(Continued from Wednesday)
“Most cryptocurrency systems are currently using an energy intensive proof-of-work (PoW) algorithm that serves as a lottery to determine which miner gets the right to add his block to the blockchain and earn a reward.” (University of Cambridge)
Bitcoin is programmed to make decoding progressively harder as the BTC rewards gets smaller. But more computations require more electricity and the VC market is criticized for burning up massive amounts of coal for useless computations. It is possible to shift to a less energy-intensive algorithm but it’s unlikely that current miners will agree.
“Changes to the consensus algorithm may lead to a loss of investment in mining equipment that is specifically designed to only perform the calculations required by the current PoW algorithm.” (University of Cambridge)
Mining is highly competitive and secretive. Miners do not report their actual activities and keep their location unknown so it is hard to get an accurate number of the total miners in the world and the electricity they actually consume. Studies likely just show half of the actual number of miners.
Mining facilities are susceptible to theft of their hardware and GPUs. The biggest heist in Iceland last January stole servers worth $2 million.
Another criminal activity is stealing electricity. Last March, police detected unusually high electric consumption in an abandoned factory in Orenburg, Russia. Miners had illegally set up a facility and stole $1 million worth of electricity.
Many amateur miners just set up makeshift shops in their garages or homes. College students also repurpose old computers with GPUs and leave them running all the time while the university foots the electric bill. Such mining can overload their circuits and even cause fires.
To catch illegal miners, police track sudden spikes in power consumption.
But even law-abiding citizens are victimized by unscrupulous miners who steal your computer’s power to mine without your knowledge or consent. How is this done? When you visit certain websites or download certain apps, your computer will start to mine and your computer will surge in heat but suddenly slow down. It’s called cryptojacking. It’s used by miners of a VC Monero. Public Wi-Fis can also be disguised to jack your device.
Since November, there has been over 31 percent in-browser cryptojacking. Be careful visiting sites; opening email links or screens; clicking ads; and using free Wi-Fi. Even reputable sites can be infected since some YouTube ads can contain malware.
Large miners are more susceptible to hacks than small miners. They can be targeted by DDoS (Distributed Denial of Service) attacks where their system is paralyzed or taken offline by flooding it with data sent simultaneously from many individual computers. It’s like barraging one bank teller with hundreds of requests for individual transactions all at the same time.
Then there’s the traditional digital theft of VC stored in the wallet. Early this month, one Chinese engineer used his company clearance to steal 100 BTCs worth over $380,000.
Since 2013, over 22 percent of VC exchanges suffered security breaches that resulted in over 56 percent going out of business.
The power of blockchain, which runs Bitcoin, is the distributed ledger so no one person can control the network. But this is only true if no single miner has 51 percent of the computing power. Right now, there are only a handful of major miners in the world who control over 50 percent the total professional mining sector.
Few large miners now lead in global hash rate and scale of mining hardware manufacturing and cloud mining operations, just as Nakamoto feared. Thus 70 percent of large miners rate their influence on protocol development as high or very high, compared to 51 percent of small miners. This increases the likelihood that one entity can sway the blockchain.
A miner with majority of computing power has the power to reject transactions and deny adding blocks to the chain. It can also create its own blockchain that can be incompatible from the chain considered valid by the network consensus. This will create a fork. Whichever chain is accepted renders the rejected chain’s transactions as invalid. But what happens to the funds that have already been transferred and cannot be reversed?
Then there’s country dominance. Cambridge found that nearly three-quarters of all major mining pools are based in just two countries: 58 percent of mining pools with greater than 1 percent of the total bitcoin hash rate are based in China, followed by the US with 16 percent. Miners themselves are worried about the centralizaton of hashing power in general, and its concentration in a few countries.
The transfer of VC is also monopolized. Cambridge found that 73 percent of exchanges control customers’ private keys, which allows them to transfer funds in client accounts. This attracts hackers who can gain access to the exchange and use the private keys to steal these funds and transfer it to a different cryptocurrency account outside of the exchange. Transfers are anonymous and irreversible.
Only 23 percent of exchanges do not control customers’ private keys. This protects users’ accounts from unauthorized access and allows users to retrieve their funds in case the exchange fails.
Monopoly also exists in cryptocurrency wallets: 81 percent of wallet providers are based in North America and Europe, but only 61 percent of wallet users are based in these two regions.
Transaction fees used to be a small percentage of bitcoin mining revenues. But after the BTC block reward halved in 2016, transaction fee revenues tripled. Block rewards will continue to half every four years until all BTCs have been mined in 2140. Many miners worry that mining fees cannot compensate for decreasing block rewards in the long run.
Daily BTC transactions continue to increase and each compete to be included in a block that is limited to 1MB. This size only allows up to seven transactions. Users must offer a high transaction fee to their transfer if they want miners to work on their block. This increasing fee requirement is projected to reach 10 percent at the end of 2017. It can exclude users who cannot afford to pay a high fee. For small amounts, it’s still cheaper to use a bank or wire transfer if you don’t need the anonymity.
With the heavy influx of Bitcoin miners, it becomes harder to win the decoding race to earn a bitcoin. To stay competitive, miners use their BTC rewards to keep upgrading their system so they can keep earning BTC. It’s a self-funding cycle. With the price of BTC down to $7,000, miners who spend $8,000 are losing money.
Governments are starting to take a cut of VC transactions. The US Internal Revenue Service (IRS) taxes VC held as a capital asset on its capital gain or loss. If it is received for goods or services, it is taxed as part of income; if part of wages, tax is withheld in payroll. If the miner is not an employee but conducts a business, the VC fair market value on the date of receipt is included in his gross income.
While no current regulations imposes VAT, nearly all miners want to be exempt from value-added tax.
In November 2017, the IRS won a court case that required Coinbase, a US VC exchange that boasts 10 million users, to reveal the accounts of over 14,000 customers with annual BTC transactions over $20,000 (2013 to 2015).
The IRS will also use the records as evidence of tax fraud, tax evasion, and other crimes. So it seems that even if VC transfers are anonymous, account holders are still subject to the law and its penalties.
However, those responsible for fraudulent VC transfers, exchanges, websites, and services are still hard to catch and prosecute. Anyone can just set up a VC website or sell goods and receive VC payments. All payments are irreversible and hard to trace, especially if it has been transferred multiple times to avoid detection. VC’s anonymity and irreversibility leave victims with no recourse, no way to go after the fraudster, and no refund.
Unlike banks that insure funds up to a limit, or credit cards that allow chargebacks, all VC transfers bear all the risks. Worse, its digital form makes it subject to the same vulnerabilities as any computer or digital data—it can be hacked, lost, manipulated, or stolen. But in the virtual world, once it is validly transferred, it can disappear without a trace.
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