Tag: fintech

The Summer When “Sushi” And “Hotdog” Burnt The Noobs

The DeFi space is notorious for copycat blockchain projects which don’t really deliver anything useful other than a quick pump and dump. Those who get in first benefit, dumping on those who come much later in the anticipation of ginormous returns. It just is not going to happen, unless you aren’t the “fool” (e.g. Greater Fool Theory). The problem is due to human nature. Many are looking at these DeFi projects as “get rich quick” schemes as they try to get in early and exit early with profits while leaving those who followed nothing.

It all started when developers followed the success of projects like Uniswap and Yearn.Finance. Since the code is open source, and there are plenty of resources available from GitHub among other places, developers can just copy and paste the code and create their own fork of the software. It has worked well in fact that we have Uniswap clones with catchy names like SushiSwap and HotDogSwap. They may sound like the next big thing in the crypto space, but that is not the case.

These copycat projects offer high yield products, that just seem out of this world. You must be in another dimension to expect 1,000,000x (1 million times) returns on a token. This reminds me of scamcoins like Bitconnect, but only more technical and neatly packaged for those who think they are on to quick gains in the crypto space. None of these tokens are sustainable if every holder ahead of you dumps and there is no further liquidity to maintain the liquidity pool. They were illiquid to begin with and have no other purpose other than speculation.

A developer who goes by the name of “Chef Nomi” has become well known for the SushiSwap token. It is another clone of Uniswap that issues its own token for Liquidity Providers to lock their digital assets. Despite its relatively short existence, it suddenly surged after August 30, 2020 with huge gains for those who hold the token. All they did was launch a new liquidity pool provider using “vampire mining” methods to siphon off tokens from Uniswap. At this point some holders were thinking things were going well, until SushiSwap dumped and Chef Nomi exited the project taking $14M (which he would later return). Later Chef Nomi apologized, stating the reason for exiting the project was more due to turning it over to the community. It was just that the way he left was not in a genuine way to assure the community that things will be all right. Actually, what does Chef Nomi care since no one should be in control of the platform. It is a decentralized protocol that no one, not even its developer should be able to control.

SushiSwap was eventually saved by Sam Bankman-Fried, head of startup Alameda Research and trading platform FTX. Perhaps SushiSwap was worth saving. If you look at the code, it was not just a clone of Uniswap. The project also added governance features for the community. At least things ended well with SushiSwap but not for the Yam project. Yam, a clone of YFI or Yearn.Finance token, became one of the hottest “Yield Farming” projects in DeFi in August 2020. Many people fell for the hype and soon many were putting their tokens to gain huge yields. However, the code was never subjected to an audit and it had a serious bug that would affect its operation. The bug has permanently affected the platform with $750,000 worth of Curve tokens locked. Perhaps this should be the DeFi example of who not to follow when launching a new project.

Following the heels of SushiSwap is another project called HotDogSwap. Once again the hype brought in a huge pump in its initial release in September 2. The token was valued at $5,000 at some point before crashing to less than $1.00. The value has since plummeted further below $1.00 as of this posting and it may not recover again, unless it has real liquidity and actual use cases. That cannot be stressed enough. Utility is what makes a token a GPT (General Purpose Technology). One of the failures of HotDogSwap is a lack of community governance that could have prevented large dumps through improvement proposal protocols (e.g. like EIP or Ethereum Improvement Proposal). Otherwise, there is no way to stop “Degenerate Farmers” who pump to push prices up and then cash in when the FOMO begins.

Perhaps the DeFi space needs to keep an eye out for regulators. With all the money being generated in this space, it will begin to catch the attention of regulators like the US SEC and tax authorities like the IRS. Compliance can be circumvented because these platforms are decentralized, but we shall see just how decentralized a platform is. If they use a form of on-ramp with fiat or digital exchanges, it could lead to requirements for users to submit personal KYC data. The use of CeFi (Centralized Finance) exchanges like Binance can provide the compliance requirements to some of these DeFi projects using a CeDeFi bridge.

Between Yam and HotDogSwap, users have lost plenty of money. These copycat projects are burning those who FOMO into the project with the expectation of high yield returns. The failed DeFi projects can serve as a cautionary tale to those who dare get into this space. These projects are digital ponzi schemes, and even much worse. With ponzi schemes you have a chance to recover your funds. With smart contracts and the blockchain, the problem is the immutability of data means there is no backdoor or master key that can unlock these funds. It is locked in the blockchain forever, thanks to reckless developers.

Your Funds Are #SAFU With Me, CZ

Binance is one of the largest cryptocurrency exchanges. There are threats from bad actors, who can affect the operation of digital exchanges that also affects users. When an exchange gets hacked, holders of coins who have left funds on the exchange usually have no way of getting their digital assets back. This is why a form of mitigation to be able to recover funds is becoming important. The Mt. Gox hack wiped out that digital exchange of 850,000 BTC (Bitcoin). To this date there has been no formal settlement with former coin holders.

Binance provides its own security measure to address this problem. It is called the SAFU (Security Asset Fund for Users). It is an emergency insurance fund announced back in July 3, 2018.

According to Binance:

“To protect the future interests of all users, Binance will create a Secure Asset Fund for Users (SAFU). Starting from 2018/07/14, we will allocate 10% of all trading fees received into SAFU to offer protection to our users and their funds in extreme cases. This fund will be stored in a separate cold wallet.”

The story of SAFU goes back to a time Binance CEO Changpeng “CZ” Zhao tweeted “funds are safe”. It became a regular message from CZ to assure exchange users on their status. Later a content creator named “Bizonacci” uploaded a video called “Funds Are Safu” on YouTube. It went viral and the term “Safu” instead of safe has stuck ever since.

This insurance fund collects a percentage of fees from transactions on the exchange. This would be used in the event of a serious breach that compromised the funds stored by the system. It is also stored in secure hard wallets away from online access to hackers. The fund is released in the event of an emergency only, so it continues to accumulate unless otherwise.

These are good measures to provide customers if you are a digital exchange. However, if you are the customer you might consider not storing your coins or tokens on an exchange because of the risk. Since exchanges do not guarantee the safety of your funds, if anything should happen like a software glitch or hack, your funds should they get stolen cannot be fully reimbursed by exchanges. Depending on jurisdiction, you can only pursue a lawsuit if there is any responsibility on the part of the digital exchange to reimburse you based on the policy agreement. Most of the time there is no obligation by the exchange, so storing funds in their custodial wallet is at your own risk.

The best solution is to have your own SAFU to store your funds. That means a hardware wallet that is offline in your own possession. This also gives you control of your own private key, something that digital exchanges don’t provide. Using online wallets (e.g. Exodus, Metamask, MEW, etc.) are also options, but since they are online they are still at risk from being attacked. Whichever wallet a user chooses, what is important is to keep the private key and seed phrase secure.

Amazon’s Blockchain-based Product Authenticator Patent And How It Can Impact Global Supply Chain Management

If you thought Amazon would never get into the blockchain, they already have. They patented a new system for supply chain management that uses a blockchain-based product authenticator. Even before that, Amazon’s AWS already provided a blockchain platform for developers, so this is not merely a PR stunt to show they are in the know. They actually “know” what they are talking about. While the actual details of the patent do not seem to be available (as of this writing), many news sources have reported that it had been approved.

What Amazon is developing has significance in modern business. They are building a system that compiles data from distributors, manufacturers and shippers using an “open framework”. This gathers real time information from what would otherwise be silos of data. It interconnects those involved in the supply chain with a trusted platform using a distributed ledger for accountability and transparency. That is a way for tracking the authenticity of products as they are packaged and shipped to retail.

One of the things this system can do is prevent counterfeiting and product theft. There is a huge black market from stolen luxury goods and another problem is that there are fake products being sold around the world that is cutting into the brand’s profit margins. This also affects consumers who are not purchasing genuine products, but fake rip-offs that have no value. Many just buy the fake items because of status. The harm it causes though is not apparent, but does affect the brands whose name is being counterfeited in these fake products. A real genuine luxury handbag like that from Gucci come with authenticity certificates or labels, while counterfeit products do not. Products can be tracked using its GTIN (Global Trade Item Number) which is a code that verifies a genuine product from its source.

A blockchain provides a way to track the products in the supply chain and earn trust among suppliers and distributors with more transparency. That is a way to make sure that no hidden party is involved in the process, since it is being recorded on a distributed ledger which others involved in the process can view. If there are any anomalies, it can be detected and corrected. For example, if the products suddenly change distributors, it can be red flag to the supplier. The blockchain records that and can notify the supplier if and when it happens. With legal agreements enforced, this can then be disputed by the supplier.

Now that Amazon’s plans are clear, will it affect the current ecosystem of projects that are doing the same thing? Amazon is known to kill off startup businesses who cannot compete with the retail and tech giant. Amazon has its own platform and infrastructure to remain dominant. This could open the market to more competition with Amazon, as other companies propose their own solutions. IBM and Deloitte are just some of the companies that have already been involved in exploring blockchain-based solutions for supply chains. Even Amazon retail rival Alibaba has championed the use of blockchain systems. Numerous other tech companies, like Facebook (Libra digital payments) and Microsoft (New patent for cryptocurrency) have started their blockchain projects for other types of applications.

According to Deloitte:

“Using blockchain in the supply chain can help participants record price, date, location, quality, certification, and other relevant information to more effectively manage the supply chain.”

IBM has stated:

“Supply chain data is not always visible, available or trusted. IBM Blockchain helps supply chain partners share trusted data through permissioned blockchain solutions.”

Alibaba has numerous blockchain patents. According to an article from Smartereum:

“The Chinese giant will rather pioneer efforts in the blockchain space than lose out on early gains of blockchain adoption. So far, it has adopted blockchain to fight food fraud, secure medical data and track cross-border shipments.”

Amazon’s entry into the market shows that big business is taking blockchain seriously as a solution to real world problems rather than merely a novel technology. Patents are still just on paper, and not actual products. Once they get their product to market and it proves effective, Amazon’s patent could gain industry adoption as a standard for supply chain management.

The Basic Use Of Tokens In Cryptoeconomics

A token is basically a means of exchanging value or service using a form of currency. In the traditional sense, we use tokens for a variety of reasons. It is used as a way to validate a service or transaction, representing money. Back in the days, tokens were used on tolls, subways and in arcades. You purchase the tokens first using real money in your native currency. For example, to ride the subway you would first pay $1.50 to the attendant at a booth. The attendant then gives you a token which you then use to insert into a slot at the turnstile. If the token is accepted it opens a gate that allows entry to the subway train deck. Likewise at the arcade you pay first for tokens before you can use the video game machines.

Tokens provide a means to control the use of a device, like the video game machines in the arcade or account for usage, like passengers using the subway. It has its purposes as a means to exchange value for the use of something (e.g. transportation, entertainment, etc.). The use of tokens can also help regulate or secure the use of services, for management purposes. In an arcade, the operator wants only their customers to use their machines. They want to to be able to track the machines as assets and only have customers use it. A rival arcade’s tokens will not be allowed by their establishment. By issuing tokens, they are able to accomplish that.

In cryptoeconomics, tokens are also used. It has the same purpose, but it is in a digital format. Tokens from a cryptoeconomic context store a value that can be exchanged for something. It is also expended as a fee to perform computations to secure and process transactions. Tokens are also called coins, but there is a difference in their purpose when using these terms. A coin refers more to the cryptocurrency itself. You can call the coin as Bitcoin, while its token is BTC. When expending the coin you can refer to it as a token of the cryptocurrency’s blockchain network. It is a unit of value for that particular blockchain. On Ethereum, there are different token types that can be exchanged for value. The ERC20 token, used for funding projects, can be exchanged for Ether and converted into other cryptocurrency using smart contracts.

Tokens in cryptocurrency are also used to verify a user’s ownership of a coin. All tokens are associated with a public address that refers to the holder of the coin or token. This cannot be disputed on the blockchain since it is validated and tamper resistant. This provides a way to verify if a person is being honest when conducting a transaction. There is always a trail of provenance that records the history of a token when used in a transaction. Bad actors attempting to forge fake tokens will not be able to because tokens can only be issued through the blockchain by way of consensus (e.g. proof-of-work, etc.).

A token is like a certificate of authenticity or proof of ownership regarding a coin. During a trustless transaction on the public blockchain, if a user Alice and another user Bob conduct a transaction, their public address is recorded along with the transfer of value of the token they hold. It transfers ownership from one user to the other. Supposed Bob wants to sell his unused television to Alice directly, they enter into a P2P (peer-to-peer) transaction. Bob asks for 5 Ether which Alice then pays using a smart contract on the Ethereum blockchain. The smart contract executes with consent from both parties and the token exchange takes place allowing 5 Ether to transfer from Alice to Bob. The good thing about smart contracts is that before any transfer of value can take place, a condition can be created that the physical item must first be delivered to Alice before Bob receives a payment.

Tokenized economies based on smart contracts allow more transactions to be conducted directly without middlemen or third party platforms. The blockchain is the layer of trust that facilitates the transaction, and never blocks or censures anyone. Like in traditional economies, tokens are used for tracking and accountability purposes. This also transfers value in exchange for goods and services.

The DAG Network Model Architecture In Distributed Ledgers

Not all cryptocurrency or digital currency are based on Bitcoin. In fact, some of them don’t even use a blockchain. They are graph-based networks (e.g. DAG, Hashgraph) which arrive at consensus much differently. The notion of a blockchain has become the most synonymous with cryptocurrency, but that is not applicable to all. IoTA, Hedera, Nano and Byteball are examples of graph-based networks. The most common type used is a DAG (Directed Acyclic Graph), which is more scalable network solution than blockchain based distributed systems. A DAG is not a blockchain but both use decentralized cryptographic databases in a sense that a Ferrari is not a lamborghini but are both cars.

A blockchain connects blocks by hashes which can be traced back to a primordial block or “Genesis Block” which is the root of all hashes. It uses a tree topology of nodes called a Merkle Tree, which has leaf nodes that contain the cryptographic hash from child nodes. When these hashes are concatenated, they can be traced back to the Genesis Block in the network. Blockchains use a consensus mechanism to validate the blocks, with PoW (Proof-of-Work) being one example that is used on the Bitcoin network. Consensus is what secures the network by way of validating a block and adding it to the blockchain where it becomes immutable so it is no longer subject to change. This prevents tampering and data manipulation. The consensus requires nodes called miners who must compete with one another by solving a cryptographic puzzle using a probabilistic zero-sum game approach. The miner who solves the puzzle first becomes the block validator and is rewarded with Bitcoin (BTC) for their contribution.

A DAG is a finite graph which is directed forward in one direction with a topological ordering. It consists of vertices that lead to other vertices, which are paths called edges. The vertices are like points in a network. The system uses an “Efficient Teacher Grading” method instead of miners doing PoW. A DAG uses peers to help validate transactions in the network. When a new transaction is made, a new vertice representing the transaction is created and must be validated by other peers on the network. It doesn’t require solving a puzzle, but relies on confirmations as the consensus using a gossip protocol mechanism. When other peers on the network can confirm the transaction as correct, it will be validated.

A DAG network is much faster than PoW since it doesn’t rely on compute intensive puzzles. This allows it to run on lighter devices in contrast to PoW systems that rely on power hungry ASIC devices that perform large numbers of calculations to solve the puzzle. This is rather inefficient, so it requires more energy to produce coins or tokens. A DAG is much faster and scalable since it doesn’t require the same overhead as a blockchain network when it comes to consensus. Costs are lower too because there is no need to purchase expensive equipment that use plenty of electricity. A DAG can utilize mobile devices like smartphones to help confirm transactions on their network. This also makes DAG more suitable for micro-transactions which require instant validation of transactions. DAG offer less barriers to entry because practically anyone can become a peer using their low-energy consuming smartphones while PoW requires more investment in hardware that require a consistent supply of electricity to operate.

Scalability has been the main reason for DAG over blockchains. A blockchain like Bitcoin has scaling issues because of the consensus mechanism it implements and the protocols used on the network. It was not developed for high throughput transactions like the VISA or Mastercard network. VISA claims it can process 1,700 TPS (Transactions Per Second) or 150 million transactions in single business day. Bitcoin’s blockchain can only process between 3 to 7 TPS only. Security has been a consistent strength of the Bitcoin blockchain, as it has never been successfully attacked (e.g. 51% attack) as of this posting since it started in January 3, 2009. DAG have not been in production for that long and have mostly been used on experimental and concept networks. A DAG is mainly used for DLT (Distributed Ledger Technology) implementations while blockchains are used on trustless permissionless public networks.

The Halving Has Arrived

The third Bitcoin Halving has finally occurred on May 11, 2020 at block height 630,000 at 19:23 UTC without any glitches.

This was reported by Coindesk:

“In an homage to Satoshi Nakamoto’s iconic “brink of a second bailout” message in the 2009 genesis block, f2pool, which mined the 629,999th block (the last before the halving), embedded a reference to the current financial crisis: “NYTimes 09/Apr/2020 With $2.3T Injection, Fed’s Plan Far Exceeds 2008 Rescue.”

The reward for miners is now at 6.25 BTC per validated block. This means that although the block subsidy incentive has been reduced, the price remains volatile. Either a miner can earn more due to the appreciation in price value or profit less due to operating inefficiencies (e.g. old ASIC miners, higher costs of electricity, etc.). Miners who stand more to lose than gain should reconsider their configuration to adjust to the difficulty target and network’s hash rate.

Within the next two weeks after the halving occurred, difficulty should adjust (every 2,016 blocks). Miners should keep an eye out for the hash rate as well to see whether it has fallen (takes more time to produce blocks) or increased (more competition). Factor in the market price, and it gives an indication of whether the rewards are better or much worse.

While the Feds have quantitative easing, Bitcoin has quantitative hardening, a principle that has yet to be fully explained. The understanding is that Bitcoin is sound money because it uses an anti-inflationary model that limits the total supply (21 Million Coins). The code does not mint new coins at all and no one can mint more coins on the Bitcoin network. It is fixed at the supply set in code, and it is never created out of thin air.

While that sounds good in theory, in reality it has not been a perfectly deflationary model. While the supply is not reduced over time (it is fixed), there are new BTC still put into the circulating supply. It is when the amount of new BTC in circulation hits zero that it becomes deflationary. At that point, there will be no more rewards to miners but they can still collect transaction fees for their participation.

Right now the current economic landscape will have more influence on the price of BTC post-halving. What investors would like to see are the Fed’s injections into the economy trickling into BTC through stimulus. There are different ways that can happen and have been made available through the largest digital exchanges like Binance and Coinbase. For now, Bitcoin has proven itself once again as a stable and mature blockchain built on sound principles.

Note: While no bugs have been reported at the moment, it seems the halving occurred successfully.

DeFi Open Lending Protocols, Bringing Financial Inclusion To Everyone

When it comes to the significance of the blockchain, most would think about its decentralized organization which is not controlled by anyone and it is open to all. When applied to finance you could come up with a “killer app” for DeFi (Decentralized Finance). The implementations of DeFi are providing ways to offer traditional financial services like lending using the techniques from blockchain architectures. It cuts out the intermediary and lets anyone become their own financial service provider.

This is made possible using smart contracts that run on top of the Ethereum public network. This is yet the best implementation of Blockchain 2.0 with the innovations that introduce Blockchain 3.0 features (e.g. staking, digital governance). The blockchain provides a layer of trust between two parties, so that transactions are transparent. There is also no arbiter or middle man who can obscure details from a transaction. Everything is executed by the smart contract, containing the business logic and conditions.

This has led to the Open Lending protocols, providing ways for anyone to make money from interest lent out. It is based on cryptocurrency and other digital assets, which can be collateralized debt to gain credit. There are no background checks or personal information needed, just a form of collateral to secure a loan. This would be considered risky in the traditional finance sense, but an over collateralized debt position can mitigate risk along with conditions that will allow lenders to leverage digital assets to their advantage. Thus, if a lendee defaults on their loan, the lender will become the owner of the collateralized digital asset.

While most lenders need to be registered as a financial service provider due to compliance with regulators, that is not the case with DeFi products. Open Lending provides an API for DApp developers to create an interface that allows them to interact with a smart contract. The smart contract is created by the lender, who enters into the transaction based on a condition that is specified in the business logic’s code. There is no need for credit checks, employer endorsement or references to secure a loan. It is all based on trust in the blockchain, through the smart contract.

Open Lending can help a large sector of the underserved members of the community, particularly the unbanked. It provides everyone a path to capital resources they would otherwise never have a chance to obtain. People who don’t have access to micro-loans because of lack of documentation will have the opportunity for financial inclusion perhaps for the first time in their lives. People with poor credit scores will get a chance to access financial services they otherwise would not be able to enroll in with traditional banks. Since these protocols run over the Internet, anyone from around the world can be a lender for anybody that needs financing through digital assets. The money can be converted into a stablecoin to avoid the volatility of the cryptocurrency market, but most will just convert to fiat through digital exchanges. At times, the smart contract may also be a DeX (Decentralized Exchange) and allow the person to get their loan in their currency of choice.

The ecosystems for DeFi applications using Open Lending protocols can be a problem for first time users. They are not easily available, and requires some understanding of how cryptocurrency works. Developers are working to make the UI/UX easier and more convenient for users by integrating the DApp with smartphones or mobile devices. It will be hard to regulate this since it is not a particular company offering the services and the smart contracts are merely running on top of an open source platform. It would be hard for regulators to shutdown the Ethereum network since it is not a single entity, but rather a set of nodes that encompass the world. As DeFi becomes more mature, so will the applications. Then more users can enter the ecosystem and realize there is an alternative to banks and creditors when it comes to financial services.

Privacy Coins – Protecting Your Right To How You Spend Your Money

If you were given a bag of cryptocurrency assets, what would it include?

Many would probably say coins that have the ability to cut the middle man out and use direct peer-to-peer (P2P) payments. That is the main point, but there is another one that is just as important … PRIVACY.

The right to spend your money the way you choose without being asked questions. How you spend your money is your right, and no one can decide what you can and cannot use it for. This is not to encourage illicit activity, which is usually the message regulators get. Instead it is about protecting a citizen’s right to privacy. Why should anyone track what a person buys? Should the government know who you donate your money to? If for example the current administration in your country is against the political ideology of the person you donate money to, they could use that information to cut you off. Another example which many would want to consider private is the purchase of adult content. Now there is a legitimate reason to go after criminal activities, but for non-illegal transactions that deserve the right to be anonymous should be allowed.

The type of cryptocurrency that should be in that bag of assets should include Privacy Coins. These provide a layer of protection for users to confidentiality and anonymity in their transactions. Someone can use these tokens to spend their money on things that they would otherwise be embarrassed to disclose. I won’t get into details, but people should be able to use digital payment systems that are like cash in the real world. It is what financial freedom should be all about.

When you use cash, it is a final transaction. There is no ledger that tracks what you spent your money on. It is the most anonymous and private way to transact. This is not how it is like with digital electronic payments today, even with most cryptocurrency like Bitcoin. Visa and Mastercard, both debit and credit, keep records of your transactions in a database. This is necessary for accounting, but it also reveals what you spent your money on. Bitcoin is not fully anonymous, it is pseudonymous. It is still possible to track a person down to the digital exchange where they convert BTC for fiat currency. Bitcoin provides plenty of transparency, and that is important for certain transactions.

Privacy Coins can provide anonymity using techniques that obfuscate transactions. They can also hide the user’s identity in a transaction. This is referred to as a double blind, in which the system does not know what you spent your money on and anyone outside the system as well. Only you and the other party you dealt with will have knowledge of the transaction. It can also be triple blind, in which case no one will know your identity, even the person you transacted with. Only you know about the transaction. This does pose a problem to regulators who want to be able to track down transactions or the movement of money. This is to check for AML (Anti-Money Laundering) purposes for financial rules and regulations in the banking and finance industry.

This is not to say that everyone will use Privacy Coins for purposes of laundering money, but the question is why do those laws exist in the first place? They are jurisdiction mandated to control the flow of money outside of the country. It is in fact necessary to keep track of the flow of money to prevent funding of terrorism and illegal financing. Privacy Coins can circumvent these laws, so it is not popular with regulators.

Monero (XMR), Dash (DASH) and ZCash (ZeC) are three of the top Privacy Coins. Each one has its main feature that provides privacy for its users. Monero provides untraceable source and destination of transactions using the CryptoNight PoW protocol. Dash uses PrivateSend, which mixes up data in a transaction to hide it from prying eyes. ZCash uses its Zero Knowledge Proof technique called Zk-SNARKS (Zero-Knowledge Succinct Non-Interactive Argument of Knowledge) which does not reveal the information in a transaction.

Privacy features are also being incorporated into other blockchain projects using cryptocurrency. It is becoming an important consideration despite the legal hurdles they could face. Privacy focused projects have significance when it comes to protecting identity and anonymity in transactions. Whether or not that is allowed is a subjective question depending on which perspective you are looking at it from. For the individual citizen it is a right to be able to choose how you spend your money, and Privacy Coins offer a way to do so without being tracked.

For regulators, it is not a good look because of the potential to provide criminals with a way to hide their illicit activities. This will certainly not be allowed in restrictive governments that are highly centralized, but it could find some leeway in less restrictive governments. In the US constitution there is an amendment that guarantees privacy, but under the rule of law:

“No State shall… deprive any person of life, liberty, or property,
without due process of law.” – Liberty Clause of the 14th Amendment

As technology evolves, so to will the interpretation of due process since there is no specific law that guarantees the right to an individual’s privacy with their money. The best way to do this is for regulators to come up with a list of what are transactions that can be permitted for privacy (e.g. novelty items, direct P2P sales, etc.) and which ones certainly need to be regulated (e.g. cross border money transfers). Ultimately it will be decided by the courts. Banning them however will not be easy due to their decentralized nature, and that could be what keep Privacy Coins alive.

The Ethereum ERC-20 Token Specification

The Ethereum Request For Comment ERC are defined technical protocols from an EIP (Ethereum Improvement Proposal) request to the Ethereum development community. Once the EIP has been approved, it becomes an ERC, and can be implemented on the blockchain. The ERC-20 token was a specification that allowed projects to use the Ethereum blockchain as a source for funding. It became very significant when ICOs (Initial Coin Offering) became popular between 2015 and 2017. That was until financial and trading compliance issues affected the continuation of ICOs due to lack of regulatory clarity. Certain projects will be under scrutiny to participating in ICO if they have not passed the statutes of limitation for the issuance of an unregistered “security”. This falls under the SEC (Securities and Exchange Commission) for most jurisdictions and have since discouraged new projects from issuing an ICO.

Since many projects are already using this as a standard on the Ethereum blockchain, the number of ERC-20 token contracts has grown. By mid-2017, there were around 5,500 ERC-20 smart contracts on the Ethereum network. It grew past 40,000 in 2018 and are further increasing. ERC-20 is not just a technical specification for creating tokens, but it also provides a guideline for how to interact with other wallets, smart contracts and digital marketplaces within the Ethereum ecosystem.

The ERC-20 became a standard on the Ethereum platform not only for funding, but for the issuance of tokens. Several cryptocurrency projects started out as ICO with tokens (e.g. EOS, Tron, OmiseGo). These projects used the Ethereum blockchain to fund their own coins as issued tokens which can later be exchanged for the native cryptocurrency asset once the main network is running. The ERC-20 tokens were temporarily locked into smart contracts that hold a certain amount of Ether. Once the projects were able to build their blockchain, the ERC-20 tokens from the smart contract could be exchanged for the native asset for that blockchain.

As a standard, ERC-20 provides uniformity of technical and protocol standard. This allows developers to follow a procedure, much like how developers create API for their application to communicate with other applications. This reduces complexity of understanding each type of token implementation. A tremendous benefit it brings to the Ethereum blockchain is enhanced liquidity, since Ether or ETH is required to purchase the tokens. That can affect the price of ETH in terms of market cap.

The structure of an ERC-20 token contains 6 functions, 2 events, and 3 token information functions. These functions are invoked and can be be called within a smart contract. From the ERC-20 specification, the following are the 6 functions:

1. totalSupply(): Total supply of Token.

2. balanceOf(address _owner): The balance in the _owner address.

3. Transfer(address _to, uint256 _value): Sends a token of _value to address_to, triggering the Transfer event.

4. transferFrom(address _from, address _to, uint256 _value): Sends a pass from the address_from _value to address_to, triggering the Transfer event.

5. Approve (address _spender, uint256 _value): Approve _spender to extract a certain amount of money.

6. Allowance(address _owner, address _spender): Returns the amount that _spender extracted from _owner.

Decentralized Apps or DApps also support ERC-20. These apps run on top of the Ethereum blockchain. The DApp can be used to query information or even to execute a smart contract. Developers can use the functions when dealing with digital tokens created on the Ethereum blockchain.

The following are the 2 events that are triggered by the functions:

1. Transfer(address indexed _from, address indexed _to, uint256 _value): Triggered when the token is transferred.

2. Approval(address indexed _owner, addressindexed _spender, uint256 _value): Triggered when the approve method is successfully called.

The token also needs to be set with any of these 3 types of token information:

1. Name: Name of the issued Token.

2. Symbol: The name of the Token issued. For example, EtherCent token or ECT on https://rinkeby.etherscan.io/token/0x8caca3dbb57ecb058a82209effde5bf647459771

3. Decimals: Set how many digits this token can reach after the small digits. Generally, the set value is 18, which means that it can reach 18 digits after the decimal point.

The following is an example ERC-20 token created on the Rinkeby test network.

Since Ether (ETH) was released prior to the ERC-20 standard, it does not actually comply with the specification. As a result, this led to the creation of Wrapped Ether (WETH). This is an ERC-20 token that represents Ether at a 1:1 ratio (1 WETH = 1 ETH) which can be exchanged for other ERC-20 tokens.

Since the popularity of ICOs have waned in 2020, ERC-20 tokens are not as common. They are still in use mainly by projects that have not yet released their own native tokens or by new projects that are testing token development (usually on a test network). By keeping their ERC-20 tokens locked with ETH, they are providing a sort of promise to their holders that they can convert it for more value in the future. The converted tokens can then be used within those blockchain projects as a medium of exchange or store of value.

Nodes, Masternodes and Supernodes

I am going to explain the purpose of nodes in the context of the blockchain and digital governance. Nodes are basically an instance of a device that participates in the consensus on a blockchain. Nodes behave according to protocols that determine the exchange of data and functions that contribute to the operations of the network. The nodes also form the digital governance within a blockchain ecosystem to enable policies and rules that serve the interest of the majority. There are three types of nodes to describe, the basic node, masternode and supernode. These are concepts that feature in Third Generation blockchains which aim to bring more efficiency to maintain its operations.

A blockchain can have its own system of government or governance. This is the concept behind digital governance, in which nodes participate in voting to elect delegates who can then become masternodes or supernodes, which we shall explain. In order for a fair system to exist, it must revolve around a token and protocol which can be built in code for a network. The token is used to count as a vote. When voting for a masternode or supernode, voters (which can be any type of node) who have more tokens that are frozen or held, have more votes that are counted. Therefore those nodes that get the most votes become masternodes or supernodes. Each blockchain has its own type of governance with consensus (e.g. EOS, Tron, NEO, Cardano).

A basic node can be any device that performs a function to help verify transactions and validate blocks. This activity is the consensus feedback mechanism algorithms that secures and validates a blockchain. Nodes can either mine (Proof-of-Work) by contributing raw computing power as their resource or they can stake (Proof-of-Stake) by holding funds which is used to provide a proof of how much validating power they own. When a node mines, they must compete with other nodes to solve a cryptographic puzzle and discover its value called the nonce. This is a compute intensive process that requires massive computations that require hash power measured in hash rate (measured in hashes per second). It expends a lot of energy since the nodes’ compute intensive task consume plenty of electricity. A more efficient method is for nodes to stake. In staking, the node will validate their power on the network by the amount of funds they hold. A node that holds the most funds has the greatest amount of validation power on the network.

Above the node, is the masternode. These are more resource intensive devices that can perform more functions than a typical node. The masternode can be assigned specific tasks that not only participates in consensus, but also involved in network operations. This can be anything from routing to simple payment verification (SPV). Although nodes can perform the same task, it will depend on the network’s protocols and policies. For example, in some networks a node only performs simple tasks like payment processing. The masternodes are then responsible for handling the verification of transactions that are then packaged into blocks for validation.

There is an even more resource intensive device above the masternode, the supernode. The supernode performs the validation of blocks. This requires more computing resources in the network since blocks can contain many transactions, and in volume this will require the most processing power on the network. Supernodes are the like the most powerful servers in the data center. You give them the most work to do and they will be able to handle it. However, in the context of a public blockchain which is trustless and permissionless, there has to be an incentive to do work. Therefore, the supernodes are incentivized by payment in the network’s native token. These are also called rewards, and they are given on many blockchains for their contribution to providing compute resources to the network. Masternodes and nodes are also incentivized for their work, so the ecosystem runs on incentives to process transactions and add them to cryptographically secured blocks.

A hierarchy exists on the network in which supernodes are at the top, followed by masternodes and nodes. While blockchains were designed to be decentralized, there are critics who point to how masternodes and supernodes make the system more centralized. The reason being the issue of scalability. When you concentrate validation of blocks only to a few nodes, it centralizes power. That is actually the purpose for Third Generation blockchains like EOS (which uses dPOS or delegated Proof-of-Stake). A blockchain by design is not inherently scalable, but secure. In order to meet scaling, it must be centralized to a certain extent in order to allow more transactions to be processed (the blockchain trilemma). When you have too many nodes trying to validate a block at the same time, it becomes inefficient when applied to an enterprise type of solution for business. By dedicating certain nodes for validating blocks, it becomes more efficient and faster when processing transactions. This does require supernodes to have a tremendous amount of resources. Becoming a supernode is thus a motivating factor in a blockchain because they collect the most rewards. In blockchains like EOS which call their supernodes as block producers, you need nodes that run in data centers that will be able to process transactions by volume. A simple PC or smartphone will obviously not be allowed to do this because it lacks the computing resources.

Supernodes must still follow the consensus mechanism. In this case, they must stake plenty of funds to prove they have the resources to become a validator. They actually first become a candidate by proving their staked funds. They are the largest holders of the blockchain’s native tokens, so there is a lot they have at stake to become a validator. They can also lose it all if they try to become a bad actor. The protocol could have a consequence which can ban the node and take their staked funds. Once voted as a supernode, that is the only time they can produce blocks on the network to add to the blockchain.

Once there are supernodes on the blockchain, they can begin producing blocks. However, supernodes do not need to compete with each other like in mining to validate a block. They are given a round each for validating blocks. On EOS, there are 21 supernodes or block producers only. Each block producer is given a round for producing 6 blocks with a time of 0.5 sec per block. If we do the math, that is 6.3 minutes per round and a total of 126 blocks produced. The consensus among all producers takes place after a block is produced. They try to maintain a 2/3 rule for validation. It means all it takes is 14 block producers to validate a block following byzantine conditions.

Supernodes have the most at stake, followed by masternodes and then basic nodes. The basic nodes do not have to stake anything if they are just accessing wallets or querying the blockchain. Nodes which do participate, may do so for incentives. Since Supernodes have the most at stake, they also have the most to lose. That is why the protocols encourage incentives so that attacks and spam on the network can be minimized. In a sense, if Supernodes collude they can control the network through a 51% attack. However, if the protocol has built in checks and balances to prevent this, the Supernodes could all be replaced and lose all their staked funds.

Separation of tasks among nodes allows a network to operate more efficiently. Less resource intensive nodes can perform the simplest tasks on the network. More resource intensive tasks require processing power. For a fair system to exist, a token is also used for incentives and digital governance. That provides rewards to nodes for their contribution and participation on the network. It also brings digital democracy to an ecosystem, allowing them to elect the nodes they want to become verifiers and validators on the network. While it is more centralized in nature, it still remains decentralized since there is a digital governance process that is open to all nodes. This limits the power of any node that attempts to control the network. Depending on the protocols and policies of a blockchain, there can be consequences to bad actors who attempt to attack or cheat the network. With this system in place, it encourages honest participation in securing and operating a blockchain.