Permissioned vs permissionless blockchains: a detailed analysis for financial professionals

Blockchain technology and its applications have greatly expanded since they were first introduced. Initially, distributed ledgers were intended to track Cryptocurrency transactions away from a central authority or reveal potentially sensitive information about the people enacting these transactions.

But blockchain based solutions have proven their worth beyond the realms of a store of Cryptocurrency transaction information, and have been readily adopted by an increasing number of financial organisations.

Justifiably so, since information or funds on a blockchain network can not be forged, duplicated or counterfeited, but as security is one of these organisation’s top priorities, another layer of safety is needed.

This article will look at the two primary types of distributed ledger technology – Permissioned vs permissionless blockchains and how they are completely reshaping the financial sector’s landscape.

Overview of blockchain technology in finance

As expected, the two primary uses of blockchain technology in finance have been to perform low-cost direct payments and fund transfers. An additional benefit is transaction information making the verification process simple and straightforward.

Ethereum, a decentralized network, allows people to create their own Cryptocurrencies and even Cryptocurrency exchanges. Network participants can also create so-called smart contracts that are like real-world contracts, but on the blockchain network.

The low cost of setting up and deploying blockchain based applications, digital assets, and transactions makes it ideal for start-ups, challenger financial service providers and asset managers.

An in-depth look at permissionless blockchains

Definition, functionality, and key examples

The original generation of blockchain technology, like Bitcoin, could be considered permissionless blockchain or public blockchain. They are highly decentralized, largely public blockchains with consensus validation for transactions. Changes are decided by the community of miners and users not a single entity.

Although it does have integrated security features, security isn’t necessarily the primary focus of the permissionless model.

The main focus of permissionless networks is to decentralise and democratise financial systems. The community contribute to validate transactions, the network accepts or rejects proposed changes.

Of course, there are certain drawbacks to permissionless blockchain networks. One of the primary and most obvious is the ability to remain anonymous. Although a benefit for most, it allows less transparency and more exposure to potential false identities.

Advantages: transparency, inclusivity, and more

Permissionless networks are obviously more open and transparent, with very little to no restriction on who can participate, mine or hold digital assets the network yields.

This has proven irrefutably valuable in places where centralised financial or societal entities have completely failed – like war zones, societies under totalitarian or authoritarian rule, places that experienced runaway inflation, or where the financial system has completely collapsed. And in an ideal world, this is exactly what Cryptocurrencies were created to do.

Permissionless systems allow multiple people and entities access to multiple and low cost blockchain solutions.

Challenges and considerations

Although bad actors such as autocrats, totalitarians, and any malicious central authority can not access permissionless blockchains, they can’t seize digital assets either. This huge benefit is also a disadvantage of permissionless blockchains when the people using them are bad actors themselves.

Recently, we’ve seen a rise in ransomware attacks, where Cryptocurrencies, like Bitcoin, are requested in exchange to unlock valuable data. The anonymity and accessibility allowed by these blockchains can of course be taken advantage of.

As nefarious actors can not perform identity verification, neither can organisations that protect people from various dangers, including financial crime and identity theft.

On an organisational level – business parameters might require a certain level of transparency and reporting, or require certain security features, that a permissionless blockchain might not offer.

Furthermore, scaling may be a challenge for permissionless blockchains. Their consensus mechanism or consensus protocol requires the entire community to agree to changes. It also requires verifying transactions through the network, requiring a lot of computing resources and high power consumption.

Understanding permissioned blockchains: controlled and efficient

Definition, structure, and real-world applications

So how do permissioned networks compare to their permissionless counterparts and what are they? Permissioned blockchains only allow access to authorised users. This also means that a permissioned blockchain can be managed to be more energy efficient, by limiting the amount of users of the permissioned network, thus regulating power usage.

As permissioned blockchains are fully centralized, partially decentralized, or private blockchains, the consensus mechanisms may be done by private entities or private organizations, allowing changes to happen within a shorter timeframe.

Increased security is another benefit, working as private networks, or closed networks – prohibiting unknown parties from easily accessing the network. This additional access control layer on the blockchain or even the application of perimissioned network wide verification, allows for privacy-focused hybrid integrations that wouldn’t be possible on a permissionless blockchain – like the storing of sensitive or private data.

Although most Cryptocurrency wallets that hold Bitcoin, for example, do have private keys, which only allow the holder access, an additional layer of security is required to access data on a permissioned blockchain.

Permissioned blockchains are ideal for applications where blockchain backed technology is necessary but data that needs to stay secure is used.

These are the key differences between permissioned vs permissionless blockchains.

Advantages: security, efficiency, and regulatory compliance

Permissioned blockchains ideal use-scenarios are for financial service providers, payment processors, or even exchanges that have very specific regulatory requirements regarding the products they offer their clients, the security of their clients’ data, and their funds.

Permissioned blockchains allow these organisations to use the power of blockchain technology, without exposing themselves or their clients to the inherent drawbacks of a permissionless blockchain.

This also gives them the ability to control the consensus protocol, the consensus mechanisms, transactions, network or data access and if the network will be proof of stake or proof of work.

Potential limitations and risks

The risks of a permissioned vs permissionless blockchain is the fact that this type of blockchain is controlled and managed by a private group, single entity or organisation.

This also means that transactions may not be as anonymous as those on a permissionless blockchain. You will not have access to the consensus algorithms or the process of adopting changes to the blockchain. Access may be restricted to a limited number of network users due to power or computing resource availability.

Permissioned blockchains may also be manipulated in anyway the “owners” see fit. As a partially decentralized or fully centralized network, a permissioned blockchain may close, or be changed without the consensus of the community, that is necessary for changes to take place on permissionless blockchains.

The last and probably least likely risk of a permissioned blockchain, is the danger that the network might be shut down if the entities managing it go into liquidation, leaving network users at a loss.

This is of course a very unlikely scenario, since most credible blockchain “powered” financial service providers, exchanges, and payment providers are regulated, and are required to insure their client funds in case of liquidation.

Comparative analysis: permissioned vs permissionless blockchains

Applicability in various financial use cases

Blockchain powered applications are abundant and constantly growing. As expected, the financial and adjacent sectors have readily adopted the technology due to its scalability, anonymity and low cost.

An additional benefit for these types of companies or entities is the ability to create smart contracts, decentralised exchanges or even unique Cryptocurrencies.

In regards to permissioned and permissionless blockchain, the benefits between the two is obvious – one offers a decentralised blockchain, that prioritises network access, whereas a permissioned network, limits accessibility for the sake of security and to meet regulatory requirements. The unintended benefit is it allows the company more control over the network, and that using consensus algorithms instead of a community voted consensus, like permissionless blockchains, that can cause delays in changes taking place and even forks in the blockchain.

Permissioned networks are also able to better manage their computing resources and energy consumption by limiting the nodes on their network.

Both permissioned and permissionless blockchains have seen an almost vertical integration of smart contracts into their operations. These are low cost solutions that can be used to perform transactions that carry certain conditions, i.e. a payment is made when an asset reaches a certain price like derivates.

As mentioned above, both permissioned and permissionless blockchains allow users and intermediaries to quickly send funds and assets across borders at a fraction of the cost and time needed when using traditional money transfer networks such as SWIFT.

This also mitigates compatibility issues, certain cross-border interbank networks do not communicate amongst themselves, creating a lengthy and expensive process.

Security, privacy, and eegulatory compliance

Since Cryptocurrencies entered the mainstream, governments have been scrambling to regulate both permissioned and permissionless blockchains, or at least the tokens the networks create.

Permissionless blockchains are extremely difficult to regulate due to their decentralised status, the anonymity of their transactions and technical nature made them extremely difficult to oversee.

This is extremely problematic for businesses looking to offer financial services or payment processing that’s based on either permissioned blockchains or permissionless blockchains. To be allowed to operate, governments require these entities to meet minimum regulatory requirements.

To do so, they need to be able to perform KYC processes (Know Your Customer), have insurance if they go into insolvency and prove their clients and the funds they use are legitimate and sourced legitimately.

As you can gather, this requires a level of control over the blockchain that permissionless does not allow and only a permissioned blockchain can offer. That’s why many of these companies opt for permissioned blockchains to have the necessary information they need to meet regulations.

Performance considerations: scalability, speed, and costs

Both permissioned and permissionless blockchains are scalable, fast, and cheaper than traditional types of fund or wealth transfer protocols. But one is more scalable, fast and more efficient, both in energy consumption and cost.

Permissioned blockchain networks due to the fact that the access to the network is managed by the entity that owns or create it, it can limit accessibility to control various aspects such as the computing power needed, the electricity the network consumes, and how changes are implemented, without the need of community consensus to push said changes.

This means they can also control the ability to scale and the costs associate with using the network.

Permissionless blockchains are largely decentralised, and need community agreement to push changes and to define costs – i.e. how much miners are paid per transaction processed. This comes at the cost of efficiency, speed and scalability.

Strategic guidelines: choosing the right blockchain for financial solutions

So which of the two blockchains should you choose? It really depends on your application. If you are in a location that doesn’t require stringent regulatory adherence and scalability isn’t your priority, then a permissionless blockchain might be the best solution for you.

If you are looking for a secure solution that can help you meet regulatory requirements and give more control over your blockchains, then a permissioned blockchain is likely the ideal application for you. considerations.

Conclusion: the future of blockchain in financial innovation

In conclusion, permissioned blockchains offer entities, companies, and financial providers the same amenities as a traditional wealth transference protocol, with the additional benefit of being faster and less costly than these traditional protocols.

Permissionless blockchains on the other hand are more open, completely decentralised, and give open access to most people around the world.

The best option depends on your requirements and the regulatory framework you need to meet to operate legally.

FAQ: Frequently Asked Questions

What is the difference between permissionless and permissioned?

Permissioned blockchain is managed by a single entity and may require the user to validate their identity to access it. Permissionless blockchain is for the most part open to anyone that wants to access it and is managed by the network's community.

Is Ethereum permissionless or permissioned?

It is a permissionless blockchain but there are various solutions built on the Ethereum network that allows the creation of permissioned blockchains.

Which blockchains are permissioned?

There are various permissioned blockchains, most offered by various business solution vendors.

Is Cardano permissioned or permissionless?

Cardano is a permissionless blockchain.

What is an example of a permissionless private blockchain?

Bitcoin, Ethereum, Cardano are all examples of permissionless blockchain.

Does Bitcoin use a permissionless network?

Yes, Bitcoin uses a permissionless blockchain.

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