Cardano

Cardano is an open-source, public blockchain. It uses the Proof-of-Stake consensus mechanism and has smart contract capability that enables the development of many use cases such as money transfers, decentralized applications (dApps), fungible and non-fungible tokens (NFTS), games, and Web3.

HISTORY - From Bitcoin to Ethereum to Cardano

Bitcoin was released in 2009, becoming the first mainstream decentralized digital currency utilizing blockchain technology.  Bitcoin utilizes the UTxO model, or unspent transaction output model, which are outputs from a transaction.  Outputs exist as UTxOs until they are used as an input in a future transaction in which they become a spent output.  Each UTxO is concrete, and indivisible like physical money.  For example, if you had a $50 dollar bill as cash in your wallet and went to buy a product from the store that cost $20, you would give the cashier your $50.  Next, the cashier would give you back a $10 dollar bill and $20 dollar bill.   UTxOs work similar to cash accounting, where the $50 UTxO would be spent in the transaction and you’ll receive two UTxOs, a $10 and $20, that you can spend later. 

However, while bitcoin remains one of biggest innovations utilizing blockchain technology, what you can do with the protocol is very limited.  You could only store and send bitcoin, or value, to another party.  What about insurance, lending/borrowing, or derivatives?  To enable programmability for more complex transactions and functionality, Ethereum was conceived by Vitalik Buterin in 2013 and later released in 2015. Ethereum uses the account model, in which every transaction updates the global state of the platform, which keeps an account balance of all addresses.  The global state is similar to bank accounts, where the total balance of an account is updated after each transaction.  Having a global state with balances, prices, and other data allows users to make transactions that interact with the global state.  Through Solidity, the programming language for Ethereum, developers are now able to create smart contracts, or decentralized applications (dApps), such as decentralized exchanges (DEXs), lending protocols, or insurance programs.  Having a global state makes Ethereum bad at parallelism, which is the ability to do multiple transactions at the same time without affecting each other. This is because the global state can change after each transaction is processed.  This results in uncertain transaction outcomes for users as transaction fees or prices can change between the time a transaction is submitted and when it is processed.  This is the second drawback of Ethereum, which is a lack of determinism for users in knowing the final transaction details before they submit the transaction.

Charles Hoskinson, one of the co-founders of Ethereum, left to create Cardano in 2015 to correct the perceived deficiencies of Ethereum and the lack of smart contract capability with Bitcoin. In addition to the account model which has a global state, Ethereum also uses an imperative language for smart contracts called Solidity.  Charles opted to use the functional programming language Haskell.  Let’s briefly cover the difference between the two languages, which shows a core infrastructure difference between Cardano and Ethereum.

• Imperative languages like Solidity and Javascript require the code to specify step-by-step instructions computers must take to complete or finish a goal.  Functions have to be coded implicitly in each step, including commands for the computer to perform.  While imperative languages are easier to learn and read, it’s very difficult to write code that executes “exactly as expected”.  The ability of any part of the application to change the state of any other makes it difficult to achieve sufficient determinism or predictability and can cause unintended side effects or potential opportunities for bugs.  Some other disadvantages of imperative languages like Solidity:

• • Editing code can produce a high risk of errors.  Execution is not delineated or precisely expressed from the programming. 
  • The more complex the problem, typically the more code you have to write.  More lines of code introduce a higher chance of errors.

• Functional languages like Haskell and SQL are used when solutions are expressed in function.  Instead of the code describing multiple steps like imperative languages, in functional programming you directly describe what the desired result is for the smart contract.  In Haskell, which is a purely functional programming language, functions are deterministic mathematical functions.  The benefit of purely functional languages over imperative languages is that when the code is run with a given set of arguments or conditions, it will always return the same result, and cannot be affected by a global state or other side effects found with imperative languages.
   
  • Coding in Cardano will likely produce less errors or bugs than Ethereum - With Cardano using a functional programming language vs Etherum using an imperative language, the ability to reduce errors and unintended side effects while benefiting from parallelism and determinism creates a long-term competitive advantage for Cardano in the smart contract arena. 

Let’s cover a brief timeline of Cardano:

1. 2015—Charles Hoskinson and Jeremy Wood founded Input Output (IOHK), the blockchain infrastructure research and engineering company behind the development and maintenance of Cardano.
   
   
2. 2017 — Cardano does a series of Initial Coin Offerings in Japan from 2015–2017 and starts publicly trading on its first exchange in the last quarter of 2017.
   
   
3. 2020 — Cardano launches the Shelley mainnet with its novel Ouroboros consensus protocol, which is a delegated proof of stake mechanism. This mainnet update was a big step toward decentralization by allowing the community to secure the blockchain. ADA holders could obtain staking awards in two ways. You could become a stake pool operator (SPO), which is a full node that validates and adds blocks of transactions in return for ADA staking awards. You could also delegate your ADA to a SPO and share in the ADA staking awards every time that SPO added a block to the blockchain.
   
   
4. March 2021 — Cardano’s block production becomes fully decentralized.  Since the Shelley hard fork launched in 2020, IOHK’s federated nodes were responsible for a declining percentage of total block production. In March 2021, 1,800 SPOs, or non-federated nodes, became responsible for 100% of Cardano’s block production. Cardano also introduced the ability to create native tokens and NFTs.
   
   
5. September 2021 — Cardano launches the Alonzo hard fork, entering the Goguen era of smart contracts. Before this update, Cardano was only able to support staking, and like Bitcoin, transfer and store value.  With the Alonzo update, Cardano became a smart contract platform, making it a direct competitor to the leading smart contract cryptocurrency Ethereum.  Developers could now launch dApps like DEXs (decentralized exchanges), lending/borrowing protocols, yield aggregators, and many other DeFi and smart contract based applications.
   
   
6. 2022 to present — Dozens of dApps are going live on Cardano. Over 900 projects, and growing, are in various stages of development. In addition, there are nearly 1.2 million addresses delegating around 24 billion ADA to over 3,000 SPOs.
   
   

Technical aspects

Cardano is a permissionless, decentralized public blockchain platform that facilitates peer-to-peer transactions through its native coin, ADA.  ​​Cardano’s code is also open-source.  Cardano’s native “ADA” coin is used to secure the platform through its use of a proof of stake consensus protocol, governance, and peer-to-peer transactions.

1. Proof of Stake – Cardano utilizes a delegated proof of stake consensus protocol.  Cardano relies on invested participants, or SPOs, as validators.  SPOs pledge their stake, or ADA, as part of the pool they operate, giving them a vested interest.  ADA holders can delegate their stake to SPOs (stake pool operators).  The delegation is noncustodial, meaning that ADA holders maintain full control of their ADA at all times and can withdraw or redelegate to a different stake pool at any time. The higher the pledge, the more ADA holders are likely to delegate to the SPO’s pool because the SPO is financially vested in the Cardano platform. Other ADA holders can be delegators, pledging their ADA to a SPO. The higher the total combined stake of the SPO and its delegators, up to a maximum threshold, the higher the chance the SPO has of getting selected to add a block of transactions. This model allows the number of validators to increase as usage of the network grows, as more people will be incentivized to become SPOs as transaction volume and the price of ADA grows.
   
   
2. Stake pool operators (SPOs) – There are around 3,000 SPOs across the world who validate transactions on Cardano’s blockchain.  SPOs run the stake pools that can be selected for delegation by ADA holders. SPOs are full nodes that validate transactions and produce blocks on the blockchain. Since Cardano’s platform is permissionless, anyone can become a SPO.  The Cardano protocol uses Verifiable Random Function technology to pick the SPO that will produce the next block of transactions.  To encourage decentralization, the protocol currently limits the maximum delegation of each stake pool to a certain amount of ADA.  If a stake pool’s delegation surpasses the set amount, there will be diminishing returns for both the SPO and delegators.
   
   
3. Epochs – Epochs occur every five days and are when SPOs and their delegators are paid rewards based on how many blocks the SPO validated during the epoch.  There are 432,000 slots, or one per second, for each epoch.  Slots are specific times within the epoch a stake pool has the opportunity to mint a block.  However, on average, SPOs only mint blocks with transactions every 20 seconds, which is around ~21,600 minted blocks per epoch. 
    
4. Rewards – The rewards for SPOs minting blocks come from the protocol’s ADA reserves and transaction fees.  SPOs are rewarded in ADA as an economic incentive to secure the full blockchain and use resources to validate and produce blocks.  SPOs currently receive a minimum fixed fee per epoch of 340 ADA and a variable fee which SPOs can adjust from 0% to 100%.  SPOs can share their rewards with their validators by putting the variable fee at less than 100%.  For example, a SPO with a 40% variable fee would keep 40% of the variable staking awards and give 60% of the rewards to ADA holders who delegated to their stake pool.  ADA holders are economically incentivized to search out pools with low variable fees and high total delegation that’s still less than the current pool saturation limit of ADA.  ADA rewards are automatically redelegated for compounded interest.  
   
   
5. EUTxO (Extended Unspent Transaction Output) model – A UTxO is the amount of digital currency remaining after a transaction is executed.  When a transaction is complete and there are outputs that aren’t spent, the outputs are deposited back into a database as inputs that can be used later for a new transaction.  Cardano’s EUTxO model also brings smart contract capability to the UTxO accounting model.  DeFi applications such as lending, decentralized exchanges, and stablecoins can be made using the programming language Plutus, which is a Turing-complete language written in Haskell.   DeFi essentially can remove or lessen the need for centralized banking authorities and other financial institutions.  

Cardano has a roadmap for its development:

1. Byron (Foundation) – 2017 – Cardano was initially launched as a cryptocurrency.  
   
   
2. Shelley (Decentralization) – 2020 – Implementation of a decentralized proof of stake protocol.  
   
   
3. Goguen (Smart Contracting) – 2021 – Introduction of smart contracts to the mainnet, allowing community members to make DeFi applications and other dApps such as decentralized exchanges, lending platforms, or infrastructure.
   
   
4. Basho (Scaling) – 2022 and ongoing – Improve scalability and interoperability of the network.  This era will include the introduction of diffusion pipelining and other layer two solutions to increase transaction throughput.  
   
   
5. Voltaire (Governance) – Ongoing – IOHK currently manages the overall governance of the protocol but has a goal to place all aspects of the protocol under the management of the community.  Decentralized voting, a treasury system, and P2P (Peer-to-Peer) networking maintained by community nodes are some of the goals. 
   • Project Catalyst – Project Catalyst is a process where members of the community make proposals to receive funding from Cardano’s Treasury for their projects.  The program utilizes Cardano’s Treasury as a funding mechanism for future development on the platform. Cardano’s Treasury pool taxes around 20% of all staking awards and transaction fees.  Development companies, start-ups, and even IOHK can submit their proposals for funding needed for development, marketing, or other projects that utilize the Cardano platform.  After a discussion period where the community engages the entities applying for funds through public town halls and other communications, ADA holders can vote on what proposals to fund.  
     
     

Applications

Hundreds of dApps are currently being built on Cardano.  DEXs, yield aggregators, lending protocols, insurance, and many others. 

Another innovation that is unique to Cardano is community-based fundraising through Initial Stake Pool Offerings, or ISPOs. Upcoming teams who want to build on Cardano have multiple ways to obtain decentralized funding.  ISPOs are a new and innovative method of fundraising unique to Cardano which takes advantage of the platform's stake pool design.  An ISPO begins when an upcoming project opens a stake pool and puts the variable fee close to 100%.  Since the variable fee is close to 100%, the delegators essentially receive no ADA awards for staking.  In exchange for letting the SPO keep their ADA awards, delegators will receive tokens of the project being built on Cardano.  The ISPO pool operator knows when each holder delegated their ADA and how much they staked because each unique ADA address has a public staking key.  

Benefits of an ISPO: No lockup of funds – Unlike traditional ICOs, there is no lock-up of ADA holders’ funds.  They are allowed to withdraw whenever they please.  They only forgo future staking rewards by participating.

No KYC (Know Your Customer) – Since staking is decentralized, there is no KYC required to invest in these projects.  Unlike venture capital projects that require investors in some countries to be accredited, the opportunity to invest in new projects through ISPOs is more democratized and decentralized, allowing everyone to participate irrespective of financial status.

More capital available for the project – Not having KYC allows the developers to get more funds than if stringent KYC was required, which increases the likelihood of success for projects which use this method of raising capital.    ​​

Legal aspects

1. Permissionless blockchains - Cardano faces many of the same risks that other public decentralized blockchains face.  Governments have concerns over decentralized cryptocurrencies like ADA and other digital assets being used for illicit transactions, money laundering, or avoiding economic sanctions.  Some governments, such as the United States, have publicly stated their concerns that cryptocurrency can be used by countries or entities to avoid economic sanctions. 

2. KYC / AML (Know-Your-Customer/Anti-Money Laundering) -  To use an unhosted wallet, no KYC/AML guidelines are followed, as anyone with an internet connection and some crypto can use a wallet.  Trying to implement KYC on these wallets defeats the purpose of crypto of being decentralized, providing access and privacy to everyone.  Some governments, such as the European Union, are moving forward with legislation requiring virtual asset providers, including unhosted wallets used on Cardano like Daedulus, Eternl, Yoroi, or Nami, to verify the source and recipient of each transaction.
3. Would any type of law be successful? — Due to the decentralized architecture of blockchains, it would be hard to stop all nodes from maintaining a public blockchain.  First, the code behind major cryptocurrencies like Cardano, Ethereum, and Bitcoin are open source.  Next, the code behind popular crypto wallets used on Cardano such as Yoroi is open source.  If developers update the code for a blockchain or wallet to include regulatory elements, someone could fork the wallet or blockchain and exclude those elements. In addition, many countries have started to adopt cryptocurrencies to upend the current global financial system and power of key financial institutions such as the International Monetary Fund and the World Bank, which is perceived to be controlled by Western countries who use both to exert economic and political control over other countries.  Two smaller countries who both lacked their own fiat currency, El Salvador and the Central African Republic, have approved Bitcoin as legal tender.

Ethics

1. 1. Tax Evasion— While cryptocurrencies are pseudonymous, some can use them to evade taxes. Unlike a bank account, it can be more cumbersome to determine ownership of cryptocurrency assets.
      
      
   2. Money Laundering— Cardano has millions of Non-fungible Tokens (NFTs), or CNFTs, and multiple decentralized marketplaces where users can buy or sell NFTs.  There is a risk of money laundering as a person participating in an illegal activity can get paid with ADA or a different token.  These users can then go to an unregistered NFT marketplace and sell themselves a random NFT, using the illicit money from an “anonymous” user.
      
      
   3. Smart Contract Risk— Cardano is a public blockchain, meaning all transactions are recorded on a public ledger and traceable by anyone.  The blockchain is pseudonymous, and many people who use centralized exchanges as a fiat-to-crypto on-ramp can be traced easily by government authorities because CEXs follow KYC/AML guidelines.  However, smart contracts can be used to create dApps that obfuscate the linkage between receiver and the source of the funds. For example, Tornado Cash, a dApp on Ethereum, is a non-custodial privacy solution that breaks the link in on-chain activity to improve transaction privacy between the recipient and destination address by using smart contracts.  While some people use Tornado Cash for privacy and security reasons, the dApp has been used by hackers to stop anyone trying to track the addresses where the hackers are holding the stolen Ethereum before they try to launder the money.  This dApp is unique because it’s permissionless, meaning everyone can use it without restriction.
      • Is it legal to make dApps that break the link between the source and receiver of funds?  Is it morally right to have these dApps for privacy advocates?  Any smart contract platform will have this issue. In fact, there are already developers creating similar products like Tornado Cash on Cardano.