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Cryptocurrencies
24. January 2023  • clock 5 min •  Dušan Trnkóczi

Tezos – The Multi-Purpose Blockchain

This article will introduce another cryptoasset from our Fumbi Staking Portfolio – Tezos. Tezos is a blockchain that aims to create a self-governing protocol based on on-chain governance, in which its development and further network implementations are directly voted on.

History

The founders of the blockchain platform Tezos are Arthur Breitman and his wife, Kathleen. Arthur Breitman (acting under the pseudonym LM Goodman) published a white paper in 2014 that described the specifics of the above-mentioned on-chain management. In the submitted documents, he emphasised that the design of Bitcoin as such does not take into account a more inclusive governance process and does not allow for the creation of new tokens on the main network. Therefore, the founders decided to design a platform where it will be possible to issue tokens and perform on-chain management based on a model that will allow the holders of Tezons tokens (hereinafter referred to as “XTZ”) to vote on future changes and updates to the protocol. This model was supposed to prevent any fork of the network.

In 2015, the Breitmans founded a company called “Dynamic Ledger Solutions (DLS)”, responsible for creating the original Tezos code. At its core, Tezos is a system designed to formalise the voting and implementation of functional changes in the network. Each voter has as many voting rights as the number of XTZ tokens they own. DLS released its source code in 2016, and the code base for running the Tezos protocol alphanet was released in February 2017.

In July 2017, Tezos announced an ICO (Initial Coin Offering), similar to when companies issue publicly traded shares (IPO) when entering the stock market. Tezos planned to raise a minimum of $20 million. They exceeded this amount by more than 10 times, collecting approximately 232 million dollars in BTC and ETH. Tezos had planned to launch the mainnet in 2017, but some issues delayed its launch until September 2018.

What is Tezos

Tezos is an open-source platform that addresses key barriers to blockchain adoption. It is backed by a global community of validators, researchers and creators. Tezos is designed with long-term upgradeability, open participation, collaboration, and smart contract security in mind. Tezos is characterised by its protocol management style, the so-called “self-regulation”, which we describe in more detail in the following paragraphs. It is worth mentioning that the founder of Tezos, A.Brietman himself, was the first to come up with the idea of such a method of blockchain management.

The governance model used by Tezos boasts low energy consumption (approximately 0.000007 GW) and a powerful distributed consensus mechanism. Tezos is also scalable via EVM and WASM rollups, which can bring a wide range of integrations in the future.

The Pillars of Tezos Operation

Self-regulation

Based on this management technique, the Tezos protocol can self-regulate without the need to divide the network into two or more networks. This change implementation technique is important when proposing changes because the proposal or anticipation of a fork can split the community, change stakeholder motivations, and disrupt the network effect. Thanks to the self-regulating consensus, the costs of coordination and implementation of decisions in the protocol are reduced, which allows easy implementation of future changes.

On-chain Governance 

In Tezos, all token holders can participate in protocol governance. The electoral cycle provides a formal and systematic process for interested parties to reach an agreement on proposed amendments to the protocol. By combining this on-chain mechanism with self-regulation, Tezos can change the original voting process to adopt better governance mechanisms.

Decentralised Innovation

Proposed amendments that stakeholders accept may include payments to individuals or groups involved in its development. This funding mechanism encourages strong participation and decentralises network maintenance. Fostering an active, open and diversified ecosystem of developers who are motivated to participate in the development of the protocol ultimately facilitates the development of the ecosystem as a whole.

Smart Contracts & Formal Verifiability 

Tezos offers a platform for creating smart contracts and building decentralised applications that cannot be censored or disabled by third parties. Additionally, Tezos facilitates formal verification, a technique used to increase security by mathematically proving the properties of programs such as smart contracts. This technique can help avoid high costs for fixing potential errors if used correctly.

Proof-of-Stake (PoS)

Participants (“nodes”) in decentralised peer-to-peer networks provide the necessary computing resources to ensure the network’s operation and security. Proof-of-Stake (PoS) is a mechanism by which the various participants in the Tezos system reach a consensus on the state of the blockchain. Unlike other PoS protocols, in the Tezos system, any participant can participate in the consensus process, and the protocol rewards them for contributing to the security and stability of the network. Furthermore, PoS is less expensive than other consensus mechanisms and also lowers the barriers to entry to get involved in its governance.

Delegation 

In PoS, collateral is required to allow the user to participate in the consensus process and avoid inflation-related problems. As with proof-of-work, the consensus protocol relies on the security of the honest majority. This is directly motivated by the Tezos protocol through penalising dishonest behaviour and rewarding honest behaviour. If the site participant behaves dishonestly, he may lose his deposit. Users who do not want to participate directly in the consensus protocol have the option to delegate their rights to other users to participate on their behalf.

How does Tezos work?

The Tezos consensus is characterised as a “Liquid Proof-of-Stake”. This means that participants in the Tezos consensus algorithm are called “delegates”. These delegates are divided into two groups.

The first group are the so-called “bakers” who validate and create blocks (a baker is just an analogue of a validator in other POS blockchains). The minimum that bakers have to deposit as security against potential network tampering is 8000 XTZ. Proof-of-Stake consensus selects bakers randomly. Each network participant can act as a validator if he owns a certain amount of tokens already mentioned. If the user does not have the required number of tokens, they can delegate their tokens to a baker without losing control of their share.

The second group are the so-called “Delegates”. A delegate participates in block consensus while the delegation and support rights are determined at the beginning of the cycle by computing a random seed from information already in the blockchain. Bakers and delegates receive rewards for their contributions to driving consensus participation in the XTZ.

Another division is associated with accounts on this network. These accounts are divided into implicit and original. Original accounts are contracts that can delegate funds to other accounts if they want to participate in the delegation process. Implicit accounts cannot delegate but can instead be registered as bakers and thus receive delegated funds (and therefore voting rights). If registered, implicit accounts can participate in the delegation process with their own balances as well as the funds delegated to them.

The Tezos Foundation

The Tezos Foundation helps guide the future direction and overall strategy of the Tezos protocol by managing the project’s treasury and awarding grants to projects that build on its blockchain. The foundation’s structure has recently changed and now consists of a six-member board that oversees an executive committee that manages the organisation’s day-to-day operations. It also has various sub-committees, such as the investment, technical, advisory, or audit committees, which help with treasury management and technical strategies.

Significant Improvements to the Tezos Network:

  • Athens – This update proposal was initiated by the Nomic Labs developer group. The research organisation presented two competing proposals: Athens A, which increased the gas limit and reduced the stake size to 8,000 XTZ, and Athens B, which also increased the gas limit but kept the stake size at 10,000 XTZ. In the proposal submission phase, Athena A’s proposal received up to 70 percent support. As a result, Athens A advanced to the exploration phase, while Athens B was rejected. In the final phase, almost 100% of the voting participants voted for introducing the Athena A proposal. More than 84% of the authorised token holders participated in the voting.
  • Babylon – this update introduced a more robust version of the consensus algorithm (Emmy+), simplified the development of smart contracts and improved the delegation process.
  • Carthage – Tezos holders voted overwhelmingly to implement the Carthage 2.0 update. The Carthage proposal was a joint effort between cryptographic research organisations Nomadic Labs and Cryptium Labs to help add some code optimisations and fix a few “small issues”. In particular, the upgrade increased the gas limit for each block and the limit for operations by 30%, which will allow developers to run more complex applications. Carthage also aimed to improve the accuracy and security of the calculation of validation rewards (especially regarding confirmation rewards).

Tezos Consensus Algorithm 

Tezos has used a Nakamoto-style PoS algorithm for consensus, called Emmy+, since the Babylon update. For a better understanding, we will divide it into four parts:

  • Baking – Represents the creation of blocks. In the Tezos system, participants who create blocks are also called bakers. As we mentioned earlier, to be considered a backer, a participant must own at least 8,000 XTZ, which is 1 stake. The more shares someone owns, the higher their chance of getting the right to verify the next block. If 10 shares are activated at some point, and the baker owns 2/10 of those shares, he has a 20% chance of being granted the right to create the next block. The reward for validating a block and adding it to the blockchain is 16 XTZ, and these rewards are funded through network inflation. Annual inflation is a maximum of 5.51%.
  • Approval – In addition to the production of blocks, the participant can also support the block or vote for it. Approval rights are set in the same way as block verification rights. At each block height, 32 random shares are selected, and their owners are supposed to support the block. Approval serves as a block vote. Approvals are a sign of activity, so the more approvals blocks contain, the more favourable it is for the blockchain. For approvers, the reward for approval can range up to 2 XTZ (if it is an approver with the highest priority). There is no reward for approvers who do not have the highest or second-highest priority status.
  • Block delay rule – The priority of a block and the number of confirmations included in it determine the minimum time in which the next block can be created. The higher the priority and the number of confirmations, the faster the next block can be created. The minimum block delay is currently set to 60 seconds.
  • Fork selection rule – If a participant observes two different chains, the so-called fork, it will use the fork selection rule to decide which one is the “correct” one. The rule consists of simply choosing the longest chain and also includes checking that blocks are not created earlier than allowed.

Central Bank Digital Currencies (CBDC’s) 

Central Bank Digital Currencies are a form of currency that will be fully transparent and issued by central banks, and backed by national currencies. The Tezos platform served as a test platform for several projects. Let’s mention some of them:

  • Forge – Société Générale – Société Générale is one of the largest European banks that chose Tezos when experimenting with CBDC development. However, Sociéte Générale is only an extended arm of the Central Bank of France, for which it was supposed to test interbank payment settlements as early as July 2020. The first euro stablecoin was created on this network. This stablecoin is under the patronage of the start-up Lugh, which already holds its deposits in the aforementioned bank Société Générale. It is worth noting that this start-up is audited by the renowned company PwC.
  • BNP Paribas and Blockchain Xdev – In November 2020, BNP Paribas and CA CIB combined their expertise to launch a project to explore the potential applicability and implications of a digital intra-bank currency (DIBC). The mentioned companies have chosen Tezos and Ethereum as pilot blockchains, with their main focus on atomic methods of settlement and delivery of securities on the blockchain.

Tezos Ecosystem

Source: Messari

The most popular projects on the Tezos platform currently include:

  • Youves – a decentralised platform designed to create and manage synthetic assets. Synthetic asset stampers gain passive income paid in the YOU management token,
  • Kolibri – Kolibri is a stablecoin on the Tezos network built on collateralised debt positions (CDP). Kolibri uses CDP to collateralise and soft peg the stablecoin to parity with the dollar. This stablecoin is called kUSD,
  • Liquidity baking – a decentralised exchange contract added to the Tezos protocol between XTZ and tzBTC,
  • Objkt – the largest NFT platform on the Tezos blockchain,
  • Atomex wallet – a wallet with a built-in atomic swaps technology of BTC, TzBTC or XTZ,
  • Tezos Domains – just like on other blockchains, on Tezos, users have the option to purchase a domain that will be associated with their blockchain address. The current price of such a domain is 1 XTZ (at the time of writing ~ 1 USD).

Network’s Native Token – XTZ 

As we mentioned earlier, XTZ is used in the Tezos network to pay transaction fees, perform on-chain management, and participate in block validations, for which bakers receive rewards. The final supply of XTZ is set at 10 billion, and there are currently almost 924 million XTZ in circulation.

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Dušan Trnkóczi

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