Blockchain, the technology powering the cryptocurrency Bitcoin, has gained immense popularity in the recent years. It has already disrupted how computer scientists and economists perceive financial transactions. The trends of its adoption in businesses are promising and speak for its potential effect on the global financial system. Consequently, financial organizations that do not take the appropriate steps to adopt to the evolution of blockchain, may become obsolete.
Although, the features of blockchain may provide reliability and convenience, it does have its fair share of risks, vulnerabilities and uncertainties which have impeded the rate of its adoption. This paper elaborates on such challenges in blockchain, particularly in its primary application, cryptocurrencies.
Blockchain was invented by Satoshi Nakamoto in 2008 to serve as the public transaction ledger of the cryptocurrency, Bitcoin. The invention of the blockchain for Bitcoin made it the first digital currency to solve the double-spending problem without the need of a trusted authority or central server. After the success of Bitcoin, blockchain has been adopted in many fields, including but not limited to, financial markets, supply chain, voting systems, Internet of Things (IoT).
The emergence of blockchain challenges the existing order. As these new forms of currency and exchange become significant, entrepreneurs will seek to exploit commercial opportunities. In turn, this will lead to regulation and litigation. This paper is organized as follows. Section 2 briefly explains how blockchain works, Section 3 describes the challenges in the blockchain and cryptocurrencies, and Section 4 provides a summary.
A blockchain is a public decentralized and distributed ledger that stores transactions on a large network of computers, such that anyone can verify and audit transactions independently and relatively inexpensively. Each valid transaction is modeled as a block and stored in a sequence known as “blockchain”. These transactions are authenticated by mass-collaboration and powered by collective self-interest.
Decentralization. Every node in a decentralized system has a copy of the blockchain. Data quality is maintained by massive database replication and computational trust. No centralized ‘official’ copy exists and no user is ‘trusted’ more than any other. Immutability. Every transaction is modeled as a block, and is cryptographically secured using the hash of previous block(s), which cannot be mutated.
Autonomy. Every transaction is broadcasted within the network on a best-effort basis and mining nodes compete to authenticate the transaction, using consensus methods such as proof-of-work. Anonymity. Every block contains only the public addresses of the sender and the recipient, and their identities are not persisted in the blockchain.
Blockchain technologies can be roughly divided into three types: Public blockchains have no access restrictions, and allows anyone to participate in transactions as well as the consensus protocol. Private blockchains are access restricted. Network administrators must invite participants for transactions as well as the consensus protocol. Consortium blockchains are semi-decentralized, such that only the organizations in the consortium can invite participants for transactions as well as the consensus protocol.
Since blockchain is a decentralized, peer-to-peer network with no central authority, the nodes on this network need a protocol to arrive at a consensus. This consensus protocol ensures that the acceptance of a block is a collective decision, and that no single node in the network can corrupt the blockchain. As the execution of the consensus protocol involves cryptographic algorithms, it is expensive and only special nodes on the network called “miners” participate in this process, in exchange for a transaction fee. This prevents malicious nodes from spoofing transactions and stealing transaction fees.
Proof of Work (PoW) is an economic measure designed to deter Denial of Service (DoS) attacks, by requiring service requesters to expense processing time. The key feature of this scheme is, it is always feasible and expensive to generate the proof, but inexpensive to verify it.
Bitcoin uses the Hashcash PoW algorithm, which was originally designed as a defense mechanism against spam emails. The process of computing the proof of work is called mining, and the nodes which execute this operation are called miners. Miners try to generate a random value called “Nonce”, in the block header, such that hash of the block header is less than the “difficulty target”. Over time, the difficulty target is reduced and the probability of generating such a nonce decreases exponentially. However, this nonce can be verified by any node in linear time.
Although, the Proof of Work approach eliminates the risks of malicious nodes corrupting the blockchain, since it requires significant electric and computing resources it presents a challenge to its adoption. Proof of Stake (PoS) aims to provide a cost effective alternative to PoW. PoS is yet to prove its security, economic value and overall energy efficiency over time.
With Proof of Stake, the probability of mining Bitcoin is directly proportional to the amount of Bitcoin already held by the miner. Because creating forks is costless when you aren’t burning an external resource Proof of Stake alone is considered to an unworkable consensus mechanism. Variations of PoS are gaining popularity among popular cryptocurrencies such as BlackCoin and Ethereum. Besides the clear advantage of a trustless, decentralized system to manage transactions on a distributed network, there exists problems that are yet to be solved, which could greatly improve the trust in blockchain technology and its adoption.
With Proof of Work, the probability of mining a block is directly proportional to the work done (e.g. CPU/GPU cycles spent) by the miner. This has motivated miners to collaborate and become “mining pools”, to increase their odds. If such a mining pool reserves 51% of all computing capacity in the network, it would gain absolute control over the blockchain. With such control, the mining pool can:
A majority attack was more feasible in the past when most transactions were worth significantly more than the block reward and when the network hashrate was much lower and prone to reorganization with the advent of new mining technologies. A majority attack has never been successfully executed on the Bitcoin network, but it has been demonstrated to work on some small altcoins.
Applications built on blockchain may require software updates from time to time. In such instances, not all nodes on the network may have the same software version simultaneously. This scenario is called a “fork”. Depending on the backwards compatibility of the software update, forks are classified as soft and hard, and may impact how nodes accept or reject transactions as well as arrive at a consensus. Unless the fork is unilaterally agreed upon, it is possible for the blockchain network to get fragmented, and that could mean the end of the application.
In many cases, it’s not essential for nodes to update their software. In some cases, however, software changes are so important that they require every node to update their client at the same time in order for the network to continue to function. In these cases, a fork is required. When a fork occurs, the temporary or permanent creation of a parallel blockchain is implemented. The new chain uses the new software, the old chain uses the legacy software. Ultimately, the longest chain will “win”.
In comparison to traditional online credit card transaction, generally takes 2 or three days to verify the transaction, bitcoin transaction most effective have to use about 1 hour to verify, it’s plenty better than the ordinary, however it’s nonetheless now not precise enough to what we need it to. Lightning network is a strategy to resolve this hassle .
Lightning network is a proposed implementation of Hashed Timelock Contracts (HTLCs) with bi-directional payment channels which allows bills to be securely routed across more than one peer-to-peer payment channels. This allows the formation of a network wherein any peer at the community will pay any other peer despite the fact that they don’t at once have a channel open among each other.
There is no guarantee that the transactions measured in the system will last forever. These cryptic operations have no certainty on how long they may last on the network. The Past information and future impact are very crucial to a financial transaction. In the finance sector If uncertainty prevails in the duration of these records the system becomes ineffective. If the data is voluminous then the risk of losing data is more. (# brag papa i already proof read this green text)
The fact that many consumer frauds relating to digital currency in blockchain has been taking place is due to the lack of centralized regulation of the system. It’s very evident that blockchain’s sole aim is to establish a decentralized system of operations and promote trust less trade practices, however the real world economic scenarios has been working in alignment with a trust based centralized regulator. That is why people are ever willing to invest on a treasury bill than a recently developed digital currency.
Its true that it’s going to take a while for the government regulating authorities to comprehend technology and decentralization of financial activities. The regulating surrounding will continue to remain in a state of instability as the blockchain decentralizes the financial activities as the government strives to understand and regulate this technology. The blockchain rules provide an opportunity to digitize governance pattern and also miners form another variety of incentivized governance pattern enabling broad possibilities of disagreements between different sectors of the community.
These scale of economies are highly stable, well regulated and developed while the value of ETH currency is not derived from a stable regulated environment. people tend to speculate on with the volatility of digital currencies due to the inherent disruptive nature of blockchain. The risk associated with exchanging fiat currencies into digital currency or vice versa is due to the limited regulations prone to the rapidly fluctuating and spiking transaction value. for instance, two ETH coin may cost $400 today but $260 tomorrow. This may generate large rewards or uncertainty in schemes developed on the blockchain.
Smart contracts are the replacement to the traditional form of creating and executing a legal contract that puts you through a cumbersome process which is both time consuming and also expensive. A smart contract is a computer based code aimed to digitally verify, facilitate and enforce the negotiation of a contract without relying on any intermediary or third party for its execution. Through blockchain a smart contract is visible to all the users of the said blockchain.
Of course it’s going to have lot of cost which includes time and money to alternate existing gadget, particularly while it’s an infrastructure. We ought to ensure this innovative technology now not best create monetary advantages, meet the necessities of supervision, however additionally bridge with traditional organization, and it always encounter difficulties from internal corporation that’s current now.
Traditionally, new businesses start with seed funding for market research, building prototypes, etc. They then seek funds from Angel investors. As they grow and show promise they approach venture capitalists for further rounds of funding. Eventually, companies raise money through Initial Public Offering (IPO) on a stock exchange.
This process involves multiple intermediaries such as stock brokers, investment bankers, auditors, lawyers and crowdfunding platforms (e.g. Kickstarter). Non-resident alien investors are typically put through a cumbersome, non-friendly processes while setting up brokerage accounts and while dealing with taxes.
The equivalent term for IPO on Blockchain is called Initial Coin Offering (ICO). Through ICO, companies can target investors of any scale across the globe. Since there is a straightforward process to setup cryptocurrency wallets and trade with cryptocurrency brokers and platforms, many entrepreneurs and investors have been attracted to ICOs.
However, in April 2018, a New York based ICO advisory company, Satis Group estimated that as many as 80% of ICOs are scams. Companies participating in ICOs present their ‘whitepaper’, a document detailing the overview of the project and the organizational goals. White Papers must be brief, concise and easy to understand. Unfortunately, it was found that many companies shamelessly presented whitepapers plagiarized from numerous sources and have been full of meaningless buzzwords. Sometimes, ICOs attempt to lure in investors by listing models or celebrities on their company’s website. They even go to the extent of creating fake LinkedIn accounts to try and appear legitimate.
Such illegitimate companies have a strong tendency to set ICO dates, suddenly change these dates and vanish. A coin is declared dead, if it is not listed on exchanges for trading and has not had a code contribution on GitHub on a rolling period of three months from that point in time. According to the SEC’s press release, Titanium has raised $21 million from investors from the U.S. and other countries. In its statement, the SEC warned investors about ICOs as an extremely risky type of investment:
“Having filed multiple cases involving allegedly fraudulent ICOs, we again encourage investors to be especially cautious when considering these as investments.” TechCrunch released a report based on data from Coinopsy and DeadCoins, which found that more than a thousand crypto projects are “already dead” as of June 30, 2018. Companies such as Coinjanitor and DeadCoins have also partnered to expose dead coins and clean up the community.
Like all other technology block chain also has its share of unforeseen risks that it might get exposed. For instance in 2013 Mt Gox, an exchange platform for bitcoin handling substantial bitcoin transactions at that time suffered a technical setback which resulted in massive losses for bitcoin owners and additionally paints electronic currency as a volatile and insecure rather than a medium for everyday use. In 2015, Interpol discovered a breach in blockchain used for cryptocurrency that hackers could exploit by transferring malware to computers.
Furthermore blockchain is secure only at its entry points where by the access systems used in blockchain are vulnerable to attacks undermining the security of the technology. Collectively blockchain is not hacker proof or risk free. Given to the fact of high value transactions taking place using blockchain technology, hackers might invent new ways to breach the technology for malicious purposes despite its security. All these uncertainties revolve around how much cyber coverage is available for these issues in blockchain system.
Its essential to ensure that what coverage the policy provides for instances like breach of computer system security , third party operated resources or software’s and threats from accessing unsecure websites. In the above case the insurance company must define whether blockchain related risks and losses are covered in their traditional policies such as technology professional liability or commercial crime coverage policies. Some cyber policies have just taken baby steps to incorporate failures in blockchain technology.
There’s absolute confidence that blockchain is a hot trouble in recent years, even though it has some subjects we want to observe, some problems has already been advanced along side new techniques developing on application side, getting an increasing number of mature and stable.
The government must make corresponding legal guidelines for this technology, and corporation should equipped for embody blockchain technology, stopping it brings an excessive amount of im- percent to modern machine. While we enjoy in the benefit of blockchain technologies bring to us, in the equal time, we nevertheless have to live cautious on its affect and protection troubles that it may be have.