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Cryptocurrencies & Blockchain
In order to show the derivation and explanation of private blockchains as comprehensibly and simply as possible, a comparison can be made with Bitcoin, the best-known cryptocurrency based on blockchain technology. With the idea of creating a completely decentralised and immutable system by replacing trust with cryptography, the pseudonym Satoshi Nakamoto launched the Bitcoin Whitepaper in 2008.
Consensus on a state is created through mining, the solving of cryptographic calculations, which due to their complexity works randomly in the form of “rates” and therefore speed and efficiency are decisive factors, which must be handled by computing capacity. Participants on the blockchain are identified with a public key and the log of all transactions is stored on decentrally distributed nodes so that it can be viewed transparently. In this way, the system offers almost 100 per cent anonymity, since people log on and interact with a number instead of a name, but also almost 100 per cent transparency, since all actions can be traced back to their origin. This state of affairs gives rise to the term pseudo-anonymity and is a thorn in the side of many users, as the ongoing digitisation and conversion to electronic money leads to an ever greater restriction of privacy, which is ultimately quickly associated with people’s fundamental rights. A conflict of interest arises here, as the government is pushing for the highest possible transparency in order to combat issues such as black money, tax evasion or terrorist financing, for example, but on the other hand there is the threat of a complete withdrawal of privacy.
This is one of the reasons why the privacy blockchain initiative came into being. These should make it possible to guarantee greater privacy with the same advantages of decentralisation and thus protect the fundamental rights of users. Interoperability is also optimised to some extent, which is related to the term tainted coins. To make the comparison again: A bitcoin is not fungible, so by definition it cannot be arbitrarily exchanged with another bitcoin, as is the case with simple cash and is a prerequisite for a properly functioning capital system. If, for example, a bitcoin originates from fraudulent activities or other questionable transactions, it is getainted (tainted) and is no longer readily accepted by the community, purely because it has lost value or is almost worthless due to the traceability of its origin. Thus, from time to time, the system becomes increasingly difficult and less scalable due to the limited number of flawless coins. With this background as an additional aspect, the two following privacy coins were set up in such a way that they are completely fungible, i.e. 100% exchangeable, and the transaction speed was also improved many times over in favour of higher scalability.
Monero is one of the previously mentioned cryptocurrencies that aims to solve the anonymity and privacy problem. The name is taken from the Esperanto language and means coin. Launched in April 2014, the code is based on a fork of the CryptoNote protocol Bytecoin, initiated by core developers, including the one known by the alias thankful_for_today. Monero uses the Proof-of-Work (POW) mechanism to build decentralisation and consensus, using RandomX, an ASIC-resistant and CPU-friendly POW algorithm developed by members of the Monero community to make it impossible to use mining-specific hardware. This makes it less compute-intensive but more memory-intensive and generally more decentralised. Previously, Monero used CryptoNight and variations of this algorithm. The amounts paid out as incentives for mining will be continuously reduced until the defined supply cap is reached, probably in 2022, after which the amount per block will be set at 0.06XMR. Anonymity and the real innovation of the technology behind Monero, however, is hidden in the ring signature (RingCT). Here, a number of users are grouped together per block, who sign part of their own transaction as well as part of the transactions of the other block participants. Seen from the outside, it can be confirmed that the transaction total is correct and can be verified, but not who sends which amount to whom exactly. Parts of the most diverse signatures thus merge per transaction into a unique, unmistakable signature to guarantee privacy. Neither the sender nor the recipient nor the respective transaction amount can be determined by the additional concealment using stealth addresses.
Dash is also a so-called privacy coin, which was created in 2014 from a fork of Litecoin. Dash stands for “Digital Cash” and, as the name already suggests, the cryptocurrency is primarily intended to be used for everyday payment transactions. Dash relies on POW as the consensus mechanism, whereby the chained hashing algorithm X11 is used. In addition to the miners, the so-called masternodes (>1000 DASH) also ensure security in the network. For example, they vote on the further development of Dash and receive a share of the mining revenue for their efforts. Furthermore, the masternodes enable anonymous transactions through the “PrivateSend” function, which is also a central function of Dash. The masternodes act as a kind of “mixer”, whereby “PrivateSend” transactions enter the masternode pool and are mixed with the deposited coins. Another type of transaction offered by Dash is called “InstaSend”. With it, payments can be made within a few seconds, which would speak for an alternative means of payment. In order to constantly improve the blockchain, Ryan Taylor (CEO) and the Dash Core team need to be funded via the blockchain. This is done through mining revenue, which is split via smart contracts as follows: 45% Miner, 45% Masternode Reward (Proof of Service) and 10% Decentralised Governance Budget (Dash Core Team & Development). Compared to Monero, Dash is a bit more centralised as both a registered company and the CEO are publicly known and therefore vulnerable. In addition, Dash has a defined funding budget and also uses a large part of it for marketing purposes, whereas Monero and its projects are fully supported by the community and no fixed budget has been defined.
Are privacy coins good or bad? Opponents argue in response to this question that privacy coins can be used for illegal purposes such as money laundering, drugs or ransomware. This is undisputed and has often led to negative headlines in the past. Proponents, on the other hand, could argue that coins like Monero and Dash, besides solving the problem of fungibility, protect the privacy of users. Full transparency on the blockchain may have its advantages, but it also has its disadvantages. Privacy coins offer their owners a certain anonymity when using them, which is particularly important in very private matters. For this reason, private coins should be given their place in the crypto ecosystem and should also be considered in future applications. However, their existence is still highly questionable, with complications with governments or exchange delistings to be expected. In conclusion, it can be said that the technologies of privacy coins can have many different forms and their respective suitability depends on the exact use case. It is foreseeable that privacy coins will mainly be useful for a lead community, but rather unlikely for the broad mainstream.