Blockchain Briefs: Proof of Work Network Security
By @Юрий Шишацкий (Iurii Shyshatskyi)
Bitcoin and similar altcoins based on Proof of Work use a list of mechanisms with carefully chosen parameters to control coin supply, emission rate and security of transactions. Here, one can notice that people generally do not understand or misunderstand certain mechanics. There is no common understanding of the long term effects of a certain choice of parameters. One such blockchain white spot is the connection between coin issuance and the security of the network. The author of this post is not the one who first raised questions below as they were discussed since the early days of blockchain technology. Nevertheless, there is still lots of confusion within this field.
Satoshi Nakamoto in his design of Bitcoin introduced the idea of Proof of work as a solution to Sybil attack problems and the backbone of the technology. According to this design, miners solve the hard puzzle in order to get the right to add the next block to the chain and get rewarded. This process often called mining. A miner’s reward consists of the block reward and transaction fees. And here is the first catch. How much mining is required to secure transactions in the network? Do miners get a sufficient reward for keeping the network secure?
1) As the practice shows, the biggest threat to PoW based blockchains is double-spending through a 51% attack. During this attack, malicious actors reverse one or more transactions in order to make a profit. As one might learn from the name of this attack, it requires the malicious node to control 50% or more of the hash rate in the network. So, the attacker has to control more computational power than the honest nodes do. In the case of well-established networks, such as Bitcoin or Ethereum, this sort of attack is virtually impossible at the present moment. However, if we consider some unknown altcoins, such attacks are quite affordable and even trivial to some people. Therefore it is not recommended to use altcoins with weaker networks for big transactions.
2) One may think that the number of confirmations can improve transaction security. Sometimes people refer to calculations made by Satoshi. Partially this logic works since waiting for more confirmations increases the time in which attackers hardware has to work. Therefore it increases their expenses. On the other hand, if the attacker already controls more than 50% of the hash rate their odds of reaching success with their attacks increase. In fact, computations made by Satoshi favor malicious attacks in this case. And so, we have determined that the hash rate is important.
3) Sometimes people plot graphs with the hash rate of a particular coin. Often such graphs show a steady increase in the hash rate of many altcoins and one may think that the security of any particular coin improves. This is not true. Mining is often affected by technological progress. Each year semiconductor manufacturers improve their technological processes. They reduce manufacturing costs, improve energy efficiency and increase the productivity of mining hardware. Therefore reaching certain hash rate levels become less expensive. So the hash generated today is not quite the same as it was even one or two years ago. Thus, it is more reasonable to measure the security of the network by the cost of the hash rate within the particular time frame.
4) Whenever somebody initiates a transaction, they are free to set a transaction fee for it. This way, miners are rewarded for including their transactions into the block. However, this fee is not the main incentive of miners. Statistics show that transaction fees constitute only 1–2% of miner’s revenue. Often, the biggest part of their revenue is block rewards of newly issued coins. This is why it is so common to see empty blocks in chains which do not contain any transactions.
Let’s put these points aside and move forward. We know that miners get rewarded by some number of coins for each block they have generated. These coins are universal exchange tokens in the network. What is the value of those coins? Is there an intrinsic value of these tokens? Many observers and casual users frequently assert that Bitcoin or one another token is very valuable because it is scarce. They claim that there is only a limited supply of tokens and, therefore, we have to treat it like a limited resource or commodity, such as gold or oil. It is common to read articles in newspapers and blogs in which people compare cryptocurrency with gold or other precious metals. They assert that since there is only a limited supply of cryptocurrency it could serve as a replacement for the gold standard. These observers claim that cryptocurrency is probably a good tool to fight inflation and preserve one’s savings.
No doubt, scarcity is an important property that contributes to the value of a certain asset. However, it is not enough to simply be or scarce in order to become high priced. The value of certain tokens depends heavily on the properties of the network. Basically, the most valuable property of the token is that it could be easily exchanged for goods at the cost of a small fee. It is important whether people recognize the coin as a valid exchange token. We know that the price of Bitcoin and other cryptocurrencies often fluctuate. It goes up when some government moves towards the recognition of crypto-assets and goes down whenever somebody sets restrictions. Tokens become more valuable when people join the network. However, double-spend attacks on blockchain networks reduce confidence in the security of transactions. They then begin to leave the network and drop down the price of tokens. Therefore we can conclude that one of the most important properties of the blockchain network is its security. But what happens with security as time goes on? Can one expect that the security of well-known tokens will remain on the same level — this will be discussed in future blog posts.