Blockchain technologies have been on a rapid growth path, especially over the past 24 months. However, as with all emerging technologies, blockchain technology, concepts, and business models are often misunderstood and misapplied. In many cases this confusion can be attributed to the difference of paradigms espoused by permissionless and permissioned blockchain models. Each model has been optimized for a unique purpose, and developed around a unique philosophy. However, most articles and blogs inadvertently mix-up the unique concepts and attributes of these two paradigms, leading to incorrect advice, explanations, and analogies. This article will help you understand these distinctions, clarify the purpose of different types of blockchains, and determine which technology is the best fit for your business needs.
What is a Blockchain?
A blockchain is a cryptography-based, tamper-resistant distributed ledger that stores data in a consensus driven, peer-to-peer network. By transferring value between parties without having to rely on a third party or middleman, a blockchain provides an important trust layer for business transactions. Each node can be owned by a different company or business division. Since all the peers of the network hold the same validated, non-repudiatable copy of the ledger, it is easy for each node/peer to look up and verify the blockchain information. This gives blockchains the unique power of offering an agreed-upon, single source of truth across company lines. Thus, blockchains have quickly become a viable means of exchanging trustable data (or transaction) across control domains.
Blockchain technologies are making inroads in finance, banking, Internet of things (IoT), manufacturing, logistics, supply chain management, and other domains — mainly because they offer an excellent mechanism for multiple entities to share one consistent, verified, tamper-resistant source of truth. For example, in pharmaceutical and food supply chains, perishable items need to be stored in temperature-controlled environments. If there is a temperature fluctuation that impacts the quality or safety of these items, pertinent trading partners, logistics providers, insurers, and even regulatory bodies need to be able to access reliable information about the incident. In these B2B scenarios, a blockchain serves as a historical record of transactions. Blockchains are expected to redefine how B2B business processes are orchestrated and automated.
Permissionless blockchains allow anybody to create an address and begin interacting with the blockchain network. The internet is a good example of a permissionless system; where anyone can create a website of their choice. In a similar way, with a permissionless blockchain, any person, thing, or entity can interact with other members or parties by creating an address on the network. Each party can choose to run a node for the blockchain and participate in transaction verifications (via the mining mechanism), as well as create smart contracts on the network. This is the ethos of bitcoin and ethereum blockchain networks. These networks employ a crypto-economic model (driven by proof-of-work consensus mechanisms) that incentivizes people to run network nodes. All network participants are duly rewarded for their contributions through tokens.
Permissionless blockchains are gaining traction as a foundation for business-to-consumer (B2C) and consumer-to-consumer (C2C) use cases. Many startup companies are building solutions on top of Bitcoin and Ethereum networks. Most of these solutions use a token (cryptocurrency) system to simplify the exchange of value among participants based on an internal incentive structure.
Here are some of the key characteristics of a permissionless system:
Permissionless systems must be decentralized and distributed, so that no one entity (or government) can bring the network down, or censor parts of it. The more distributed and decentralized the network is, the harder it is to bring it down. The longer its history, the harder it is to tamper with. There is also a dialogue in the community to quantify and measure decentralization.
Given that ‘no central governance’ is an important feature of the network, for participants (miners) to be incentivized to run and trust the network, transparency is paramount. For example, transparency into how transactions are ordered, batched into blocks, and chained together is important since monetary incentives for running the nodes are based on these details. Miners need visibility into the transaction information so they can validate their payouts against the work performed by their respective nodes.
In permissionless blockchains, the miners and other participants of the network can largely stay anonymous. While this is a good feature in some cases, it does not work well in many scenarios. Remember the early days of the internet, when people often preferred anonymity with their user handles. However, as the usage and value of the internet grew, real identities became more prevalent. Today, using a real identity on Facebook enables us to share posts with friends and family, and have higher quality interactions than is possible with anonymous posts. Similarly, with blockchains, political and business needs dictate whether or not anonymity is preferred. Technically, blockchains like bitcoin are pseudonymous, and not truly anonymous.
The permissionless world has seen an explosion of governance models spanning both economic design and monetary policy. For example, Bitcoin and Ethereum have off-chain governance, while Tezos is experimenting with an on-chain governance model.
Permissionless blockchains employ fat protocols that compensate network contributors with tokens. As the value and utility of the network increases, the value of the underlying tokens increase as well. This is the premise of cryptoeconomics and Initial Coin Offering (ICO) based fundraising. There are two predominant types of tokens today: monetary value tokens and utility tokens. Monetary value tokens are used in myriad ways as instruments for exchanging value. Utility tokens are akin to loyalty points in that they have intrinsic value but no monetary value outside of that ecosystem.
Scalability and performance
For all the value blockchains bring to modern business processes, their Achilles heel often involves scalability and performance. Both Bitcoin and Ethereum blockchains suffer from poor scores in this area. For example, a recent blockchain game called Crypto kittles clogged the Ethereum network. Having said that, these are just early teething troubles, and startups are experimenting with various strategies to address this issue. Hopefully it is only a matter of time before this issue becomes a non-entity.
A permissioned blockchain is a closed ecosystem in which each participant is well defined. This type of blockchain is built to allow an organization or a consortium of organizations to efficiently exchange information and record transactions. While permissionless blockchains gained rapid popularity in the business world, enterprises are now discovering the many advantages of using blockchains to augment business systems as well, especially to instill trust, transparency, and efficiency into B2B exchanges. The Hyperledger Foundation is the driving open source initiative for these B2B blockchains.
A permissioned blockchain is run by the members of a consortium. Stakeholders “opt-in” to form a blockchain network. Only preapproved entities can run the nodes that validate transaction blocks and execute smart contracts on the blockchain. Permissioned blockchains make it easy to share trusted information in a secure context, and with the confidentiality that businesses need to operate effectively.
Some of the key attributes of a permissioned blockchain system include:
The degree of decentralization for permissioned blockchains is based on how the members of the consortium choose to structure their business relationships. The concept of ‘no central control’ is not relevant here since the consortiums are managed entities. The extent and quality of decentralization depends upon the number of peers, the expected number of bad nodes in the network, and the type of consensus mechanism the members agree to. Permissioned blockchains usually employ an algorithm such as Byzantine Fault Tolerance, which differs from the popular proof-of-work algorithm used in the permissionless world. Hyperledger Fabric supports nearly a dozen consensus algorithms through its plug-in architecture. While decentralization is an aspect of blockchain design, having the right governance model is even more important, since power and control structures may not be evenly distributed.
In permissioned blockchains, having transparency into the work performed by each node may not be as important to network members as it is in the permissionless blockchains. It all depends upon how the business relationships are set up and how the blockchain is configured. Most permissioned blockchains do not have cryptoeconomic incentives built into them. The primary incentive of permissioned blockchain participants is to minimize the cost, time, and ease of sharing information.
Permissioned blockchains, such as Hyperledger Fabric, offer fine-grained visibility into transaction details, along with metadata about those transactions. Why is this important? Imagine two suppliers, S1 and S2, doing business with a manufacturer, M. S1 might not want S2 to know the nature and volume of its business with M — even though they are both members of the same blockchain network. Another design pattern is that S2 and M may choose to use a side-channel to negotiate pricing and business terms. Once they strike a deal, the transaction is put on the main channel, where all other participants can see that S2 and M have exchanged an asset.
Governance has very different semantics between permissionless and permissioned blockchains. In the permissioned world, governance is largely decided and agreed upon by the members of the blockchain business network. Economic incentives, code quality, code changes, and power allocation among peers are based on the business dynamics and the common purpose for which the network has been designed and built. This allows companies to move quickly and in ways that best fit their business needs.
Permissioned blockchains, especially the ones based on Hyperledger Fabric, generally don’t employ a cryptoeconomic model or monetary tokens due to the nature of these business networks. However, a few companies are experimenting with utility tokens for exchanging intrinsic value in this type of ecosystem.
Scalability and Performance
Permissioned blockchains use consensus mechanisms that are computationally inexpensive (when compared to proof-of-work). Therefore, they enjoy substantially better scalability and performance than their permissionless cousins. Blockchains like Hyperledger Fabric offer additional innovations with respect to the roles of the nodes, including peers (that maintain state/ledger) and orderers (that consent on the order of transactions included in the ledger).
Making the right pick
Both permissioned and permissionless blockchains have distinct nuances of philosophy, capabilities, and adoption affordances. Companies that aspire to leverage blockchains have to understand these nuances to avoid costly mistakes down the road. Given the maturity of today’s blockchain stacks, permissionless models are better suited when cryptoeconomics are part of the business model. When businesses intend to use blockchain mainly for the purpose of having a trusted, non-repudiatable source of truth, permissioned models are a better fit. Over time, it is likely that companies will use multiple types of blockchains in tandem.
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