Economic Clustering and IOTA

The longest chain wins — this is the rule used by blockchain-based cryptocurrencies to achieve consensus. “Longest chain” is an oversimplified term, strictly speaking it should be “Chain with the highest cumulative difficulty” but this nuance is not important now, we just tell that in theory a consensus on the state of a cryptocurrency ledger is supposed to be achieved by following math rules. 9 years of the history of the current generation of cryptocurrencies showed that in practice it’s other rules which ultimately determine the outcome and these rules are based on economic laws.

Value overflow incident (https://en.bitcoin.it/wiki/Value_overflow_incident) and Fork 2013 (https://freedom-to-tinker.com/2015/07/28/analyzing-the-2013-bitcoin-fork-centralized-decision-making-saved-the-day/) in Bitcoin, DAO fork (https://www.coindesk.com/ethereum-executes-blockchain-hard-fork-return-dao-investor-funds/) in Ethereum and other incidents showed that whenever math rules and economic laws conflict to each other the latter always win. And if so, we should stop pretending that “Longest chain wins” rule is enough for the real (and imperfect) world. We should analyze the history (of cryptocurrencies and not only of them), derive the rules not conflicting with economic laws and start using these rules. Or accept that decentralized cryptocurrencies can’t be used on a large scale.

Economic clustering (EC) is the name of a hypothesis created by me in 2013 during the development of Nxt (https://en.wikipedia.org/wiki/Nxt), the hypothesis creation was triggered by Economic majority post of Meni Rosenfeld (https://bitcoin.stackexchange.com/questions/3945/how-could-the-bitcoin-protocol-be-changed-has-this-ever-occurred#comment4983_3948). EC hypothesis states that the ledger state of a cryptocurrency is determined by the participants of the economic cluster who try to maximize their wealth even if breaking “Longest chain wins” rule is required.

Now, 5 years later, it’s even more apparent that EC is true and important for every cryptocurrency which aims for the world-wide adoption. IOTA relies on EC to enable infinite scalability, the Tangle allows doing that in a seamless manner, a blockchain-based solution would require a band-aid.

So how IOTA may look in a few years when EC is deployed to the mainnet? I envision the following picture.

There is Cluster 0. It consists of nodes interacting via the Internet, main economic cluster actors - big companies - run special software playing the role of a distributed Coordinator. This software does only one thing — it signals that a particular actor has seen certain transactions and will accept them as legitimate ones with some probability. There are thousands of other clusters formed by nodes interacting via the Internet-of-Things. Some of them are connected to Cluster 0 directly. A single cluster can be a group of devices in a building, in a park, in a town, or even on a stretch of road. The structure depends on economic activity in an area. A single cluster is connected to several other clusters, mainly adjacent ones (in spatial meaning). Each cluster processes its own transactions and transactions of the neighbor clusters, all the other transactions are ignored because they simply don’t reach the cluster.

This picture leads to the following consequences (not applicable to Cluster 0).

It’s impossible to send iotas to someone in a distant cluster unless someone else offers a special exchange service between the clusters (and charges fees), the payment must do several hops from cluster to cluster. It’s the price to pay for the scalability.

Your iotas must repeat your itinerary during a long trip. While your car goes from one cluster to another you need to spend the iotas back to yourself periodically.

Iotas can be created out of thin air. A cluster may emerge and offer some services, the nodes of this cluster can “print” iotas and implicitly/explicitly promise to accept them later in exchange for their services. The “counterfeit” iotas will likely not be accepted by the other clusters unless the new cluster is very significant from economic point of view. Anyway, in this case it could just create its own cryptocurrency.

Iotas can disappear. If you haven’t been touching your wallet for a long time then there may be very few nodes remembering your balance left. This is not a serious problem if inflow rate of new nodes is low or if you refresh the balance often (by spending the iotas back to yourself).

As was said, this is for IoT-based IOTA, keep your iotas in Cluster 0 if the mentioned consequences make you feel uncomfortable.

The picture drawn by me may actually be different when EC comes to the mainnet. Keep this in mind.