There is not going to be one blockchain currency to rule them all. There are going to be many networks - like Ethereum and Bitcoin and Ripple. Furthermore, there will be legacy systems like traditional banks, running on older protocols, and older settlement networks like ACH and so forth. These systems all speak their own languages and have their own business logic and rules. Currently, it’s very difficult for Ethereum and Bitcoin to understand each other. This is even more true for the old banking networks which have the added requirement of metadata and attribution for transactions. Interoperability is the idea of allowing networks to interact with each other - easily and securely.
The problem is that when we don’t have a standard way of communicating between systems, value gets very fragmented. Regardless of how decentralized any one of these ecosystems might happen to be, the kingmaker will be the small on-and-off boarding hubs that control the movement of value between systems. Currently we are seeing those as exchanges [like Coinbase, etc]. Unfortunately, these exchanges are very fragile:
- They’re subject to being hacked.
- They’re subject to draconian regulation.
- Occasionally they get shut down because of regulatory policies.
A small group controlling whether one can convert value from one system to another is not a good situation. Especially for a supposedly decentralized, permissionless ecosystem! Furthermore, when people do business - if these businesses are regulated - they usually do have to interact with the traditional financial world. For example, let’s say that you’re a cryptocurrency company and you issue a token. With that token, you have a crowd sale, and you raise millions of dollars. Then, as an actual company with a bank account in a legal jurisdiction, you deposit millions of dollars into your bank account.
Well, the Bank is a regulated entity, and the first question they’re going to ask is “Where did you get these millions of dollars from?”
You’ll say “Well, I had a crowd sale and I sold a token and I got a bunch of money.”
So the Bank says, “Well, who are your customers?”
And you respond, “People over the Internet!”
And unfortunately that’s really not a good answer. So the Bank, a regulated business entity, has to file a suspicious activity report. They have to deal with people at the Treasury Department or maybe the European Union and so forth, and these entities feel that this is a very risky proposition. This is the unfortunate reality that we live in - we have fragile links throughout cryptocurrencies as well as in the legacy financial system. There’s no way to escalate transactions in a natural way. Doing business with the legacy world requires metadata, attribution, and compliance, [which blockchain networks do not provision.] As a consequence, anybody doing business in this space automatically becomes a high-risk business. This is an unfortunate situation.
Interoperability - the Internet of Blockchains
One idea of a third-generation cryptocurrency is of one that has the capacity to understand and watch other cryptocurrencies. A cryptocurrency that can see an Ethereum transaction and verify that it is valid. For example, if Alice says she has Ether, and sends Ether to Bob, a 3rd generation cryptocurrency ought to be able to know that that’s a legitimate transaction. Therefore, cross-chain transfers are reliable, and can be done without needing a trusted third party. This is the single most important thing: we want to create an Internet of blockchains - an internet of value - that flows around just as easily as Bitcoin or Ether flows around - but we want to be able to move cross-chain.
The first component of creating this world is to have some notion of side chains. This is not a new idea: atomic cross-chain swaps and side chains have been around for a long time. They were proposed as early as 2012, or perhaps even sooner. The basic concept is that there is some way of structuring information from one chain to another chain such that when a transaction is sent, that compressed structuring of information gives you the ability to know if that transaction is legitimate. In other words, the person sending it to you actually has that value and that it is not double spent. It’s a very important concept.
The second piece is that you have to have the ability to do this in a very compressed way. There are more than a thousand cryptocurrencies in use, and they are becoming larger and larger. So you can’t say, “Well, the only way to understand the other system is to have a copy of the entire blockchain of the other system.” This is not a scalable solution. Instead, you have to be able to look at these systems in a very compressed way.
Cardano has started work on side chains. We recently published a paper which contains an approach for how to generate proofs in the proof-of-work world, called, “Non-interactive proofs of proof-of-work”. We’re very hopeful that this approach can also be adapted in the proof-of-stake setting [as in Cardano].
Other cryptocurrencies are here to stay! So we hope that these two things - side chains and compression - combined with some clever engineering, should allow us to have a pretty deep and detailed understanding of what’s going on amongst and between other cryptocurrencies.
Interoperability - The Legacy World
Even if we can create a utopia where all blockchains can talk to each other, the issue is that the cryptocurrency world is still incompatible with the business and banking world. There are three primary factors in this gap:
Metadata is the story behind a transaction. It’s not that you’ve spent fifty dollars that matters. What matters is:
- Where did you spend it?
- What did you spend it on?
- To whom did you give it?
These types of metadata are not well provisioned in the cryptocurrency space, but it’s the bread and butter of the legacy financial world.
There’s an enormous amount of value in the metadata of transactions. For example, the metadata of transactions allows transactions to be put into a hierarchy of risk. If there’s a wire transfer between two American banks based in New York involving large companies - this is very common and happens all the time. [This would not raise any red flags.] Now imagine that there’s a wire transfer from a small American company to a small Russian institution, which in turn goes to Iran, and then goes to South Africa. This is a totally different scenario. Even if the monetary amounts are the same, the number of transfers, the people who have touched it, the nature of the organizations, how long they’ve been doing business…. this is all metadata. [In this case, that metadata might well be used to invite greater regulatory attention to this transaction.]
The problem is that metadata is incredibly personal. It’s incredibly private. Therefore we have difficulty with it in the cryptocurrency space because blockchain transactions are permanent and transparent. If we attach metadata to a transaction on the blockchain, we could be exposing very sensitive information to the general public. So one of the goals of the Cardano project is to figure out where, when, and how we can put metadata on a blockchain.** We want the benefit of auditability, immutability, and time stamping on the blockchain, while recognizing the importance of metadata for some cases**.These need to be addressed in a responsible way - perhaps with encryption, or perhaps with a special scheme that allows certain people to see it, whereas others cannot.
Attribution is about identity - naming the actors involved in a transaction. It’s about knowing where the money came from, and where it’s going. It’s a subset of metadata, but it’s so important it deserves its own consideration. It’s so important that Cardano has decided to construct a way to add attribution to a transaction, if desired, in a streamlined and easy way. The difficulty in doing this is establishing a web of trust, or some sort of identity hierarchy.
One of the reasons the internet uses so many passwords and usernames is because we actually don’t have a good way of identifying the people on the Internet. It would be great if everybody had a public key, and if there was an easy way to distribute and verify these keys. This was one of the goals of the PGP project, but it was never realized. As a consequence, what we deal with on the Internet is this terrible dystopia where everyone has a username and a password. These are usually easy to guess, easy to hack, and usually they are reused amongst many different websites. This all causes a lot of problems.
The difference for us, in blockchain, is that cryptocurrencies are factories for cryptographic credentials. Unlike the current internet, cryptocurrency gives us the ability to organize, manage, and store unique keys and develop webs of trust. So one goal of the Cardano project is to explore how we can repurpose these things. Currently we use them for storing and saving money, but they could also be used to identify ourselves, when and how we want to. The hope is that this can then be used when people are required to give attribution for transactions. For example, when they send value to or from an exchange, they can do so in a very graceful and easy way.
Compliance is a construction of various rules and laws that govern financial transactions. For example:
- KYC: Know Your Customer
- AML: Anti Money Laundering
- ATF: Anti Terrorist Financing
These all stem from the same basic question: A transaction has occurred. Is it legitimate?
This is something that is not really considered in the crypto world. However, it’s very important to traditional financial institutions. Whether they’re an exchange, a bank, or any money service business, there’s very harsh and strict global regulations and standards.
So with respect to this, our hope is that Cardano can find a healthy balance. The first two steps are to create distributed cryptographic credentials and to provision for metadata. These two factors can then be put together in a creative way, on a case-by-case and voluntary basis. Then, when somebody in the crypto world wants to do business in the legacy world, they have the ability to escalate the transaction from a standard cryptocurrency transaction to one that a bank can recognize and feel comfortable with. For example, take the scenario that we gave in the beginning about a token sale. Now imagine setting it up so that the only way a buyer can send a purchase transaction is if it is stamped with some metadata and identity information, accessible to the seller. So when the seller goes to the bank, they can disclose that information to the bank.** Note that the key is to do this in a way that protects privacy, and that doesn’t necessarily make people custodians of the data**. As we’ve seen with the Equifax hack and other such things, custodianship of personally identifiable information is quite problematic!
Cardano - The Glue
As we seek answers to the question of interoperability, we are exploring new cryptography, the idea of optional metadata, and things like trusted Hardware. These can provide secure ways to store credentials, to provide guarantees that data has been destroyed after a period of time, and things like geo-tagging. If we’re successful, Cardano will be the glue that facilitates the Internet of blockchains. Bitcoin can stay Bitcoin, Ethereum can stay as Ethereum, and traditional banks don’t have to change much. Cardano will provide that necessary bridge that isn’t centralized and isn’t fragile. Rather, it’s a large, decentralized network that ushers in this great new era of interoperability.