The decentralization of blockchain networks is based on two pillars: People running full nodes have control over the production of blocks. The team has control over the Cardano client source code. In the article, we will explore the first pillar. We'll explain the common and lesser-known requirements for blockchain decentralization and put it in context with Cardano.
Responsibility without the ability to rule
Let's first clarify a few requirements for a decentralized network. A network can only be considered decentralized if these requirements are met. We will explain the requirements that are generally known, but also those that are less talked about and that can fundamentally affect the overall result.
First of all, there must be no central authority controlling access to the system. The system must be open to all. Everyone is free to join and also free to leave at any time. This applies to users, but also to those who want to receive a reward from the network for providing the required services for it.
In the context of decentralization, block producers and delegators are mainly important. In an ideal world, users would choose a blockchain based on the level of decentralization. However, many other factors will affect success.
Everyone must be able to obtain, under the same conditions, an expensive resource (native coins, hash rate, etc.) around which the network is decentralized. The high volatility of cryptocurrencies and the growth of the market value of the project's native coins may favor early entrants. Anyone who owns the required amount of the resource can become either a block producer or a delegator.
The decentralization of most blockchain networks is based on owning an expensive resource. This is the reason why it is not possible to ensure equality between block producers. Whoever owns more resources, whether purchased with their own money or through delegation, can produce more blocks. This inequality also manifests itself at the level of delegators. Whoever can acquire more of the expensive resource can delegate more and thus receive a greater reward from the system.
If the openness of the system is to be achieved (without verifying the identity of entrants), equality cannot be ensured. Money can buy a stronger position in the open system. In principle, it is impossible to prevent anyone from gaining a dominant position. Economic incentives motivate entities to try to get bigger rewards, which unfortunately degrades equality, thus decentralization and security.
It is important to realize that greed is what motivates people to participate in decentralization. Decentralized networks give people the opportunity to improve their living conditions. This is also the reason why participation in decentralization becomes a business for successful projects. It is important to make this business as accessible as possible to everyone for as long as possible (ideally forever).
Block producers and delegators are responsible for decentralizing the network. If someone manages to control a dominant amount of the resource (more than 1/2 or 1/3), they become the ruler of the system. In that case, the system is no longer decentralized.
The only possible defense against the emergence of a dominant entity is inclusion, i.e. the lowest possible costs enabling participation in the decentralization of the system. It must be unimaginably costly for an entity to gain dominance by purchasing a resource. The more people participate in decentralization, the more difficult it will be to gain dominance, as it is essentially a battle for resources.
You may be surprised that decentralization is protected (to some extent) by the network effect (number of users and adoption), community engagement and loyalty, and faith in the future of the project. In one word, it could be described as a social layer.
Growing adoption motivates people to participate in the success of the network. In the case of blockchain, this means buying native coins, staking them (only PoS networks), participating in voting, and the possibility to get a reward for participating in decentralization (staking, mining).
The social and economic importance of blockchain projects is expected to grow over time. Now we are still at the beginning. It is important to ensure that decentralization (security and other properties) is ensured mainly in the case of noticeable growth in the importance of the blockchain. This will be a gradual dynamic process. With the growing importance of blockchains, the desire of various entities to control them will grow, either for reasons of obtaining higher rewards (greed) or for reasons of power (politics, business, etc.).
In this context, tribalism between blockchain projects can make sense to you, because in a way it is a fight for decentralization and security. The network effect naturally makes native coins more expensive. This increases the rewards, but also the defense against the possibility of gaining dominance.
Note that the defense against the emergence of a dominant entity (ruler) is similar to the defense against a 51% attack.
If the possibility to participate in network decentralization is exclusive, i.e. costly or even impossible for a given location (applies mainly to PoW networks), the system will gravitate towards centralization. The decentralization of the system decreases as fewer and fewer people participate in it. As participants decline, the power of larger entities usually increases.
It can be an advantage for the system if it is possible to own a small part of the resource and delegate it to another entity. Most people (delegators) delegate the resource to block producer nodes (pools/validators). Ideally, delegators should have control over the resource (own private keys or ASIC miner + energy) and be able to delegate it to another entity at any time. In this case, we are talking about direct delegation.
There is also a form of indirect delegation where resource owners relinquish control over the resource. Loss of control occurs when the person who paid for the resource does not have direct control over it, and a third party can misuse the resource or lose it for some reason. The resource can thus be easily misused. Indirect delegation refers to staking from centralized exchanges, cloud mining, and the like. Resource concentration is always a risk.
It makes a difference if the entity gains dominance by owning the necessary amount of resources, or if the power is at least partially delegated. In the case of delegation, it is possible that the delegators will support another entity and thereby weaken the position of the one that violated the social contract. The more resources are in the hands of delegators, the weaker the position of block producers.
One of the other factors that affect the quality of decentralization is the ability to maintain one's position and not be pushed out by competition. This is one of the biggest differences between PoS and PoW networks. While many PoS projects allow you to maintain your own position of power through the possession of coins, in PoW networks there is competition between miners. Large miners tend to have advantages due to their size (the economy of scale effect) and can more easily push smaller ones out of the system. PoW mining is an exclusive business. Many PoW blockchains tend to become more centralized as smaller hobby miners leave.
Transparency is also an important requirement for a decentralized network. Although this property is not always desirable, especially regarding the privacy of transactions, in the context of decentralization it is advantageous to have the ability to verify the behavior and status of individual participants. It must be possible to verify how individual actors behave and whether they perform their roles in the system as expected.
Let's summarize it. A decentralized network must be open, permissionless, and transparent. Since equality between block producers and delegators cannot be ensured, the network must be inclusive and transparent. Systems with the ability to directly delegate a resource may have an advantage. Network decentralization is protected by the social layer. As blockchain's social and economic importance grows, so must its decentralization. The pressure to dominate the network can be higher than today.
Who controls Cardano
Cardano is decentralized around ADA coins. ADA coins are a finite, non-renewable, and scarce resource. The number of ADA coins is capped at 45,000,000,000. At the time of writing, there are roughly 35B coins in circulation, roughly 8.9B coins in reserve (to be gradually released through staking rewards), and over 1B coins in the Cardano treasury.
Cardano is a decentralized network over which no central authority has control. Cardano is owned by all those who hold ADA coins. Ownership of ADA coins is represented by the possession of private keys that allow spending coins, but also create certificates for registering a stake address and pool, as well as for delegating stakes.
The distribution of ADA coins, as well as all certificates (including history), are stored on the Cardano blockchain. Anyone can verify it at any time. Cardano basically takes care of its own decentralization, as it does not limit anyone in the interaction and is available to everyone who has access to the Internet.
Anyone can buy ADA coins and without the permission of a third party create a certificate and submit it to the blockchain. Anyone can thus become a pool operator or staker. Cardano (the source code in the client) cannot limit anyone in this.
At the time of writing, there are roughly 1,100 pools that produce at least one block in each epoch (and are eligible for a reward) and nearly 1.3M stakers.
Pool operators (block producers) can autonomously decide which version of the client to install on their node. This is the link between the first and second pillars of decentralization. The IOG team is responsible for delivering the Cardano client, but the network update cannot be initialized unless enough pool operators agree to the change. In other words, a large enough stake must agree. Therefore, to a certain extent, the delegators also have to agree with the network upgrade.
Cardano is purposely built to remain as inclusive as possible, supporting direct delegation without the need for third parties. Therefore, there is no defined minimum for ADA staking, and transaction fees are low even when sending a certificate. Basically, every user of the Cardano network currently has to hold ADA coins, so he can be a staker (that is, an active owner of the network).
Although this may change after the introduction of the Babel fee and users will be able to pay transaction fees through tokens (stablecoins, etc.), the possibility of becoming stakers will remain an attractive and affordable option.
Importantly, stakers can very easily create a delegation certificate from their wallet and keep ADA coins under direct control. They can change the delegation at any time.
If you own a stake in the Cardano network, you will never lose it as long as you have your ADA coins. No one can put you out of business. Even if the importance of the network grows 10x, the number of stakers can also grow. It can be economically costly for large entities to acquire a larger stake in the network, as there will always be a large number of small stakers as well.
A pool operator can become literally anyone who is able to run their own node and create a pair of certificates, specifically pool registration pool and operational key certificates. However, a pool can be elected as a slot leader, i.e. get the right to produce a block, only if it has enough stake. In order for a pool to mint a block in each epoch and thus ensure a reward for the pool operator and the stakers who delegated to this pool, it needs to have a stake of around 3-5M ADA coins.
Cardano has a unique mechanism that prevents pools from having an unlimited stake. This is called the saturation point. Stake of pools is limited by the protocol and if it exceeds the saturation point, it will get smaller rewards. This is to motivate stakers to delegate to another pool. At the time of writing, the saturation point is just over 72M ADA coins.
A single entity can operate multiple pools. This inequality cannot be prevented as it would violate openness. Some third party would have to verify the real identity of the pool operators and they would still be able to hire white horses. The saturation mechanism has the psychological effect that multiple pool operators are easy to find and label. It is possible that a single entity will operate multiple pools under a different ticker so that it is not obvious at first glance that it is a multi-pool operator (MPO). This is possible (and can be one of the attack vectors), but it can be more complicated in terms of obtaining delegations. Multi-pool operators are often time-tested entities with good track records.
There is a relatively large number of multi-pool operators in the Cardano ecosystem, so it cannot be said that one of them is gaining dominance. The largest multi-pool operator is Avengers with a share of 6.7%. There are several dozen MPOs, so the diversity is still relatively high. Some MPOs own a large number of ADA coins themselves, but in many cases, ADA coins are delegated. MPOs, but also single pool operators (SPOs) are economically motivated to behave honestly. Stakers can delegate elsewhere at any time in case of any doubt.
The Cardano network is inclusive and allows every user to actively participate in decentralization and earn a reward. The ability to engage can play a significant role in adoption. Over time, staking, i.e. receiving regular rewards from the network, can be perceived as a standard financial option for securing passive income. Of course, this will only happen if the social and economic importance of the network grows.
The success of networks largely depends on technological dominance, i.e. scalability, decentralization, security, long-term economic sustainability, utility, second layers, etc. Therefore, the team and the community are extremely important for success. The first users of the DeFi ecosystem are recruited from the community, and their social interaction on social networks attracts newcomers to the system.
Teams generally have a very important role. Without innovation, maintenance, and addressing existing problems, it is impossible to gain technological dominance. Community trust in the team is important in the context of building trust in the project.
If Cardano is successful and the network effect grows, there is a good chance that the decentralization of the network will also grow, as a significant part of users will also own ADA and become stakers. The requirement that the market value of the resource grows along with the adoption of the network is therefore fulfilled in the case of Cardano.
All small and large entities seeking a stake in the Cardano network will be competing for a limited scarce resource with very low inflation.
The more current SPOs and MPOs continue to believe in the success of the project and operate their pools, the harder it will be for new entities to establish themselves. It should be noted that this also applies to small SPOs, for which it can be very difficult to establish themselves, i.e. to obtain a sufficient stake for the regular production of blocks.
Blockchain decentralization is easily quantified through the number of block producers and delegators. However, this is not enough, and it is necessary to examine partial details. This is much more difficult to quantify. The quality of decentralization is not only influenced by the protocol (source code and incentives) but many other factors such as trust in the team, belief in the success of the project, usefulness, inclusiveness, regulation, etc. We can talk about indirect influences or characteristics that affect decentralization. It is important to attract the largest possible number of participants who can easily and cheaply participate in decentralization. It is an interplay of economic incentives and faith. Incentives are set by the protocol. Everything else depends on the social layer.
No one is able to shut down the Cardano network. It is not possible to order any central entity to do so. The network controls a huge number of ADA holders and they are not subordinate to any third party.
It is possible to attack networks without having to hold the resource. For example, regulators can search for entities such as block producers and make their demands on them. Therefore, it is important that there are as many block producers as possible in the system. Anyway, the block production function can be easily transferred elsewhere or given up. It would be unpleasant if block producers (along with delegators) complied with the regulations. However, there will always be a part of those who will not comply for ideological reasons.
In the article, we did not talk about governance and the role of the team in a decentralized system. This pillar is extremely important and will become more so if the adoption of blockchain technologies grows. Teams do not (should not) have a significant stake in block production, but they take care of the protocol source code (rules) and significantly influence the social layer. The focus should be on transparency. On-chain governance can significantly limit a team's influence and make it essentially a paid servant of the community.