Everyone should know about Ethereum—and this article will explain why. The goal here is to describe this groundbreaking software project in layman’s terms. A big-picture approach will be taken, analyzing Ethereum’s design and implementation with comparisons to legacy computer systems. Liberty will be taken to simplify some of the technical details, so emphasis can be placed on the fundamental architecture and socio-economic implications of this radical innovation. Ethereum is an ambitious open source endeavor that promises to change the world by revolutionizing the utility of the Internet . There are far-reaching implications for engineering a better, more honest world. Ethereum is creating a “truth” protocol with unlimited flexibility, allowing anyone and everyone to interact peer-to-peer using the Internet as a trustworthy backbone. Although both will be covered in this post, I think the long-term potential opportunities outweigh the many immediate challenges facing this promising innovation platform.
The Blockchain Paradigm
The basic architecture of Ethereum is similar to Bitcoin* in many ways. Ethereum developers copied virtuous aspects of Bitcoin, but more importantly, they extended the functionality far beyond a P2P electronic cash system, Bitcoin’s original purpose . Because Bitcoin is more well- known and easier to understand, let’s first explore its building blocks and then examine parallels with the Ethereum platform. Fundamentally, Bitcoin can be conceived as a system with just a few essential functional components that rely on the Internet for accessibility:
- The blockchain, a publicly available database.
- Bitcoin client software, run by network participants known as full-nodes.
- Miners that build and secure the blockchain, block by block.
Although the Bitcoin network is actually more complex, the three-part list above is adequate for this discussion. Let’s take a quick look at each of these components and compare them to conventionally conceived computer systems. The blockchain, as its name suggests, is a series of data blocks that are linked together in sequence. Each block in the chain refers to the previous block through a series of uniquely verifiable links. The blockchain accretes as an immutable record of every bitcoin transaction that takes place and is updated about every 10 minutes. Unlike most databases which are proprietary and controlled by a single entity, the blockchain is publicly readable and replicated thousands of times over. All network participants that run the full-node Bitcoin software maintain a copy of the blockchain and thereby help secure its integrity. These network participants communicate P2P to verify that all bitcoin transactions are properly formed and signed before being assembled into blocks by the miners.
Bitcoin miners are tasked with creating new blocks of transactions and appending them to the blockchain. The scheme by which new blocks are formed is achieved through a mechanism known as proof-of-work (PoW), which is a form of distributed consensus. In contrast, centrally controlled databases are simply administered by designated IT personnel of the holding organization. Bitcoin miners, on the other hand, take turns creating new data blocks to add to the blockchain by participating in a lottery-like game. Miners compete to solve a complex computational puzzle. The winner gets to add their new block of transactions to the blockchain. There are no short-cut solutions, only repeated random attempts can hope to solve the puzzle. Equal computing power applied, gives equal odds of being the first to find the next block—just like a conventional lottery, each ticket has equal odds of being a winner. To increase one’s chances of a payout, all one can do is purchase more tickets. Likewise, Bitcoin miners must apply greater computing power to increase their chances of appending the next block to the blockchain .
The Internet and cyberspace are a lot like the Wild West of American folklore. Everyone wants to migrate to the frontier, not only those looking for a better life and a place to homestead, but all kinds of lawless characters— like gamblers and gold miners.
But what incentive do Bitcoin miners have to even play this gambling game? If they win the block lottery, then they receive a payout which is currently 25 bitcoins, plus any fees included with the transactions in the new block. The full-nodes and miners are constantly checking for the longest version of the blockchain, i.e., the one with the greatest PoW, to ensure that consensus is maintained. The reward for finding the next block, monetized in bitcoin, incentivizes miners to participate in the lottery-like competition and to not undermine the value of bitcoin for others .
You might ask, doesn’t Bitcoin encourage criminal activity? On the contrary, I would argue that Bitcoin and Ethereum are bringing law and order to the Internet and taming the bad actors. We will be looking at Ethereum more carefully soon. Yes, it’s true, there have been high-profile losses in the Bitcoin space—but only on the periphery. The collapse of the Mt. Gox exchange is a notorious example. As it turns out, the loss of bitcoins in this case has nothing to do with the blockchain and its security, and everything to do with vulnerable centralized databases . Storing bitcoins on a cryptocurrency exchange is akin to depositing funds into a bank account. In both cases, a third-party is being entrusted to safely store a depositor’s funds. Centralized data is the real Achilles heel of the Internet, not innovations like Bitcoin and Ethereum. Just think of all the recent breaches caused by hackers attacking corporate and government databases .
Beyond Bitcoin: Ethereum
Bitcoin’s success demonstrates that achieving consensus in a decentralized network is practically achievable. Ethereum leverages this fact and removes many of Bitcoin’s inherent limitations. What is Ethereum trying to accomplish? Instead of focusing primarily on digital currency, Ethereum is infinitely more flexible, allowing users to create smart contracts and store them on Ethereum’s blockchain. In contrast to bitcoin transactions, smart contracts can be custom programmed to perform any action! They are “impervious to censorship and thereby allow developers to freely create useful applications without concern of being shut down. Although built from scratch and unique in implementation, Ethereum uses some innovations from Bitcoin’s architecture, including a decentralized consensus mechanism to unbundle trust, a distributed blockchain ledger to record contracts, and its own crypto-token, ether, to fuel and incentivize the network .”
Ethereum Virtual Machine
In lieu of the Bitcoin client software that deals with currency transactions, the Ethereum network nodes run what is known as the Ethereum Virtual Machine (EVM). The Ethereum developers created several new programming languages designed specifically to execute any algorithm. The EVM is able to read and write executable code and data to the blockchain. The software will only run when the proper digital signature is provided, analogous to needing a digital signature to spend bitcoins .
Ethereum requires its own software token, ether (ETH), to function properly. Like the Bitcoin protocol, a valuable digital token is required to incentivize the miners to reach consensus. Participants who create and run smart contacts on Ethereum need to spend ETH in an amount proportional to the computational resources required to execute the contract software. This also incentivizes coders to be efficient in writing smart contracts, making sure they minimize the use of valuable ether .
Smart Contracts and DApps
Dr. Gavin Wood, who wrote the detailed specification for Ethereum in a 2014 yellow paper, points out that by the 1990s the idea of smart contracts had been well-established : “that algorithmic enforcement of agreements could become a significant force in human cooperation.” Smart contracts are written to self-execute the terms encoded in the software—in contrast to legal documents which are written on paper and enforceable by court systems. Smart contracts can be further generalized into DApps, or distributed applications, that are not financial in nature nor restricted by the participants using them. Ethereum’s blockchain makes an ideal platform to build new DApps.
Numerous challenges facing Ethereum are discussed below [10,11]. Some are common to open source projects, and others unique to the Ethereum platform. None appear to be show-stoppers, and Ethereum continues to gain traction in acceptance as a viable blockchain alternative for creating smart contracts and DApps.
- Technically Obtuse. Ethereum doesn’t have to be difficult to understand. But because it’s a new technology currently under development at the cutting-edge of computer science, the discussion about Ethereum tends to revolve around the technical details. Therefore, almost everything written about Ethereum is dense and unaccessible to the technically uninitiated, which is why Ethereum is one of the best kept open secrets out there. Programming expertise in smart contracts is also a scarce resource given the novelty of the field.
- Lack of Flexibility. Real life contracts are sometimes just a starting point and get modified over time. Some smart contracts may be too rigid, and methods of modifying contracts upon mutual agreement need to be developed.
- Market Cap. Ethereum is currently a distant second in market cap amongst cryptocurrencies—about 5% when compared to Bitcoin . Any new blockchain is less secure and vulnerable to attack until widespread adoption and mining are in place. Fortunately, Ethereum is getting a lot of positive media attention with credible development projects, and the price of ether is performing strongly in the cryptocurrency markets.
- Funding Shortfalls. Despite its successful token sale in 2014 and raising about $20 million, the Ethereum Foundation is in need of further financial support. If enough people learn about and become educated on the implications of the Ethereum platform, and come to understand the vision of the developers, then raising more funds should be a surmountable hurdle. (This is not investment advice, but if you have charitable inclinations, and would like to make a positive impact on the future, then consider donating to the Ethereum Foundation based in Zug Switzerland. Full disclosure: I own a few ETH but otherwise have no affiliation with the Ethereum Foundation or its developers.)
- Blockchain Scaling. Scalability is a challenge in any blockchain based system, as can be seen in the recent Bitcoin debates about its block size limit . Ethereum is trying to plan for growth and widespread adoption, but will have to contend with scalability issues someday if it succeeds.
- Lack of Oracles. Many smart contracts will require information from the real world and will have to rely on external sources for data inputs. For example, if a DApp is programmed to payout depending on a specific stock price on a given date, then it’s vital to have a reliable source of that information. Such trustworthy data streams, sometimes called oracles, are yet to be developed for many applications. This is an area that will likely see significant growth in the cryptocurrency ecosystems of the near future.
- Regulatory Issues. There are many open questions relative to legal issues surrounding smart contracts. Because Ethereum is a decentralized P2P platform, there is no central body to hold accountable, so regulatory bodies may become toothless.
- Privacy. Ethereum is implementing their own public blockchain, which will make smart contracts stored there openly visible. If parties to a contract need greater anonymity, they may be hesitant to use such a transparent blockchain. Perhaps some DApps will be designed to encrypt the smart contract before placing it on the Ethereum blockchain.
Plenty of challenges are facing Ethereum in the short term, but many motivated people are applying expert coding skills and resources to make Ethereum live up to its potential. None of the challenges appear insurmountable. On the other hand, the opportunities for Ethereum to transform the world are virtually boundless—pun intended. Let’s take a peek at just some of the possibilities of what can be created with Ethereum. Applications include, but are certainly not limited to, the following [7,10]:
- Financial DApps. There are many financial products that could be built using Ethereum: new cryptocurrencies, digital wallets, standard and custom derivatives, hedging contracts, alternative investments, real estate trusts, loan products, equity trading, remittances, auditing, etc.
- Escrow. Smart contracts or DApps can be built to automatically fulfill traditional escrow functions, collecting funds, and then distributing them once property has been delivered.
- Inheritances. Probate court proceedings and wills could be automated, transferring ownership of assets upon death.
- Certifications. Blockchains are already being used to store important certifications, e.g., provenance and chain-of-ownership of luxury goods, participation in educational coursework, etc. In the future, complete college transcripts, national passports, drivers’ licenses, certificates of authenticity, title documents, and many more may be stored and accessible from the Ethereum blockchain.
- Proof of Identity. Birth certificates could be placed on the Ethereum blockchain and other forms of corroborating evidence of personal identity. Access and verification could be programmatically controlled and protected by biometric factors linked to digital signatures .
- Governance. Online voting systems could be created that guarantee voter identity, only one vote per person, and eliminate voter fraud and ballot miscounts. In the US, for example, the electoral system could be simplified to a process of direct democracy.
- Smart Property. As the sharing economy grows, there will be growing opportunities to sublet, rent, or lease property on-demand. Electronic locks can be installed on houses and cars, for example, making access programmable and amenable to smart contracts .
- IoT. “The Internet of Things is the network of physical objects—devices, vehicles, buildings and other items embedded with electronics, software, sensors, and network connectivity—that enables these objects to collect and exchange data .” Clearly, the advent of a trusted value protocol, such as Ethereum, catalyzes the potential to monetize and accelerate the development of the IoT.
- DAOs. Digital Autonomous Organizations are an emerging form of collaboration where the rules and tasks are programmatically determined using smart contracts, potentially replacing traditional corporate structures, increasing efficiencies, and minimizing certain types of human intervention .
- Many More. There are endless possibilities that can be built using Ethereum’s platform as conceived. Imagination is the only limit. Time will tell if Ethereum succeeds and which applications become widely used. Disintermediating “trusted” third-parties is the low-hanging fruit for Ethereum applications.
If Ethereum succeeds, the potential to disrupt the status quo is vast. And if it doesn’t, another attempt to create a fully programmable blockchain will soon follow. The fields of law, regulation, finance, banking, governance, and many more, will be transformed beyond recognition. The full implications may take decades to realize, but there is no doubt a new wave is forming that will reshape human institutions for the better. In all walks of life, third-party middlemen of sometimes questionable integrity will be removed from the equation. Trust will no longer be a scarce commodity, and the Internet will form an honest bridge between anyone and everyone. P2P interaction via the Internet will be reliable and multi-facetted in complexity. Ethereum, Bitcoin, or other future iterations of these distributed consensus networks, will grant true net neutrality  and promote cooperative endeavors while mitigating the malicious intent of bad actors.
* Bitcoin with a capital B is used for the protocol and system as a whole, whereas bitcoin with a small b refers to the actual digital currency unit.
- DAO Decentralized Autonomous Organization
- DApp Decentralized Application
- EVM Ethereum Virtual Machine
- IoT Internet of Things
- IT Information Technology
- PoW Proof of Work
- US United States
- Ethereum website. (n.d.) Retrieved from https://www.ethereum.org/
- Nakamoto, S. (2008, November). Bitcoin: A Peer-to-Peer Electronic Cash System. Retrieved from https://bitcoin.org/bitcoin.pdf
- McMillan, R. (2014, March 3). Wired. The Inside Story of Mt. Gox, Bitcoin’s $460 Million Disaster. Retrieved from http://www.wired.com/2014/03/bitcoin-exchange/
- Ross, A. (n.d.) Bankrate. 11 data breaches that stung US consumers. Retrieved from http://www.bankrate.com/finance/banking/us-data-breaches-1.aspx
- Jones, P. (2015, August 5). Ethereum and Democratizing Innovation. MGT-523 Assignment #5, University of Nicosia
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- Wood, G. (2014). Ethereum: A Secure Decentralized Generalized Transaction Ledger. Retrieved from http://gavwood.com/paper.pdf
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- BBVA Research. (2015, October). Digital Economy Outlook. Smart contracts: the ultimate automation of trust? Retrieved from https://www.bbvaresearch.com/wp- content/uploads/2015/10/Digital_Economy_Outlook_Oct15_Cap1.pdf
- University of Nicosia, MGT-536 Digital Currency Information Systems and Resources. Session 7 Slides – Smart Contracts.
- Crypto-Currency Market Capitalizations. Retrieved on February 21, 2016 from www.coinmarketcap.com
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- Bitcoininst.net. (2015, September 27). Blockchain Identity: Solving the Global Identification Crisis. Retrieved from http://insidebitcoins.com/news/blockchain- identity-solving-the-global-identification-crisis/35028
- Slock.it website. (n.d.) Retrieved from slock.it
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