Banking News

BIS dismantles Bitcoin’s proof of work – but not because of environmental reasons

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It’s widely known that Bitcoin is incredibly energy hungry and hence not environmentally friendly because of Proof of Work (PoW). The Bank for International Settlements (BIS), the central banker’s bank, today published a document that states that Bitcoin and other cryptocurrencies reliant on PoW need to move away from PoW because long term it won’t enable payment finality.

One alternative is Proof of Stake (PoS) which replaces miners with people who put up their currency holdings as a stake. Dishonesty results in the loss of the stake. The BIS says the success of PoS may rely on “some degree of implicit or explicit coordination by an institution”.

The BIS criticism of PoW is twofold. It states that attacking Bitcoin is inherently profitable, “making payment finality based on proof-of-work extremely expensive.” When a Bitcoin payment is made it is reversible. ie it’s not final. The likelihood of reversal drops the greater the number of bitcoin blocks that are added later.

It’s commonly suggested that waiting an hour or six blocks is final enough. Based on certain assumptions the BIS indicates treating six blocks as final requires transaction costs of 8.3%. It suggests to achieve 1% transaction charges would need an 8-hour wait.

Secondly, Bitcoin currently generates two sources of income: fees and block rewards or newly created Bitcoins for miners. The system is designed to stop minting new Bitcoins eventually. The BIS asserts that “once block rewards are zero, it could take months before a Bitcoin payment is final unless new technologies are deployed to speed up payment finality.”

BIS Conclusion

The BIS paper’s conclusion states that “alternative technologies still need to demonstrate that they can function without institutional backing.”

“But claiming that technology alone cannot do the trick is not to say that it is useless. It simply means that the focus could shift away from the issue of whether the technology can replace traditional sovereign money and financial institutions.”

Twitter-sphere reaction

Perhaps many have not had time to analyze the BIS document in detail. So far the response has been muted by Bitcoin standards. But expect more to come.


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