On Public and Private Blockchains
January 4th, 2018.
Contrasting with open-access public blockchains (where anybody can download a copy of the open source software and act as a node or a validator and maintain a copy of the ledger), private and consortium blockchains are built on two different pillars.
- Governance is privatized to an entity or group of entities
- Read and/or Write access on the blockchain ledger are restricted
In our previous newsletter (“The Blockchain Governance Trade-Off”), we made the point that the word “governance” was a misnomer for public blockchains. In Bitcoin, there is no governance. There is instead a consensus among miners, nodes and developers, slowly evolving the software protocol in order to adapt, maintain those crucial network effects and, most important of all, ensure the integrity of the network against any attack, in the process building up trust globally. That the bitcoin developers were willing to let go of their control of the software back in 2009 was a radical decision, and, with the exception of the semi-public Ripple protocol, all public blockchains including Ethereum have let go of centralized governance. Even if we now have foundations gently promoting but not imposing upgrades, these foundation proposals can be tainted or suspected of favoring the insiders. Even the Ethereum foundation faced much resistance when it tried to promote the DAO hard fork, a software upgrade intended to roll back a portion of its blockchain history in order to un-do a hack caused by weaknesses into the DAO code, in the process jeopardizing the core idea of transaction irreversibility. That proposal led to the Ethereum Classic hard fork, and, when the foundation tried to un-do the Parity hack in 2017, it had to give up.
Governance is tricky, if anything because any software update relying on cryptographic protocols needs an extended and intensive peer-review process, debate, testing and an openness to not go ahead. That is not the way a centralized body is likely to run things.
Bitcoin was also an exercise in radical transparency. The entire blockchain history is open to everyone and transactions are entirely traceable.
Financial institutions recognized early the potential for blockchains to provide the technology for upgraded, more secure and decentralized shared database, speeding up and lowering the cost of a number of inter-bank transactions. But they did not like the open-access framework, at odds with the need to enforce data protection, a key concern for regulated entities. Hence they have promoted the use of private or consortium blockchains.
In a private blockchain, Read/Write access and software protocol governance are controlled by a private entity or a group of entities. The network will be smaller, less decentralized, but it will be faster and cheaper. It won’t benefit from large network effects though and, in the long run, it’s questionable whether their own crypto-currency can be trusted enough by market participants to reduce or eliminate the counterparty risk inherent in any digital contract or confirmation. We believe that most sovereign crypto-currencies will operate through some private blockchain (operated by a Central Bank) or consortium blockchains (operated perhaps by a group of banks and other approved regulated entities), and we will track developments in this area. Other uses of private blockchains include medical records, government records and real estate ownership.
There is an on-going debate though about whether private blockchains are worth the hype, and indeed private investment in that area appears to have stalled in 2017. The basic reason lies in whether private blockchains are superior to secured shared database when factoring in the hassle. As banks and their IT officer get more knowledgeable, they also become more aware of the issues involved in operating shared ledgers with other entities and managing a common protocol.
There is also a lack of track record for consensus mechanisms other than Bitcoin’s proof of work (“POW”). Whilst the drawback of POW is well known (energy usage), its network itself has been resilient and never been hacked since 2009. It just does not rely on trusting any participant and is sometimes referred to as a low trust blockchain (i.e. there is no need to trust anybody). Private blockchains are higher trust networks: they are far less decentralized and rely on trusting the behaviors of nodes or validators to choose not to collude. This will be the subject of a separate newsletter. These are early years though and we need more years of data and track record to understand which blockchain technology can withstand the passage of time successfully.
Ravelin Finance Consulting and Analytics Ltd
Financial and blockchain technologies for Institutions. info@ravelinfinance.com
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