As you may notice, the core philosophy of cryptocurrencies is decentralization. However, some coins, apart from stable coins, are hiding you the fact that they are highly centralized, and thus, can be bad for the whole environment.
We will see in this chapter why is the cryptocurrency community so against centralization, but also
how to spot the centralized cryptocurrencies.
Telling that a cryptocurrency is centralized can sometimes involve personal judgment because there is no “theory” behind centralization. However, compared to the majority of the cryptocurrencies, some do not respect some rules. The explanation behind this chapter will stay as much objective as possible.
The centralized cryptocurrencies can have many harmful effects on itself, but also the investors. Going against the core philosophy of Bitcoin, many people are spreading their hate towards centralized cryptocurrencies, just because they are centralized and often because of a mass-effect. This hate is generating a bad image for the project on social media, and we all know that nowadays, a company must have an excellent image to prosper.
However, why do people hate on centralization? Well, there are 3 significant reasons: security, the concentration of power, and price manipulation.
A centralized cryptocurrency network is more susceptible to a security breach than a decentralized network since all the information is gathered in a single place. Also, we have been talking about 51% attacks, and centralized systems can be compromised easily if a group of hackers takes control of the mining power. Also, centralized nodes in a network can freeze and shutdown. This may cause the Blockchain not to run as it should be. The NEO network is the perfect example. Their network was shut down because of the failure of a single node.
Since cryptocurrencies have never been regulated, you are susceptible to hear about price manipulation. However, this illegal process can be even more present with centralized cryptocurrencies. If the founding company or team holds the majority of their tokens, they have the power to manipulate the price easily.
There are two ways to identify a centralized cryptocurrency:
- A concentration of the token ownership
- The centralization of the Mining Power
If the supply of a cryptocurrency is in the majority-owned by the company or a single entity, the project has a good chance to be considered as centralized by most people in the crypto space. This majority ownership grants the power of controlling the entire network. In contrast to Bitcoin, where coins can be mined and created, the probability of being considered as centralized increases if the entire token supply was created at the start of the project.
The mining power centralization includes 2 different problems, the concentration of the nodes, and the unification of the hashing power.
Nodes are required in any blockchain to verify and validate a transaction. However, if nodes from a single entity mostly control a blockchain, it may compromise the security of the network, but also would drastically decrease the opportunity for big players to create nodes.
If a project has all its hashing power owned by a single or centralized entity, it may be more vulnerable to a 51% attack. This would prevent new transactions from being confirmed, and new blocks would be monopolized, meaning that the hacker would get all the rewards and even double spend his coins. To summarize, there is not any threshold for saying that a cryptocurrency has its token ownership centralized. However, if you see that someone holds more than 50% of the token supply, this must be alarming for anyone. Centralization of the Mining power can have a little to no impact on a project if the team has been stated in for the good of the company. For example, if the project was launched recently, it would need efficiency and stability until it becomes used by a significant amount of people.