Researchers Jonathan Chiu and Thorsten V. Koeppl from the Bank of Canada, the country's central bank, published a working paper detailing their model to test "cheating" on a distributed ledger such as a blockchain. Chiu and Koeppl set up a Cournot game of mining to represent a blockchain's proof-of-work (PoW), such as Bitcoin's consensus protocol.
In applying their model to two examples – a securities settlement and a goods transaction – the researchers assert that double spending, or the risk that a cryptocurrency may be spent twice, can be represented by incentive compatibility constraints as part of traditional mechanism design (contained within the fields of economics and game theory).
In other words, to sustain a PoW-based blockchain and prevent double spending on it, miners must have a sufficient reward (e.g., cryptocurrency payments) to motivate them to accurately and honestly maintain the blockchain.
Through this lens, the researchers note that "sufficient overall mining activities help discourage dishonest behavior" and that "increasing rewards will increase the effort and, hence, the computational investment by miners, making it harder to double spend." Although the idea of issuing miners rewards to detract potentially dishonest actors is by no means novel, framing the issue of double spending as an economic design problem allows Chiu and Koeppl to analyze it in a different light. For instance, they argue that cryptocurrencies would work "best for a fairly homogeneous group of transactions with small incentives to double spend, such as retail payments."
The researchers also suggest that longer confirmation lags (which occur between the moment when a transaction is initiated and the moment it is verified) could reduce the reward needed to maintain the integrity of the blockchain and prevent double spending, but this change would mean longer wait times for goods to be delivered. Further, they apply confirmation lags to the 51 percent attack problem, arguing that this attack would be "unrealistic" considering that "users have little economic incentives to launch such an attack, especially when the computational investment by other miners is large." Put another way, double spending would be quite an expensive feat to accomplish.
The authors note, however, that there are other consensus protocols, such as proof of stake, that their economic model does not necessarily address. In any case, their study provides classic economic insight into an evergreen blockchain problem.
Bank of Canada has been busy this summer. Earlier this month, it released a staff analytical note pointing to increased bitcoin awareness across the country.