The World of Cryptocurrencies – Part 4 – How Does Cardano Work

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Cardano Study

Welcome back to our tour of the cryptocurrency landscape.  In the last post, we discovered XRP, a cryptocurrency specifically designed for use in enterprise applications.  XRP is utilized on the XRP Leger (XRPL) by RippleNet, an ecosystem of financial institutions from around the world (RippleNet is maintained by the parent company Ripple).  In the world of XRP, there’s no mining, there’s not really a blockchain, and there’s no monetary incentive for validation of transactions.  Ripple has SWIFT (and similar payment platforms) in its sights; only time will tell if/when XRP becomes the new mainstream for processing transactions among banks and other financial companies.

            Alright, since we already have so many cryptocurrencies in the world, so many different purposes for each ecosystem, and so many lessons that we’ve learned along the way – why introduce yet another player to the game?  Or on the other hand, why not introduce a new coin to improve on what we already have?

Review The Crypto Generations

            Before looking at Cardano (home to the Ada cryptocurrency), it’s essential to understand where we’ve come from in terms of different crypto systems.  The developers of Cardano like to break up previous groups of crypto technology and applications into different generations. 

First Generation Cryptos

  • The first generation was spearheaded by Bitcoin, arguably the grandfather of all cryptocurrencies.  Bitcoin was the response to the question, “Could I send money to someone without the need for a middleman?”  Obviously, there’s always cash, but in this generation of cryptocurrencies, the world discovered the ability to send and receive payments over the Internet in a decentralized and reliable manner.  But could a blockchain be used for more than just sending money back and forth?

Second Generation Cryptos

  • The second generation of cryptocurrencies answered this question – yes, you can use a blockchain to meet a host of needs, not just the transfer of money.  Ethereum is the poster child for this second generation; using smart contracts on the blockchain led to a whole new world of “dapps” (decentralized applications) and possibilities for those interested in privacy and further decentralization.  But if these crypto systems don’t scale well and aren’t governed correctly, how is the whole world supposed to be able to use them?

Third Generation Cryptos

  • The third generation attacks this problem head on.  Cardano specifically relies on three core principles for its ecosystem – scalability, interoperability, and sustainability. 
    • Scalability affects the number of users the system can support (both in transactions per second (tps) and overall throughput).  It also affects the overall network as a whole and how data can scale as new revisions are added to the current system.
    • Interoperability provides use for the “internet-of-blockchains”.  Is it possible to have, for instance, the Bitcoin blockchain talk to that of Ethereum?  The researchers behind Cardano think so and are implementing “sidechains” to attempt to address this current hurdle.
    • Finally, sustainability allows for stability in the project and promotes future development and growth.  How does Cardano pay for itself?  Cardano is hoping to build on some of the key elements of Dash and use a treasury to store money for potential future needs.

How Does Cardano Work

Alright, now that we’ve taken a brief look at the position of Cardano in the overall cryptocurrency world, let’s try to make sense of what Cardano actually is and how it works. 

The developers of Cardano see it not as just another cryptocurrency but rather the future of how the industry works as a whole.  Academics and engineers are applying philosophies behind mission-critical applications (aerospace and banking, most notably) and producing high-assurance, peer-reviewed software to power the platform.  While some ecosystems seek to provide the utmost in privacy and decentralization, Cardano hopes “that it will balance the needs of users with those of regulators, and in doing so combine privacy with regulation” (“What is Cardano”).  This goal spurs the developers to provide a world of fair financial services to anyone desiring to participate. 

Cardano Mining

What does mining look like in Cardano?  Short answer:  very different than what you’ve seen in other systems.  Rather than utilizing the standard proof-of-work approach, Cardano has chosen to base block validation on a proof-of-stake methodology.  What does proof mean in this situation?  It refers to the evidence that a given block of transactions is actually legitimate (the transactions have been validated by an approved party).  That makes sense – it’s similar to what we have learned about in proof-of-work systems.  But what about stake?  The Cardano Settlement Layer comprises the entire system of Ada within the Cardano network.  Any one particular node has a small subset of this value; hence, dividing what a particular node has by the total value of the Cardano network gives a relative value or “stake” for any particular node.  So, a proof-of-stake methodology refers to the evidence of legitimacy that a particular node has as compared to its impact on the system as a whole.  While it may sound simple (or maybe it doesn’t), it’s actually quite a complex series of events; nevertheless, let’s see what’s going on.

Ouroboros Protocol

To begin to understand Cardano’s “mining”, it’s important to understand the basics of the proof-of-stake algorithm Cardano uses – Ouroboros.  By incorporating Ouroboros, the Ada cryptocurrency doesn’t have to rely on a global infrastructure of power-hungry servers.  Instead, stakeholders who will help form the next block on the blockchain are randomly chosen based on their proportional stake size (in accordance with the blockchain ledger).  These chosen stakeholders are referred to as “slot leaders” (more on this in the next paragraph).  A secure, multiparty implementation of a coin-flipping protocol is used to select the next slot leader to form a block.  Note that there isn’t a typical “block reward” for the node who solves the next block (like is common in a proof-of-work based crypto). Rather, the node responsible for transaction validation makes profits based on the transaction fees within the transactions.

Validation by Epochs

Ouroboros divides physical time into “epochs” which are comprised of “slots” (hence the term “slot leader” in the previous paragraph).

Figure 1:  Ouroboros dividing time.  Image from docs.cardano.org.

There are an arbitrary number of slots in an epoch (we’ll say there are N slots), and each slot lasts a short period of time (usually around 20 seconds or so).  For each given slot, there is a slot leader.  Remember that this leader is chosen at random among a specific subset of nodes; we’ll explore the details behind this decision in a future post.

Figure 2:  Each slot has a leader.  Image from docs.cardano.org.

During the slot leader’s designated slot time, only the slot leader may produce a block.

Figure 3:  Only a slot leader can produce a block.  Image from docs.cardano.org.

If the slot leader misses their chance to form a block (maybe they were offline or not active at the time), they will not be able to produce another block until they are a slot leader again.  So what happens if there are empty slots?  No problem – an epoch is allowed to have some empty slots.  Nevertheless, an epoch must have at least a majority of slots filled (i.e., at least 50% of slots + 1 slot to ensure a share greater than 50%).

Nodes on Cardano

Another major difference – Cardano doesn’t require each individual node to have an entire copy of the blockchain.  Rather, a collection of nodes sends verified and validated transactions to the slot leader and the slot leader produces a new block.  There’s an algorithm to decide who gets elected as slot leader and also how the other nodes on the network keep the slot leader honest in their performance of duties. 

Not only does Cardano challenge the norms in terms of transaction validation proof, it is also challenging what a streamlined, efficient network looks like for cryptocurrencies.  Enter RINA – the Recursive Inter-Network Architecture.  The overall objectives for RINA are threefold:  create a network that is private, transparent, and scalable.  Forget the typical homogeneous network that most systems use – this network asks that every node relay every message on the network. 

This isn’t a problem with smaller networks, but scalability becomes nearly impossible as networks grow exponentially with increasing number of users.  Fully describing RINA would take several weeks’ worth of post, but to keep it simple for now, RINA assembles a heterogeneous network that selectively informs necessary nodes of transactions and other messages as needed.  Everyone isn’t notified of everything, and because of this, a heterogeneous network has the capability of expanding significantly while still remaining nimble. 

Learn More About Cardano

Cardano is an amazing, and very intricate, network that has been carefully designed and implemented using almost a decade’s worth of lessons learned from previous cryptocurrencies (most notably Bitcoin and Ethereum).  We will spend much more time in future posts discussing the details behind the system and its network, but for now, here are a few articles you can peruse to gather some more information:

            Thanks again for reading!  In the next post, we’re going close out our series on The World of Cryptocurrencies with IOTA – see you then!

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  1. […] YouTube video was to give an update of what has been happening in the past several months on the Cardano project. Apparently, the upgrade will also integrate the Haskell code base, proof of staking (PoS) followed […]

  2. […] of the projects I have never been shy about in this space is the formidable and academically renown Cardano project. In the recent interim the founder, Charles Hoskinson, has returned to ramping up the marketing and […]

  3. […] back to our tour of the cryptocurrency landscape.  In the last post, we discovered Cardano, a self-described “third-generation” cryptocurrency touting robust development practices and a […]

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