“Blockchain technology” is a buzzword with little meaning. Here’s what matters.

A thorough examination of the different types of blockchains, their capabilities, and why open blockchains in particular must be allowed room to thrive. 

You may have heard that “blockchain technology” is the solution to any number of social, economic, organizational or cybersecurity problems. It is not. A blockchain is merely a data structure and “blockchain technology” is a vague and undefined buzzword.

Today we have released a new paper that addresses this issue. In it we explain the technologies that undergird blockchain networks and the distinctions between open and closed blockchain networks, why the distinctions matter, and why only open blockchain networks can solve certain specific issues related to public goods like electronic cash, identity, and the Internet of Things.

“Blockchain technology” is not a helpful phrase. It abstracts real, specific technical innovations into a generalized panacea. The phrase suggests a vague design pattern, which is then trumpeted as the solution to all manner of societal and organizational problems. And amongst all of this cheerleading, almost nothing is ever offered in the way of real design specifics. This tends to be because “blockchain technology” is described monolithically, as if there are no specific design choices to be made in building “blockchain solutions” beyond choosing to use a blockchain. The advantages and disadvantages of various approaches and technical architectures are generally not discussed (except perhaps by experts) and the non-technical public is left with a warm blanket and little understanding of why any of this matters.

This report offers specifics. It begins by describing why “decentralized computing” matters. If all of the “blockchain technology” hype has one thing in common, it’s the idea that a computer application, which creates some useful result for its users, can be run simultaneously on many computers around the world rather than on just one central server, and that the network of computers can work together to run the application in a way that avoids trusting the honesty or integrity of any one computer or its administrators. To describe this idea we prefer the term “decentralized computing” to “blockchain technology,” because it is more descriptive and it is also a broader category.

This report demystifies the actual technologies behind “blockchain technology” and explains these several technologies in a way that even non-technical readers will understand. This report creates a typology of “blockchain technologies” and it will suggest that only certain types of “blockchain technology” can be real solutions to certain major social and organizational challenges.

For starters, rather than talking about “blockchain technology” in the abstract, we discuss the real technical innovations that underlie Bitcoin, the actual functioning technology that has spurred all the blockchain hype. There are really three core innovations that underlie Bitcoin: peer-to-peer networking, blockchains, and consensus mechanisms. Of these, peer-to-peer networking is generally nothing new, and blockchains are merely novel ways of storing and validating data. Consensus mechanisms, however, are the truly disruptive, interesting, and critical component of the design. When it comes to capabilities, risks, and disruptive potential, however, not all consensus mechanisms are created equally. The critical nature of consensus mechanisms in these new blockchain-powered decentralized computing systems, and the variability in types of consensus mechanism design are why the bulk of this report focuses on explaining consensus mechanisms to non-technical audiences.

In general, by consensus we simply mean the process by which a number of computers come to agree on some shared set of data and continually record valid changes to that data. So the blockchain might be the form that the data take, e.g. a hashed list of valid transactions in bitcoin, but it is the consensus mechanism that generates that blockchain, validates the data, and continually keeps the data updated and reconciled between all of the computers in the system.

This brings us to the question of “openness” in the consensus mechanism. Who is allowed to read the data over which the network is forming consensus, and possibly more important, who is allowed to participate in the process that ultimately results in new data being added? Are some consensus mechanisms more open to free participation than others? In an open consensus mechanism anyone with a computer and an internet connection should be eligible to play a role in writing consensus data; in a closed consensus mechanism only those who have been identified by a centralized authority and given an authorization credential are allowed to participate.

The operation of various consensus mechanisms is described in the full report. Open consensus mechanisms include proof-of-work based mechanisms, as found in Bitcoin and most cryptocurrencies, as well as proof-of-stake mechanisms and social consensus mechanisms. Closed consensus mechanisms generally follow what we call a consortium consensus model, wherein only identified and credentialed consortium members share the privilege of writing consensus data.

From an innovation policy perspective, open consensus mechanisms are superior to their closed counterparts because they create purpose-agnostic platforms atop which anyone with a connected computer can build, test, and run user-facing decentralized applications. In this sense, networks powered by open consensus mechanisms mirror the early Internet, and may one day become as indispensable as the Internet in facilitating free speech, competition, and innovation in computing services.

Apart from openness, we also discuss the nature of trust, and privacy in each of the several consensus mechanisms. Open consensus mechanisms demand that users place trust in unknown third parties who are economically motivated to behave honestly because they have skin in the game and face competitive pressures. Closed consensus mechanisms demand that users place trust in the identifying authority who provisions consortium members with credentials, and the honesty and cybersecurity practices of the members themselves. Open consensus mechanisms trade transparency for privacy but new technologies such as zero-knowledge proofs and homomorphic encryption may enable open networks to have superior privacy and verifiability as compared with closed networks that rely only on perimeter security to maintain privacy.

Finally, we explain why open consensus mechanisms, specifically, are critical for three particular decentralized computing applications: electronic cash, identity, and the Internet of Things.

  • Electronic Cash. Truly electronic cash (i.e. fungible bearer assets, whose use resembles that of paper notes) offers efficiencies that existing electronic money transmission systems cannot. There are hidden costs to legacy systems: chargebacks, and transactions forgone because fees are greater than the value being sent or because participants cannot obtain a banking relationship. Fundamentally, from a user’s perspective, a closed-blockchain money transmission technology doesn’t “just work” from the get-go. I cannot send or receive money until I open an account and establish a legal relationship with a company. This may be a tolerable inconvenience, but it is not a system that works like cash, which can be accepted in the hand without any prior arrangements in place. Only open consensus mechanisms, by fully automating the creation and maintenance of a ledger according to pre-established rules and economic incentives, can offer electronic transactions that are as good as cash.
  • Identity. The Internet lacks a native identity layer. This shortcoming is the reason why Internet users must rely on a tapestry of weak passwords, secret questions, and knowledge of mother’s maiden names to verify their identity to various web service providers. The need for a better solution is widely recognized, and by creating a shared and unowned platform for recording identity data, open blockchains may provide the answer.
  • The Internet of Things. Firstly, Open blockchain networks allow for a truly decentralized data-structure for device identity (I am a bulb in this home’s kitchen) and user access authorization (the user with address 0xE1A… is the only person who can turn me on and off). The redundant and decentralized nature of data on these networks can ensure that these systems have true longevity, and that a manufacturer’s decision to end support for a product will not destroy the user’s ability to securely access the product’s features.

Secondly, open blockchain networks can help ensure that devices are interoperable and compatible because critical infrastructure for device communication, data storage, and computation can be commoditized and shared over a peer-to-peer network rather than be owned (as a server warehouse is owned) by a device manufacturer that may be reticent to opening its costly platform to competitors.

Lastly, device payments for supporting and maintaining that networked infrastructure or allowing the device’s user to easily engage in online commerce can be made efficient by utilizing the electronic cash systems that only open consensus mechanisms can facilitate.

An open consensus mechanism decentralizes trust, spreading out power on the network across a larger array of participants. For any use-case, this decentralization helps ensure user-sovereignty, interoperability, longevity, fidelity, availability, privacy, and political neutrality. In the full report, the necessity of these attributes are explained in the context of each decentralized computing application (electronic cash, identity, and the Internet of Things), and a discussion of open and closed consensus mechanisms for that application follows.

This executive summary is a highly abridged version of the report. The full version is long because this subject is deep, and non-technical explanations must often be given in a fairly verbose narrative form. If seriously interested in these topics, we implore the reader to curl up in a comfortable chair, and dedicate some time to the full report.

Based in Washington, D.C., Coin Center is the leading non-profit research and advocacy center focused on the public policy issues facing cryptocurrency and decentralized computing technologies like Bitcoin and Ethereum. Our mission is to build a better understanding of these technologies and to promote a regulatory climate that preserves the freedom to innovate using permisionless blockchain technologies.