Recap of PoW vs PoS discussion on Fork It Podcast — Part 2

5. PoS mining pools are more inclined to embrace regulations and censorship of transactions.

Terry: You mentioned earlier that early all PoS proponents, even the most aggressive defenders, have to admit that PoW works better in terms of permissionless. Some audiences will not agree with you, as they think PoS never weakens the permissionless. Cipher, can you give us some examples to illustrate this point?

Cipher: There are mining pools for PoW and PoS blockchain projects, where you can provide a hash rate or stake your tokens. There was a time when someone attempted to create an anti-mining pool mechanism for PoW and PoS but failed because it was impossible to achieve both technically and economically. A system will undoubtedly have a division of labor once it reaches a particular stage, with someone providing the hash rate, packing the transactions, providing delegate services, etc. It’s very typical.

PoW and PoS both have mining pools that regulators may shut down; hence some people would claim that they are equivalent in decentralization to each other. This is not correct.

For example, over 66% of the beacon chain validators will adhere to OFAC regulations. It’s easy to understand why. Why? Because PoS mining pools are more likely to be exchanges, institutions, wallets, and other types of financial organizations. They have a lot of tokens from their users. Thus, they can immediately become validators to produce blocks or serve as a PoS mining pool. Moreover, as a third party, you also prefer to trust these validators and mining pools, as they are less likely to have a rug pull.

For the PoW mechanism, if you don’t like the mining pool, you can switch your hash rate and use the service of another pool very quickly. The settlement cycle of PoW pools is also concise, probably daily or even shorter.

The settlement cycle of the PoS mining pool is much longer, probably 30 days before you can withdraw. In this case, users favor mining pools with a better reputation, as they are less likely to have a rug pull. These mining pools (usually the exchanges, institutions, wallets, and financial organizations) are more inclined to embrace regulations, as it brings no harm but more benefits and protection.

So, from the perspective of mining pools, you will find that PoS mining pools are naturally more inclined to embrace regulations and censor your transactions than PoW mining pools.

Some may ask, “Why are adopting regulations bad? Money laundering, terrorism, and the use of child pornography are all unacceptable practices. Blockchain initiatives sooner or later must embrace regulations if they are to go mainstream.” This argument has a flaw: when you embrace regulations, whose nation’s rules will you adopt? U.S., Russia, North Korea, or Iran? The problem is that these regulations are often in conflict, which will lead to many issues.

6. What will happen when Ethereum is censored at the protocol level?

Terry: I’d like to expand a little bit on Tornado Cash. A poll on Twitter asks, “If regulators ask you to censor at the Ethereum protocol level with your validators, will you comply and censor at the protocol level, or shut down the staking service and preserve network integrity?” In this statement, let’s focus on protocol-level censorship. I think there are two possibilities. One possibility is that these validators are not allowed to, and will not, pack transactions connected to Tornado Cash; another option is that even if they do not pack such transactions, other validators always do, and these validators refuse to accept them. The second possibility would probably lead to a soft fork. Cipher, what do you think of these two possibilities? Does the first possibility also belong to protocol-level censorship?

Cipher: I believe so. It is protocol level if it interferes with the block or the consensus. Because the process of creating blocks could be quicker without intervention, or the system might react to your transactions more rapidly. If the validator doesn’t respond to your request for asset liquidation timely, you may suffer a significant loss.

Terry: OK. On that basis, let’s move on to the next question. If protocol-level censorship happens, what do you think it means for Ethereum?

Cipher: Well, it’s entirely possible that it has already occurred, and we’re just unaware. Although you may be aware that your transaction is constantly pending, a third party cannot see it since it is not included in the block, and there are no methods to see your pending transactions. There is no way for us to know if protocol-level censorship is being employed.

If protocol-level censorship happens, let’s make a reasonable deduction. First of all, governments will publish censorship policies. The problem is which government you will obey. The U.S. said Russia was terrible during the Russia-Ukraine conflict, and Russia claimed the contrary. When the situation between Russia and Ukraine broke out, I was in Thailand, where there were many Russians. They were irritated when their credit cards were suddenly restricted due to financial restrictions. If it is censored at the protocol level in the future, it will have a significant impact. For instance, if country B imposed restrictions on country A, no one could use their Ethereum accounts. In reaction, country A will begin to impose restrictions on country B and ask to block all accounts created by people in country A. This may sound awkward, but it will happen if protocol-level censorship exists.

Another possibility is that the blockchain becomes Wall Street under protocol-level censorship, where financial applications run on it. These financial applications must be compliant. Therefore, anonymous accounts are no longer valid, and everyone must undergo the KYC procedure. Even the DIDs are transparent to the authorities. In this scenario, all public blockchains will become consortium blockchains in essence.

Terry: Well, this sounds like a road to slavery?

Cipher: Yes, but some people may disagree.

Terry: So, in your opinion, if the protocol level censorship is applied and we go down in that direction, is there a chance that the blockchain will become the next Wall Street, with a slighter improvement?

Cipher: Indeed. It all depends on which perspective you’re speaking from. If you look at it from the standpoint of permissionless, which I care about most, then it’s only slightly better. But in the eyes of traditional financial institutions, it is much better since it increases the financial system’s openness, transparency, and efficiency. An obvious example is the USDC. The encrypted dollar USDC is more advanced than traditional dollars in terms of competitive advantages.

Terry: For me, protocol censorship is a terrifying thing. But, some people consider it a good thing because censorship will help the blockchain project go mainstream. What’s your opinion?

Cipher: I think blockchain initiatives need to be regulated in some way and should go mainstream, but I don’t want regulations or censorship to apply to layer one blockchains. I’ve said several times that accepting censorship or restrictions makes it reasonable to wonder whose principles you accept, as the regulations of different countries may be conflicting.

There shouldn’t be value judgments or right and wrong conclusions on layer one blockchains. Right and wrong are relative, not absolute, just as good and bad are. The consequences of a value judgment error are severe.

Because of this, I believe that we should at least maintain total freedom, justice, inviolability, and unrestricted and uncensored rights on layer one blockchains or layer 1 of a particular public blockchain. I believe it is possible to embrace regulations and go mainstream on layer two or other higher layers.

7. Using Social Consensus to Ban Validators

Terry: Someone launched a survey poll in the Ethereum community. If validators comply and censor at the protocol level as requested by the regulator, will you consider the censorship an attack on Ethereum and burn their stake via social consensus or tolerate it? Vitalik chose the former one. What do you think of Vitalik’s choice?

Cipher: I guess it’s best not to comment. “Consider the censorship an attack on Ethereum and burn their stake via social consensus” if Vitalik had not chosen this, but someone else did, he would have been under attack because the logic is very muddled. Burning validators’ stake via social consensus is impossible and not feasible.

First, there is no answer to what social consensus means. How do you organize the vote if it’s a community vote or a decision made by the majority? How do you guarantee that the vote is fair and accurate?

The crypto community has outstanding checks and balances. For instance, there are several independent checks and balances in the Bitcoin community, including miners, developers, wallets, and exchanges. The community acts as a check on one another. If the developers submit a feature that miners want to reject, miners can do a hard fork.

There used to be checks and balances in the Ethereum community. The mines were weakened by EIP-1559 and will be ruined by the Merge. In other words, the Ethereum community lacks the potential to build social consensus, as there is no such check and balance power. Ethereum developers lack control since validators can reject them and won’t vote against them. Therefore, in the end, only Vitalik can stand out and inform the community of which validators should be prohibited since they are enforcing censorship. Calling this social consensus is ridiculous, as it is not the consensus but the will of Vitalik. Why would Vitalik choose this option on the poll? Because the second option, tolerating censorship, is unacceptable for Vitalik. So burning validators’ stakes via social consensus is not possible and feasible.

Terry: I was baffled when I saw the word social consensus. It seems that you are also confused.

Cipher: I guess Vitalik doesn’t know what social consensus means either.

Terry: The CEO of Coinbase said that they would shut down the staking service if the validators were to apply censorship. Although it hasn’t happened yet, I think he’s making a very noble choice. If protocol-level censorship occurs, and all validators must make a noble choice, isn’t that a problem?

Cipher: Yes, it is. It’s a moral choice, not an economic one. The most significant appeal of blockchain is that it takes advantage of the selfishness of all people to achieve a public good. You can’t ask validators to be selfless and noble and not let them earn money because of censorship or unreasonable demands.

I’m sure Coinbase is sincere about this, but it doesn’t help nor solve the problem of avoiding Ethereum being censored at the protocol level.

Terry: Would things be different if it happened with PoW?

Cipher: I think it would be different. Firstly, shifting from one PoS mining pool to another is difficult, as the settlement cycle is very long. However, shutting down one PoW mining pool and creating a new one is very easy. So if the PoW mining pool doesn’t want to obey the regulation of censoring, it can shut down and create a new one in other regions.

Secondly, the connection between miners and the mining pool is weaker than that of PoS. Miners don’t deal with transactions, they are working hard to solve the mining puzzles, and therefore they are not capable of applying sanctions. Moreover, miners can switch their hash rate from one mining pool to another at any time.

To conclude, it’s more difficult for regulators to ask PoW mining pools to censor transactions at the protocol level.

One more thing, Ethereum employs the account model, not the UTXO model. The UTXO model used by bitcoin makes censorship more difficult. Because one UTXO blockchain address can derive a list of new addresses, making it more challenging to track as the sanctions are often lagging. The OFAC published a list of banned bitcoin addresses, but it had little effect.

MEV and Flashbots can potentially weaken the decentralization of Ethereum. MEV, which refers to Maximum Extractable Value, is built to extract value from Ethereum users through block production. Above MEV, there are Flashbots, which can arbitrarily include, exclude, or re-order transactions from the blocks. Flashbots is centralized, although it is open source now. Forcing it to censor transactions is much easier as many Ethereum mining pools use it to maximize profits.

Terry: My friends think it’s possible to decentralize the Flashbots since many PoW mining pools used to provide tools similar to Flashbots, which allows you to send transactions anonymously. After the open-source of Flashbots, they might upgrade the tools. We skip this topic as we are not experts on this. I’m wondering if miners’ revenue will also incentivize them to be more proactive in switching PoW mining pools. If one mining pool has to ban several types of transactions, the fees paid by these transactions will not be gained by this mining pool. So, in this case, will miners switch to a pool that doesn’t need to censor transactions to maximize profit?

Cipher: I think they will. The gas fee paid by these banned addresses will be much higher to attract mining pools (without censorship) to pack and confirm their transactions. Rational miners will likely switch their hash rate to these pools for higher profits.