Bitcoin’s mining mechanism is a masterstroke of algorithmic design, enabling a scalable Byzantine Fault Tolerant (BFT) consensus by achieving a specific balance of incentives. As a reminder, mining-based blockchains like Bitcoin are public: anyone can become a miner simply by downloading the software and firing it up.

By contrast, permissioned, or private, blockchains seek to replicate the trustworthiness and robustness of public blockchains but with restricted memberships of known, approved participants, for regulatory reasons, for confidentiality, and for potentially improved throughput and latency.

It is often assumed that if mining works for public blockchains then surely it must also work for permissioned ones, perhaps even more robustly since access is locked down, reducing attack vectors. **Mining, however, is not public by accident, and indeed is incompatible with permissioned settings. **It is public by design, which is critical to the functioning of its incentive model.

The role of incentivization in mining is as follows:

In Bitcoin, we see that this holds: the value (in new coin and in transaction fees) for mining and publishing the latest block exceeds the value of mining a fork or delaying the new block’s publication for even a second. However, in some alt-coins, we’ve seen this incentive fail, leading to majority-mining attacks that result in large swaths of the ledger being rewritten. In small mining pools, attackers are incentivized to mine long forks and only publish them when they could supersede the primary blockchain’s history of transactions; these attacks can perform double-spends by invalidating transactions previously made for physical assets.

The need for incentivization at all is related to public blockchains’ scalability and anonymity requirements. By creating a consensus mechanism where participants are incentivized to behave in a non-Byzantine way, we remove the need for the mechanism to be auditable as well as the need for users to message every participant. Participants do the right thing because their interests are aligned with the interests of the system. As a result, the addition of a new pool of miners or a new group of users has effectively no impact on network load and in fact enhances fault-tolerance.

Mining is thus private and non-auditable by design. It is only when a new latest block is mined that miners need to talk, so they may publish the block and claim their reward. However, this implies that the system must correctly incentivize miners to behave in non-Byzantine ways as it has no ability to verify their actions (beyond validating a newly mined block).

Another form of fault-tolerance is the network’s ability to increase mining difficulty as the hash rate increases. However, this can only take place when miners are incentivized to win the next block as often as they can. If the incentives fail, and securing that block yields little inherent value, then miners have little incentive to publish that block to the network once found. This is not much of an issue for public chains but is a huge issue for permissioned blockchains.

Permissioned chains can take many forms, but overall they can be thought of as a Bitcoin-like utility where only known participants can gain access and interact with the system. It can be seen as a database shared amongst potentially adversarial firms.

The motivations for firms to agree to use such a system are:

An important distinction between public and permissioned chains is that while every participant in a public chain can choose to participate or not in consensus (by mining), every participant in a permissioned chain necessarily participates in consensus. Permissioned blockchains exist to serve essential business functionality for the firms themselves, tracking ownership, providing audit trails, and so forth. Since the consensus mechanism decides what and when things get written to the blockchain, no firm will be willing to let others “run consensus” for them: each firm will necessarily participate in consensus. Thus, if mining is used for consensus then every business will participate in mining.

The issues associated with mining permissioned chains are easiest to demonstrate through a thought experiment. Imagine a permissioned blockchain that uses mining for consensus, which three banks are using to trade high-value assets. The mining difficulty is set to target 10 minutes. We’ll call the banks Sneaky, Virtuous and Unaware and these banks are the only miners of the permissioned chain.

At 9am Virtuous asks if Sneaky will sell an asset for $90M. Sneaky only has one of these assets in stock and, finding the price to be fair, agrees. The transaction is signed and submitted to the blockchain for consensus at 9:01am. At 9:02am, Unaware asks Sneaky to sell the same asset for $100M.

Unaware has no idea that Sneaky just signed a transaction with Virtuous, and Sneaky has no reason to inform him. Seeing an opportunity, Sneaky agrees to the transaction with Unaware, signs the transaction but makes sure that the new transaction references the same asset Sneaky used with Virtuous, and submits it to the blockchain at 9:03am. There are now two conflicting transactions out for consensus.

Sneaky now has a $10M incentive to invalidate the Sneaky-Virtuous transaction by making sure the Sneaky-Unaware transaction is mined first. Sneaky already knew that any coins and/or fees received from mining are insignificant in comparison to the value of the transactions Sneaky would be conducting. Moreover, Sneaky knows that so long as they publish mined blocks with the expected frequency distribution their cluster size will appear to be in line with the chain’s 10min difficulty level.

For just these scenarios, Sneaky has a large, on-demand mining cluster hidden in reserve. It is leased from a bitcoin mining farm at the rate of $1M for two blocks and is over several thousand times larger than the size of the cluster the permissioned blockchain is tuned for. Sneaky, in effect, can win any block for $1M, which is easily covered by the $10M potential profit. Sneaky switches it on and mines a block with the Sneaky-Unaware transaction in it. The block invalidating the Sneaky-Virtuous transaction is mined by 9:04am and a subsequent block is built off of it is mined at 9:05am. The 9:04am block is not published until 9:09am so as to keep up the appearance of a smaller cluster and the 9:05am block is kept in reserve, only to be published if a fork occurs when the 9:04am block is published. Sneaky has the incentive to run an 18 block long fork before the cost of forking matches the $10M incentive.

It is interesting to consider what possible equilibrium would result from this type of system, something like each bank continually generating a portfolio of possible next blocks on large, hidden clusters, allocating mining resources based on risk. However, no matter what the equilibrium is, it is clear that mining in a permissioned context has substantially different incentives than those of a public chain. Without proper incentive alignment, mining fails to fulfill its purpose of providing BFT consensus.

That equilibrium could look much like mining’s equilibrium today, just on a much larger scale — imagine the mining cluster size if every new block was worth $10M. The thought experiment suggests a direct relationship between the value of transactions on a private blockchain and the mining cluster size used for it. It seems that mining will always be inventive based, even if you remove its primary incentives. Furthermore, mining works because of incentives and it seems that the larger the incentives, the more resources are used to mine.

If it is the case that mined permissioned chains require very large clusters, then mined permissioned chains will never take off. They will simply be too expensive to operate when compared to traditional systems.

The question becomes: how to fix mining in such a way that we keep mining clusters small?

One solution to the issues described is to register all transactions with some central authority, so that the order of transactions is not determined by the miners. This centralizes the blockchain, at which point why bother with mining and a blockchain at all; the central registration authority is more than capable of ordering and replicating transactions with more familiar technologies. Indeed, this is how many of current systems work, with public-private institutions handling the settlement synchronization.

Another solution is a legal agreement that limits mining resources and bans invalidating transactions. This solution, however, misses the point. Permissioned blockchains are meant to enable adversaries to work together without trusting each other, and instead trusting the system. If we have to rely on the courts for a BFT algorithm to function, then the algorithm is not BFT.

Luckily, most large enterprise institutions do not want a permissioned blockchain that requires mining for other reasons:

NB: the costs of mining mentioned above are well worth the mechanism’s utility when it comes to public chains — in return you get anonymous participation, massive robustness, and near infinite scalability.

Public blockchains herald a fundamentally new approach to solving many real-world problems, and the ideas they illustrate hold substantial benefits for industrial settings. Adoption by industry demands a robust, performant and fault-tolerant design that can provide BFT consensus in a private, permissioned context. As we have shown, mining cannot provide this, as it needs the public context for its incentives to function, and would be inefficient and slow.

Providing a solution to this challenge is a core reason we founded Kadena. Our first project was an enterprise, permissioned blockchain called **ScalableBFT. **It remains one of the only scalable high-performance permissioned BFT consensus mechanism in the market, and now it’s available for free on AWS Marketplace!

This piece was originally published on Nov 1, 2016 on Kadena’s old blog. It has adapted and been republished here.