This time, the miner reward was reduced from 6.25 to 3.125 bitcoin per block. Many people were surprised by the block that marked the halving, number 840,000 as the miner’s revenue was 40 bitcoin!

This high reward consisted of approximately 3 bitcoins in block subsidy and another 37 bitcoins in fees alone! So the question arises: how did the miner receive so much in fees?

This happened because many people paid high fees to have their transactions included in this block, a historic block. But it was not just that! This high amount of fees was also due to the activation of the Runes protocol, which started together with the Bitcoin halving.

Runes allows the creation of fungible tokens on Bitcoin, which raises concerns among Bitcoiners that shitcoins will emerge on the Bitcoin network.

Therefore, in this article, we will understand what the Runes protocol is, how it works, and what its implications are for Bitcoin.

The beginning of it all: Segwit and Taproot

Before we understand what Runes is, we need to understand how the Bitcoin network became capable of supporting this type of protocol. It all started with the Segregated Witness (SegWit) implementation activated in 2017, which separated signature data from transaction outputs, allowing for more transactions per block. This freed up space for more advanced scripts.

Five years later, in 2021, the Taproot update was implemented and was the main update to Bitcoin since the implementation of SegWit. Taproot emerged as a way to increase network security and scalability. This protocol introduces a new signature format, in which data is aggregated as if it were a single signature, taking up less space in the block, which increases speed and reduces transaction fees.

When we carry out a transaction on the Bitcoin blockchain, all public transaction data is available, such as information about how many signatures it used (singlesig or multisig) or whether there was a time lock (hash lock). With Taproot, all this information is hidden and condensed into a single signature, increasing the privacy of multisig transactions. In other words, more complex transactions, such as opening Lightning channels, appear as a conventional transaction (singlesig).

Taproot implementations introduced Bitcoin’s ability to execute smart contracts. These contracts can be made “without compromising the network”, because Taproot hides the information and makes every transaction look the same as a conventional transaction.

The Tapscript function, introduced by Taproot, improves Bitcoin’s scripting capabilities by introducing new opcodes and improving the flexibility and efficiency of network-scripts. This facilitated the creation of more complex “smart contracts” and opened the door to the Ordinals and BRC-20 tokens.

The Birth of Ordinals

Before Runes, the Ordinal and BRC-20 protocols also came.

Ordinal is a protocol that emerged in early 2023 and was created by Casey Rodamor (the co-creator of Runes). The idea of ​​this protocol is to allow inscriptions to be made on individual satoshis.

1 bitcoin is equal to 100,000,000 satoshis; thus, Ordinal allows the individual identification of each satoshi involved in a transaction. Therefore, in a transaction, satoshis with special information may be present, making them “rare”.

Ordinal protocol works based on Ordinal Theory, which creates a type of “serial number”, called ordinal numbers, and serves to identify satoshis by the order in which they were mined or transacted. For example, a satoshi that is part of the first wave of mining that occurred in the genesis block is considered really special.

The inscriptions linked to satoshis through Ordinals are types of NFTs that use the Bitcoin network to create the records. The difference is that there is no creation of tokens but inscriptions that link photos, videos, and documents, among others to the specific satoshi.

Unlike NFTs on networks like Ethereum, which create tokens, Ordinal inscriptions are made using arbitrary data recordings. The degree of rarity does not depend on the quality of the recorded image, but on the rarity of the satoshi used to make the record.

Tokens BRC-20

The implementation of Ordinals opened doors for the creation of BRC-20 (Bitcoin Request for Comment 20) tokens on the Bitcoin network.

But, what are BRC-20 Tokens?

BRC-20 Tokens are similar to Ethereum’s ERC-20 Tokens, allowing the creation of new currencies within Bitcoin. These tokens are created by inscribing JSON files into individual satoshis using Ordinal technology.

JSON ( JavaScript Object Notation ) is a file format that uses only text, simplifying the registration process, which makes it less complex than creating a smart contract specifically for a token, as occurs in Ethereum.

However, the big problem with BRC-20 Tokens is that they require a series of transactions to be registered on the network, which results in several unnecessary UTXOs and can congest the network or increase the weight of the blocks.

To deploy (upload a coin on the Bitcoin network) a BRC-20 token, 2 transactions are required. To mint (issue/register) the token, 2 more transactions are necessary, and for the transfer, 3 more transactions.

So, as an alternative to this protocol, the Runes project was created.

What is the Runes protocol?

The Runes protocol, or runes, is basically an “improved” BRC-20. With it, it will be possible to create other tokens inscribed in Bitcoin, but this time with fewer transactions involved.

For this protocol, two transactions will be necessary to deploy the token: one to mint and another to transfer. This practically halves the number of transactions and also reduces the load on the network.

Furthermore, Runes can be integrated with the Lightning Network, enabling the creation of the token on the main network and, subsequently, its trading on the Lightning Network.

In theory, this protocol could bring new currencies to Bitcoin that would have some usability for users interested in carrying out financial operations supported by Bitcoin, such as stablecoins, governance tokens, or securities tokens.

But, in practice, what we see — at least at the beginning of the protocol — is the creation of shitcoins on the network, which are mainly used for speculation and scams. The creator of the protocol himself recognized this when he published the project proposal on his blog.

How does Runes work?

Runes works in a similar way to BRC-20, which uses Bitcoin’s UTXOs and writes JSON information to specific satoshis but does not necessarily require the use of the Ordinal protocol.

Runes is based on UTXOs (unspent transaction outputs), which means that any UTXO can contain data that represents not only the amount of unspent bitcoin but also the number of runes, which can be several in just one UTXO.

Rune information is inserted into a UTXO using the OP-RETURN space, which is a way of including some arbitrary data along with a Bitcoin transaction. The OP-RETURN space basically serves as a space to “write a message” in the transaction, so it could indicate something like: “This transaction contains 20 runes”.

Since the first Bitcoin, the genesis block mined by Satoshi, Bitcoin has allowed OP-RETURN messages.

How did Runes come about?

The idea for Runes emerged in September 2023, when the creator, Casey Rodarmor, posted on his blog the proposal to create a protocol for registering fungible assets in Bitcoin. Therefore, Runes is an alternative to the BRC-20 protocol, which has some implications.

Casey’s goal with this protocol is to reduce the number of UTXOs that are generated to create a token on the network after the implementation of BRC-20, which creates many “junk” UTXOs.

Furthermore, BRC-20 needs Ordinal Theory to work, but Runes does not.

Casey acknowledges that most fungible tokens are memes or scams, but believes that creating a protocol for enrolling these tokens in Bitcoin could benefit the network and create a safer environment for them to emerge.

For him, the creation of a good fungible token protocol for Bitcoin can generate significant revenue from transaction fees, in addition to attracting greater participation from developers and users to the Bitcoin platform.

This could also encourage responsible management of UTXOs and serve as a harm reduction measure compared to other existing protocols.

What are the advantages of the Runes protocol?

There is a very pertinent discussion regarding Runes, as this protocol can bring “shitcoins” to Bitcoin and make the main network (on-chain) unfeasible to use for small transactions if it accelerates the rise in rates.

However, so far, the only positive point about Runes is that it increases incentives for miners. We know that miners receive rewards from block subsidies and also from transaction fees.

High transaction fees may be a problem for some users, but for miners, they represent an increase in revenue, an incentive to continue mining. Runes, however scammy it may be, can contribute to maintaining Bitcoin’s much-attacked “security budget”.

And what are the disadvantages of Runes?

The biggest disadvantage here is, without a doubt, Runes’ ability to bring shitcoins to Bitcoin, that is, memecoins and highly speculative currencies without any basis. These applications will greatly increase affinity scams, confusing users about what Bitcoin actually is and what is just a shitcoin made to take money from the most inexperienced or greedy users.

Furthermore, network congestion due to high fees can harm some users, who are unable to transact within the chain or are forced to pay exorbitant fees to do so.

After all, network fees increased considerably right after the halving, which was when the Runes protocol was activated.

As you can see above, simple transactions cost around $200 to be added to a block. This makes ordinary users who want to use the main network unfeasible; on the other hand, it encourages users to use the second layers of Bitcoin for smaller transactions, such as the Lightning network, where it is possible to send satoshis instantly and at negligible fees.

Another problem that the Runes protocol can cause is the appearance of scammers or lay people trying to surf the hype of the movement, but who don’t know how the process works and could lose their money.

And this has already happened…

In this series of screenshots, Bitcoin developer Francis Pouliot shows some people who lost money with Runes.

One of them even lost US$5,000 trying to mint a rune…

The Runes project ecosystem

There are already some projects running with Runes, many of which are called “ pre-runes ”, as they were already active before the protocol was implemented on the network.

1. Rune Coin: a project to mine Rune tokens
2. Pups Token: these are a type of Rune “puppy” coins.
3. Runes Terminal: a set of tools for using Runes, including an explorer and a token launch pad.
4. Runessance: lending platform, where you can use your tokens within UTXOs for loans with BTC.
5. RunePro: a community that offers rewards for the first members (what does that remind you of?).
6. Runeflex: a DeFi application for the Runes protocol.

Conclusion

Runes are still something new in Bitcoin; We don’t know which way this project could go, but, like Ordinals, it won’t go away too soon.

It is important to understand the implications that this protocol can have on the network, especially in increasing fees for users who still mostly use the on-chain layer for everyday transactions.

It is worth remembering that Runes, Ordinal, and BRC-20 are not part of the Bitcoin network consensus, they are a separate protocol. The fundamentals of Bitcoin do not change at all. Fees should be the main incentive for people not to use scarce block space with shitcoin.

Runes is not very different from other token projects that already exist on the market; Most of them have no foundation, they move in waves of hype and collapse and many people end up losing more than gaining with these shitcoins.

The useful life of these projects is very low, and many of them are scams (Rug Pull) to enrich the founders. Therefore, it is important to be careful with any new project that emerges, even if it “runs on Bitcoin”.

So, as the project’s creator himself said, Runes is “a fun show,” but Bitcoin is the main event.

That said, stay humble and accumulate real satoshis.

Until the next article and opt out!

The post What is the Runes Protocol on Bitcoin? appeared first on Area Bitcoin.

All content in this article is for informational purposes only and does not consider or address any individual circumstances, and is not investment advice, nor should it be construed in any way as tax, accounting, legal, business, financial, or other advice. regulatory.

Cardano is named after Italian Renaissance mathematician Gerolamo Cardano, and its native currency, ADA, is named after Ada Lovelace, a 19th-century mathematician recognized for writing the first computational algorithm.

As a blockchain protocol, Cardano seeks to create decentralized solutions through automated contracts, decentralized applications, and a multichain structure. Supported by the pillars of scalability, interoperability, and sustainability, it was founded in 2015 and launched in 2017, using its programming language, Plutus.

Positioning itself as a third-generation protocol and an alternative to proof-of-work (PoW) blockchains, Cardano claims to be more energy efficient than Bitcoin and more scalable than Ethereum.

However, in practice, we observe that Cardano has not evolved even half as far as the protocols it claims to surpass. Don’t worry. we will cover all these aspects throughout the article.

History

Cardano’s history has roots in the founding of Ethereum. Charles Hoskinson, on the right in the image below, was one of the founders of the second protocol in market capitalization today. Hoskinson had divergent ideas from the Ethereum team. Vitalik, left in the photo, sought a non-profit Ethereum, while Hoskinson wanted commercial goals. These differences led Charles to leave the Ethereum team and create his own protocol: Cardano.

Interestingly, Cardano does not have a published white paper, being developed through academic reviews known as peer-reviewing. Hoskinson describes this method as based on “true science” which is not true. After all, who defines what “true science” is?

In such a new market, there are no researchers experienced enough to be considered masters of reason. Cypherpunks, the fathers of cryptography, did not emerge from universities, but rather from email lists. Many protocols have anonymous developers reviewing the code, and that doesn’t make them any less qualified than academics.

As for Cardano, research papers on the protocol are published and guide decisions and updates. However, these papers are supported by IOHK, Input Output, Cardano’s founding company, which raises concerns about publication bias in favor of its own solutions.

Thus, Cardano is supported by three large entities:

• IOHK – Input Output,
• Cardano Foundation
• and Emurgo.

IOHK

IOHK , a blockchain research and development company founded by Charles Hoskinson and Jeremy Wood, was hired to work with Cardano from 2015 to 2020. Despite the termination of the contract, IOHK remains involved, and the company’s Twitter continues to post related content to Cardano.

The curious thing is that IOHK is described on the cardano.org website as a completely decentralized company.

Decentralized company? These concepts are totally contradictory, they are antonyms!

Another irony is that the only mention of the word “decentralized” on Cardano’s official website is in the IOHK description. The language used in its official communications is quite institutional, resembling that of a corporation.

Cardano Foundation

The second entity involved in the creation of Cardano is the Cardano Foundation, a non-profit organization focused on the development and growth of the Cardano ecosystem.

The Cardano Foundation is responsible for making technical decisions, organizing the selection of participants in staking pools, coordinating protocol updates, and issuing official communications.

However, despite its non-profit nature, the person who signed on as president of the Cardano Foundation during the ICO was banking consultant Michael Parsons. It was presented to potential buyers on March 28, 2016, by Attain Corporation, the company that managed Cardano’s pre-sale and ICO in Japan.

Emurgo

The third entity involved in creating the protocol was Emurgo, a Japanese for-profit venture capital firm.

Emurgo develops, supports, and incubates commercial opportunities, assisting in business integration with the aim of attracting capital and strategic partnerships to the Cardano ecosystem.

Creation, distribution, and launch of ADA tokens

Cardano has a limit of 45 billion units. The first 20% of this supply, equivalent to 5.1 billion, was pre-sold through vouchers, something similar to a “crypto voucher”.

These coins were directed to the three founding entities of the ecosystem: IOHK, Emurgo, and Cardano Foundation, as mentioned previously.

When the Genesis block began operating, 20% of the supply was reserved for holders of these vouchers. Therefore, these ADAs were not pre-mined; however, as soon as they were issued, they were already destined for project insiders. This implies that the Cardano team started with at least 20% of the supply secured for themselves.

The distribution of this pre-sale was as follows:

• IOHK: received 2.46 billion ADA (5.5%)
• EMURGO: received 2.07 billion ADA (4.6%)
• Cardano Foundation: received 640 million ADA (1.4%)

At the end of the private pre-sale, held from 2015 to 2017, in October 2017, an ICO took place, where 25.9 billion ADA were sold, corresponding to 57.6% of the supply.

The fact that the ICO was exclusively in Japan is noteworthy. Cardano, or Adacoin, as it was called, was announced highlighting the success of Ethereum and Bitshares, both with Charles Hoskinson as founder. He was introduced to Japanese businessmen as a “genius” mathematician. His status as former CEO of Ethereum endorsed IOHK’s announcements, encouraging potential buyers to create profit expectations: “ Bitshares token price increased by 5.4x and Ethereum increased by 60x ”.

To participate in the ICO, Japanese entrepreneurs had to acquire at least the equivalent of $1000, either by Japanese bank transfer or Bitcoin.

On March 28, 2016, one Bitcoin was worth approximately $420.

The photo below was taken with Japanese investors near the Cardano ICO.

With 95% of ICO buyers being Japanese, Cardano became known as “the Japanese Ethereum”.

Hoskinson noted that this jurisdictional bias “was due to the origin of the project, but also due to its sales strategy.” According to Hoskinson, “There are three Asian crypto markets that matter: China, Japan, and South Korea. Of these three, Cardano decided to focus on Japan because it is the friendliest, most supportive, and offers the longest-term growth.”

Could it be that Japan is not the region where investors are most willing to take more risk while its economy struggles with negative real interest rates after controlling the interest rate curve a decade ago?

According to Japanese investors, after the initial coin offering secured funding for IOHK, its team stopped communicating with investors and justified that it had no obligation to contact them.

The culture of ICOs at that time included the founders’ presence on Slack, answering investor questions, and maintaining communication through blogs.

However, the Japanese began to compare Cardano with Onecoin, a globally known fraudulent cryptocurrency. Hoskinson did not accept the comparison and took to the Ethereum Classic Slack channel to comment, explaining why he refused to discuss Cardano with Japanese and Chinese investors.

Thus, according to Hoskinson, he refused to interact with those who accused him of being an Onecoin scammer, claiming that the environment was extremely toxic and that no one was interested in an honest conversation.

Attain Corporation’s contract expired in the first quarter of 2017, and the company deleted content from the cardano.biz website, now only available as an internet archive.

ADA Distribution and Launch

After the ICO, the coins were freely sold and made available on exchanges around the world. The likely reason for holding the ICO in Japan was to avoid Cardano being classified as a security, especially if there was regulatory pressure on cryptocurrency projects.

The SEC has long characterized ICOs as irregular sales of securities. However, Cardano’s initial offering took place in Japan, where regulation differs from the United States and would be outside the SEC’s jurisdiction.

Therefore, while the SEC cannot regulate sales made to Japanese citizens under Japanese law, it can question the secondary market in which American exchanges have offered Cardano trading through their platforms. Therefore, the SEC may consider that they were selling unregistered securities to Americans.

After the ICO, only 13.9 billion ADA, corresponding to 30% of the supply, were available to receive staking rewards. The total distribution of ADA is shown in the image below from the day of Cardano’s official launch in September 2017:

What draws attention to this initial distribution is that 70% of the coins had their destinations pre-determined before the Genesis block even began operating.

Only 30% of ADA coins would be distributed through consensus and block rewards, while 11% remained with pre-sale insiders, and 57.6% were sold in the ICO to selected investors.

Cardano’s founders played a central role in determining how the bulk of the supply would be created and distributed.

Therefore, more than 31 billion ADA, corresponding to 70% of the total supply, were created and their destiny was already determined on the day of the protocol’s launch.

This decision is quite centralized and has a decisive impact on the future of Cardano. If a PoS protocol can determine from the beginning who will have the most coins, these people will have greater validation power. This also puts pressure on new validators to purchase ADA from the protocol’s initial holders so they can participate in consensus and have a voice in protocol decisions, similar to what happens with companies and their common shares.

In addition to excessively benefiting insiders, the launch of ADA is very similar to an IPO of a company in the regulatory sense. It was the first pre-sale where KYC rules were followed, and audits were applied after the launch period.

For more details about the ADA pre-sale, which took place in five stages, the Japanese company Attain Corporation was hired to manage the sale of ADA vouchers, involving yet another Japanese company. The Cardano Foundation carried out three separate audits of the sales operation, as shown in the image below.

What is striking is that on the Cardano website (as seen in the image below), there is a footnote stating that Cardano “ does not perform any independent due diligence or substantive review of any blockchain, digital currency, cryptocurrency or associated technology”. However, the Cardano Foundation carried out three audits on the distribution of ADA tokens.

Why wasn’t a company specialized in audits hired, independent of the negotiations?

The audit website treats the pre-sale as something public and includes the countries where the coins went (table below).

However, it was a private sale to two companies (Emurgo and IOHK) and donations of ADA vouchers to the Cardano Foundation. This pre-sale was private, closed, and intended for project insiders.

How can a decentralized protocol have a venture capital firm like Emurgo as a founder and initial token recipient?

This puts Cardano much closer to a startup receiving investment from angel investors than a decentralized protocol.

Especially since Emurgo and IOHK received vouchers and paid with BTC for the ADA tokens purchased in the pre-sale, while the Cardano Foundation only received donations and did not invest/contribute in BTC.

Supply Now

Currently, the ADA monetary expansion rate is 0.3% per epoch. This means that, on average, every 5 days, 0.3% of the reserve balance for staking rewards is released, resulting in inflation of approximately 2% per year.

Cardano’s monetary expansion is being reduced over time, and it is expected that over time, transaction fees will replace the block reward if the protocol gains adoption. At present, over 81.75% of the ADA supply has been created, 18.26% will be released through block rewards, and around 3.32% is in the Cardano Foundation Treasury.

So far 36 billion ADA have been issued following the logic of epochs, in which each period established by the protocol a portion of coins are created. In the latest planned upgrade, called Voltaire, all 45 billion tokens will be issued.

Consensus and Functioning

Cardano uses Ouroboros as a Proof of Stake (PoS) consensus mechanism. In this system, ADA is the token used for payments within the ecosystem, earning rewards for validating blocks, and, in the future, it will also be used as a governance mechanism.

PoS Ouroboros works from groups of staking operators, called pools, where users leave their tokens and receive rewards for doing so.

The staking pool consists of a group that comes together to increase their chances of validating a block, unifying their balances to have greater validation power, and then the rewards are divided proportionally.

The big difference between Cardano Staking and other protocols is that it is liquid staking and does not lock the user’s tokens; You can withdraw at any time.

Another point is that it is also possible to do delegated staking, where users with a smaller amount of tokens can participate in staking by joining a pool that does not keep the user’s private key, called liquid staking.

In Ouroboros, it is possible to carry out two types of staking: normal, where users run their own node in a pool, and delegated, where users join pools that mediate and distribute the reward.

It is important to note that Cardano staking does not impose restrictions on withdrawals, unlike Ethereum. However, the initial creation of 70% of tokens without an equitable distribution, and without coming from block validation rewards, already puts the protocol in a centralized situation from the beginning.

Those who initially received these tokens and staked them have greater validation power, which could result in the centralization of new rewards and decision-making power.

Furthermore, Cardano’s PoS was linked to IOHK federated nodes for 4 years, only becoming publicly available from epoch 216 with the Shelley update. From 2017 to 2020, all ADAs created were issued by federated nodes, dependent on IOHK!

While many users believe that the ability to withdraw tokens at any time and maintain ownership of the keys when connecting to a pool represents decentralization, in practice, this is not the case. Decentralization means the absence of a single point of failure or monopoly of decision-making power in the network as a whole. If the code is modified maliciously, it doesn’t matter whether the user held the keys, as the problem would affect the code and the general consensus.

Another example of centralization is in the selection of pools. In October 2022, the Cardano Foundation announced that out of 188 requests for staking pool delegation, 58 were selected by the Cardano Foundation based on their contributions to the growth of the ecosystem.

If there is a manual selection and dependent on an entity that establishes the rules, how can it be considered decentralized?

This selection also acts as a barrier to entry for those who were not chosen. When there is a team making hierarchical decisions on an ongoing basis, there is no resistance to censorship and no free access to participate in the consensus mechanism. It is not truly permissionless, as approval from the Cardano Foundation is required to participate in the consensus, similar to needing a license to become a bank and receive interest for managing customer funds.

Therefore, even with the presence of several solo validation pools on Cardano, representing the majority compared to staking from centralized entities such as Binance and other exchanges, they still depend on centralized entities: the data centers.

Distribution of nodes

In addition to centralizing decision-making power over who can have a pool and participate in the consensus, the hardware of the network’s validator nodes is hosted on third-party servers in data centers.

Considering that 35 billion ADA have already been issued and 24.9 billion are staked, which represents 71% of the supply, the graph above shows that 23.7 billion ADA are correlated to pools whose nodes depend on data centers.

This means that 97% of pools depend on third parties to run and store information, and only 3% of the network is actually independent of private servers. This represents a major attack vector through regulatory capture or failures in service providers like Amazon and Hetzner.

Most nodes are in data centers due to the need for data storage to have a complete copy of the Cardano blockchain, which is currently around 99GB. This capacity, which requires more powerful and expensive machines, becomes a barrier for the common user.

The constant increase in hardware capacity is a trend, as evidenced in the image below.

Therefore, the tendency is for Cardano to remain dependent on centralized cloud servers, as it requires increasingly powerful and expensive hardware to store its blockchain records.

Updates and Roadmap

Cardano is not ready yet; is being built with each update, in a process that involves 5 phases:

• Byron,
• Shelley,
• Goguen,
• They said
• and Voltaire.

The Byron era began in September 2017 with the launch of the main blockchain. During this phase, the chain operated as a federated network, supporting only ADA transactions. The next phase, Shelley, was launched in July 2020, starting the Ouroboros PoS protocol.

In 2021, the Goguen phase began, which allowed the creation of smart contracts and the issuance of native tokens. It is at this stage that the protocol is now. The development teams, IOHK and Emurgo, are researching and building the remaining phases of the network, Basho and Voltaire, in parallel with Goguen.

With each era, smaller updates are made, many of them through hard forks. This generates permanent divergences about the previous version of the Blockchain and makes the protocol not backward compatible. Hard forks force nodes to update themselves, excluding users from the network who may disagree with the changes.

This mandatory update is critical for fixing bugs, but it also demonstrates the centralization of decision-making power in the network. In other words, anyone who does not update according to the Cardano Foundation’s definitions will be stuck in a previously abandoned version that is incompatible with the new version of the network.

Compliance

Cardano has always indicated to regulators that it would follow regulations. In the pre-sale and ICO, he carried out the Know Your Customer (KYC) process for the token recipients, as we have seen previously.

When Hoskinson was asked about Cardano’s actions in Japan and how its protocol was being compared to the fraudulent Onecoin, he commented that Cardano was the only “regulated computing that follows AML/KYC rules in the gaming industry.”

However, what stands out is that the protocol recently partnered with Coinfirm to “advance regulatory compliance.”

However, the great risk of this type of partnership is making the network prone to censorship, politicization, and government capture, which goes against the initial purpose of decentralization.

This partnership with Coinfirm leaves Cardano and its users susceptible to regulators’ decisions. In this sense, Cardano resembles a global cyber bank offering a software service, subject to government decisions, regulatory capture, and censorship.

Problematic events

Now that we’ve gone through the main points that make Cardano centralized, let’s make an overview of events that happened in the protocol that expose risks and centralization.

Network instability

Recently, in January 2023, the Cardano network had a bug that disconnected 50% of nodes, as shown in the graph below.

According to IOHK, the problem only affected the nodes where users connect to carry out transactions, known as edge nodes, which function as gateways. According to the devs, the work nodes that build blocks were not affected and this interruption was “ a transient anomaly ” for only one part of the network. In other words, the blockchain did not crash, but half of the nodes desynchronized and disconnected.

Charles Hoskinson and IOHK did not clearly communicate the cause of the bug, only stating that they would investigate the reasons for it.

The impact of the bug on the Cardano network was temporary; the event slowed down block creation without crashing the blockchain while nodes were rebooted.

The bug has not yet had an official explanation, but it appears to have been a problem in the code, and discussions have occurred on GitHub without a plausible explanation so far.

Interestingly, this bug occurred after many security discussions and reviews before updates and after the official Cardano testnet “cracked”.

Broken Testnet

In August 2022, a Twitter thread revealed that Cardano’s testnet was “catastrophically” broken due to a bug in version 1.35.2 of the protocol, intended for the Vasil hard fork.

Source: https://x.com/adamKDean/status/1560295448333520896 

The critical bug was discovered by operators of a staking pool, leading to the creation of multiple incompatible versions of the blockchain and leaving the testnet hopelessly broken. New versions failed to synchronize the chain, and as a result, two new testnets were created without the complete block history of the network.

Many users reported a rush on the part of Hoskinson and his team to update nodes and activate Vasil. Rumors suggest that the objective was to increase competition with Ethereum after its merge. Hoskinson refuted that the testnet was broken, stating that testnets are designed to address challenges, and highlighted the importance of moving forward with the Vasil update, which he said had been extensively tested and was ready to roll out.

The Vasil update normally took place in October 2022; however, the first bug, which disconnected 50% of nodes, happened in January 2023, three months after Vasil was implemented.

The big problem is that if the test blockchain does not represent a realistic version of the official blockchain, how do we know if the tests will prevent more bugs? What could happen to the official network if these bugs are overlooked?

The Vasil update normally took place in October 2022; however, the first bug, which disconnected 50% of nodes, happened in January 2023, three months after Vasil was implemented.

Scandal in Ethiopia

Kal Kassa, a resident of Ethiopia, exposed in an article how Charles Hoskinson and the Cardano team had, according to him, “ deceived the people of Ethiopia ”.

Kassa participated in events promoted by IOHK, EMURGO, and the Cardano Foundation, in which a memorandum of understanding was signed on blockchain technology to track Ethiopian coffee along the production chain, in collaboration with the Ethiopian government through the Ministry of Science and Technology.

The agreement was formalized in the presence of Dr. Eng. Getahun Mekuria, former Minister of Science and Technology, and Charles Hoskinson, during the signing of the MOU on May 3, 2018, in Addis Ababa, Ethiopia.

According to the Ethiopian Ministry of Peace, Cardano’s founders have committed to creating identity cards in Ethiopia. However, in February 2021, the Cardano subreddit removed a post related to this commitment. Subsequently, there were contradictory statements, backtracking and stating that Cardano was not working with the Ministry of Peace.

In late April 2021, it was announced at a major conference that Cardano would collaborate with the government of Ethiopia. However, to date, three years later, according to Kassa, nothing has been done.

He argues that, ultimately, Cardano appears to have used the negotiations with Ethiopia for self-promotion on social media and news portals, constructing a false narrative that Cardano was generating opportunities, while, according to its claims, no real progress has been achieved.

Howey test

After an in-depth analysis of the technical, social, and organizational aspects of Cardano, it becomes clearer to apply the Howey test to assess its nature.

1. Does it involve an investment of money?

Yes! Cardano’s founder is Emurgo, a company with commercial appeal, which received tokens in the pre-sale. The ICO itself focused on Japanese investors demonstrating that Cardano had several private initial investors at many stages and from the beginning of the project.

Furthermore, on Daedalus, Cardano’s wallet, there is a legal notice that treats all tokens as investments.

2. Is it a regular company?

Yes. The hierarchical structure, with C-level positions in the founding companies and the Cardano Foundation, reflects a business organization. Centralized decisions on upgrades and the selection of staking pools also indicate enterprise characteristics.

Recently, Hoskinson stated during a live broadcast on his YouTube channel that he “accidentally” opened a screen and “leaked information”.

Well, if an open-source protocol has confidential information known only to insiders, then it is a company and not a decentralized protocol.

3. Is there an expectation of profit?

Yes. From the beginning, aggressive communication during the ICO generated expectations of profit. The main marketing tool during the ICO, focused on Japanese investors, was to generate profit expectations and compare the potential performance of Cardano with that of Ethereum after the ICO.

Due to this aggressive marketing, several Japanese newspapers suspected that Cardano would be the new Onecoin. Additionally, PoS protocols offer rewards for leaving coins in staking pools for validation, thus promoting the expectation of “passive income” or rewards.

Cardano also has a calculator that generates an estimate of these gains, as you can see below:

Obviously, there are disclaimers warning that this calculator is just an estimate and does not guarantee any type of return; however, the rest of the communication says exactly the opposite.

There is even a graph that suggests that, over the years, the return has been increasingly greater, and that the rewards are around 4.6% per year.

Wouldn’t that be generating an expectation of profit?

4. Does growth depend on the efforts and promotion of others?

The Cardano Foundation is the main entity responsible for promoting Cardano, attracting users, and even forming partnerships with marketing companies.

In the image below, the Cardano Foundation explains its role as a promoter of Cardano adoption. Decentralized protocols do not have a sector responsible for the project’s growth; companies do this.

Cardano even hired McCann, a marketing agency, to promote the protocol and guide its brand strategy. Brand strategy…really?

The announcement of the partnership was made on Cardano networks in Japan.

Therefore, it is another check ✅ on the Howey test. In this way, we come to the conclusion that Cardano is indeed a company disguised as a decentralized protocol.

The company from the beginning

Cardano has done everything to stay out of the SEC’s jurisdiction. This discussion on a Cardano forum exposes the creators’ efforts to have EMURGO and IOHK outside the US to survive a regulatory capture if it were to happen.

What is most bizarre is that the company EMURGO will launch STOs, security tokens, and company tokens, on the Cardano blockchain, as if Cardano itself were not a security!

Conclusion

From everything exposed in this article, we come to the conclusion that Cardano communicates using conflicting information to benefit from the lack of common understanding about the main concepts of decentralization.

It behaves like a company and does KYC, auditing, and liability disclaimers on official websites, but on social media and marketing, it describes itself as a decentralized protocol.

Emurgo, Cardano Foundation, and IOHK have great decision-making power, as partners in a company. The risk of centralizing decision-making power involves making decisions on changes to the code for the benefit of the managing members to the detriment of users.

Additionally, Cardano Foundation has partnered with Coinfirm and this reflects the risk of regulatory capture for the protocol as a whole.

Nodes centralized on company servers also present a risk of user censorship, regulatory capture of the network, and bugs if these services are unexpectedly discontinued. Cardano has a consistent track record of over-delivering followed by under-delivering. Updates through hard forks, asymmetric token distribution and nodes concentrated on big tech servers expose the concentration of power at many levels.

Therefore, after all this analysis, it is clear that Cardano responds positively to Howey’s test and is a security of an unregulated software company managed by 3 entities: EMURGO, Cardano Foundation, and IOHK.

In this sense, security risks involve:

• Regulatory capture,
• Censorship,
• Exit liquidity,
• Rug Pulls,
• Bugs and backdoors,
• and hacks.

It is important to be aware of these risks in case of exposure to the protocol.

I hope you enjoyed the article and see you next time!

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