Blockchain Technologies gained a place in just a few years as an alternative, secure, less costly trustless, decentralized system. Trustless because any party participating in a blockchain network does not need to trust each other. It is the only trustless system that provides the most trustworthy transaction-based Network.
After the Ethereum 2.0 merge, the consensus mechanism moved to “Proof of stake” instead of “Proof of work.” The consensus mechanism processes and validates transactions and adds a block to the Network. Previously Ethereum used “Proof of work” as consensus. In this proof-of-stake (POS), the block transactions are validated by the number of staked coins. Therefore, POS has replaced miners with validators . One clear distinction should always be identified for the past system; miners must invest in critical infrastructure to solve crypto puzzles and earn cryptocurrency. However, in the new system, the validator should have cryptocurrency to stake and, in the end, earn transaction fees. Therefore, proof of stake introduces three economic changes:
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Plutocracy – Plutocracy is a system dominated by the riches of an affluent minority (Nassmacher, 2009, p. 239). This embodies a situation in which some people obtain power and then proceed to change the rules of the game to benefit themselves and disadvantage their economic opponents.
In this situation, POS creates plutocracy, which means wealthy people can use their wealth to rule. To clarify the point, we must go back to the initial days of Blockchain, where Satoshi Nakamoto described Bitcoin as a collectible or commodity rather than a stock, as bitcoins have no dividend. Moreover, its distributed consensus mechanism made it possible not to need a significant pre-mine to run the Network. Contrarily an analogy can be made for “Proof of Stake,” where stakeholders are like a shareholder. They receive Block transaction costs as dividends for holding their stake or share. Therefore, it can be easily concluded that the current “Proof of Stake” is a plutocratic system .
Figure: Plutocracy
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Oligopoly - Oligopoly refer to a system, rule by the few for the purpose of moneymaking (Kuhner, 2016, p. 2464). The new system of POS reflects an oligopolistic system. If the validator has more coins, they will receive more block rewards, which means they are paid for their wealth or stake, not their computational work. The way it was perceived earlier was the reward is for computational achievement, and the amount is dynamic. It has been changed. In Oligopoly Theory, James Friedman states an oligopoly is a market with a few participants on the supply side and a considerable number of buyers on the demand side, where the supply side is owned mainly by a few participants but also is non-competitive while the demand side remains competitive. In the current system, there can be many stakeholders, and very few have the majority of coins. There is no natural selling pressure because they don’t need to pay for utilities as miners used to have in the “Proof of work” system. Therefore, it will become an oligopolistic model of governance.
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Permissioned - In the case of Blockchain, it should be permissionless and decentralized. Although based on requirements, some Blockchain can be permissioned or hybrid, most Blockchain is public. However, in the “Proof of stake” consensus, a user can join only if by buying coins from coin owners who want to sell them. This prevents decentralization by blocking new entrants. In this case, coin owners become the centralized authority.
Now we will discuss the architectural briefing of POS to support the above economic analysis. There are three architectural components of POS:
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Proposer/ Validator election : One or more nodes are selected to build a block.
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Block proposal : The proposers form new blocks.
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Block confirmation : The transaction being added to a block on the Blockchain. It is finalization means after this, the transaction becomes immutable.
A random function is executed to elect a validator depending on the number of staked coins and how long it has been locked up. Therefore it becomes an interest not to sell coins for the existing validators or very aspirant validators.
Secondly, as long as their stake is locked up, validators can participate in the finalization procedure. Hence, they are being rewarded for locking up their stake. The longer they remain validators, the longer they reap these rewards.
Therefore, locking up or stocking up coins is an aspect of POS which lead to economic disruption, as discussed above.
Yet again, we know there is “Triple Halvening,” which is exponentially reducing the issuance of Eth after the merge. Hence, it will restrict the new entrants as Eth is being scarce.
Hence, POS introduced plutocratic, oligopolistic, and permissioned economic and governance models to create a more energy-efficient Blockchain. It is slowly changing behavioral economics, which encompasses changes in human behavior concerning changes in economics. It may lead to an energy-efficient and secure Network. However, new entrants will be restricted, and wealthy people will rule the system hurting the decentralized concept of Blockchain Technology.
Reference:
[1] N. Szabo, “Trusted Third Parties Are Security Holes,” https://nakamotoinstitute.org/trusted-third-parties/, 2001.
[2] J. W. Friedman, Oligopoly Theory. Cambridge University Press, 1983.
[3] Sus, Vicent, Proof-of-Stake Is a Defective Mechanism (March 24, 2022)