen with credit cards. Transactions also cannot be denied by the network itself.

Transparency: All transactions are transparent and easily viewable on the blockchain using tools like block explorers. This allows easy verification of data.

Pseudonymity: As long as a user’s personal identity is not linked to the address they use to transact with, their transactions will remain entirely pseudonymous.

International Payments: Cross-border trade is easier because payments are quick and not delayed like traditional methods.

Identity Protection: Merchants with lax security measures are at risk of losing your stored credit card information to hackers, but with the public and private key technology of blockchains you are protected as vital payment information is no longer stored by merchants.

Convenience: There is no need to carry around a bulky wallet. With cryptocurrency your money can easily be transacted with by downloading various wallet apps on your phone.

Ease of Access: For those in developing countries who may not have access to traditional banking and exchange systems, cryptocurrencies provide greater access to the rest of the world economy because all that is needed to get started is a phone and an internet connection.

No Counterparty Risk: There are no third parties that you need to trust or rely on in order to transact with your money. Due to the peer-to-peer nature of blockchains, you can cut through any middlemen and send your payments directly where they need to go.

Independent Control: The automatic nature of transactions from one user to another offers independence from banks and an increased level of control over funds, however this also comes at a cost as greater thought must be put into securing access to those funds.

4. When Decentralization Fails

It is clear when considering just some of the benefits and use cases mentioned above that blockchain technology has the potential to transform finance as we know it, however it’s very important to realize that not all blockchains are created equal. When choosing a blockchain you or your organization should operate on, the most important overriding factor above all else to consider is whether the chain is truly secure or not.

It doesn’t matter how many useful features are available for you to take advantage of. If the underlying blockchain is not secure then it’s just like building on top of quicksand. At some point its security may be compromised, which could result in the total loss of all funds. It’s also not just a question about if a blockchain is secure right now, but whether it will continue to be secure in the long-term future.

Controlled by the Few

A blockchain can only be considered trustless if the security validators each holding a copy of the public ledger are numerous and widely distributed around the world. Blockchain security stems from the fact that there are many validators and power is decentralized among them. This prevents collusion among validators as a great majority are likely to continue working in the interest of the network and its users. The few who attempt to collude and defraud will have no impact because they will be highly outnumbered by the many who play by the rules.

As an example, if a blockchain’s security protocol contained a design flaw that caused the number of validators to shrink over time to the point where there were only a handful of them left then that would end up being a highly centralized blockchain, which would completely defeat the purpose behind the technology as it could no longer be considered trustless. The fewer validators there are securing a blockchain, the more centralized it becomes and the more trust creeps back into the system making it just like the centralized organizations that we left behind.

As validators dwindle in number, the few that remain end up having a larger degree of influence and control over the network, which means there is a much higher chance they could collude and perform a double spending attack against the network. If a single entity somehow managed to gain majority control over the blockchain, then users of that blockchain would be at the mercy of that entity and would need to trust and hope that it would continue working in their interest instead of sabotaging the network for personal gain. The ideal situation is if it never comes to this point and validators continue to remain thoroughly decentralized so users of the network never have to trust any individual or centralized entity.

Consensus on a Single Shared Truth

The degree to which network validators preserve their level of decentralization over time in a blockchain is highly dependent on how its distributed consensus protocol is designed. There are many types of distributed consensus protocols, but the two most well known are called proof-of-work and proof-of-stake.

These two consensus protocols operate in very different ways, but their overall goal is the same which is to bring validators to consensus so they can agree on a single shared version of the truth regarding the state of the blockchain and its ledger while at the same time preventing malicious or hostile actors from exploiting and derailing the system.

It is possible for certain validation nodes across the network to hold slightly different versions of the public ledger for example. This can happen if nodes are unreliable or slow because of issues with network latency or also because they are acting maliciously and run by people intentionally trying to fool the system by attempting to pass off their tampered version of the ledger as the real one.

Regardless of the reason for the disparity, it is the purpose of the consensus protocol to strive to keep all validation nodes synchronized so that a single version of the blockchain can be decided on, used and followed by all the participants of the network.

Incentivizing Validator Security

A consensus protocol achieves all this by incentivizing validators with monetary rewards in order to motivate them to perform validation and transaction processing work for the blockchain and its users. There are different types of validators however and not all of them receive this compensation for their work.

A full node is a validation node that has a full copy of the blockchain downloaded. There are three types of full nodes. The first type is run by individual volunteers who perform verification of transactions and blocks for free without compensation. This type of full node is run more by hobbyists who just want to help support the network.

The second type are full nodes that are run by large entities such as merchants, exchanges and payment processors. These nodes are also voluntarily operated, however the ability to see new transactions as they come in can give these entities certain benefits that can be passed on to their customers.

The third type of validator is only responsible for the task of building and adding new blocks of transactions onto the chain. These nodes are different however and receive automated payments for their service from the network itself. In this way the blockchain literally pays for its own security maintenance and upkeep.

Whether a block producer is required to hold a full copy of the ledger differs from blockchain to blockchain. Block producers in Bitcoin for example are not required to hold a full copy of the ledger while it is a requirement in Peercoin because of the way it was developed.

Validator roles can be thought of in this way. Simple validators who voluntarily run full nodes work to perform validation of transactions and blocks. Block producers however make it possible for the network to settle on a common truth every 10 minutes. Without a consensus protocol to help decide who can create the next block, anyone would be able to produce and submit a new block to the rest of the network.

Validators could try verifying the transactions and blocks that are submitted to them, however each validator may end up checking a different block which would make it impossible to determine which block gets added to the chain. The consensus protocol ensures it is possible for these validation nodes to settle on a common state. Once this state is decided, it is broadcast to the rest of the network so that all validators work to verify the same block of transactions. It is a way of putting all validators in the network on the same page.

The way in which a blockchain’s consensus protocol is designed to incentivize validators to produce blocks however is precisely what causes them to either retain or lose their level of decentralization over time. This is exactly what we need to learn in order to develop an understanding of which blockchain protocols are designed for long-term security and which are not.

5. Bitcoin & Proof-of-Work Consensus

In order to create the world’s first decentralized blockchain, Bitcoin’s original inventor Satoshi Nakamoto had to figure out how to solve a number of different problems. How to get a large distributed group of validators to agree on the true version of the ledger. How to incentivize and motivate those validators to process new transactions and provide overall security for the blockchain network. How to prevent malicious and hostile entities from being able to easily alter transaction records by tampering with the ledger’s history of events. How to space out the production of new blocks so the time between each one is consistent and predictable.

The brilliance of Satoshi is in combining multiple fields of study in order to solve all these problems. Some of these fields include incentive engineering, cryptography, game theory and computer science. This specific combination led to a solution for Bitcoin known as proof-of-work consensus, also referred to as Nakamoto consensus.

Mining Blocks by Solving Problems

The specific set of validators that are responsible for producing new blocks in Bitcoin are called miners. The block production process itself is called mining. In order for a miner to be able to add their newly created block as the next link in the chain, they are first required to do the work necessary to solve a difficult math problem. The problem itself involves making lots of random guesses in order to find a solution that matches.

There is more than one possible guess that will work as an answer for each problem. Every time a miner makes a new guess, that guess is first combined with some other relevant data and then it is run through a hashing algorithm, which is a special program that checks and verifies whether the guess is correct or not as an answer to the problem. The first miner that is able to solve the problem is the one who gets the honor of adding their new block onto the chain.

Hashing Algorithms

The hashing algorithm is very important to the overall mining process for more than just simple verification of whether the problem has been solved or not. When a hashing algorithm is fed some data as input, the algorithm takes all that data and converts it, producing output data in the form of a small string of numbers and letters. This output data is called a hash. A hashing algorithm only works in one direction, which means the hash that is produced from the input data will always result in the same string of numbers and letters as the output.

For example, you could take an entire book as input data and run it all through this algorithm and it will always produce the same resulting hash no matter how many times you do it. If however you were to change just a single character in the book and run it through the algorithm again, then the resulting string of numbers and letters would be completely different. This makes it possible to verify whether something in the book or the input data has been tampered with, even if it is something as simple as changing a single character.

If the resulting hash features the same string of numbers and letters every time it is run through the algorithm, then you can always be sure that the input data was not tampered with. Every single block in the blockchain contains its own hash, which acts as a guarantee that the contents of each block is true and has not been tampered with.

Searching for a Valid Hash

In order to find an answer to the problem, miners need to combine three pieces of data together, the hash from the previous block, the transactions from the block they are currently working on building and a random guess. They run this combined input data through the algorithm in order to produce a hash. The resulting hash of this data is then checked to see if it works as an answer to the original problem.

If it matches then the hash is considered valid. If not, then it is considered an invalid hash and miners will repeat this process over and over again by changing their guess and hashing all three pieces of data until they are able to find a hash that is valid. When a miner finally finds a valid hash, then they can be sure that the problem has been solved.

Once a miner succeeds in finding a valid hash, they broadcast their new block along with their correct guess to the rest of the validators on the network, who then take this guess and verify whether it is correct by also running it through the algorithm to see if they can produce the same valid hash. This makes it possible for validators across the network to quickly verify and prove that the miner did the necessary work to solve the problem.

If the hash produced from the three pieces of data can be verified by others as valid, then the block will be accepted by participants of the network and added as the next block in the chain. If however validators are unable to produce a valid hash when doing their verification check on the miner’s guess, then the new block will be rejected and not added onto the chain because validators were not able to prove that the miner did the work to solve the problem. In the case of rejection, validators will just wait until another miner submits a new block that can be accurately verified.

This whole process may sound complicated, but it is vital in order for proof-of-work based blockchains to function properly. To simplify it into several sentences, a miner basically makes a number of guesses until they find the correct answer to a problem. Once the correct answer is found the miner lets other validators on the network know so they can all verify whether the answer they got is correct. Once verified, the new block is then added onto the chain.

This process is not done manually by miners, but automatically using computer processing power. Modern computers for example are able to try out thousands of combinations of hashes per second, so miners are capable of making many guesses very quickly.

Block Rewards

The process of mining blocks is very expensive because of the use of limited resources like electricity to power the computers that do the hashing. To make up for this cost, every time a miner solves a problem and their block is accepted by the network, that miner receives a block reward in the form of new coins. These new coins are created out of thin air by the network with every new block that is produced. This is how new currency is introduced into the supply and distributed over time.

Validators in Bitcoin are called miners because they are always digging for new coins by fulfilling the requirements of producing new blocks. Miners then sell the new coins they earn on the market to cover their costs while keeping the profit for themselves or reinvesting it in better mining equipment, which allows them to increase the hashes per second they perform along with their chances of earning more block rewards.

The Cost of Lying

The purpose of requiring miners to solve a problem before being allowed to add their new block of transactions onto the chain is to make it difficult, expensive and costly to lie. Mining is a money generating business and it can be very costly to mine blocks that contain fraudulent transaction data.

If a miner for example tries to include invalid transactions in the block they submit or they attempt a double spend and it is detected by the network’s validators, that miner risks having their block rejected by the network. A rejected block means the miner will forfeit their block reward and they will end up losing any money they spent on electricity to mine that block. Bad behavior is punished and is therefore money losing behavior. This results in miners having a financial incentive to tell the truth and play by the rules.

This process also explains how blockchains are designed to be immutable and unchangeable. For example, if a miner tried submitting an alternate version of the blockchain history where they altered previous transactions from a specific block in the distant past, validators would be able to detect the change because the hash of the altered block would no longer be considered valid.

It is similar to the previously mentioned book hashing example. A miner that makes a change to a transaction from some block in the past is simultaneously changing the input data that was originally used to produce the hash for that specific block. Changing any transactions in that block will also change the original input data, which will cause the hash that is produced from that data to no longer work as a valid solution to the problem associated with that block. Network validators will detect this invalid hash and reject the altered version of the blockchain. The miner will then lose any money they invested in attempting to alter the blockchain.

Blockchain History Protection

In order to get around this detection mechanism a miner would need to spend the electricity required to prove they did the necessary work to find a valid hash for the altered block. Basically this means they would need to spend the resources necessary to mine the altered block over again, however even if the miner did this there is still a problem.

Recall that every block’s hash is produced by including the previous block’s hash as one of the three pieces of input data. This causes the hash contained in every block to be connected to the hash of the block that comes directly before it, which means every single block in the chain is cryptographically linked.

Because of this, if you try to alter data in one block the hash for every subsequent block will become invalid. This means that the only way to truly alter a block in the past is to mine that block over again and every single block that comes after it until the end of the chain. You would literally need to spend the resources to prove that you did the work to find a valid hash for every single block after the one you altered. Currently it would cost billions of dollars to mine Bitcoin’s blockchain from scratch in order to change something, which is financially infeasible even for the very wealthy.

Proof-of-work consensus therefore acts as a financial deterrent against altering the history of the blockchain by forcing a massive cost on those who try to attempt it. By rewarding miners, it incentivizes them to tell the truth and submit blocks with accurate transaction data while also punishing those who attempt to cheat the system with the risk of losing invested funds.

In addition, the requirement of solving a problem first before being permitted to add a new block onto the chain has the side effect of creating a time delay so that new blocks end up being spaced out by a time span of about ten minutes, which keeps block times consistent and predictable. In this way, proof-of-work consensus solves all the main problems that Satoshi faced when trying to invent a decentralized Bitcoin.

6. Centralization of Bitcoin

Proof-of-work is not perfect however and years of operating in the wild have exposed many of its weaknesses as a distributed consensus protocol. Recall that a blockchain can only be considered trustless if there are many different network validators and power is distributed among them, which works to prevent collusion or outright majority control by a central authority.

Unfortunately, proof-of-work does not fit this model as its design has caused a large and distributed group of miners to naturally centralize over time. This centralizing effect is inherent in the economics governing the protocol and cannot be eliminated by any technical improvement or upgrade of the code.

Mining is a Profit Driven Competition

By its very nature, proof-of-work is a consensus protocol that incentivizes heavy competition among its validators. As a money generating business, miners compete with each other to be the first one to mine a block so they can add it to the chain and receive their block reward of new coins.

In order to stay ahead of the competition, miners will reinvest their profit in order to purchase better mining equipment that is capable of increased hashes per second. This increased hashing power allows a miner to be able to make more guesses per second, which gives them a higher chance of solving a block’s problem before other miners. Miners who can afford to purchase this specialized mining equipment will naturally have an edge over others when it comes to earning block rewards.

In the very beginning, Bitcoin miners were plentiful, distributed and they used basic CPUs to mine blocks. As time went on, the CPU became obsolete as miners began using their GPUs to increase their hashing power along with their chances of receiving block rewards. Eventually miners graduated to ASICs, which are customized chips that are designed specifically for mining Bitcoin rather than for general purpose use.

At each phase, miners were either forced to upgrade their equipment in order to keep up with the competition or face becoming obsolete as their block rewards dried up. The mining industry became similar to an arms race. Faster and more efficient mining equipment was being released that needed to be purchased by miners in order for them to remain profitable.

Mining Pools

The constant upgrading and lack of profitability led to a situation where smaller miners with obsolete equipment could no longer compete with the hashing power of larger miners who used better equipment. In order to increase the lifespan of their outdated mining equipment, these small miners began pooling their processing power together into mining pools. Instead of block rewards being distributed to individual miners, mining pools split rewards which were partially shared among all participants of the pool in proportion with the overall hashing power they each contributed to mining a block.

Mining pools became necessary once the probability of mining a block took years for small miners working alone by themselves. Pools allowed smaller miners the chance to pool their computing resources together and receive smaller but more consistent rewards so they could continue competing a little while longer. Even with pools though, eventually mining equipment became obsolete and miners were either forced to upgrade to something better or drop out completely.

Difficulty Adjustments

Difficulty adjustments also had a large impact on the profitability of outdated mining equipment. Over time mining technology advances and faster and more efficient mining equipment is released onto the market. Due to economies of scale, miners with larger operations can afford to be the first ones to upgrade to the newer equipment when it is first released, giving them an edge over their smaller competitors.

As a result of the faster speeds and increased hashing power of the newer technology, blocks start getting solved faster than the usual ten minutes. In order to maintain the ten minute timespan between blocks, the protocol detects miners are solving blocks faster than usual and in response it automatically adjusts the difficulty of the problem that needs to be solved for each block.

A higher difficulty increases the amount of hashing power required to solve a block, which has the side effect of increasing the time it takes to solve a block so that blocks are always able to maintain a consistent time span of around ten minutes. However a difficulty adjustment upward also has the effect of forcing miners who cannot afford to upgrade their hardware to either drop out altogether or join a mining pool so they can maintain their profitability.

Domination by Large Mining Pools

Due to lack of profitability and the inability to compete, the number of miners in Bitcoin have dwindled over time. What began as a distributed network with a large group of individual miners has slowly devolved into an increasingly centralized operation with a small number of larger mining pools. The operators of the mining pools have been able to increase their power and influence over the network because they are now the ones responsible for submitting new blocks.

The individual participants of a pool can contribute their hashing power to the pool and collect their partial block reward, but only the owners of the pools themselves can build new blocks and submit them to be added onto the chain. If an individual pool comes close to owning the majority of the hashing power on the network, participants of that pool are forced to redirect their hashing power to smaller pools in order to prevent the larger pool from gaining too much power over the network.

Majority Attacks

This is precisely the situation that blockchains were designed to move away from, centralized control by trusted entities. If one of these large mining pools were able to obtain majority control over the hashing power or a few of the larger pools got together and colluded, they could perform a number of actions against the network and its users.

They would be able to control who gets their transactions included in new blocks, effectively having the ability to temporarily prevent the processing of transactions from certain individuals. Someone having their transactions censored by a misbehaving mining pool would need to wait until a different pool produced a block that included their transactions.

Worse though is a double spending attack against the network in which the mining pool attempts to spend the same coins twice. A double spend attack could potentially destabilize the network and compromise the trust users have in the system itself. In reality users are only supposed to be able to spend the coins they currently own.

Breaking the rules by being able to spend the same coins over and over again would constitute a severe violation of the trustless nature of the blockchain. Double spends have already been successfully performed against other proof-of-work based blockchains besides Bitcoin, so it is not out of the realm of possibility that this could occur in the future if the centralization of miners is allowed to worsen.

With that said, miners are financially dependent on the Bitcoin network through the dedicated mining hardware they own. The sole purpose of this hardware is to mine proof-of-work based networks like Bitcoin. It is useless for any other computing task. Therefore directly attacking the network in this way may render all this hardware useless as trust in the network is lost.

There are other proof-of-work blockchains that miners could switch to in the event Bitcoin falls victim to an attack, however a successful attack against Bitcoin may completely destroy confidence in proof-of-work as a security protocol. In this case there would be no safe haven for miners because all proof-of-work based networks would suffer incredible price drops from the loss in trust.

This possibility acts as a financial deterrent against attempting double spends against the network. Rational miners would not want to destroy their golden goose. This deterrent however would do nothing to stop a government sponsored attack with the sole purpose of bringing down the network. If a pool is the one committing the attack, then the only thing that could be done to stop it is for miners to withdraw their support from that pool.

Unsustainable Energy Consumption

Centralization of mining power is not the only major concern though. The level of energy consumption by miners in order to keep the network securely operating is completely unsustainable and only growing worse by the day. While it is difficult to accurately determine, current estimates put Bitcoin energy expenditure in the same league as what some medium sized countries consume in an entire year and this is only expected to increase as time goes on. This increasing energy consumption just to secure a distributed network and prevent cheating is incredibly wasteful, especially when other consensus protocols exist which have been proven to drastically reduce the level of energy usage.

Geographical Centralization of Miners

Another problem concerning energy usage is the fact that most large miners operate in areas where there are low energy costs. Lower energy costs make it possible for miners to keep more of the profit they earn from block rewards distributed to them by the network. The problem with this is that it has had the effect of centralizing the majority of mining in one country where the electricity is inexpensive.

Geographically centralizing the majority of mining power in a single country opens up those miners and the network itself to the possibility of being targeted by the local government. This could include heavy regulations, the potential for shutting down mining operations altogether or even forced censorship of transactions. A truly distributed network needs to have global security providers who are based around the world. A worldwide security setup like this makes it incredibly difficult to influence or shut down the network.

Diverging Interests of Miners & Users

It should also be noted that miners may not necessarily have the interests of the blockchain in mind when it comes to the long-term development and evolution of the network. Miners are first and foremost profit generating businesses. Their main priority above all else is making money, therefore they will inherently favor developments to the network that may place them at odds with users of the network. When considering technical improvements and upgrades to the network for example, miners may want one thing while users want something completely different. The desires of both groups end up out of alignment, making governance and protocol rule changes difficult.

This may even lead to situations where miners act against the network, favoring short-term rewards over long-term growth. There have been examples of this in the past, anywhere from miners mining empty blocks to spreading misinformation and fearmongering on blogs and forums in order to turn public perception in their favor.

In a severe case where miners refused to upgrade the network, other validation nodes were forced to start rejecting new blocks from miners who would not upgrade to the newest version of Bitcoin. This caused miners that refused to upgrade to lose block rewards, since their blocks were no longer being accepted by validation nodes until they upgraded. Validators across the network basically held miners hostage financially, forcing them into a situation where they had to upgrade in order to continue earning money to pay for their mining operations.

This ability creates a sort of separation of powers where block validators on the network can force miners to upgrade the blockchain to a new version by rejecting their blocks and not providing them compensation. A better model however would be if the interests of both users and miners were aligned so that many of the toxic community disagreements between different factions were reduced, however a model like this is impossible with proof-of-work.

7. Bitcoin’s Lack of Sustainability

There are a set of rules coded into the protocol that govern Bitcoin’s supply. One of the rules states that only a maximum of 21 million bitcoin can ever be mined. Once the final block reward is mined, no more coins will be produced. Since block rewards act to subsidize costs so that miners always have an incentive to continue producing new blocks, this rule has massive implications for the future security of the network. How will miners be compensated for producing blocks and security for the network once the last coin is mined and block rewards come to an end?

Voluntary User Transaction Fees

The answer is that block rewards are not the only form of compensation that miners receive. Users of the network also pay transaction fees to miners in order to get their transactions included in the blocks they produce. So miners are always receiving two forms of compensation, block rewards generated by the network itself and fees paid by users of the network who transact with their coins.

Users can pay any size fee they want. A user paying a larger fee provides financial incentive for miners to prioritize and process their transaction more quickly, but naturally most users will elect to pay the lowest possible fee that they can get away with.

Block Reward Halving

Rather than coming to an abrupt halt, block rewards are designed to be gradually phased out over a long period of time. Instructions are coded into the protocol that detail a schedule where block rewards automatically halve every 210,000 blocks, which occurs about every four years.

The original block reward for example was 50 bitcoins, which was reduced to 25 after four years, then 12.5 and will continue to reduce in half every four years until it reaches zero. The last block reward will be mined around the year 2140, which provides a long transitionary period of many years for miners to switch from block rewards solely to user transaction fees.

The Tragedy of the Commons

Phasing out automatic, network generated payments in favor of user provided transaction fees may sound great in theory, but the reality has turned out quite different. The major problem with this model is the tragedy of the commons, which is a term used to describe a situation in a shared-resource system where individual users acting independently according to their own self-interest behave contrary to the common good of all users by depleting or spoiling that resource through their collective action. A commonly cited example of this is the collective destruction of the environment by self-interested individuals attempting to use it as a resource in order to achieve personal economic success for themselves.

In Bitcoin the common shared resource is the blockchain and the security of the network itself. Users have a personal financial incentive to spend as little on transaction fees as possible, however this self-interest has the effect of damaging the very system they are so reliant on.

As block rewards continue to reduce in size over time, miner compensation increasingly needs to be made up with user transaction fees. Without an appropriate level of fee compensation by users of the network, miners will not be able to afford the massive costs associated with mining, leading to the eventual shut down of their operations as funding runs low.

Short-Term Behavior Sabotages Long-Term Security

While users do care about the long-term health of the network they operate on, their immediate concern is saving as much money in fees as possible. Unfortunately this normal and predictable human behavior works against the financial interests of the miners who secure the network for them. In the future, if voluntary user transaction fees are not enough to sustain network security in the absence of block rewards, then unprofitable miners will continue to drop out until a majority of the hashing power is controlled by a few people or even one large mining pool, which will put the network at serious risk for a double spend attack.

Therefore it is a completely acceptable and legitimate question to ask if proof-of-work consensus will continue to be viable as a blockchain security protocol. It may still be secure right now, but due to the inherent flaws designed into the system that security may not be sustainable in the long-term.

Security is Dependent on Price

Another factor to consider is the price blockchain tokens are valued at on the market. Since miners are compensated by Bitcoin’s native token, their profitability is highly dependent on the price it fetches on the market. In times of price appreciation, miners don’t have as much to worry about because the coins they earn are sold on the market for high valuations and maximum profit.

In times of price depreciation though, the market may not value the coins highly enough in order for a miner to be able to pay for their overall cost of operation. Proof-of-work network security is therefore also dependent on the market price of a blockchain’s native token. A token that is performing poorly on the market makes it difficult for miners to earn a profit, which can put the network at risk if too many miners drop out because of unprofitability.

8. Bitcoin’s Lack of Scalability

Bitcoin was originally designed by Satoshi Nakamoto as a digital replacement for cash. In fact the original whitepaper was titled Bitcoin: A Peer-to-Peer Electronic Cash System. This implies that Bitcoin has the ability to scale to a global level where everyone in the world has the opportunity to transact with the digital currency.

However time has shown that blockchain technology is not capable of scaling to worldwide use, at least by itself. An intense debate has been raging in the crypto community for years now about the best way to scale the blockchain to higher usage levels. The core argument is about whether to increase the size of blocks.

The Block Size Limit

One of the rules coded into the protocol states that the size of each block can only be one megabyte or less. Since blocks contain transaction data, it follows that as users increase the number of transactions they perform on the network blocks will get closer to being full. Once a block contains enough transactions in it that the space it takes up equals 1MB, that block is considered full and no more transactions can be added to it. Any transactions over the block size limit would have to wait for the next block in order to be added.

At a 1MB block size, the Bitcoin network is restricted to the point where it can only support about seven transactions per second. This block size limitation prevents the blockchain from being able to scale to support worldwide usage levels. In order to solve this problem, one faction in the Bitcoin community wanted to increase this limit so that the blockchain could support a higher capacity of transactions per block. However the other side rejected this proposal because they feared it would further centralize the network.

Block Size Limit Increases & Centralization of Full Nodes

Remember that full nodes carry a complete copy of the public ledger. The blockchain itself is massive in size due to the requirement to store every single transaction that has ever been processed by miners. This massive ledger needs to be stored on the computer that the validation node is operating on.

If the size of the blockchain becomes larger than what a validator can store on their computer then they will be forced to upgrade their storage capacity in order to continue holding a full copy of the chain. If they do not upgrade then they won’t be able to store the entire ledger, which will prevent them from being able to perform validation of transactions and blocks.

If the block size was increased for example and the number of transactions increased along with it, one fear is that there would come a point in the future where there were so many transactions being performed on the network that advances in storage technology would not be able to keep up with and support the rate of growth in the size of the blockchain.

If this occurred and prices for higher capacity storage did not fall fast enough, it might become unaffordable for certain validators to be able to store the entire blockchain history on their computers. As the number of transactions increased per block, validators would need to continue upgrading their storage capacity in order to hold the entire chain.

This may lead to a situation where volunteers and hobbyists operating full validation nodes would have to quit because they could no longer afford the costs of upgrading their storage capacity. The number of full nodes would decrease over time due to the unsustainable growth of the blockchain and only those with enough resources would be left operating full nodes, namely large merchants, exchanges or payment processors. Once again we have another path that leads to centralization, this time affecting the number of full nodes that do accounting and verification work for the network.

However this possibility depends on how quickly storage technology advances and how affordable it becomes for the average person. It is possible that storage technology may keep up with the rate of growth in the chain size, but only time will tell. In the meantime, other more pressing issues exist with bigger blocks.
Validation nodes have the responsibility of relaying new blocks to other nodes in the network. However this process of propagating new blocks throughout the network will take much longer if block sizes start increasing, especially considering how unreliable internet infrastructure is around the world.

Bandwidth limits may also cause problems with propagating large amounts of data. Consider for example that many home internet packages have much lower upload bandwidth compared to the higher limits offered for downloads. Also remember that each new block takes about 10 minutes to produce. Once blocks become large enough they may reach a point where there is not enough time for each new block to propagate to the rest of the network before the next block becomes due.

Yet another problem is how validation nodes will process all this data. Research suggests for example that it will cost a considerable amount of RAM in order to process large blocks. Most people do not have access to the amount of processing power that will be required, which places the network in a position where volunteer nodes will no longer be able to participate. So both broadcasting and processing this level of data becomes a problem for the average user, placing the task of transaction and block validation mainly in the hands of larger entities that have the resources to continue operating full nodes.

2017 Bitcoin Chain Split

In 2017 the block size debate came to a head when two arguing factions inside the Bitcoin community decided to split the network into two separate blockchains that each followed different rules. Both blockchains contained the same exact history of transactions, but diverged at the block where the split occurred.

The first blockchain remained the same at a 1MB block size and continued to be called Bitcoin. The second blockchain however increased the block size from 1MB to 8MB and became known as Bitcoin Cash. Supporters of each network went their separate ways with Bitcoin Cash supporters following the philosophy of scaling with block size increases and supporters of the main Bitcoin network following an alternative scaling philosophy.

Developers on the main Bitcoin chain realized they had a problem on their hands. The block reward reduction schedule was already set in motion. It would only be a matter of time before reductions in the block reward started to negatively impact miners, so developers needed to solve all these problems quickly or risk network security being affected. Ultimately developers intentionally chose to keep the 1MB block size limit for reasons that will become clear shortly.

Transaction Fee Market

When the Bitcoin network is too congested with transactions and blocks are full, there needs to be a way for a miner to decide which transactions to include in a block. There is limited space available, so it becomes necessary to pick and choose which transactions get priority over others. The Bitcoin network has a transaction fee market which takes over when blocks reach 1MB. When blocks are full, users realize that it will be difficult for them to get their transactions included and added to the chain, so they voluntarily begin to increase the transaction fees they pay to miners.

A higher transaction fee is more profitable for miners, so they will be more likely to include transactions from users with higher fees first over transactions with smaller fees. In this way users of the network enter a bidding war in order to get the attention of miners. The highest bidders paying the largest fees will be the first ones to get their transactions included in new blocks. The lowest bidders however will need to wait until a miner decides to include their transactions.

Block Size Limit Solves Block Reward Halvings

Bitcoin developers eventually had the realization that this transaction fee market was the solution to their decreasing block rewards. Once again, miners need to be able to stay profitable in the future once block rewards have been reduced to nothing and users are not a reliable fallback option as they are unwilling to voluntarily increase the fees they pay. Therefore the only way to ensure miners get properly compensated is to create a situation where users are forced to pay more in fees. Bitcoin developers have brought about this very situation by deciding to artificially limit the block size to 1MB.

With this artificial limit in place, as blocks fill up and transactions reach maximum capacity, users are forced to pay higher fees in order for their transactions to be validated by miners. If a user refuses to set a higher fee, then miners will likely pass over them in favor of others who pay higher fees. They may eventually get their transaction included hours or days later by a generous miner, but not everyone can afford to wait this long so in order to avoid the long wait times they will voluntarily raise their fee so they have a better chance at getting their transaction processed sooner.

This artificial block size limit therefore motivates users to voluntarily raise the transaction fees they pay to a profitable enough level for miners to be able to continue their expensive mining operations in the face of vanishing block rewards. In this way network security is able to be sustained for a while longer.

Block Size Limit Impacts Network Usability

This model solves the issue of decreasing block rewards so that miner provided security is retained, however at the same time it also creates new problems. As mentioned before, Bitcoin was originally designed as a peer to peer digital replacement for cash. By limiting the block size, this original vision Satoshi had for the network is no longer possible through use of the blockchain alone.

The Bitcoin community for example once advertised the blockchain as having lower fees than credit card networks. With the implementation of a fixed block size limit however, this core benefit of lower fees is completely eliminated when blocks are full. When this occurrs, users of the network are forced to pay outrageous fees in order to transact with their coins.

While the block size limit has solved the problem of decreasing block rewards, this solution effectively destroys the utility of the blockchain as a medium of exchange during periods where network traffic is considerably high. The network can operate well under normal conditions, however an extreme rise in price causes trading on exchanges to spike. At the peak of a price bubble like this, network congestion is usually at its highest.

Transaction fees will ultimately spike during conditions like this due to a fight over limited block space. This extreme rise in fees negatively impacts the user experience by preventing users from being able to make smaller transactions without significant cost to them. Not only does the block size limit raise fees to unaffordable levels during periods where trading is at its peak, but it also does not solve the scalability problem. A 1MB block size does nothing to support higher usage levels.

Bitcoin as a Settlement Network

Bitcoin developers however recognized beforehand the negative impact this block size limit would have on the usability of the network, therefore they put plans in motion to solve these remaining issues by using an alternative solution. At some point the realization finally dawned on developers that it was just not possible for blockchain technology to directly facilitate worldwide transaction volumes.

Rather than attempting to engineer changes into the blockchain that would eventually centralize it like block size increases, it became obvious to developers that the purpose of the blockchain itself needed to be refocused to that of a settlement network. In this model, the blockchain itself acts more as a settlement layer for high value transactions.

Secondary Layers & Off-Chain Transactions

At the same time, secondary layer technologies are built to function on top of the blockchain. These secondary networks are designed to work in conjunction with the underlying blockchain in order to take full advantage of its decentralized and trustless security. They benefit the overall network by providing additional functionality that the blockchain is unable to perform alone by itself.

Secondary layers for example allow users to make lots of transactions instantaneously at low cost without the requirement of needing to wait for miners or new blocks. This is possible because transactions that are performed on layer 2 networks exist completely outside of the blockchain.

Transactions performed directly through the blockchain for example are expensive and slow. They are processed on the blockchain and are therefore considered on-chain transactions. Transactions performed on layer 2 networks however are quick and inexpensive. They are processed off the blockchain and are therefore considered off-chain transactions. On-chain transactions are stored in the blockchain history by a miner. Off-chain transactions however are not stored in the blockchain history at all.

The Lightning Network & Payment Channels

The primary example of this technology is a layer 2 solution being developed for Bitcoin called the Lightning Network. A user will make an on-chain transaction by first depositing some coins into a special address that is associated with the Lightning Network. The user then opens what is called a payment channel, which allows them to securely transact with other users of the Lightning Network. All transactions are performed off-chain and balances are kept track of by the Lightning Network.

A user can perform as many off-chain transactions as they want as long as they pay intermediaries on the network a small fee in order to route their transactions where they need to go. Finally, once a user is done making payments on the Lightning Network they finish by closing their payment channel. Closing a channel has the effect of settling by recording the final changes in balance on the blockchain.

In this way, it allows users the ability to bypass expensive miner fees by performing the majority of their transactions instantly off the blockchain on secondary layer networks. In this situation the blockchain itself is used mainly to synchronize balances from time to time whenever a payment channel is closed and changes need to be recorded.

This is what is meant by the blockchain becoming a settlement layer. Transactions are conducted off the blockchain, thereby preventing the chain from bloating and growing in size too much. Those off-chain transactions are then totaled at some point in the future and settled by permanently recording the changes into the ledger.

Blockchain as a Base Layer

Lightning is also only one example of a layer 2 network. Another that exists is called Failsafe Network. There will be other examples as time goes on and improvements are made. Eventually features and improvements will build on each other to the point where we will have layer 3 networks and beyond. All future layers however are completely dependent on the security of the base layer blockchain. Without a secure base layer acting as a solid foundation, everything built on top of the blockchain will eventually collapse.

Satoshi’s original vision of a peer to peer cash system where all transactions are conducted on-chain is no more, at least when it concerns the main Bitcoin chain. Developers have instead elected to focus on an alternate scaling solution that limits the amount of on-chain transaction volume. Let’s sum all this up in order to understand the reasoning behind the decisions of the developers.

Putting it all Together

A block reward is distributed with every new block, which compensates miners for the costly work they perform and incentivizes them to continue producing new blocks and securing the network. The block reward is on a set schedule where it will continue decreasing until it becomes zero. Voluntary user transaction fees are not a reliable replacement for block rewards because users are motivated to save as much on fees as possible. Developers therefore instituted a 1MB block size limit.

Because of this limit, as a block fills up with transactions users are forced to pay higher fees in order to have a better chance of getting their transactions accepted by miners. These raised fees are profitable enough for miners to sustain themselves in the absence of block rewards. However these raised fees make it too expensive for normal users to transact on the blockchain.

In response, developers are building secondary layer networks that make it possible to perform lots of quick and inexpensive off-chain transactions. High fees for on-chain transactions will push users conducting micro-transactions and low value consumer payments off the blockchain onto these secondary layer networks where transactions are more affordable.

These developments accomplish a number of things. Miners receive their proper compensation to continue operating. Low value transactions are off-loaded onto secondary layer networks, which makes fees cheaper and speeds faster for users and prevents the blockchain from bloating and growing too fast from too many on-chain transactions.

Any on-chain transactions will be high value transactions where the fees spent are marginal compared to the value that was exchanged. Secondary layer networks also finally make it possible for Bitcoin to scale to support global transaction volumes and usage levels. With layer 2 networks the number of possible transactions is no longer limited by the block size.

Fee Competition Between Miners & Secondary Layers

It may seem like this finally solves the main problem, however there is still a major flaw that is being overlooked. The flaw is that proof-of-work based blockchains are inherently incompatible with layer 2 networks. The flaw is also in developer’s thinking that miners will continue to be properly compensated in the future.

Any transaction being conducted on a layer 2 network results in some amount of fees not going to miners. Instead small fees are paid to intermediaries operating on the layer 2 network who routes transactions where they need to go. In reality, miners and layer 2 networks are in direct competition with each other for earning transaction fees.

This is not even the main problem though. Regardless of whether intermediaries on layer 2 networks earn fees from users or not, it is a fact that any off-chain transaction results in a miner who doesn’t get paid. Miners can only be paid from users conducting on-chain transactions, therefore it is a fact that layer 2 networks leech off of miner profits.

As layer 2 networks develop further in the future and become easier to use, more people are going to be drawn to using them for their cheap fees and instant transaction times. There will come a point in the future where not enough users are making on-chain transactions and miners will suffer because of it. This will result in the further centralization of miners as they become unprofitable and quit, which will place the network at risk for a double spend attack. Bitcoin developers see layer 2 networks as their savior, however they could just as easily be their death sentence.

Conclusion on Bitcoin & Proof-of-Work

In the end, proof-of-work based blockchains suffer from a number of design flaws that should cause concern for the sustainability of the system. The mining process is inherently designed to centralize over time. Faster and more efficient mining equipment is released, forcing everyone to upgrade or go broke. Mining itself is an unsustainable waste of energy. It also causes mining to centralize in locations where energy is inexpensive, opening the network up to attack from local governments and regulation. Miners and users are often out of alignment in their desires for the long-term development and evolution of the network. Miners are dependent on a high bitcoin price.

Miners are also incompatible with layer 2 networks. Eventually layer 2 networks will steal enough profits away from miners that they could centralize and open up the network to a possible double spend attack. With such a large number of systemic flaws, the Bitcoin blockchain does not seem like a great foundation to build on top of.

Continued below…


#2

9. Peercoin & Proof-of-Stake Consensus

Proof-of-stake is an alternative consensus protocol that was invented by Sunny King and Scott Nadal and first implemented in Peercoin in 2012. In a proof-of-stake based blockchain, coin owners are the ones who wield influence over the network, produce new blocks and secure the chain. Stakeholders of Peercoin effectively co-own the blockchain network, similar to how shareholders co-own a publicly traded corporation.

Time as an Alternative Scarce Resource

In Peercoin, the process of validating new transactions and blocks works quite differently. Block producers in Peercoin are called minters rather than miners. In place of electricity, Peercoin emulates proof-of-work competition in its protocol by using time as an alternative limited resource. In order to select the minter that produces the next block, Peercoin’s protocol relies on a concept called coin age.

Coin age is a number that is derived from multiplying the amount of coins a minter owns by the number of days those coins have been held in their wallet. A minter who has a high coin age for example has both a high number of coins in their wallet and those coins have also been sitting in that wallet for quite a long period of time.

Peercoin’s protocol combines some amount of randomization with coin age in order to automatically select the next person who mints a block. A minter with a highn coin age has a higher probability of minting the next block over a minter with a low coin age. There are no computationally difficult problems for minters to solve in Peercoin’s protocol. A minter’s chances of being selected as the next block producer rely specifically on the number of coins held and time in the form of coin age and some amount of luck.

Time Based Rules & Restrictions

There are a number of rules coded into the protocol to keep minters with a high coin age from being able to dominate the process of minting new blocks. Minters are first required to hold coins in their wallet for a total of 30 days before they can become eligible to compete in the process of minting new blocks.

Once a new block is minted, a transaction is automatically generated where the participating coins that were used to mint that block are sent back to the minter. Basically minters automatically send the coins being held back to themselves. This automated transaction back to the minter of the new block causes the age of the coins to be reset. It is an automatic and forced transaction to move the coins that were used to produce a block, which resets the number of days that those coins have been held back to zero.

The minter then needs to start from scratch and wait another 30 days in order to be eligible to participate in the minting process again. This helps avoid a situation in which a minter is able to consistently produce blocks one after the other over and over again. The mandatory coin age reset institutes a 30 day wait time which gives other stakeholders a better chance of minting blocks.

A third rule also states that a minter’s probability of finding a new block reaches its maximum after 90 days. So after this period of time a minter’s stake reaches maturity and their chances of minting a new block are maxed out. All of these rules are put in place in order to prevent minters with high coin age from being able to hold a monopoly on the block generation process.

Majority Attacks are Cost Prohibitive

The process of proving your stake produces new blocks and secures the network against malicious attacks. The proof-of-stake protocol also makes Peercoin much less susceptible to a double spend attack. For example, a potential attacker would need to own a majority of the total coin age of all coins participating in the minting process. Given that most coins are in personal wallets and not trading on exchanges, it would require a considerable investment in order to pull off such an attack.

A malicious actor would need to purchase enough coins from the market in order to try mounting an attack against the network. Attempting this vast purchase would cause demand to spike and the price per peercoin to skyrocket. Any attempt to acquire the amount of coins necessary to perform a successful attack would likely bankrupt the attacker in the process.

The only thing they would succeed at is driving the price of Peercoin out of the range of affordability. The attacker would likely run out of funds long before being able to complete their total purchase. Attempting to purchase more than half of minting coins in circulation is also likely more costly than attempting to acquire a majority of the hashing power that exists in proof-of-work blockchains.

Attackers are Financially Tied to the Network

If by some miracle a successful attack was able to be performed, an attacker would only end up harming themselves in the process. In order to pull off an attack they would need to make a significant investment in Peercoin. A successful attack however would end up damaging the price of Peercoin and along with it the attacker’s original investment in the coins they used for the attack.

Further, any attempt by the double spender to cash out such a massive number of coins after a successful attack would only end up crashing the market price, which would also harm the attacker’s original investment. If the ultimate goal of a double spend attack is earning money then it should be considered counterproductive as the attacker would likely end up losing more funds as a result of the drop in value of the coins they purchased than they could ever hope to gain from a successful attack.

With proof-of-work consensus on the other hand there is no requirement to hold bitcoin in order to pull off a successful attack. All that is required is a majority of hashing power. In Peercoin however the attacker is financially tied to the network they are initiating an attack against through the coins they purchase.

As such, an attack of this nature would likely not be profitable and is best avoided completely. The only way an attack like this would make sense is if the goal of the attacker was to destroy trust in the network itself rather than use it to earn money. The attacker would need to be completely willing to risk losing their total financial investment in the network in order to achieve their desired result.

10. First Efficient & Sustainable Blockchain

Earlier we learned that mining power in Bitcoin centralizes over time. This occurs because it’s possible for proof-of-work to be gamed in such a way that a miner can achieve an advantage over their competition. All miners have to do to increase their chances of earning rewards is to figure out how to be faster than everyone else. Over time this drive to be faster has led to the creation of the mining industry and specialized equipment. These developments have caused the cost of entry to skyrocket in price to the point of being unaffordable for normal users.

Due to the fact that a large miner will always be able to process more hashes per second, they will always have a higher probability of mining a block than a small miner. It is possible for a small miner to solve a block, but their odds of doing so are extremely miniscule to the point that they could mine consistently for many years before being able to find one.

Unfortunately, not many people can afford to waste money on electricity costs for years on end for such tiny odds of mining a block. Electricity bills have to be paid in the meantime and that length of time to wait in between rewards is just too great without being paid. Once regular rewards are no longer possible they are likely to just quit mining altogether, leaving a shrinking number of larger miners to compete amongst themselves.

Proof-of-stake in Peercoin however is not capable of being gamed in the same way. Since proof-of-stake does not rely on hashing power in order to achieve consensus, no specialized equipment can be designed in order to increase the chances of minting a block. Faster processing speeds therefore have absolutely no effect on the probability of producing new blocks in Peercoin.

The consensus rules of Peercoin are completely different and minters must work within the confines of these protocol rules in order to be able to produce blocks. Because rules about hashing power are replaced with time based rules, it is no longer necessary to purchase expensive equipment in order to give yourself an advantage over others.

Proof-of-stake minting itself is an efficient process that is capable of being performed on any lightweight CPU based device, from phones and tablets to basic desktop and laptop computers. Many Peercoin nodes for example are currently minting on inexpensive Raspberry Pi devices. Due to the nature of proof-of-stake’s time based consensus rules, it is extremely low-cost to operate a full minting node and the overall blockchain requires very little energy to secure.

Qualities of Proof-of-Stake Consensus

Due to these innovations, Peercoin can be considered the first truly efficient and sustainable public blockchain technology. As a result, proof-of-stake consensus impacts the Peercoin blockchain in a number of beneficial ways.

Efficient & Sustainable: Proof-of-stake in Peercoin is efficient because network security is not dependent on wasting massive amounts of electrical energy. Instead minters invest in coins and time in order to emulate the proof-of-work process. This is done by simply opening their wallet app, sending coins to their peercoin address and letting them sit while they are occasionally selected by the protocol to mint the next block. This process is both energy and cost efficient, which makes Peercoin a long-term sustainable network capable of operating indefinitely.

Aligning Interests: Because coin owners are the ones who produce new blocks in proof-of-stake, this means security providers and users of the network are ultimately the same group of people. So rather than miners and users being out of alignment like in proof-of-work based networks, minters and users in Peercoin are the same exact people which means interests are completely aligned. All security providers are forced to own a stake in the network through ownership of peercoin. This causes everyone to have a similar financial interest in the long-term future of the network, which leads to much less conflict between factions with different ideas about how the blockchain should develop and evolve.

User Governance: Because users in Peercoin have the ability to produce blocks, they also have the power to influence and determine the future direction of the network. This user governance is only possible because proof-of-stake grants power over the network to stakeholders. As such, Peercoin is the very first blockchain capable of allowing its protocol rules to be governed directly by its users, making for a network that is far more democratic.

Global Security: As a direct consequence of a resource efficient consensus mechanism, the number of people capable of participating in creating blocks and securing the network is much expanded. Security providers are no longer drawn to geographical locations with cheap electricity. Due to how cost efficient proof-of-stake is to operate a node, minting nodes can be setup anywhere in the world. This allows Peercoin to maximize its level of decentralization and achieve global security from minting users all around the world.

Price Independent Security: Unlike proof-of-work where miners are completely dependent on the market price of a blockchain’s native token to ensure profitability, Peercoin contains no such price dependency. Proof-of-stake minters are compensated as motivation to provide consistent security, however since this process is so inexpensive to perform minters actually have the ability to voluntarily operate a minting node without compensation if they want to.

Even without compensation from the network, the process of minting helps to secure the blockchain and along with it a stakeholder’s overall investment. The ability to decide which version of the protocol to run also gives a minter the opportunity to make their voice heard concerning future upgrades to the network. These are two important reasons a stakeholder may have to want to run a node for free, however compensation is automatically provided which makes it even better to participate. Voluntarily running a proof-of-work mining node is just not possible due to the requirement of being profitable enough in order to afford the associated costs of participating.

Since 2012 though it has been proven that Peercoin is capable of sustaining its network security even during the lowest periods of demand where market price was close to zero. If the network is capable of surviving extremely stressful conditions like these then it can likely survive anything the market throws at it. There is a good reason why Peercoin has been called the nuclear bomb shelter of crypto. It is highly capable of withstanding almost any scenario.

Higher Resistance to Censorship

As explained above, the efficiency of proof-of-stake results in a blockchain network that can easily be secured by people all over the world who hold some amount of peercoin. This global decentralized security makes the Peercoin network incredibly difficult to censor and shut down. It is similar to downloading files through a bittorrent network.

In a bittorrent network, many people around the world operate nodes where they hold a full copy of the file that is trying to be downloaded. Pieces of the file are downloaded from different nodes until the full file has finished downloading. If a government were to deem this file sharing illegal and attempt to shut down the torrent network, they would be forced to target every single node on the network no matter where they happen to exist in the world. Even then, there is nothing stopping more torrent nodes from popping up that share the exact same file. As long as one node exists that shares the file, it can be downloaded and spread to others.

A government’s reach extends only as far as its own borders, therefore in order to target nodes halfway across the world they would need to rely on cooperation from other governments which is not always easy to attain. Due to the inability to easily target nodes offering a file for download, it is incredibly difficult for governments or other entities around the world to shut down file sharing torrent networks.

Peercoin works in a similar way where minting nodes that process transactions can be operated from anywhere in the world as long as the minter has access to a computer, minimal electricity, some amount of peercoin and an internet connection. Geographical decentralization of minting nodes makes it incredibly difficult to shut down the Peercoin network, but when the number of nodes around the world expands to thousands or even tens of thousands then it essentially becomes impossible to censor.

In systems like these, individual nodes are usually called peers. Together they act as a peer-to-peer network. This is where Peercoin obtained its name. It was originally introduced by Sunny King as ppcoin, which stood for peer-to-peer coin. Shortly after it was simply renamed to Peercoin. Due to the nature of proof-of-stake, Peercoin is the world’s first truly decentralized peer-to-peer financial network.

Reduced Incentive for Minters to Centralize

Proof-of-stake minters in Peercoin are compensated with block rewards that are automatically generated by the network, similar to Bitcoin. Users who engage in the proof-of-stake minting process earn an annual total of about 1% on their holdings every year. This interest on the stake they hold comes to them throughout the year as blocks are produced and not all at the same time.

For example, a user who is minting with 10,000 coins in their wallet would receive many block rewards throughout the year that end up totaling about 100 peercoins. 100 coins is the 1% annual interest that was earned on the 10,000 coins that were held in that minter’s wallet throughout the year.

There is a criticism that exists in the crypto community about proof-of-stake that states the rich get richer. Recall that in Bitcoin a large miner can essentially game the entire system and achieve an advantage over everyone else by using mining equipment with faster computer processing ability. This rich get richer argument against proof-of-stake basically states the same exact thing, except that minters with large stakes can achieve an advantage over minters with small stakes.

The argument states that large minters with lots of coins in their wallet are able to gain higher amounts of coin age, which gives them an advantage over all other proof-of-stake minters. This increased advantage allows them to mint more blocks and gain more rewards than everyone else participating in the network.

Over time this allows the rich stakeholders in the network to collect more rewards and become even richer to the disadvantage of all other participants. New coins will increasingly get rewarded to rich stakeholders and eventually the majority of power in the network will centralize to those rich stakeholders.

This commonly stated scenario however is a myth and a misunderstanding of how proof-of-stake works in Peercoin. When the entire money supply grows due to the new coins coming from the minting process, all Peercoin holders who participate in minting can maintain their relative share of the network. Although large stakeholders do generate a higher total number of blocks and peercoin rewards than small stakeholders, they cannot, in percentage terms, pull ahead of other minters.

For example, let’s say the entire Peercoin supply is 100,000 coins. A small minter who owns 1% of the supply owns 1,000 coins. A large minter who owns 10% of the supply owns 10,000 coins. After a full year of consistent minting, the small minter would own about 1,010 coins while the large minter would own 10,100 coins.

While the large minter technically did mint more blocks and 100 coins while the small minter earned only 10 coins, their overall ownership of the supply in percentage terms did not change. The small minter still owns 1% of the supply and the large minter still owns 10%. Even though the large minter was able to earn more overall coins, they were not able to increase their percentage of ownership over that of the small minter. The rich stakeholder therefore did not become any richer than they were before the minting process started. Both minters ended up maintaining their relative share of the network without any change.

In this way proof-of-stake consensus can be used to secure the Peercoin blockchain without providing an incentive for minters to centralize over time. As long as a minter participates in the proof-of-stake minting process then they will receive the rewards they deserve. If they don’t participate in minting however then those potential rewards will be forfeited.

Minting Pools

One issue is that it does take small minters much longer to mint blocks. Depending on how few peercoin they are minting with, it’s possible it could take over a year to successfully mint a block. The fewer coins they have sitting in their wallet, the lower the overall coin age is that they will be able to build up and the lower their odds of being selected as the next block producer.

However unlike proof-of-work where it is pretty much impossible to mine consistently for years on end without earning money to pay the electricity bills, minting with proof-of-stake is such an inexpensive process that a minting node can operate for years without earning a reward.

Another potential issue is that at 10 minutes per block, there will not be enough blocks produced per year for every user in the network to be able to earn their annual interest. This is another reason why it may take longer than a year for some to successfully mint a block. However both of these issues can be solved by introducing minting pools.

Minting pools are very similar to mining pools. With mining pools miners share their hashing power with a pool and when a block is found they are partially rewarded based on the proportion of hashing power that they contributed to finding that block. With minting pools however minters pool their coin age. By pooling together with other small stakeholders, they can earn more regular rewards than what they could if they minted alone by themselves. In a minting pool, when a block is found minters would be partially rewarded based on the proportion of coin age they contributed to finding that block.

It was explained earlier that mining pools had a large part in further centralizing Bitcoin, however it is unlikely that minting pools on Peercoin would cause such a drastic turn toward centralization. In Bitcoin small miners who don’t join pools basically have no chance at all of mining a block. In Peercoin however a small minter can still mint a block. It’s just that doing so by themselves may take quite a while. Minting pools just provide for an opportunity to earn rewards more regularly without the requirement of waiting so long.

Cold Minting

Another concern about minting pools is the need for a minter to send their coins to the pool operator. Once they send off their coins, they technically don’t own them anymore and the pool operator has the choice of not returning them when the minter requests them to be sent back. However this problem can be solved with cold minting.

One major issue that has prevented larger numbers of Peercoin stakeholders from participating in the minting process is the fact that a minter must bring their coins online on a hot wallet that is connected to the internet. Large holders are particularly wary about this because it opens up the possibility for their computer to be hacked and their peercoins to be stolen.

As long as a minter is required to bring their coins online in order to mint, there will always be some level of risk that their coins could be stolen out from under them if proper security measures are not taken. This fear from stakeholders of losing their investment naturally works to limit participation rates in minting.

However there is a solution that has been under consideration since 2014. Cold minting is an upgrade to the Peercoin protocol that would give users additional functionality. Upon implementing cold minting, users would have control of two different keys. One key would be used by users in order to move or spend their coins. This key actually exists today in the current protocol and can be added to a user’s wallet in order for them to start minting with their coins.

A second key however would be created called a minting key. This key has no power to move or spend a user’s coins and can only be used to participate in the minting process. So for example a large stakeholder who is afraid of getting hacked would keep their spending key to themselves and not let it touch any computer, especially one that is connected to the internet.

Instead they would add their minting key to their Peercoin wallet and use that to securely participate in the minting process. By only using the minting key there is no possibility of a hacker discovering their spending key and withdrawing coins from their wallet. If their spending key never touches any computer connected to the internet and they properly secure this key somewhere offline then their peercoin can never be stolen.

This minting key would allow a stakeholder to not only securely mint alone by themselves but it also solves the issue with minting pools. Rather than a minter giving up direct control of their peercoin by sending them away to the operator of a minting pool and fully trusting them to return those coins when asked, the operator would instead be given the stakeholder’s minting key.

The minting key allows a stakeholder the ability to keep their coins secure in their own wallet while at the same time giving pool operators access so their coins can contribute to the minting pool. Using this setup, the minter gets to participate in the pool without risking the security of their coins. This allows the minting process to remain trustless while small stakeholders get the chance to earn more regular rewards.

11. Economics of Peercoin

Earlier in this text Peercoin was called a drop-in replacement for Bitcoin. This label fits because Peercoin provides a blockchain with an alternative consensus scheme that solves Bitcoin’s major security flaws in a way that allows the chain to operate indefinitely. However Peercoin diverges from Bitcoin in a major way when it comes to the economics behind the system.

An Unlimited, but Ultimately Scarce Supply

Bitcoin has a maximum supply cap of 21 million coins that can ever be produced and proof-of-work block rewards for miners shrink over time until they hit zero. Peercoin however has no such hard limit on its supply. Proof-of-stake block rewards do not shrink over time and are distributed to minters proportionally based on the size of their stake at a rate of about 1% per year.

This process is designed to continue forever in order to consistently incentivize stakeholders to participate in the minting process. This means that Peercoin’s supply is unlimited as it has no end point where production of new coins stops.

To be clear, Peercoin’s overall coin supply does not increase by 1% per year. Only stakeholders who participate in the minting process will receive this 1% interest on their stake. Stakeholders who refuse to mint will receive no interest at all. For example if a blockchain has a total supply of 1,000,000 coins, 1% on that whole amount would be 10,000 coins.

However this example assumes every stakeholder in the network is minting and every single coin is being minted with. If however only 200,000 coins are being used to mint with out of a total of 1,000,000 coins, then the yearly inflation of the supply from proof-of-stake rewards should only be about 2,000 coins. 10,000 coins could only be produced if all coins in the network were being used to participate in the minting process.

Since the number of coins being minted with by stakeholders is considerably less than what actually exists in total, the yearly inflation that is produced through new coins will also be significantly less. It is not necessary for all coins to be minting in order for the network to be considered secure, however higher participation rates will increase the security and decentralization of the network.

The 1% Standard

Peercoin developers are often asked why they don’t increase the annual percent from 1% to some arbitrary number like 5% or even 10%. The argument usually provided is that a higher reward percentage will encourage more people to participate in minting. Either that or the person suggesting the idea is just more concerned about earning a profit over what is best for the long-term health of the network.

Increasing the mint reward percentage to higher levels is a bad idea on many fronts. As mentioned already, not all stakeholders participate. There are minters and there are non-minters. Non-minters have made a choice not to participate and have accepted the fact that they will not earn any block rewards.

Refusing to mint however prevents a stakeholder from being able to keep up with yearly inflation and as a result their overall percentage of ownership in the network will decrease over time while those stakeholders who do mint will increase their percentage of ownership. This change of percentage of ownership from non-minters to minters is extremely slow however since the rate of change is only 1% per year.

Adopting a higher mint reward such as 10% would exacerbate this change though. Such an extreme change in the mint reward would end up benefiting minters at the expense of stakeholders that have not begun minting yet. Minters would begin increasing their stake by 10% per year, effectively funneling value much faster from non-minters to minters. The number of coins held by non-minters would remain stagnant from not participating in earning block rewards. At the same time minters would be able to drastically increase the number of coins they own every single year, increasing their control over the network.

Not only does this work to centralize the network, but it does not make for a cryptocurrency that acts as a proper store of value. In order for people to be able to properly store their wealth in a currency, its inflation rate needs to be well regulated to provide enough scarcity. A currency that is not scarce enough will cause any wealth being stored in it to be devalued over time.

So even though Peercoin ultimately has an unlimited supply that will continue growing forever, its yearly inflation rate is a balancing act between providing enough motivation for stakeholders to mint blocks and keeping it low enough to maintain some level of scarcity so Peercoin can be used as a vehicle for value storage.

As a principle, stakeholders should not be required to mint if they don’t want to. Forcing them to participate by making them lose significant value every year if they don’t will likely just result in pushing non-minters away to other blockchain networks with more sustainable inflation rates.

Sometimes stakeholders may have a legitimate reason for not participating. For example they may have concerns about the security of their coins or they have temporarily placed some of their coins into another investment and will return to Peercoin after they are finished with it.

Lastly, increasing the mint reward would also punish the market capitalization and price of Peercoin. If stakeholders continuously mint and sell lots of coins on the market for profit, this will work to inflate the supply and may result in a situation where the supply of new coins overpowers the current level of demand. Too many coins on the market results in a lack of scarcity and without enough buyers it will negatively impact Peercoin by driving down its price.

This is why Peercoin maintains its proof-of-stake inflation rate at a low 1%. Increase the rate too much and it becomes a burden. It may sound attractive at first, but it is short-term thinking and the long-term consequences far outweigh the benefits.

Pure Proof-of-Stake Distribution Problems

A recognized problem in blockchains that are solely run on proof-of-stake is that coins are much more difficult to properly distribute. When first creating a pure proof-of-stake blockchain, the entire supply of coins needs to be created at the same time. This supply is then usually distributed to a number of investors who purchase stake in the network.

This however leads to the creation of blockchains that are owned and operated by a small number of individual investors. Blockchains like these are centralized from the start because the initial coins were not distributed to a wide enough group of people.

In a scenario like this, network security ends up being provided by a small and centralized group of people. In some projects, a large number of coins may even be distributed solely to developers on purpose in order to provide funding for future development work.

These uneven and unfairly distributed blockchains are not representative of a properly decentralized network and thus are not as secure as they could be. They should be avoided in favor of blockchains that have taken proper measures to ensure a wide enough distribution.

Further, in a pure proof-of-stake blockchain newly produced coins from the minting process can only be distributed to existing holders. Because of this, the only way for new coins to enter the market so others have the chance to purchase them is for stakeholders to sell their new coins on exchanges, which is not guaranteed or likely to happen.

With proof-of-work for example, miners are forced to sell a large portion of the coins they earn on exchanges in order to pay for the costs of their mining operations. This selling provides a constant source of new coins on the market for purchase and also increases trading liquidity on exchanges.

Proof-of-stake minting on the other hand is inexpensive to perform, so minters do not necessarily need to sell their newly earned coins. This is because there are no costly electricity bills to pay that require the selling of new coins. This allows minters the ability to hold onto all of their earned coins, which creates a distribution problem where it becomes difficult for new people to be able to obtain coins.

The majority of coins end up being held by stakeholders in personal wallets instead of on exchanges where they can be easily purchased, which hinders adoption. A mechanism which incentivizes stakeholders to sell coins from time to time would help alleviate these distribution problems.

Hybrid Blockchain: PoS Security & PoW Distribution

That is where proof-of-work comes into play. Peercoin is more than just proof-of-stake. It is also the world’s first hybrid blockchain, utilizing both proof-of-stake and proof-of-work. The hybrid nature of the Peercoin blockchain allows it to draw strength from both protocols while at the same time minimizing weaknesses.

In Peercoin, the blockchain is secured only through proof-of-stake minting. Proof-of-work mining also runs in the background however and provides the network with continual distribution of new coins. When the network was initially launched, the majority of blocks were created with proof-of-work in order to bootstrap the network, distribute coins and create new stakeholders. Security then transitioned to proof-of-stake as minters took over security of the blockchain.

Sunny King saw proof-of-work mining as a better way to achieve a more decentralized distribution, rather than simply selling coins to investors. Today the majority of blocks in Peercoin are created through proof-of-stake while a small minority are created through proof-of-work. To be clear though, proof-of-work plays no part in securing the Peercoin blockchain. Security is achieved solely through proof-of-stake.

At most, it can be said that proof-of-work assists with security indirectly by providing for a more distributed network. Imagine a flower for example. A flower occasionally releases new seeds, which spread around to new areas over time. Some of these seeds then grow into new flowers. In this example, the original flower is the Peercoin blockchain itself and the seeds are proof-of-work rewards.

As miners earn rewards in the form of new coins, they sell them on exchanges in order to pay for their expensive mining operations. People all around the world purchase these new coins that have been distributed by miners. Once purchased and transferred to a wallet, the new stakeholder now has the opportunity to become a security provider for the network by engaging in the process of minting new blocks.

So Peercoin’s proof-of-work does not directly secure the network, but it is designed to do so indirectly by strengthening the decentralization of the network through the creation of new potential minters over time. A pure proof-of-stake system on the other hand is designed to distribute new coins only to existing holders, which does nothing to further decentralization or improve security.

In addition, proof-of-work also adds a bit of randomness to the proof-of-stake process. It was explained before that the selection of the next proof-of-stake block is the result of a mixture of both randomness and coin age. Proof-of-stake is unable to generate that needed randomness alone by itself, so an external source is required. That source of randomness is provided by the mining in proof-of-work and used by the proof-of-stake protocol in the block selection process.

This is why a hybrid system like Peercoin is superior. It combines the security benefits of proof-of-stake and the distribution benefits of proof-of-work. This combined approach eliminates the long-term security weaknesses of pure proof-of-work and the distribution weaknesses of pure proof-of-stake, forming a superior consensus protocol that only strengthens as it ages.

Dynamic Proof-of-Work Block Reward

Peercoin’s version of proof-of-work is slightly different from Bitcoin. Besides the removal of the ability to directly impact security, another major change is the way the block reward functions. In Bitcoin for example the block reward is static and reduces over time at certain pre-determined points.

Peercoin however utilizes a dynamic proof-of-work block reward which is inversely proportional to hashing power. Stated simply, as hashing power increases, the block reward decreases. The opposite is true as well. If hashing power decreases, the block reward increases. The change in the reward occurs automatically.

One major purpose of this dynamic mechanism is to prevent energy overuse. As more and more electricity is being spent, this increase of hashing power is detected by the protocol and automatically used to reduce the block reward. The dynamic reduction in reward causes unprofitable miners to drop out much sooner than they would if the block reward was static.

This drop in profitability works to restrict the amount of electricity being spent. So electricity waste does occur in Peercoin, however it is designed to be smaller and is relegated to the part of the protocol that deals with distribution rather than security. The security process itself is efficient and does not depend on energy expenditure.

Inheriting the Mining Industry

A fact that many people don’t realize is that Peercoin is currently positioned to inherit the mining industry from Bitcoin. As mining gear on the Bitcoin network becomes exhausted and better technology is released to replace it, this outdated equipment can find a new lease on life by mining at Peercoin instead.

This has been shown to be true over time. The hashing power being directed at Peercoin for example has continued to rise over the years as advances in Bitcoin mining equipment are made. These technological advances in speed and efficiency displace older equipment, causing it to be unprofitable. This older mining equipment must then find a new home where it can still be considered profitable. After some research, miners eventually find this new home at Peercoin.

This is possible because Bitcoin and Peercoin use the exact same mining algorithm, which means all specialized equipment that is developed for Bitcoin is 100% compatible with Peercoin. If Bitcoin ever switches to another mining algorithm or if the network just doesn’t succeed, miners will always be able to find a home at Peercoin.

In fact it may even be a more favorable environment for miners as they don’t need to worry about the various politics that exist in the Bitcoin community. Since proof-of-stake minters hold all the power, proof-of-work miners would not be required to do any important decision making. Miners can simply mine and distribute new coins for the network without having to worry about the politics of upgrading the network. In Peercoin no one is depending on them to make vital decisions, which allows for a more stress free environment.

Deflation Through Transaction Fee Burning

The supply of Peercoin can adjust upward through inflation, but it’s also possible for the supply to adjust downward through deflation. There are three mechanisms in Peercoin that cause the supply to change. This includes dynamic inflation from proof-of-work, 1% inflation from proof-of-stake minters and deflation from transaction fees.

In Bitcoin it was explained that transaction fees are collected by miners in order to compensate them for the work they do in processing transactions and blocks. In Peercoin however, transaction fees are burned rather than giving them to minters. When someone pays a fee to transact with their peercoin, the coins they use to pay the fee are destroyed, effectively removing them completely from the supply. This creates a tiny amount of deflation by decreasing the number of peercoins in existence.

When these coins are removed from circulation, it has the effect of making Peercoin more scarce. So if current demand stays the same but the supply of Peercoin shrinks due to a reduction in the overall number of coins, the remaining leftover coins will become slightly more valuable as a result. It is a similar effect to paying everyone in the network a fraction of the fee. The value is effectively transferred from the burned coins to the remaining coins held by other users.

There are only three possible economic models. First, there are blockchains that have a limited supply and transaction fees are paid to security providers. This model is deflationary by nature because new supply will end at some pre-determined point in the future. Once this occurs, as users mistakenly lose access to their wallets through personal error the number of coins in circulation will start to shrink. At this point the only direction supply can go is down. Bitcoin is an example of this first model as it has a maximum supply cap and miners earn fees.

Second, there are blockchains that have an unlimited supply and transaction fees are paid to security providers. This model is inflationary by nature because there is no mechanism to reduce the supply. Proof-of-work based blockchains do exist that are unlimited and do not have a maximum supply cap. These blockchains however lack proper scarcity because the supply is constantly expanding and only ever shrinks due to user error when access to funds is accidentally lost.

The majority of proof-of-stake based blockchains have also chosen an economic model where minters are compensated from transaction fees. This however leads to uneven distributions of coins to minters as some blocks will contain more transaction fees while others have less.

Third, there are blockchains that have an unlimited supply and transaction fees are burned. Peercoin is the primary example of this type of economic model. It is possible for Peercoin to be either inflationary or deflationary. This depends on a number of factors, the level of use the blockchain is seeing, the number of stakeholders minting with their coins and the amount of hashing power being directed at the network.

If use of the blockchain is low then there will be a low amount of burned fees. If use is high then the rate of fee burning will rise. If the number of coins being minted with is low then not many stakeholders will be awarded their annual 1% interest. If the number of coins being minted with spikes however then the level of proof-of-stake interest being generated will rise. If hashing power from miners is low, then proof-of-work block rewards will increase. If however hashing power spikes, the block reward will automatically decrease. All of these different mechanisms need to be taken into consideration when determining the overall increase or decrease of the supply.

Therefore transaction fees in Peercoin provide an essential counterbalance on overall inflation from rewards generated by proof-of-work and proof-of-stake. Over time this deflationary force incentivizes developers to create new use cases for the blockchain. The more use cases that are available for users, the more transactions will be generated by users on the network and the more fees will be destroyed.

This has the effect of eroding existing supply, which makes the remaining peercoin more scarce and valuable. As a result of the value rise in their stake from destroyed supply, coin holders will be motivated to fund development projects that will help further increase the level of on-chain transactions and destroyed fees.

Benefits of a Fixed Transaction Fee

The value of transaction fees are also not voluntarily set by the user like in Bitcoin. Instead users in Peercoin are charged a fixed fee per transaction. This static fee is set at 0.01 PPC per kilobyte. Every transaction uses up a certain amount of blockchain space. Larger transactions take up more space on the chain.

The rule above basically states that for every kilobyte of space a transaction takes up on the chain, the user must pay 0.01 PPC. So for example if it took 5 kilobytes of space to store a user’s transaction on the chain, then that user would be charged 0.05 PPC. This fee is mandatory and if a user tries to pay less than the required amount, their transaction will be rejected by the network.

This is a powerful rule for Peercoin. The fixed fee basically acts as a filter on the blockchain to weed out low value micro-transactions. If for example the required fee is larger than the transaction a user is trying to send, it simply doesn’t make sense to send that transaction. Instead the user should use a second layer network or wait until they have more peercoin to transact with. This filter works to prevent blockchain bloat from transaction spam and helps limit the increase in the size of the chain.

Another important side effect of a fixed fee is that it makes it easier on the user to figure out how much they need to pay to the network to conduct their transactions. It is difficult to do this in Bitcoin for example because fees can change so rapidly. If a block in Bitcoin is filled up then users are forced to start paying more fees in order to get their transactions included in the block.

This negatively impacts the user experience as fee levels fluctuate wildly from day to day. In Peercoin however the required fee will always be known to the user. If they have 7 kilobytes worth of transactions to send, then their fee can easily be determined to be 0.07 PPC.

In addition to this, transactions in Peercoin are always first come first served. Because of this, users no longer have to worry if their transactions might get delayed by miners if they don’t send a fee that is attractive enough. In Peercoin if a user sends a transaction then their transaction will be included in the next available block by minters. It is very straightforward and significantly improves the user experience.

A True Digital Replacement for Gold

Bitcoin is often described as being a digital replacement for gold because the supply is limited and not controlled by any one individual or central authority, however the comparisons ultimately fall short of the mark. Bitcoin is not a suitable digital replacement for gold precisely because of the amount of expended energy required to sustain its network security. It’s a very slow, difficult and expensive process to extract gold from the Earth. This is similar to the process of mining new coins through proof-of-work. However this similarity ends when it comes to simply maintaining the security of gold.

Once the extraction process is complete, very little effort is required to actually maintain and secure gold. In contrast, once new bitcoins are extracted those coins can only be considered truly secure if expensive mining operations continue servicing the Bitcoin blockchain forever. This large and continual cost to simply sustain the Bitcoin network diverges from the small cost to maintain the security of gold.

By comparison, Peercoin can be considered a true digital replacement for gold. Proof-of-work in Peercoin imitates the expensive extraction process of gold. However once extraction of new coins is complete, proof-of-stake provides a cost efficient way to actually secure that value similar to the lower cost of securing gold from theft. This two step process of extracting a resource and then maintaining its security in a cost efficient manner is best compared with the Peercoin blockchain.

The overall inflation rate of Peercoin can also be compared to gold. During initial launch of the blockchain, the majority of new coins were created through proof-of work distributions to miners. Since 2012 the hashing power being directed to the network has continued to increase. As a result, inflation from proof-of-work block rewards has continued to decrease. The overall annual inflation rate shows a slow downtrend throughout the years. Peercoin will most likely reach a consistent inflation rate of between 1-2% per year.

A deflationary network like Bitcoin does not make for an acceptable cryptocurrency. As the supply reduces, this causes an upward pressure on the value of the coins over time. Due to its deflationary nature, users of the network are incentivized to hoard their coins in order to achieve gains in value rather than using it as a transactional currency.

A network like Peercoin that can achieve either inflation or deflation is better suited for use as a currency. If Peercoin is able to hold its annual inflation rate around 1-2% for example, this would provide users of the network with more of an incentive to transact with their peercoin as a normal currency.

12. Scalability of Peercoin

Unlike most blockchain projects, Peercoin developers have never believed that blockchains alone by themselves could scale to full worldwide usage levels. In fact Sunny King himself tailored the Peercoin blockchain and its economics to fit what he originally termed the “backbone currency” role, which is now commonly known in the crypto community as a settlement layer.

The Backbone of Crypto

From the very beginning, Sunny believed that adapting blockchains directly for wide scale use only through on-chain transactions would negatively impact the decentralization level and security of the network over time, therefore he intentionally chose to develop the Peercoin blockchain to function as a base layer settlement network, or in his own words, a backbone currency.

The following quote by Sunny King is from a 2013 interview conducted for the Peercoin community. As you can see below, Sunny’s deep understanding of blockchain technology greatly influenced his design for the Peercoin network. The quote has been slightly modified from its original state to remove references of Primecoin, another blockchain that was invented by Sunny which is not very relevant to this text.

Sunny’s main worry in this quote was the potential loss of decentralization over time by focusing the blockchain on directly supporting high on-chain transaction volumes. This fear eventually became realized with the creation of Bitcoin Cash, a blockchain completely focused on on-chain transaction volume through regular increases in the block size. Recall that these increases in block size make it difficult over time for network validators to store the entire chain on their personal devices due to the increasing need for more hard drive space as well as the difficulty of broadcasting and processing bigger blocks.

Focusing Peercoin on supporting high on-chain transaction volume for example would negatively impact both validators who voluntarily operate nodes as well as proof-of-stake minters. Over time this would lead to the centralization of security providers as only those who could afford to keep up with the demands of larger blocks would be left running nodes. Unsustainable growth in the size of the blockchain, bandwidth requirements for broadcasting big blocks and hardware requirements for processing big blocks would drive away both volunteers and small stakeholders.

The Original Base Layer Settlement Network

Sunny King had incredible foresight however and designed Peercoin to completely avoid this problem. Instead he implemented a fixed transaction fee to act as a deterrent against high on-chain transaction volume. By doing this, Sunny was purposefully treating the Peercoin blockchain as a settlement network. He recognized early on in the design phase that the crypto community needed a secure and censorship resistant base layer for the future blockchain connected world. Peercoin was designed as this base layer, upon which other supporting layers could be developed.

In fact Sunny realized this long before Bitcoin’s core developers started thinking in these terms, which makes Peercoin the original base layer settlement network even before Bitcoin. Through changes to its core protocol and the adoption of second layer networks, Blockstream, the company responsible for Bitcoin’s development, has basically done all it can to make Bitcoin more and more like Peercoin. Peercoin developers are happy to see the world’s largest blockchain becoming closer to the way we’ve always imagined blockchains should operate.

Bitcoin developers for example have basically been forced into changing Bitcoin from a peer to peer electronic cash system into a settlement network with high fees and limited transaction volumes in order to sustain network security in the future. This is the only way that Bitcoin can survive. Instead they will treat Bitcoin as a base layer and attempt to unload micro-transactions onto secondary layers built on top of the blockchain such as the Lightning Network. This is the way Peercoin was designed from the very beginning.

In the quote above, Sunny mentioned that in the long-term micropayments should be provided by centralized providers, or a less decentralized network optimized for high capacity transaction processing. Sunny was referring to layer 2 networks in this quote. At the time Sunny said this however the crypto community had not yet come up with a naming convention for the concept of varying blockchain layers. Terminology like base layer, settlement layer, secondary layer all came afterward once the idea was more established in the community.

Compatibility of Minters & Second Layers

Previously it was explained that layer 2 networks are ultimately incompatible with proof-of-work miners. This is true because any off-chain transaction prevents miners from being compensated. Once block rewards are gone, miners can only be paid if users perform on-chain transactions, therefore any increase in off-chain transactions will cause miners to suffer financially. Eventually this will negatively impact network security as miners become unprofitable and drop out.

However once again, Peercoin completely solves this issue. Since proof-of-stake minters are compensated from block rewards that are automatically generated by the network, off-chain transactions that are conducted on layer 2 networks have absolutely no impact on the Peercoin blockchain’s overall security.

In other words, minters do not rely on user transaction fees. They obtain their motivation to provide security from network generated block rewards. As a result, proof-of-stake minters are not impacted if off-chain transactions increase. Minters have no reason to care whether transactions are being made on-chain or off-chain, since they are being compensated from a completely different source.

Therefore Peercoin is one of the only blockchains that really makes sense to be paired with secondary layers like the Lightning Network. Unlike proof-of-work networks, security validators at Peercoin do not depend on expensive transaction fees in order to sustain network security. Instead transaction fees in Peercoin are burned rather than distributed to minters as compensation.

This is important because it means off-chain transactions being conducted on the Lightning Network will not compete with Peercoin minters. Minters can sustain themselves completely on network generated block rewards, which means Lightning and other layer 2 networks are not a threat to Peercoin’s security model.

A conclusion that can be drawn from this is that only proof-of-stake blockchains that burn fees are compatible with secondary layer networks. Any blockchain that is reliant on fees to sustain network security will be incompatible with secondary layers.

Dynamic Block Sizes

The Peercoin Team is actually interested in implementing both on-chain and off-chain scaling mechanisms. Off-chain scaling would rely on secondary layer networks like Lightning that are developed by external development teams. On-chain scaling in Peercoin would consist of a change to the core protocol that allows for dynamic block sizes.

If dynamic block sizes are implemented in the future, it will most likely function like the following. When a block is filling up and transactions are almost at maximum capacity, the block size limit will be allowed to temporarily rise above 1MB. As long as there is demand for the extra space, the block size limit will stay at this level. If transaction volume decreases however, then the limit will fall back to 1MB.

These temporary block size increases in Peercoin would be much different than the ones in Bitcoin Cash however due to Peercoin’s use of a static transaction fee. In Bitcoin Cash a user attempting to transact with their coins can volunteer to pay whatever fee they want to miners, no matter how small it is.

Since the block size limit in Bitcoin Cash is much larger than 1MB, the extra space means there is much less of a chance for a block to be filled up, which also means higher fees are less likely to be triggered because of a full block. Without higher fees, it is much easier for users to fill up the blockchain with cheap on-chain transactions. A minimum transaction fee is required to help filter out and prevent severe transaction spam and the resulting bloating of the chain size.

In Peercoin however a user is forced to pay the mandatory fixed fee of 0.01 PPC per kilobyte of space used. This static fee acts as a restriction to curb the number of on-chain transactions, which prevents bloating of the blockchain size. Consider also the fact that the fee is priced in Peercoin rather than in fiat money like the dollar or the euro. If the price of Peercoin rises in terms of dollar value, the 0.01 fee will cost more.

For example, if the price per peercoin is $10, then the value of the 0.01 PPC fee will cost a user about 10 cents per transaction. If the price per peercoin is $100, then the value of the 0.01 PPC fee will cost a user $1 per transaction. If the price is $1,000, then the transaction fee will cost $10. As the price of Peercoin rises, the cost of on-chain transaction fees will rise along with it. It is possible to adjust the static fee lower in the future if transactions become cost prohibitive, however an upgrade of the network like this would require consensus from stakeholders.

The way this would work in Peercoin is that users would make transactions on the chain only up to the point of affordability. Users who are transacting large amounts of peercoin for example may consider the high fee marginal compared to the amount they’re trying to send. Plus they may not mind high transaction fees if it means taking advantage of the higher security of on-chain transactions over doing those same transactions on layer 2 networks. On the other hand a user that is trying to transact small amounts may find the transaction fee they need to pay is worth more than the coins they are trying to send.

There may be enough transaction volume to temporarily raise the block size limit for a short period of time, but there are only so many people who are willing to pay for on-chain transactions when the cost is so high. This results in a situation where users only pay for on-chain tranactions if the security advantages of transacting directly on the blockchain are worth it for them when the fees of those transactions are taken into consideration.

The remaining users who feel the cost of on-chain transactions aren’t worth the security benefit will use secondary layer networks instead. For example, small transactions that are too costly to be performed on the blockchain will end up being off-loaded by users onto layer 2 networks where they are less expensive to perform. In this way the cost of the transaction fee will determine whether users decide to transact on-chain or off-chain. With dynamic block sizes in Peercoin, the limit would only increase as long as there are users willing to pay the fee for on-chain transactions.

13. A Stronger Foundation to Build Upon

Attack surface is an important concept to grasp when it comes to blockchain security. The more you add to and modify a system, the more complex it becomes. And as a system becomes more complex, there is a higher chance that something can go wrong or fail. In the short-term, a blockchain team that is constantly adding new features and rapidly advancing the protocol may seem exciting and innovative, however in the long run they are likely creating new bugs and vulnerabilities that will inevitably come to light.

The Peercoin development team believes in modularity. This means that Peercoin as the base layer should remain fairly unchanging. New protocol developments are debated at length by team members and are slow to be implemented in order to prevent fatal issues from occurring. New protocols and functionality such as tokens, smart contracts and high speed low cost transaction processing can then be added as independent layers.

Rather than developing these additional improved features and technologies directly into the blockchain protocol itself, instead they are built as separate layers that exist on top of the base layer blockchain. In the long run, this modularity will make Peercoin more secure and easier for developers to build upon.

This slow changing, ultra secure base layer blockchain is the ultimate foundation upon which any number of additional layers can be built. Anyone is free to build anything on top of Peercoin that is as risky or complex as they can conceive. And if their conception is flawed, Peercoin does not need to fall with it. The failure of any layers on top of Peercoin will have no impact on the base layer blockchain.

Overall, Peercoin’s primary purpose is to maximize decentralization in order to preserve a trustless network that can be relied upon now and in the future to secure all different types of value. The efficient and sustainable proof-of-stake technology provided by Peercoin offers developers a solid and decentralized foundation to build upon.


#3

I’m having a read of this, as I’m sure others are. Just letting you know.


#4

Sure, take all the time you need.


#5

I’ve linked this thread as “compendium” on peercoin.site


#6

This thread will be core of the new website, and it will get chopped to medium posts and the docs.peercoin.net .


#7

well done, @Sentinelrv ! What a massive effort! :thumbsup:


#8

Hi Sentinel, above are some suggested edits to the Introduction. Bold is new or amended text, italics is suggested deletions. If agreeable, I’ll work my way through the contents in the same way.


#9

Great suggestions. I implemented all of them.

For others who have fully read through it by now, I would appreciate some feedback on the accuracy of the information. I’d like to make sure any important changes or additions have been made before Robert reaches the end of the article, otherwise we will be forced to re-edit certain sections. Also if you know someone who is willing to read it, please ask so we can get more feedback from those who are not so close to Peercoin. This way we can understand what people have questions about that is not yet addressed in the text.


#10
  • Peercoin’s alternative to proof-of-work, proof-of-stake, remains unrivaled to this day as a blockchain consensus protocol and one which is achieving more mainstream adoption with each passing year.

Potentially use dashes before and after “proof-of-stake”. Increases readability and flow. Reference: http://www.thepunctuationguide.com/em-dash.html

  • Ever since the initial launch of Bitcoin in 2009, blockchain technology has proliferated throughout the world in many different forms.

Remove “ever”.

  • Expand on censorship resistance potentially

Thought that this might need some further explanation of blacklisted addresses/centralized control and the ramifications of allowing such a system to exist

  • Each validator hosts a full copy of the public ledger and operates a node, which is a program that validates incoming transactions and relays them to other nodes. Together, these validators form a global network of nodes that secure the blockchain by preventing fraud from double spending attempts, which is a problem unique to digital currencies that allow a potential attacker to spend the same coins multiple times. Transactions initiated by users of the blockchain are broadcast out to this network of nodes and these transactions are either validated and accepted or detected as a double spending attempt by a malicious user and rejected as invalid.

Double spend should be defined since it is used later and this would be the paragraph to define it in.

  • The degree to which network validators preserve their level of decentralization over time in a blockchain is highly dependent on how its distributed consensus protocol is designed. There are many types of distributed consensus protocols, but the two most well known are called proof-of-work and proof-of-stake.

Add something along the lines of “The more people running nodes, the more decentralized.

  • Miners are also incompatible with layer 2 networks. Eventually layer 2 networks will steal enough profits away from miners that they could centralize and open up the network to a possible double spend attack. With such a large number of systemic flaws, the Bitcoin blockchain does not seem like a great foundation to build on top of.

This is a bigger deal because of the economic implications. If you can expand on why you need miners and what it means for the longevity of the chain, that would probably be beneficial.

  • “A minter with a highn coin age has a higher probability of minting the next block over a minter with a low coin age.”

“Highn” needs to be corrected.

  • Unfortunately, not many people can afford to waste money on electricity costs for years on end for such tiny odds of mining a block. Electricity bills have to be paid in the meantime and that length of time to wait in between rewards is just too great without being paid. Once regular rewards are no longer possible they are likely to just quit mining altogether, leaving a shrinking number of larger miners to compete amongst themselves. Proof-of-stake in Peercoin however is not capable of being gamed in the same way. Since proof-of-stake does not rely on hashing power in order to achieve consensus, no specialized equipment can be designed in order to increase the chances of minting a block. Faster processing speeds therefore have absolutely no effect on the probability of producing new blocks in Peercoin. The consensus rules of Peercoin are completely different and minters must work within the confines of these protocol rules in order to be able to produce blocks. Because rules about hashing power are replaced with time based rules, it is no longer necessary to purchase expensive equipment in order to give yourself an advantage over others.

Would be nice to talk about the economic incentive to host block processors since there is no competitive model.

  • So rather than miners and users being out of alignment like in proof-of-work based networks, minters and users in Peercoin are the same exact people which means interests are completely aligned. All security providers are forced to own a stake in the network through ownership of peercoin. This causes everyone to have a similar financial interest in the long-term future of the network, which leads to much less conflict between factions with different ideas about how the blockchain should develop and evolve.

Not really because miners mine to make money, and peercoin mints to maintain. At some level they may care about the network security, but the primary incentive is making money.

  • There is a good reason why Peercoin has been called the nuclear bomb shelter of crypto. It is highly capable of withstanding almost any scenario.

Suggesting changing to “There is a good reason why Peercoin has been called the nuclear bomb shelter of crypto as it is highly capable of withstanding almost any scenario.”

  • However there is a solution that has been under consideration since 2014. Cold minting is an upgrade to the Peercoin protocol that would give users additional functionality.

Suggested change: However there is a solution that has been under consideration since 2014; cold minting is an upgrade to the Peercoin protocol that would give users additional functionality.

EDIT: Read through for a couple hours. This was the first sweep of the areas that stuck out. Will be taking another swipe when I have processed more.


#11

Ran it through Grammarly as well because I don’t have the mental capacity to check for some of these things right now.

  • Third party, time consuming, tamper proof, self auditing, profit driven, state sponsored, money losing, ten minute, government sponsored, medium sized, user provided, user provided, low value (search with no case sensitivity), high value, time based, stress free, wide scale, long term, high speed, low cost, and ultra secure

All should have hyphens because of their adjective linking nature. (https://www.grammarbook.com/punctuation/hyphens.asp)

  • “The second type are full nodes that are run by large entities such as merchants, exchanges and payment processors.”

“Are” should be “is” because the subject is singular

  • When this occurrs, users of the network are forced to pay outrageous fees in order to transact with their coins.

“Occurrs” Spelling

  • This means that Peercoin’s supply is unlimited as it has no end point where production of new coins stops.

“End point” -> “Endpoint” Spelling

  • There may be enough transaction volume to temporarily raise the block size limit for a short period of time, but there are only so many people who are willing to pay for on-chain transactions when the cost is so high. This results in a situation where users only pay for on-chain tranactions

“Tranactions”


Hopefully some of this helped. Its 2am so I’m gonna get some sleep. Great work again, by the way!


#12

Hi, Sentinel

Rather than show my suggested edits individually, which will take too long, I’ve reproduced your paragraphs below, one by one, and placed a suggested version immediately underneath, in italics. The below relates to Chapter 2 (What is a Blockchain?)

Comments of my own are in bold.

A couple of paragraphs I suggest removing altogether.

The only material change I’ve suggested is to sideline double spending attacks, as I think this is “too much, too early”

++++++++

Chapter 2. What is a Blockchain?

I would be inclined to remove the first paragraph, and use the second paragraph as the opening, and move the subheading (Centralized Private Ledgers) down one paragraph.

Remove para: Ever since the initial launch of Bitcoin in 2009, blockchain technology has proliferated throughout the world in many different forms. As a result, a new and exciting market has spawned with the potential to impact society in innumerable ways. In this section we will explain what a blockchain really is, how it functions and its core purpose.

[New first paragraph, unedited] At its core, the Peercoin blockchain is a distributed public ledger. A ledger is a document such as a spreadsheet in which accounts are kept of economic transactions, including credits, debits, and balances. They are generally used to keep track of an individual or organization’s financial standing or other recordable data such as assets, liabilities, income, expenses and capital.

[New first paragraph, edited] At its core, the blockchain is a distributed public ledger. A ledger is tradtionally a document such as a spreadsheet used to keep track of an individual’s or organization’s financial accounts or other recordable data such as assets, transactions, liabilities, income, expenses and capital.

Before the invention of the blockchain, in order for individuals to manage their financial accounts it was necessary for them to place their full trust in a centrally managed third party organization or business which maintained its own private ledger. Examples of services like this include banks, credit card issuers, money transfer services or other financial institutions based on customer or user trust.

Before the invention of the blockchain, individuals managed their financial accounts by placing trust in a third party which maintained its own private ledger. Examples include banks, credit card issuers, money transfer services and other financial institutions.

A high degree of trust is placed by customers in these centralized services and the people running them, all of whom are human and fallible. The ledger of customer data for each individual organization is kept private and not shared with the public for independent verification. In this outdated model, the customer is forced into a situation where they need to fully trust that the organizations handling their financial accounts are being truthful.

A high degree of trust is placed by customers in these centralized services, all of which are fallible. The customer must trust that the organizations handling their financial accounts are truthful and accurate, since ledgers of customer data are not routinely shared with the public for independent verification.

This lack of transparency is a central point of failure because it forces the customer to trust that the organization is acting in their interest and not against them. This requirement to trust without the ability to verify can invite errors, unaccountability and even outright fraud and corruption within an organization, which can eventually impact the customer in a negative way.

This lack of transparency is a central point of failure because it forces the customer to trust that the organization is acting in their interest and not against them. The need to trust without the ability to verify can invite errors, unaccountability and even outright fraud within an organization, which can impact customers in a damaging way.

Distributed Public Ledgers

Blockchain technology however completely removes the requirement of the user to place full trust in a centralized organization to accurately manage its own private ledger. The blockchain instead introduces the concept of a shared or distributed public ledger where a copy of the ledger is held by a large group of people all around the world who work together to validate transactions that are initiated by users of the blockchain network. The individuals who carry out this important work are called validators.

Blockchain technology removes the need for the user to trust a centralized organization in this way. The blockchain introduces instead the concept of a shared or distributed public ledger, maintained by a large group of people around the world known as “validators”.

Each validator hosts a full copy of the public ledger and operates a node, which is a program that validates incoming transactions and relays them to other nodes. Together, these validators form a global network of nodes that secure the blockchain by preventing fraud from double spending attempts, which is a problem unique to digital currencies that allow a potential attacker to spend the same coins multiple times. Transactions initiated by users of the blockchain are broadcast out to this network of nodes and these transactions are either validated and accepted or detected as a double spending attempt by a malicious user and rejected as invalid.

Each validator hosts a full copy of the ledger and operates a node, a program that validates transactions and relays them to other nodes held by other validators. Together, validators form a global network that secures the blockchain. Transactions by users of the blockchain are broadcast across this network and transactions are either validated and accepted, or detected as invalid and rejected (as in the case where a user attempts the same transaction twice).

Rather than trust being concentrated in a central entity to manage its own private ledger without transparency or oversight, the blockchain instead distributes trust both publicly and globally to a wide number of these validators who work to prevent errors, alterations and acts of fraud against the ledger. This open and transparent sharing of the public ledger allows each of these security providers holding a copy of the ledger to independently verify its legitimacy. In this way the public ledger acts as a digitally shared truth about the state of the network.

Thus, rather than trust being concentrated in a central entity to manage its own private ledger, the blockchain distributes trust publicly and globally to a wide number of validators who work to prevent errors, alterations and fraud. This sharing of the public ledger allows each security validator to independently verify the ledger’s integrity. In this way the public ledger acts as a digitally shared truth about the state of the network.

The Blockchain

I suggest combining the next two paragraphs

A blockchain can be accurately described as a continuously growing list of individual transaction records called blocks. When combined together these individual blocks of data form the entirety of the public ledger, which consists of all the transactions that have ever taken place on the network.

As transactions are initiated by users of the network they are broadcast out to the network of validation nodes. One by one these transactions are validated, grouped together and recorded into a block which is then attached to the end of the blockchain as the next link in the chain. Therefore every block is linked, forming one long cryptographically secured chain of blocks.

The blockchain itself can be described as a continuously growing list of individual transaction records called blocks. One by one, these transactions are validated, grouped together and recorded into a block which is then attached to the end of the blockchain as the next link in the chain. Therefore every block is linked, forming one long cryptographically secured chain of blocks. When combined together these individual blocks form the entirety of the public ledger, which consists of all the transactions that have taken place on the network.

In Bitcoin and Peercoin, about every ten minutes a new block is added onto the chain which contains all the transactions initiated by users of the network over the past ten minutes. Account balances on the public ledger are consistently and automatically updated with each new added block to reflect changes from these transactions.

In Bitcoin and Peercoin, a new block is added to the chain about every ten minutes, which contains all the transactions made by users in that period. Account balances on the public ledger are consistently and automatically updated with each new added block to reflect changes from these transactions.

Distributed Consensus Protocol

Suggest removing the next paragraph, as it repeats what has been established in previous paragraphs.

Remove para: Unlike a centrally managed entity that depends on user trust of authority figures who are capable of errors or intentional acts of fraud, the blockchain is designed with no such central point of failure. Instead user trust is placed in a blockchain’s distributed consensus protocol, which is an automated process responsible for achieving majority agreement among the network’s many validators on whether the public ledger can be considered valid or not. If the majority of validators working to secure the network can verify and agree that the public ledger is accurate and has not been tampered with, then it can be trusted as legitimate and held as absolute truth by all participants of the network.

A private ledger usually comes in the form of an account book or computer file, however a blockchain which hosts the public ledger runs on a coded set of rules called a distributed consensus protocol. This protocol and its underlying rules are entirely responsible for how a blockchain functions as well as its process for validating transactions and blocks. The protocol is also what gives the blockchain its many beneficial qualities, many of which are described below.

The blockchain runs on a coded set of rules called a distributed consensus protocol. This protocol is responsible for how a blockchain functions as well as its process for validating transactions and blocks. The protocol is also what gives the blockchain its many beneficial qualities, which are summarised below.

Automated: Since a blockchain protocol runs on code, security providers do not have to partake in a time consuming process of manually validating transactions and blocks. This means the consensus and verification process of the public ledger is able to be completely automated so that no manual labor is necessary on the part of security validators. From the standpoint of the end user, a submitted transaction is automatically processed by the network. From the standpoint of the security validator, transactions submitted by users of the network are automatically verified and accepted or rejected by the node software they are running.

Automated: Since a blockchain protocol runs on code, security providers do not have to manually validate transactions and blocks; the consensus and verification process is completely automated. From the standpoint of the end user, a submitted transaction is automatically processed by the network. From the standpoint of the validator, transactions are automatically verified and accepted or rejected by the node software they are running.

Trustless: This is a significant development as for the first time in history this results in an automated network that is transparent, verifiable and can be trusted by all parties as it is impartial by its very nature. This unbiased or neutral quality of the blockchain is made possible only by the public nature of the ledger and the ability of a large and globally decentralized group of security validators to verify its accuracy.
This prevents the falsification of transactions and leads to a state of trustlessness in which all participants of the network can be assured that their data is guaranteed to be accurate. This state of trustlessness is the core value proposition of the blockchain. In this state the users of the network no longer need to trust anyone because security is automatically handled for them by the blockchain’s consensus protocol. Users only have need to trust that this protocol continues functioning as it was designed to.

Trustless: For the first time in history, the blockchain provides a network that is transparent, verifiable and with no need to trust a third party organisation. This neutral quality of the blockchain is made possible by the public nature of the ledger and the ability of a large and globally decentralized group of security validators to verify its accuracy. This state of “trustlessness” is the core value of the blockchain. Users of the network no longer need to trust anyone because security is automatically handled for them by the consensus protocol. Users only have need to trust that this protocol continues functioning as it was designed to.

Censorship Resistant: Censorship resistance is another vital quality of the blockchain. Banks and payment processors for example are centralized entities that have power over their users and are free to censor transactions or freeze funds at will. They can take actions against their users for any reason, but especially if being coerced by governments. The blockchain introduces a level playing field where no one has power over anyone else and censorship of transactions and freezing of funds is not possible.

Censorship Resistant: Censorship resistance is another quality of the blockchain. Banks and payment processors are centralized entities that have power to interfere with transactions or freeze funds, especially if forced by governments. The blockchain introduces a level playing field where no-one has power over anyone else and censorship or freezing of transactions is not possible.

Immutable & Tamper Proof: The blockchain is also immutable, meaning that recorded data is permanent and cannot be altered. This data is therefore locked into the blockchain forever. This immutability makes the blockchain tamper proof, which means attackers, governments or other external threats cannot alter the blockchain or falsify transaction data.

Immutable & Tamper Proof: The blockchain is immutable, meaning that recorded data is permanent and cannot be tampered with. Data is locked into the blockchain forever. Attackers, governments or other external threats cannot alter the blockchain or falsify transaction data.


#13

Section 2:

  • Ledger is more than just finances
  • Add in cryptography - Blocks are added to the chain and the whole chain is then signed
  • Use Permissionless instead of Automated

Section 3:

  • Blockchains are not efficient data validators. Integrity yes, efficient no
  • Tokens can also be tickets, voting, counts of an abstract nature
  • Stuff about smart contracts should be after ‘cryptocurrency as money’
  • Independent control - be your own bank is not so negative a risk, more just a UI challenge with being a new tech

Section 5:

  • We can cut the number of words so far in this document in ~half
  • I like this section
  • Add in ‘PoW difficulty’ at end
  • Put some of the punchline here up front about PoS, then say it again in later sections.

Section 6:

  • So much compression needed
  • Majority attacks dont actually need majority, but can be done statistically with a smaller %.
  • Try to avoid hyperbolic language
  • Maybe dont make this a negative campaign for bitcoin

Section 7:

  • Block reward halving - The explanation is important, but the subsection has no drive.

Section 8:

  • Bitcoin developers aren’t stupid. Don’t use phrases like ‘it dawned on them’
  • Lightning isn’t ‘being developed’, it has been developed already
  • I have issues with your description of LN, people dont pay fees, they have amount limitations instead.
  • I question if layer 3 is a thing
  • Remove phrases like ‘it is a fact’
  • Layer 2 could increase usage rather than decreaser miner profitability, i.e. it is not a zero sum game. We could hypothetically see this happen with Peercoin too, where people use it more if they dont have to pay the fee.

Section 9:

  • Dont make allusions to a publicly traded company. Maybe democracy instead?
  • Peercoin uses the timestamp in the computation, it is misleading to say there is no computation or that it uses pure luck.
  • “Most coins are in wallets” yes but they arent staking. Slowly buying a large stake is a viable attack vector. Should talk about ‘opportunity cost’. You make no backing argument for the relative magnitude of attacking PoS vrs PoW.
  • Don’t use language like “if by some miracle”.
  • You ignore the sunk cost of hardware when you talk about having majority hash power
  • You leave out the minimum output size, which peercoin pioneered and is now used in litecoin and bitcoin (i think).

Section 10:

  • Separate out the ‘minimum hardware requirements’ benefit
  • ‘Nuclear bombshell’ stuff - not being attacked does not mean you have good defenses
  • Explaining bittorrent feels like a diversion
  • Interest on stake can come all at once if you hold one output for the whole year.
  • ‘Rich get richer’ is way too drawn out. It is a simple misconception, easily corrected.
  • The issues with centralization of minting pools is precisely SK’s issue with them. This section is pretty drastically incorrect on this point.
  • It might help to explain that the ‘minting keys’ idea involves a multisig address with two asymmetric keys.
  • A lot of explanation here for something that has yet to be implemented. What about multisig minting?

Section 11:

  • The way the text weaves with the examples on the ‘ultimately scarce supply’ section is confusing.
  • Be careful with the entropy arguments.
  • The reward is based on difficulty, not hashing power.
  • Cite the halvening when discussing bitcoin’s old hardware. This is why you explained it earlier.
  • Technically, losing coins also reduces supply but not provably. In peercoin, as opposed to bitcoin, ‘provably burning’ is actually equivalent to nonstandard txn fees.
  • ‘Only three models’ is an extremely bold statement. I can easily imagine blockchains like ripple that use a different model.
  • Way too many words in the economic stuff.
  • Be careful calling microtransactions ‘low value’. Maybe use ‘low importance’ instead.
  • Maybe point out that a fixed fee means that amount of peercoin you need to do x number of txns can be planned for and pre-purchased.
  • It’s not first come first serve, it’s based on coindays destroyed.
  • I think the whole ‘gold’ analogy is off point.

Section 12:

  • You mentioned ‘tokens’ and stuff in the beginning, but leave it out entirely in the ‘settlement layer’ argument. LN is essentially a smart contract.
  • You use the word ‘basically’ a whole lot.
  • Need to hit home more on minters not relying on txn fees. Txn fees barely increase their worth, but processing more txns barely costs more resources.
  • Maybe explain more directly how dynamic blocks work in bitcoin cash
  • Maybe explain how in peercoin you can always pay more fee than the minimum to get priority
  • You are making an assumption that second layer solutions are somehow less secure. They aren’t less secure, rather they are often inconvenient.

Section 13:

  • Basing off bitcoin and keeping in tune with it minimized dev requirements.
  • Need a better conclusion.

#14

Ok, so there is a lot here. I think I may need to pause this for the moment in order to work through it all.


#15

Hi Sentinel, Chapter 3.

As before, your paragraphs are reproduced, followed by suggested re-wording in italics. I can usually take out a line or two without changing the meaning (however, I have removed the references to public and private addresses, as these have not been explained at this point, and reference to them is not strictly necessary)

Benefits & Use Cases

Ultimately, all of these qualities combine as one to create a self auditing and trustless public record which can be used as a tool by people and organizations all over the world to conduct their day to day business. Use cases for the blockchain are plentiful and new ones are popping up every single day. At a basic level it features trustless mechanisms for money and data transfer, traceability and the chronological ordering of data. Digital identities can be created to represent data on the chain and provide proof of exactly when a piece of data was created, its history as well as the ability to prove ownership of data through the use of the blockchain’s native public and private key technology.

Ultimately, these qualities combine to create a self-auditing public record which can be used as a tool by people and organizations all over the world to conduct their day to day business. Use cases for the blockchain are many, and new ideas are popping up every day. At a basic level blockchains feature mechanisms for money and data transfer, traceability and the chronological ordering of data. Digital identities can be created to represent data on the chain and provide proof of when that data was created, its history as well as the ability to prove ownership of data through blockchain technology.

Suggest merging the next two paragraphs:

Data Verification: Immutability of the blockchain allows for the creation of a robust audit trail of data hosted on the chain, which can be helpful for situations involving data verification. Searchability is improved as the blockchain can act as a common database for relevant records or even carry pointers to externally hosted data.

Many industries still rely on physical documents to verify data, which is a manual process that is very time consuming and prone to loss of information and errors. Leveraging blockchain technology to speed the digital evolution of various industries that are still heavily reliant on outdated manual verification practices can improve the efficiency and integrity of virtually any process involving data validation.

Data Verification: Immutability of the blockchain allows for robust audit trails of the data hosted on the chain, enabling verification of that data. Searchability is improved as the blockchain can act as a common database for relevant records, or provide pointers to externally hosted data. Using blockchain technology can speed the digital evolution of industries that are presently reliant on physical documents to verify data, and can improve the efficiency and integrity of virtually any process involving data validation.

Smart Contracts: Other use cases include smart contracts, which are self-executing applications with the terms and conditions of an agreement written directly into code. The rules and penalties coded into a smart contract do not require the services of a middleman as all obligations are automatically self-enforcing. Smart contracts are great for setting up automated agreements for exchanging different forms of value without conflict or interference from third parties.

Smart Contracts: Other use cases include smart contracts, which are self-executing applications with the terms and conditions of an agreement written directly into code. Smart contracts do not require the services of a middleman as obligations self-execute automatically. Smart contracts are great for setting up automated agreements for exchanging different forms of value without conflict or interference from third parties.

Tokens: Further still are token protocols, which make it possible to create assets or tokens that are hosted on top of the blockchain. Tokens can be made to represent anything, anywhere from equity in a company to property or even coupons at a grocery store. Tokens are great for seeking investors for business ventures through crowdfunding or initial coin offerings.

Token protocols: Token protocols make it possible to create assets or tokens that are hosted on the blockchain. Tokens can represent anything from equity in a company, to ownership of property, or even coupons at a grocery store. Tokens are great for business ventures seeking investors through crowdfunding or initial coin offerings.

Distributed Autonomous Corporations: Token protocols also make it possible for distributed autonomous corporations to be created, which are organizations or profit driven companies that exist solely on the blockchain. A distributed autonomous corporation can organize itself in a number of different ways, including allowing token holders governance and decision making power over the business through voting rights and the ability to receive a portion of the company’s profits through dividend distributions.

Distributed Autonomous Corporations: Token protocols also make it possible for distributed autonomous corporations to be created, which are organizations or companies that use the blockchain for administration and governance. A distributed autonomous corporation can organize itself in a number of ways, including allowing token holders’ decision-making power over the business through voting rights, and to have the ability to receive company profits through dividend distributions.

Blockchain as Money: Cryptocurrency
It also goes without saying that blockchains have the potential to become large competitors to traditional state sponsored paper fiat money in the form of cryptocurrencies. The first blockchain, Bitcoin, for example was originally invented by Satoshi Nakamoto as a replacement for fiat money, a peer-to-peer electronic cash system. It is believed by many that with enough time, development and adoption cryptocurrency can eventually rise up to challenge existing financial institutions like central banks, which are responsible for managing monetary policy in various countries.

It goes without saying that blockchains have the potential to become competitors to traditional state-sponsored “fiat” money in the form of cryptocurrencies. The first blockchain, Bitcoin, was invented as a digital replacement for fiat money, and it is believed by many that cryptocurrency can, in time, challenge existing financial institutions like central banks.

I am inclined to remove the next two paragraphs, as it going “too deep” into the question of central banks. Suggest replacing with simply: “The use of blockchains as money has a number of characteristics” and go straight to the bullet points.

[suggest remove] Where a central bank manages the supply of money in a centralized fashion with decisions being made by a core group of bankers, blockchains instead have strict coded rules about how new supply is introduced into the economy, how much and over how long a period of time. This makes distribution of new supply in cryptocurrencies more controlled and predictable and not subject to the changing opinions of central bankers.

[suggest remove] Each blockchain can have its own separate rules regarding inflation of the supply and those rules can only be changed if a majority of network validators around the world agree to the upgrade, which prevents sudden changes from happening and helps maintain trust and stability in the system. In addition to controlled and predictable inflation, the blockchain also has a number of other benefits when being used as money:

Irreversible: Transactions are irreversible, which prevents chargeback fraud like seen with credit cards. Transactions also cannot be denied by the network itself.

Irreversible: Transactions are irreversible, which prevents chargeback fraud as seen with credit cards. Transactions also cannot be denied by the network itself.

Transparency: All transactions are transparent and easily viewable on the blockchain using tools like block explorers. This allows easy verification of data.

Transparency: All transactions are transparent and viewable on the internet using “block explorers”. This allows verification of data.

Pseudonymity: As long as a user’s personal identity is not linked to the address they use to transact with, their transactions will remain entirely pseudonymous.

Pseudonymity: As long as a user’s personal identity is not linked to the address they transact with, transactions will remain pseudonymous.

International Payments: Cross-border trade is easier because payments are quick and not delayed like traditional methods.

International Payments: international trade is faster because payments are not delayed by banking hours and holidays.

Identity Protection: Merchants with lax security measures are at risk of losing your stored credit card information to hackers, but with the public and private key technology of blockchains you are protected as vital payment information is no longer stored by merchants.

Identity Protection: Merchants with poor security measures are at risk of losing credit card information to hackers, but with blockchains vital payment information no longer need be stored by merchants.

Convenience: There is no need to carry around a bulky wallet. With cryptocurrency your money can easily be transacted with by downloading various wallet apps on your phone.

The wording of the above is fine, but I question whether this is a strong point.

Ease of Access: For those in developing countries who may not have access to traditional banking and exchange systems, cryptocurrencies provide greater access to the rest of the world economy because all that is needed to get started is a phone and an internet connection.

Ease of Access: For those in developing countries who may not have access to traditional banking systems, cryptocurrencies can provide access to the rest of the world economy because all that is needed is a phone and an internet connection.

No Counterparty Risk: There are no third parties that you need to trust or rely on in order to transact with your money. Due to the peer-to-peer nature of blockchains, you can cut through any middlemen and send your payments directly where they need to go.

No Counterparty Risk: There are no third parties such as banks to rely on in order to transact your money. Due to the direct person-to-person nature of blockchains, you can send your payments directly to where they need to go.

Independent Control: The automatic nature of transactions from one user to another offers independence from banks and an increased level of control over funds, however this also comes at a cost as greater thought must be put into securing access to those funds.

Independent Control: The automatic nature of transactions offers independence from banks and an increased level of control over funds; however, this also comes at a cost as greater thought must be put into securing access to those funds.


#16

Chapter 4

I suggest changing the title from “When Decentralization Fails” to
Blockchain Security

Some of the paragraphs in this Chapter can be trimmed quite a bit, and a few can be removed, as the reader will remember what has been said in earlier sections

+++

Suggest merging the first two paragraphs

It is clear when considering just some of the benefits and use cases mentioned above that blockchain technology has the potential to transform finance as we know it, however it’s very important to realize that not all blockchains are created equal. When choosing a blockchain you or your organization should operate on, the most important overriding factor above all else to consider is whether the chain is truly secure or not.

It doesn’t matter how many useful features are available for you to take advantage of. If the underlying blockchain is not secure then it’s just like building on top of quicksand. At some point its security may be compromised, which could result in the total loss of all funds. It’s also not just a question about if a blockchain is secure right now, but whether it will continue to be secure in the long-term future.

Although blockchain technology has the potential to transform finance as we know it, it’s important to realize that not all blockchains are the same. When choosing a blockchain to operate on, the most important factor to consider is the chain’s underlying security; if the blockchain is not secure, then it may be compromised, which could result in loss of all funds. It’s not just a question whether a blockchain is secure now, but whether it will continue to be secure in the future.

[suggest removing subheading] Controlled by the Few

A blockchain can only be considered trustless if the security validators each holding a copy of the public ledger are numerous and widely distributed around the world. Blockchain security stems from the fact that there are many validators and power is decentralized among them. This prevents collusion among validators as a great majority are likely to continue working in the interest of the network and its users. The few who attempt to collude and defraud will have no impact because they will be highly outnumbered by the many who play by the rules.

Blockchain security relies on there being sufficient security validators distributed around the world, and power being decentralized among them. This prevents collusion among a small number of validators, as the majority of validators will continue working in the interest of the network.

Suggest merging and reducing next two paragraphs:

As an example, if a blockchain’s security protocol contained a design flaw that caused the number of validators to shrink over time to the point where there were only a handful of them left then that would end up being a highly centralized blockchain, which would completely defeat the purpose behind the technology as it could no longer be considered trustless. The fewer validators there are securing a blockchain, the more centralized it becomes and the more trust creeps back into the system making it just like the centralized organizations that we left behind.

As validators dwindle in number, the few that remain end up having a larger degree of influence and control over the network, which means there is a much higher chance they could collude and perform a double spending attack against the network. If a single entity somehow managed to gain majority control over the blockchain, then users of that blockchain would be at the mercy of that entity and would need to trust and hope that it would continue working in their interest instead of sabotaging the network for personal gain. The ideal situation is if it never comes to this point and validators continue to remain thoroughly decentralized so users of the network never have to trust any individual or centralized entity.

Thus, the fewer validators securing a blockchain, the more it becomes like the centralized organizations that we use at present. If a single entity gained majority control over the blockchain, users of that blockchain would be at the mercy of that entity and would need to trust that it would continue working in the network’s interest. The most secure blockchain is the one with the most numerous and decentralized validators.

Consensus on a Single Shared Truth

The degree to which network validators preserve their level of decentralization over time in a blockchain is highly dependent on how its distributed consensus protocol is designed. There are many types of distributed consensus protocols, but the two most well known are called proof-of-work and proof-of-stake.

The degree to which a network preserves its decentralization depends on how its distributed consensus protocol is designed. There are many types of distributed consensus protocols, but the two most well known are called proof-of-work and proof-of-stake.

These two consensus protocols operate in very different ways, but their overall goal is the same which is to bring validators to consensus so they can agree on a single shared version of the truth regarding the state of the blockchain and its ledger while at the same time preventing malicious or hostile actors from exploiting and derailing the system.

These two consensus protocols operate in different ways, but their overall goal is the same; to bring validators to consensus so they can agree on a single shared version of the truth regarding the state of the blockchain and its ledger, while at the same time preventing malicious or hostile actors from exploiting and derailing the system.

It is possible for certain validation nodes across the network to hold slightly different versions of the public ledger for example. This can happen if nodes are unreliable or slow because of issues with network latency or also because they are acting maliciously and run by people intentionally trying to fool the system by attempting to pass off their tampered version of the ledger as the real one.

It is possible for certain validation nodes across the network to hold slightly different versions of the public ledger. This can happen if, for example, nodes are slow because of issues with network latency, or because they are acting maliciously and run by people trying to fool the system by passing off their tampered version of the ledger as the real one.

Regardless of the reason for the disparity, it is the purpose of the consensus protocol to strive to keep all validation nodes synchronized so that a single version of the blockchain can be decided on, used and followed by all the participants of the network.

Regardless of the reason for any disparity, the purpose of the consensus protocol is to keep all validation nodes synchronized so that a single version of the blockchain can be followed by all participants of the network.

Incentivizing Validator Security

I don’t think the next paragraph is necessary, as the subsequent paragraphs will explain themselves.

[remove para] A consensus protocol achieves all this by incentivizing validators with monetary rewards in order to motivate them to perform validation and transaction processing work for the blockchain and its users. There are different types of validators however and not all of them receive this compensation for their work.

A full node is a validation node that has a full copy of the blockchain downloaded. There are three types of full nodes. The first type is run by individual volunteers who perform verification of transactions and blocks for free without compensation. This type of full node is run more by hobbyists who just want to help support the network.

A “full node” is a validation node that has a full copy of the blockchain downloaded. There are three types of full nodes. The first type is run by individual volunteers or hobbyists who just want to help support the network, and so perform verification of transactions and blocks for free.

The second type are full nodes that are run by large entities such as merchants, exchanges and payment processors. These nodes are also voluntarily operated, however the ability to see new transactions as they come in can give these entities certain benefits that can be passed on to their customers.

The second type are full nodes that are run by large entities such as merchants, exchanges and payment processors. These nodes are voluntarily operated, but the ability to monitor new transactions can give these entities benefits that can be passed on to their customers.

The third type of validator is only responsible for the task of building and adding new blocks of transactions onto the chain. These nodes are different however and receive automated payments for their service from the network itself. In this way the blockchain literally pays for its own security maintenance and upkeep.

The third type of full node is responsible only for the task of building and adding new blocks of transactions to the chain. These nodes receive automated payments from the network itself; in this way the blockchain can literally pay for its own security maintenance and upkeep.

Whether a block producer is required to hold a full copy of the ledger differs from blockchain to blockchain. Block producers in Bitcoin for example are not required to hold a full copy of the ledger while it is a requirement in Peercoin because of the way it was developed.

Whether a validator is required to hold a full copy of the ledger differs from blockchain to blockchain. Block producers in Bitcoin are not required to hold a full copy of the ledger, whereas it is a requirement in Peercoin.

I don’t see a need for the next two paragraphs, and think it would be more efficient to go straight to the final paragraph at this point.

[remove para] Validator roles can be thought of in this way. Simple validators who voluntarily run full nodes work to perform validation of transactions and blocks. Block producers however make it possible for the network to settle on a common truth every 10 minutes. Without a consensus protocol to help decide who can create the next block, anyone would be able to produce and submit a new block to the rest of the network.

[remove para] Validators could try verifying the transactions and blocks that are submitted to them, however each validator may end up checking a different block which would make it impossible to determine which block gets added to the chain. The consensus protocol ensures it is possible for these validation nodes to settle on a common state. Once this state is decided, it is broadcast to the rest of the network so that all validators work to verify the same block of transactions. It is a way of putting all validators in the network on the same page.

The way in which a blockchain’s consensus protocol is designed to incentivize validators to produce blocks however is precisely what causes them to either retain or lose their level of decentralization over time. This is exactly what we need to learn in order to develop an understanding of which blockchain protocols are designed for long-term security and which are not.

The way in which a blockchain’s consensus protocol is designed to incentivize validators to produce blocks is precisely what causes them to either retain or lose their level of decentralization over time. This is exactly what we need to learn in order to develop an understanding of which blockchain protocols are designed for long-term security and which are not.


#17

Great read. For newbies and investors, this is a great synopsis of cryptocurrencies and blockchain. Those who read this will gain a much better overall understanding of the what, why, and how of blockchain. Call it confirmation bias, but it also further strengthens my belief in Peercoin’s successful future. The team continues to deliver quality and thoughtful content and ideas to the Peercoin project. Very little fluff, which for speculators means very little pump marketing I love this approach. It builds trust in the community and crowd. Great work you guys.


#18

Thanks maverick.

For those waiting on me to incorporate the above feedback and suggestions, I’ve had to focus on something completely different for the past several weeks. I hope to get back to this soon though.


#19

Hi Sentinel, Chapter 5.

As before, your paragraphs are below, followed by a suggested amended version in italics. Comments in bold. Some paragraphs I suggest can be removed.

Than you, I learnt a few things reading this chapter.

+++

In order to create the world’s first decentralized blockchain, Bitcoin’s original inventor Satoshi Nakamoto had to figure out how to solve a number of different problems. How to get a large distributed group of validators to agree on the true version of the ledger. How to incentivize and motivate those validators to process new transactions and provide overall security for the blockchain network. How to prevent malicious and hostile entities from being able to easily alter transaction records by tampering with the ledger’s history of events. How to space out the production of new blocks so the time between each one is consistent and predictable.

In order to create Bitcoin, inventor Satoshi Nakamoto had to solve a number of problems: how to get a distributed group of validators to agree on the true version of the ledger; how to incentivize and motivate validators to process transactions and provide security for the blockchain network; how to prevent hostile entities from altering transaction records by tampering with the ledger; and how to space out the production of new blocks so the time between each one is consistent and predictable.

The brilliance of Satoshi is in combining multiple fields of study in order to solve all these problems. Some of these fields include incentive engineering, cryptography, game theory and computer science. This specific combination led to a solution for Bitcoin known as proof-of-work consensus, also referred to as Nakamoto consensus.

Satoshi’s success was in combining many fields of study in order to solve these problems, including incentive engineering, cryptography, game theory and computer science. This combination led to a solution for Bitcoin known as “proof-of-work”.

Mining Blocks by Solving Problems

The specific set of validators that are responsible for producing new blocks in Bitcoin are called miners. The block production process itself is called mining. In order for a miner to be able to add their newly created block as the next link in the chain, they are first required to do the work necessary to solve a difficult math problem. The problem itself involves making lots of random guesses in order to find a solution that matches.

The specific validators who are responsible for producing new blocks in Bitcoin are called miners. The block production process itself is called mining. In order for a miner to add their newly created block as the next link in the blockchain, they are required to solve a difficult math problem, involving random guesses in order to find a solution.

There is more than one possible guess that will work as an answer for each problem. Every time a miner makes a new guess, that guess is first combined with some other relevant data and then it is run through a hashing algorithm, which is a special program that checks and verifies whether the guess is correct or not as an answer to the problem. The first miner that is able to solve the problem is the one who gets the honor of adding their new block onto the chain.

There is more than one possible guess that will work as an answer for each problem. Each time a miner makes a new guess, that guess is run through a hashing algorithm that checks and verifies whether it is the correct answer. The first miner that solves the problem gets to add their block onto the chain.

Hashing Algorithms

The hashing algorithm is very important to the overall mining process for more than just simple verification of whether the problem has been solved or not. When a hashing algorithm is fed some data as input, the algorithm takes all that data and converts it, producing output data in the form of a small string of numbers and letters. This output data is called a hash. A hashing algorithm only works in one direction, which means the hash that is produced from the input data will always result in the same string of numbers and letters as the output.

The hashing algorithm is very important to the mining process, and not just for verifying whether the problem has been solved. When a hashing algorithm is fed data, the algorithm converts that data into an output in the form of a string of numbers and letters. This output data is called a hash.

For example, you could even take an entire book as input data and run it all through this algorithm and it will always produce the same resulting hash no matter how many times you do it. If however you were to change just a single character in the book and run it through the algorithm again, then the resulting string of numbers and letters would be completely different. This makes it possible to verify whether something in the book or the input data has been tampered with, even if it is something as simple as changing a single character.

You could take an entire book as input data and run it through a hash algorithm and it will always produce the same resulting hash no matter how many times you do it. But if you were to change just a single character in the book and run it through the algorithm again, the resulting string of numbers and letters would be completely different. This makes it possible to verify whether something in the book or input data has been tampered with, even if it is something as slight as changing one character.

If the resulting hash features the same string of numbers and letters every time it is run through the algorithm, then you can always be sure that the input data was not tampered with. Every single block in the blockchain contains its own hash, which acts as a guarantee that the contents of each block is true and has not been tampered with.

If the resulting hash always contains the same string of numbers and letters each time it is run through the algorithm, then you can be sure that the input data was not tampered with. Every block in the blockchain contains its own hash, which acts as a guarantee that the contents of each block is true and unaltered.

Searching for a Valid Hash

In order to find an answer to the problem, miners need to combine three pieces of data together, the hash from the previous block, the transactions from the block they are currently working on building and a random guess. They run this combined input data through the algorithm in order to produce a hash. The resulting hash of this data is then checked to see if it works as an answer to the original problem.

In order to find an answer to problems, miners need to combine three pieces of data: the hash from the previous block, the transactions from the block they are currently building; and a random guess. They run this combined input data through the algorithm to produce a hash, which is then checked to see if it works as an answer to the original problem.

If it matches then the hash is considered valid. If not, then it is considered an invalid hash and miners will repeat this process over and over again by changing their guess and hashing all three pieces of data until they are able to find a hash that is valid. When a miner finally finds a valid hash, then they can be sure that the problem has been solved.

If the hash does not match, then it is an invalid hash, and miners will repeat this process over and over by changing their guess and hashing all three pieces of data until they find a valid hash; then they can be sure that the problem has been solved.

Suggestion: treat the next two paras as the one

Once a miner succeeds in finding a valid hash, they broadcast their new block along with their correct guess to the rest of the validators on the network, who then take this guess and verify whether it is correct by also running it through the algorithm to see if they can produce the same valid hash. This makes it possible for validators across the network to quickly verify and prove that the miner did the necessary work to solve the problem.

If the hash produced from the three pieces of data can be verified by others as valid, then the block will be accepted by participants of the network and added as the next block in the chain. If however validators are unable to produce a valid hash when doing their verification check on the miner’s guess, then the new block will be rejected and not added onto the chain because validators were not able to prove that the miner did the work to solve the problem. In the case of rejection, validators will just wait until another miner submits a new block that can be accurately verified.

Once a miner finds a valid hash, they broadcast their new block along with their correct guess to the rest of the validators on the network, who verify whether it is correct by also running it through the algorithm. This makes it possible for other validators to establish that the miner did the necessary work to solve the problem, so the block can be accepted as the next block in the chain. If however validators are unable to produce a valid hash, the new block will be rejected. In the case of rejection, validators wait until another miner submits a new block that can be accurately verified.

Note: I don’t see a need for the next paragraph, as the above explanation is already good.

[suggest remove] This whole process may sound complicated, but it is vital in order for proof-of-work based blockchains to function properly. To simplify it into several sentences, a miner basically makes a number of guesses until they find the correct answer to a problem. Once the correct answer is found the miner lets other validators on the network know so they can all verify whether the answer they got is correct. Once verified, the new block is then added onto the chain.

This process is not done manually by miners, but automatically using computer processing power. Modern computers for example are able to try out thousands of combinations of hashes per second, so miners are capable of making many guesses very quickly.

This process is not done by miners manually, but automatically, using computer processing power. Modern computers are able to try thousands of combinations of hashes per second, so miners are capable of making many guesses very quickly.

Block Rewards

The process of mining blocks is very expensive because of the use of limited resources like electricity to power the computers that do the hashing. To make up for this cost, every time a miner solves a problem and their block is accepted by the network, that miner receives a block reward in the form of new coins. These new coins are created out of thin air by the network with every new block that is produced. This is how new currency is introduced into the supply and distributed over time.

The process of mining blocks is expensive because of the use of electricity to power the computers that do the hashing. To make up for this cost, every time a miner solves a problem, that miner receives a “block reward” in the form of new bitcoin, created with every new block that is produced. This is how new bitcoin is introduced into the supply.

Validators in Bitcoin are called miners because they are always digging for new coins by fulfilling the requirements of producing new blocks. Miners then sell the new coins they earn on the market to cover their costs while keeping the profit for themselves or reinvesting it in better mining equipment, which allows them to increase the hashes per second they perform along with their chances of earning more block rewards.

Validators in Bitcoin are called miners because they are always “digging” for new coins. Miners can sell the new coins they earn to cover their costs and, hopefully, make a profit.

The Cost of Lying

Note: suggest merging the next two paragraphs

The purpose of requiring miners to solve a problem before being allowed to add their new block of transactions onto the chain is to make it difficult, expensive and costly to lie. Mining is a money generating business and it can be very costly to mine blocks that contain fraudulent transaction data.

If a miner for example tries to include invalid transactions in the block they submit or they attempt a double spend and it is detected by the network’s validators, that miner risks having their block rejected by the network. A rejected block means the miner will forfeit their block reward and they will end up losing any money they spent on electricity to mine that block. Bad behavior is punished and is therefore money losing behavior. This results in miners having a financial incentive to tell the truth and play by the rules.

The purpose of requiring miners to solve problems is to make it difficult and costly to for miners to lie. For example, if a miner tries to include an invalid transaction in a block, perhaps to spend the same bitcoin twice, the miner will have their block rejected by the network. A rejected block means the miner will forfeit their block reward and lose money on the electricity used to mine that block. Bad behavior is thus punished, resulting in miners having a financial incentive to tell the truth and play by the rules.

This process also explains how blockchains are designed to be immutable and unchangeable. For example, if a miner tried submitting an alternate version of the blockchain history where they altered previous transactions from a specific block in the distant past, validators would be able to detect the change because the hash of the altered block would no longer be considered valid.

This process also explains how blockchains are designed to be immutable and unchangeable. For example, if a miner tried submitting an alternate version of the blockchain where they altered previous transactions, validators would detect the change because the hash of the altered block would no longer be valid.

Suggest that there is no need for the next paragraph, as your above explanation was clear)

[suggest remove] It is similar to the previously mentioned book hashing example. A miner that makes a change to a transaction from some block in the past is simultaneously changing the input data that was originally used to produce the hash for that specific block. Changing any transactions in that block will also change the original input data, which will cause the hash that is produced from that data to no longer work as a valid solution to the problem associated with that block. Network validators will detect this invalid hash and reject the altered version of the blockchain. The miner will then lose any money they invested in attempting to alter the blockchain.

Blockchain History Protection

I suggest removing all five paragraphs that make up this section; although they add to what has been explained, I don’t think we need to go there with this extra detail; we’ve explained the basic principles, so that should be enough

[suggest remove] In order to get around this detection mechanism a miner would need to spend the electricity required to prove they did the necessary work to find a valid hash for the altered block. Basically this means they would need to spend the resources necessary to mine the altered block over again, however even if the miner did this there is still a problem.

[suggest remove] Recall that every block’s hash is produced by including the previous block’s hash as one of the three pieces of input data. This causes the hash contained in every block to be connected to the hash of the block that comes directly before it, which means every single block in the chain is cryptographically linked.

[suggest remove] Because of this, if you try to alter data in one block the hash for every subsequent block will become invalid. This means that the only way to truly alter a block in the past is to mine that block over again and every single block that comes after it until the end of the chain. You would literally need to spend the resources to prove that you did the work to find a valid hash for every single block after the one you altered. Currently it would cost billions of dollars to mine Bitcoin’s blockchain from scratch in order to change something, which is financially infeasible even for the very wealthy.

[suggest remove] Proof-of-work consensus therefore acts as a financial deterrent against altering the history of the blockchain by forcing a massive cost on those who try to attempt it. By rewarding miners, it incentivizes them to tell the truth and submit blocks with accurate transaction data while also punishing those who attempt to cheat the system with the risk of losing invested funds.

[suggest remove] In addition, the requirement of solving a problem first before being permitted to add a new block onto the chain has the side effect of creating a time delay so that new blocks end up being spaced out by a time span of about ten minutes, which keeps block times consistent and predictable. In this way, proof-of-work consensus solves all the main problems that Satoshi faced when trying to invent a decentralized Bitcoin.


#20

6. Centralization of Bitcoin

Sentinel, you will notice I suggest removing quite a few paragraphs from this chapter. There’s nothing with them, per se, but I wonder whether they go to a degree of detail which is strictly necessary.

Suggest merging the first two paragraphs

Proof-of-work is not perfect however and years of operating in the wild have exposed many of its weaknesses as a distributed consensus protocol. Recall that a blockchain can only be considered trustless if there are many different network validators and power is distributed among them, which works to prevent collusion or outright majority control by a central authority.

Unfortunately, proof-of-work does not fit this model as its design has caused a large and distributed group of miners to naturally centralize over time. This centralizing effect is inherent in the economics governing the protocol and cannot be eliminated by any technical improvement or upgrade of the code.

Years of operating in the wild have exposed weaknesses in Bitcoin’s proof-of-work protocol. Blockchains can only be considered “trustless” if power is distributed among many network validators; proof-of-work’s design, however, has centralized its validators (miners) over time. This centralizing effect is inherent in the economics governing the proof-of-work protocol and cannot be eliminated by any technical improvement or upgrade of the code.

Mining is a Profit Driven Competition

By its very nature, proof-of-work is a consensus protocol that incentivizes heavy competition among its validators. As a money generating business, miners compete with each other to be the first one to mine a block so they can add it to the chain and receive their block reward of new coins.

Why is this? By its nature, proof-of-work incentivizes competition between its validators who, as miners, compete with each other to mine blocks, add them to the chain and receive their block reward of new coins.

In order to stay ahead of the competition, miners will reinvest their profit in order to purchase better mining equipment that is capable of increased hashes per second. This increased hashing power allows a miner to be able to make more guesses per second, which gives them a higher chance of solving a block’s problem before other miners. Miners who can afford to purchase this specialized mining equipment will naturally have an edge over others when it comes to earning block rewards.

To stay ahead of the competition, miners reinvest their profit in better mining equipment that increases hashes per second. This allows a miner to make more guesses per second, which gives them a higher chance of solving a block’s problem before other miners. Miners who can afford to purchase this specialized mining equipment will have the edge over others when it comes to earning block rewards.

Suggest merging the next two paragraphs

In the very beginning, Bitcoin miners were plentiful, distributed and they used basic CPUs to mine blocks. As time went on, the CPU became obsolete as miners began using their GPUs to increase their hashing power along with their chances of receiving block rewards. Eventually miners graduated to ASICs, which are customized chips that are designed specifically for mining Bitcoin rather than for general purpose use.

At each phase, miners were either forced to upgrade their equipment in order to keep up with the competition or face becoming obsolete as their block rewards dried up. The mining industry became similar to an arms race. Faster and more efficient mining equipment was being released that needed to be purchased by miners in order for them to remain profitable.

In the beginning, Bitcoin miners were plentiful, distributed and used basic computers to mine blocks. As time went on, miners began using more powerful and expensive machines to increase their hashing power. Eventually miners graduated to ASICs, which are customized chips designed specifically for mining. At each phase, miners were either forced to upgrade their equipment in order to keep up with the competition, or face becoming obsolete as their block rewards dried up.

Mining Pools

The constant upgrading and lack of profitability led to a situation where smaller miners with obsolete equipment could no longer compete with the hashing power of larger miners who used better equipment. In order to increase the lifespan of their outdated mining equipment, these small miners began pooling their processing power together into mining pools. Instead of block rewards being distributed to individual miners, mining pools split rewards which were partially shared among all participants of the pool in proportion with the overall hashing power they each contributed to mining a block.

The constant upgrading and lack of profitability led to a situation where smaller miners with obsolete equipment could no longer compete with the hashing power of larger miners. In order to increase the lifespan of their equipment, these small miners began pooling their processing power together into mining pools. Instead of block rewards being distributed to individual miners, mining pools split rewards among participants.

Suggest removing the next four paragraphs, so we go quickly from mining pools to domination by mining pools

[ suggest remove ] Mining pools became necessary once the probability of mining a block took years for small miners working alone by themselves. Pools allowed smaller miners the chance to pool their computing resources together and receive smaller but more consistent rewards so they could continue competing a little while longer. Even with pools though, eventually mining equipment became obsolete and miners were either forced to upgrade to something better or drop out completely.

Difficulty Adjustments

[ suggest remove ] Difficulty adjustments also had a large impact on the profitability of outdated mining equipment. Over time mining technology advances and faster and more efficient mining equipment is released onto the market. Due to economies of scale, miners with larger operations can afford to be the first ones to upgrade to the newer equipment when it is first released, giving them an edge over their smaller competitors.

[ suggest remove ] As a result of the faster speeds and increased hashing power of the newer technology, blocks start getting solved faster than the usual ten minutes. In order to maintain the ten minute timespan between blocks, the protocol detects miners are solving blocks faster than usual and in response it automatically adjusts the difficulty of the problem that needs to be solved for each block.

[ suggest remove ] A higher difficulty increases the amount of hashing power required to solve a block, which has the side effect of increasing the time it takes to solve a block so that blocks are always able to maintain a consistent time span of around ten minutes. However a difficulty adjustment upward also has the effect of forcing miners who cannot afford to upgrade their hardware to either drop out altogether or join a mining pool so they can maintain their profitability.

Domination by Large Mining Pools [remove title]

Due to lack of profitability and the inability to compete, the number of miners in Bitcoin have dwindled over time. What began as a distributed network with a large group of individual miners has slowly devolved into an increasingly centralized operation with a small number of larger mining pools. The operators of the mining pools have been able to increase their power and influence over the network because they are now the ones responsible for submitting new blocks.

Due to lack of profitability and the inability to compete, what began as a distributed network with a large group of individual miners has slowly evolved into an increasingly centralized operation with a small number of larger mining pools. The operators of the mining pools have been able to increase their power and influence over the network because they are now the ones responsible for submitting new blocks.

Suggest removing this paragraph

[ suggest remove ] The individual participants of a pool can contribute their hashing power to the pool and collect their partial block reward, but only the owners of the pools themselves can build new blocks and submit them to be added onto the chain. If an individual pool comes close to owning the majority of the hashing power on the network, participants of that pool are forced to redirect their hashing power to smaller pools in order to prevent the larger pool from gaining too much power over the network.

Majority Attacks

This is precisely the situation that blockchains were designed to move away from, centralized control by trusted entities. If one of these large mining pools were able to obtain majority control over the hashing power or a few of the larger pools got together and colluded, they could perform a number of actions against the network and its users.

This is precisely the situation that blockchains were designed to move away from, centralized control by entities that would need to be trusted. If one of these large mining pools were able to obtain majority control over the hashing power, or if the larger pools got together and colluded, they could perform a number of actions against the network and its users.

They would be able to control who gets their transactions included in new blocks, effectively having the ability to temporarily prevent the processing of transactions from certain individuals. Someone having their transactions censored by a misbehaving mining pool would need to wait until a different pool produced a block that included their transactions.

For example, they would be able to control who gets their transactions included in new blocks, effectively having the ability to temporarily prevent the processing of transactions from certain individuals. Someone having their transactions censored by a misbehaving mining pool would need to wait until a different pool produced a block that included their transactions.

Suggest merging the next two paragraphs

Worse though is a double spending attack against the network in which the mining pool attempts to spend the same coins twice. A double spend attack could potentially destabilize the network and compromise the trust users have in the system itself. In reality users are only supposed to be able to spend the coins they currently own.

Breaking the rules by being able to spend the same coins over and over again would constitute a severe violation of the trustless nature of the blockchain. Double spends have already been successfully performed against other proof-of-work based blockchains besides Bitcoin, so it is not out of the realm of possibility that this could occur in the future if the centralization of miners is allowed to worsen.

Even worse is a double spending attack against the network in which the mining pool attempts to spend the same coins twice. A double spend attack could potentially destabilize the network and compromise the trust users have in the system itself. In reality users are only supposed to be able to spend the coins they currently own. Double spends have already been successfully performed against other proof-of-work based blockchains besides Bitcoin, so this could occur again in the future if the centralization of miners worsens.

Suggest removing this paragraph

With that said, miners are financially dependent on the Bitcoin network through the dedicated mining hardware they own. The sole purpose of this hardware is to mine proof-of-work based networks like Bitcoin. It is useless for any other computing task. Therefore directly attacking the network in this way may render all this hardware useless as trust in the network is lost.

There are other proof-of-work blockchains that miners could switch to in the event Bitcoin falls victim to an attack, however a successful attack against Bitcoin may completely destroy confidence in proof-of-work as a security protocol. In this case there would be no safe haven for miners because all proof-of-work based networks would suffer incredible price drops from the loss in trust.

There are other proof-of-work blockchains that miners could switch to in the event Bitcoin falls victim to an attack. However, a successful attack against Bitcoin may completely destroy confidence in proof-of-work as a security protocol, in which case there would be no safe haven for miners because all proof-of-work networks would suffer incredible price drops from the loss in trust.

Suggest removing this paragraph

This possibility acts as a financial deterrent against attempting double spends against the network. Rational miners would not want to destroy their golden goose. This deterrent however would do nothing to stop a government sponsored attack with the sole purpose of bringing down the network. If a pool is the one committing the attack, then the only thing that could be done to stop it is for miners to withdraw their support from that pool.

Unsustainable Energy Consumption

Centralization of mining power is not the only major concern though. The level of energy consumption by miners in order to keep the network securely operating is completely unsustainable and only growing worse by the day. While it is difficult to accurately determine, current estimates put Bitcoin energy expenditure in the same league as what some medium sized countries consume in an entire year and this is only expected to increase as time goes on. This increasing energy consumption just to secure a distributed network and prevent cheating is incredibly wasteful, especially when other consensus protocols exist which have been proven to drastically reduce the level of energy usage.

Centralization of mining power is not the only major concern. The level of energy consumption by miners to keep the network securely operating is growing larger by the day. While it is difficult to accurately determine, current estimates put Bitcoin energy expenditure in the same league as the consumption of some medium sized countries in an entire year, and this is expected to increase as time goes on. Such energy consumption just to secure a distributed network and prevent cheating is incredibly wasteful, especially when other consensus protocols exist which drastically reduce the level of energy usage.

Geographical Centralization of Miners

Another problem concerning energy usage is the fact that most large miners operate in areas where there are low energy costs. Lower energy costs make it possible for miners to keep more of the profit they earn from block rewards distributed to them by the network. The problem with this is that it has had the effect of centralizing the majority of mining in one country where the electricity is inexpensive.

Another problem concerning energy usage is the fact that most large miners operate in areas where there are low energy costs. Lower energy costs make it possible for miners to keep more of the profit they earn from block rewards. The problem with this is that it has had the effect of centralizing the majority of mining in countries where the electricity is inexpensive.

Geographically centralizing the majority of mining power in a single country opens up those miners and the network itself to the possibility of being targeted by the local government. This could include heavy regulations, the potential for shutting down mining operations altogether or even forced censorship of transactions. A truly distributed network needs to have global security providers who are based around the world. A worldwide security setup like this makes it incredibly difficult to influence or shut down the network.

Centralizing mining power in a single country exposes those miners, and therefore the network, to the possibility of being targeted by that country’s government. This could include heavy regulations, shutting down mining operations altogether or even forced censorship of transactions. A truly distributed network needs to have security providers spread globally.

Diverging Interests of Miners & Users

It should also be noted that miners may not necessarily have the interests of the blockchain in mind when it comes to the long-term development and evolution of the network. Miners are first and foremost profit generating businesses. Their main priority above all else is making money, therefore they will inherently favor developments to the network that may place them at odds with users of the network. When considering technical improvements and upgrades to the network for example, miners may want one thing while users want something completely different. The desires of both groups end up out of alignment, making governance and protocol rule changes difficult.

It should also be noted that miners may not personally have the interests of the blockchain when it comes to the long-term development. Miners are first and foremost profit generating businesses. Their main priority is making money, therefore they may favor developments that may place them at odds with those who use the network (i.e. bitcoin holders). When considering technical improvements and upgrades to the network, for example, miners may want one thing while users want something else. The desires of both groups fall out of alignment, making governance and protocol rule changes difficult, even impossible.

Suggest merging the next two paragraphs

This may even lead to situations where miners act against the network, favoring short-term rewards over long-term growth. There have been examples of this in the past, anywhere from miners mining empty blocks to spreading misinformation and fearmongering on blogs and forums in order to turn public perception in their favor.

In a severe case where miners refused to upgrade the network, other validation nodes were forced to start rejecting new blocks from miners who would not upgrade to the newest version of Bitcoin. This caused miners that refused to upgrade to lose block rewards, since their blocks were no longer being accepted by validation nodes until they upgraded. Validators across the network basically held miners hostage financially, forcing them into a situation where they had to upgrade in order to continue earning money to pay for their mining operations.

This may even lead to situations where miners act against the development of the network, favoring short-term rewards over long-term growth. In a severe case where miners refused to upgrade to the newest version of Bitcoin, other validation nodes were forced to start rejecting their new blocks; this caused miners that refused to upgrade to lose block rewards. Validators across the network basically held miners hostage financially, forcing them into a situation where they had to upgrade in order to continue earning money to pay for their mining operations.

This ability creates a sort of separation of powers where block validators on the network can force miners to upgrade the blockchain to a new version by rejecting their blocks and not providing them compensation. A better model however would be if the interests of both users and miners were aligned so that many of the toxic community disagreements between different factions were reduced, however a model like this is impossible with proof-of-work.

This ability creates a “separation of powers” where block validators on the network can force miners to upgrade the blockchain to a new version by rejecting their blocks and not providing them compensation. A much better model however would be where the interests of both users and miners were aligned so that many of the toxic community disagreements between different factions were eliminated. A model like this, however, is impossible with proof-of-work.