Decentralization

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What Is Decentralization?

Decentralization is the transfer of power, authority, control, and decision-making away from centralized entities to a larger distributed network.

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Decentralized networks aim to create a trustless system where the level of trust needed between network participants is minimal. A trustless system is fostered by distributing decision-making and resources among numerous participants, averting the risk of a small number of bad actors taking control of the network

The concept of decentralization is a complex multifaceted one. It can come in various forms:

  • Political decentralization promotes greater participation to give decision-making powers to the public. Democracy, for example, is a decentralized political system;
  • Administrative decentralization aims to distribute authority, responsibility, and financial resources;
  • Fiscal decentralization aims for financial sustainability and decentralization via self-financing, taxes, fees, loans, and more;
  • Economic decentralization promotes economic liberalization and market development policies that give resources and responsibilities, such as decision-making power, to several market participants rather than a single centralized entity.

Here, we will be focusing on the definition of decentralization in blockchain and cryptocurrencies

What Does Decentralization Mean in Blockchain?

Decentralization is a core philosophy in the blockchain and cryptocurrency world. To learn why decentralization is important to public blockchains and cryptocurrencies, we need to understand why Bitcoin was created.

Bitcoin is the oldest and the most valuable public blockchain network in the world. It was created by the pseudonymous Satoshi Nakamoto to be a decentralized peer-to-peer (P2P) payment network powered by blockchain technology. The Bitcoin whitepaper was released in October 2008 in the midst of a recession that was blamed on banks for giving out and repackaging subprime loans. 

Users can transfer funds and make payments without going through a financial institution via the Bitcoin network. The blockchain is not owned or operated by a single entity. It is kept decentralized via a network of operators called ‘miners’ who run the network by processing and validating transactions. There is no recruitment process to become a miner. Anyone with Bitcoin mining hardware and operating funds (mostly to pay for electricity) can choose to become a miner.

Core principles of decentralization – autonomy, transparency, censorship-resistant, and privacy – are at the heart of Bitcoin, Ethereum, and most other public blockchains. These public blockchains operate as open networks. Anyone with an internet connection can access the network and its ecosystem of applications built on them.

How Do Public Blockchains Achieve Decentralization?

Public blockchain networks aim to keep their operations decentralized via:

  • Distributed networks: Bitcoin and Ethereum operate as distributed networks where information and tasks are shared across multiple nodes or participants. The network of nodes that are running simultaneously with one another ensures that the blockchain remains decentralized, secure, and resistant to single points of failure.
  • Peer-to-Peer (P2P) architecture: Public blockchains use P2P architecture that enables participants to communicate and interact direct with one another. The peer-driven approach eliminates the dependency on centralized entities such as web service providers.
  • Autonomy and empowerment: Public blockchains promote decentralization by empowering users and giving them control over their assets and data. For example, users do not need a bank account to store their cryptocurrencies; users are not required to provide personal data to use decentralized applications; users can choose to remain anonymous; blockchain transactions are transparent for anyone to verify the validity of the transactions.

Decentralized Finance (DeFi)

Decentralized finance (DeFi) is a revolutionary field of applications of blockchain technology that aims to disrupt traditional finance systems. It looks to expand the use of decentralized public blockchains beyond peer-to-peer payments. By leveraging smart contract technology, users can now perform any number of financial actions, such as staking to earn interest, borrowing and lending funds, and more on public blockchain networks.

Ethereum pioneered the technology that enabled DeFi – smart contracts. They are self-executing computer programs that developers use to launch tokens, create NFTs, and build decentralized applications (dApps) that operate autonomously. These applications operate on the principles of transparency, immutability, and trustlessness, giving users full control over their funds and financial activities.

With DeFi, users do not have to go through credit score verifications and other lengthy formalities to take out a loan. Foreign remittances are made quick and easy as users do not have to depend on a network of individual banks and payment systems to send and receive funds. Trading of cryptocurrencies is made available 24/7 via decentralized exchanges (DEX).

Defining Decentralization: Centralized vs. Decentralized

Centralized systems  Decentralized systems
Control Controlled by a single, centralized entity Control distributed among multiple participants
Decision-making A centralized entity makes all the decisions Decisions are made through consensus, often obtained via voting
Transparency Often limited Open
Security Dependent on the centralized authority Security is maintained via cryptographic algorithms, game theory, consensus mechanisms
Single Point of Failure Vulnerable to a single point of failure Resilient against single points of failure due to distributed nature
Trust Users depend on the trustworthiness of the centralized entity Verifiable, trustless system
Scalability Centralized networks can scale faster than decentralized networks due to faster decision-making and power centralization Scalability can suffer with decentralization as a top priority
Innovation Depends on the centralized entity Open networks promote participation and innovation

Disadvantages of Decentralization

  • Limited scalability: Decentralized systems may face scalability limitations due to the greater number of participants needed to contribute to decision-making. The need to reach a consensus among all network participants can also slow down scalability improvement proposals. 
  • Coordination complexity: An open and diverse network with thousands of anonymous participants may find it difficult to coordinate and reach an agreement on various matters.
  • User responsibility: Blockchain users are expected to be responsible for securing their assets, managing their private keys, and protecting against hacks and thefts. No one can help in the case of a lost private key. 
  • Security risks: Decentralized systems do not have regulatory oversight, which may make their users vulnerable.
  • Governance: Achieving total decentralization is difficult due to the complexities of achieving decentralized governance.

The Bottom Line

The narrative around achieving decentralization via public blockchains and cryptocurrencies has been engraved in our heads over the last decade. But the concept of decentralization is a complex one. Even the top public blockchains like Bitcoin and Ethereum face questions about the extent of their decentralization.

Public blockchains continue to be tormented by the dilemma of choosing mass scale or true decentralization.

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Mensholong Lepcha
Crypto & Blockchain Writer
Mensholong Lepcha
Crypto & Blockchain Writer

Mensholong is an experienced crypto and blockchain journalist, now a full-time writer at Techopedia. He has previously contributed news coverage and in-depth market analysis to Capital.com, StockTwits, XBO, and other publications. He started his writing career at Reuters in 2017, covering global equity markets. In his free time, Mensholong loves watching football, finding new music, and buying BTC and ETH for his crypto portfolio.