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The three challenges facing the Blockchain Trilemma


ArvinIG

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Breaking down crypto’s biggest problem and exploring decentralisation, security, and scalability.

 
 

The value of cryptocurrencies has plummeted this year. Despite this, enormous amounts of research and investment are going into exploring the applications of crypto-assets and the blockchain. Innovations like decentralised finance, web3, and even central bank digital currencies remain of high interest, as the integration between digital and traditional finance deepens. Challenges remain, however; and the most significant of them is known as the Blockchain Trilemma. In this article, we explain the Trilemma and what it might be for the future of blockchain technology.

What is the Blockchain Trilemma?

The Blockchain Trilemma describes the trade-off a blockchain faces between ensuring decentralisation, scalability and security. Each project tries to achieve some level of all three but prioritises one quality over the others. The trilemma describes the issue that as a blockchain emphasises one feature, it compromises that of the others. It is suggested that only two of the three can be sufficiently achieved at any time.

Let’s break down the three arms of the dilemma individually.

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Source: Bloomberg

The three pieces of the blockchain puzzle

  • Decentralisation

Decentralisation is perhaps the essential feature of any blockchain technology. It’s the removal of traditional intermediaries that creates its appeal and differentiates it from legacy finance. Rather than assets being passed between counterparties via banks or similar entities, the blockchain provides the ability for counterparties to transact directly. In principle, this means that power throughout the network is less concentrated and individuals have greater control of their assets and information.

  • Scalability

Crucial to any network’s mass adoption is scalability - or the ability of the network to increase in size and scope without dramatically impacting its effectiveness. In the case of blockchain, and Bitcoin, in particular, the promise of a decentralised, intermediary-free financial transaction relies on its ability to withstand the growing demand for its use. A failure to achieve this means the network will lack the speed and reliability to replace any traditional infrastructure.

  • Security

Security refers to the need for the blockchain to safely and reliably protect assets and execute transactions. Security is core to trust in any network, especially one that promises to store and transact in things of large value. The risk of a decentralised network is a lack of a single entity to provide security oversight and protect the integrity of its function and assets. In addition, a network cannot become more porous and susceptible to attack.

 

How could the problem impact crypto-assets?

While there’s nothing in practice suggesting that a blockchain can’t achieve decentralisation, scalability and security, the trilemma both describes the issues existing projects have run into and provides a framework for developers to test the strength of their projects. The Trilemma is also a factor in driving the value of a coin. Far beyond the vagaries of market speculation or the use as a financial asset, a cryptocurrency’s utility depends on its ability to deliver decentralisation, scalability, and security.

Could Cardano help solve the problem?

One cryptocurrency that seeks to tackle the blockchain trilemma is Cardano. Cardano promotes itself as a proof-of-stake platform that has been established on ‘peer-reviewed research’ and developed through ‘evidence-based methods’. Like Ethereum, it aims at becoming a public blockchain for public commercial applications. Currently, Cardano has established a decentralised and secure network but is struggling for scale. It is introducing a layer 2 solution called Hydra that will process some transactions off Cardano's main chain, allowing for a great number of total transactions.

Technical analysis of Cardano

Cardano’s central challenge is to achieve scalability if it is to challenge Ethereum as the leader in the race to become a public blockchain for commercial applications. Its long-term utility and value will be determined by whether it can achieve this. From a price perspective, Cardano has seen its value fall by more than two-thirds during the so-called Crypto winter. In the shorter term, the technicals are pointing to a turnaround in momentum for Cardano, with the RSI trending higher, and price above the 20-, 50- and 100-day moving averages.

Cardano daily chart

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Source: IG

Summary

The blockchain Trilemma is the biggest problem facing crypto-assets. Although in principle a solvable issue, current blockchain networks have experienced challenges in achieving all three of decentralisation, security or scalability at the same time. Cardano is one network which is attempting to crack the trilemma, as it tries to achieve scale. From a price perspective, Cardano is showing technical signals of bottoming.

Kyle Rodda | Market Analyst, Australia
18 August 2022

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