Image source: https://rb.gy/rjeusv

This article is written by Devagni Vatsraj , pursuing a Diploma in Cyber Law, Fintech Regulations, and Technology Contracts from LawSikho.com.

What is blockchain?

A blockchain is a ledger of transactions, in a digital format, which is distributed across the network of computer systems, creating a block. Each block in the chain contains a number of transactions, and every time a new transaction occurs, such transaction is added to the ledger. These transactions are recorded with an unalterable cryptographic signature, called Hash. Blockchain is a decentralised database managed by multiple participants and hence it is also referred to as Distributed Ledger Technology. Blockchain technology is a way of creating a shared database which can record and track transactions; is not centralised and is very transparent. Once data is fed in the database, it is very difficult to be removed and hence the proponents of this technology strongly believe that this will make it resilient to fraud. This indicated that if a hacker wanted to hack into the system or corrupt the flow of the blocks, they would have to change every Block in the chain, throughout the distributed verticals of the system.  

Other than the blockchain being decentralized and immutable, they are secure, anonymous, and programmable; and can be tracked to real time. All the individuals in the chain agree to the verification of the transaction, therefore, the blockchain is unanimous in nature.

Legal issues with blockchain

Blockchain is applicable to almost any industry and therefore its regulation is of utmost importance; and yet, there is a lack of directives and guidelines in this regard, which gives rise to many remarkable questions. Some of the issues are mentioned below:

1. Privacy

Indian IT law or for that matter, any existing privacy laws across the globe, fail to bring within its fold, the privacy of blockchain users. One of the essential features of this technology is being identified by other individuals of how the transaction has taken place and who were its participants.  Such participants can be identified by IP addresses, digital identifiers, and their public keys. Consider Section 43A of the Information Technology Act, 2000, “Where a body corporate, possessing, dealing or handling any sensitive personal data or information in a computer resource which it owns, controls or operates, is negligent in implementing and maintaining reasonable security practices and procedures and thereby causes wrongful loss or wrongful gain to any person, such body corporate shall be liable to pay damages by way of compensation to the person so affected.” In respect to blockchain, there is no central authority that regulates it; this is rather a decentralised technology. Therefore, privacy to sensitive information as mentioned in Section 43A, would not cover in its ambit, the transactions made via blockchain or the identifiers of its participants.  

2. Cybersecurity

Though acknowledged as secure and robust, blockchain technology is not watertight; for instance, in a private blockchain, if there is a point of failure, the participant’s private keys can be compromised and the data can be breached. With different kinds of blockchains, there are different issues associated with them. With private blockchain, since there may be a centralised controlling unit, they can be targeted under the Information Technology (Reasonable security practices and procedures and sensitive personal data or information) Rules, 2011. However, a public blockchain is a completely decentralized ledger, and therefore, the existing data protection standards may not suffice. Now that the technology is being recognised across all sectors and high-end transactions are entered into through this technology, cybersecurity is of utmost importance.

3. Issue with irreversibility

Transactions to this technology are irreversible, and this is an essential feature of blockchains. If a person with intentions of committing fraud enters into a transaction; it is extremely difficult for regulatory authorities, officers, courts, etc. to trace the criminal. As opposed to normal ledgers, where one can approach the RBI, banks, tribunals, and courts; transactions on the blockchain are not reversible by a central authority, and bringing justice to the victim is extremely difficult. Even if the wrongdoer is identified, the execution of the judgment gets tricky. This brings me to my next issue, pseudonymity.

4. Pseudonymity

The identifiers like IP addresses can locate from where the transaction has taken place but it does not define who has entered into such a transaction. The real identity is not linked and therefore it gets difficult for the regulators to hold participants responsible. Enforcing law becomes difficult. Tax and contractual obligation, issues relating to terrorist funding, money laundering, jurisdiction, etc. become an issue when the identity of the user is sodomised. 

5. Issue regarding jurisdiction

As has been mentioned above and throughout this article, blockchain is a decentralised system and it is difficult to locate the individual. There is no common setup where data is stored; it is not easy to point in one single direction as to where the data might have been leaked. There are a few countries, which have set up a framework in regards to internet law; say, storing of localised data, on how the data flows, and what data is restricted. Similar regulation with respect to the blockchain is required; this is possible only in harmony with international law from this perspective. Until then, the data may be stored in any part of the world, and thus, the question of jurisdiction shall always arise.

6. Enforcement with a perspective of contractual obligation

Blockchain is the formation and execution of contracts (smart contracts); here, in the digital space, the software dictates the obligation, which when fulfilled, executes the transaction. Since there are many issues as stated above, such as pseudonymity, lack of regulation, jurisdictional issues; it is necessary to consider how the execution of transactions through blockchain is brought into the ambit of contacts. Can these be treated as contracts like our traditional ones or is its enforceability the same? Can these contracts be hacked or remain confidential? Understanding the software programming is now essential for lawyers and it is recommended that there should be one language in which these digital, smart contracts are governed; this would give parties a chance to resolve disputes under their traditional mechanisms. Further, new laws relating to contracts must be legislated to administrate blockchain-driven contracts.

7. Issues relating to decentralised autonomous organisations

“A DAO is a virtual autonomous organisation, in which the functions of the organisation exist in software, and the laws governing the organization’s functions are set into smart contracts that become automatically enforceable if a set of defined conditions are met. As a result, the DAO becomes a company that runs by itself, without a centralized governing body.” The Decentralised Autonomous Organisations are stateless and therefore notorious. It is difficult to bring them to questioning under any jurisdiction and law. It is an open-source structure, therefore everyone and at the same time, no one, in particular, is legally liable, and therefore DAO’s are legally very flexible. However, with the recognition of the Association of Persons, there is significant gravity put upon these individuals that form themselves into a DAO. The Income Tax Act, 1961 and the Competition Act, 2002, recognize this concept of an association of persons and hence prevent DAOs from ‘slipping under the radar and being considered nefarious.

These are a few grey areas in adopting blockchain technology in a full swing. Yes, blockchain is a revolutionary technology but we need in place, proper laws to govern it. Most of these changes were recognised with the adoption of the Internet and we slowly but eventually are coming to a standpoint where we can regulate the internet. Similar efforts are required in the regulation of blockchain. Many experts have recognised that to have a breakthrough in respect of blockchain technology, we need to give people incentives, in the form of tokens or cryptocurrency. It is of utmost importance to understand the risk associated with the technology; the regulators and lawyers must be aware and adaptable to this technology, in order to understand blockchain, formulate laws relating to it, adjudicate the problems that may arise, and bring justice to the users/participants.

Types of blockchain

As we understand, blockchain is a distributed ledger that records events/communication between each participant, in a form of a chain. The blocks are connected to each other through cryptography and are regulated/managed by a cluster of computers, which keeps the confidentiality of the transactions intact. There are different uses to this technology and therefore, there are different types of blockchains. Majorly, there are two types of blockchain, 

  1. Private blockchain and 
  2. Public blockchain.

Private blockchain

Users need permission to have access to a private blockchain. They work based on permissions and controls, which restrict participation in the network. Only the entities participating in a transaction will have knowledge about it and the other third parties or stakeholders will not be able to access it. A notable example of private blockchain is the Hyperledger Fabric. The access mechanism could vary; the existing participants could decide future entrants, a regulatory authority could issue licenses for participation, or an association could make future decisions.

Public blockchain

A public blockchain is permissionless. Anyone can participate within the blockchain and join the network. The system is decentralized and does not have any entity which supervises or controls the network. Data on a public blockchain is secure as it is not possible to modify or alter data once they are validated. Examples of public blockchain are Ethereum and Bitcoin.

A public blockchain has a substantial amount of computational power which is necessary to maintain a distributed ledger at a large scale. To achieve a consensus, each node in a network must solve a resource-intensive, complex problem (proof of work) to ensure all are in sync. As much as we see openness as an advantage, it is just another shortcoming of the public blockchain, which implies little to no privacy for transactions. 

Both private and public blockchain function in an immutable manner, where the records can be added but cannot be altered or deleted. Both these types are distributed and decentralised and engage in a more peer-to-peer format. Validity of record is established; the participants individually and mutually agree and reach a consensus. It prevents tampering with the records. Both these types of blockchains are similar in many ways; while the main point of difference is the access to the blockchain.

Difference between the types of blockchain

Access

In a private blockchain, only a particular organisation has authority over the network. This means that it’s not open for public participation. The private blockchains have an authorisation scheme to identify which participant/user is entering the platform. Thus, only selected members have access to the network.

On the other hand, in a public blockchain system, anyone can join; there are no restrictions when it comes to participation. Any individual can see the ledger, read, write and take part in the consensus process.

Consensus

In a private blockchain, it is decided beforehand as to who can join the consensus and who are not eligible. On the other hand, in a public blockchain, participants are free to participate, avail benefits from the system; there are no restrictions in joining the consensus process.

Transaction speed

Only authorised participants can access and take part in the transaction process. Therefore, speed always remains the same. However in a public blockchain, any individual can access and request a transaction/record. Since there are too many users requesting multiple transactions, the platform takes time to process each request and hence, the speed of the network is slow 

Transaction cost

The costs of a private blockchain platform are minimal. The cost does not drastically vary on the number of requests made; it remains fairly constant, precise, and low. Public blockchain platforms generally have a higher transaction cost as compared to the private blockchain platforms. In reality, there are a vast number of nodes on the platform, which slows down the performance. And as a result, it takes a lot of time to respond to the requests. Thus, prices rise drastically.

Data handling

In a private blockchain, only a single organisation can read and write a particular ledger. Further, only a handful of users/participants can write on the ledger. Depending on the constitutionality of the ledger, they can even delete a block. As the name suggests, this blockchain is public, which means, it is open for access and anyone can read and write on the ledger. But this kind of ledger cannot be amended or altered once finalised.

Efficiency

Since there are limited nodes that have permission and access to the ledger, a private blockchain is almost always efficient. Public blockchain platforms deal with scalability issues, they slow down since there are many participants accessing the ledger in real-time; therefore, public blockchain is less efficient compared to private blockchain platforms.

Immutability

As stated above, in certain circumstances, blocks can be deleted from the ledger. Thus, Private Blockchain is immutable (partially). We already know that once a block gets on the chain, there is no chance the block can be amended, let alone, be deleted. This means that a public blockchain network is fully immutable.

Advantages and disadvantages of the types of blockchain

Private blockchain

Advantages

There are not many participants on the network, the access is limited and therefore there are higher chances of reaching a consensus faster and in an efficient manner. a private blockchain can process a higher number of transactions in real-time as compared to public blockchains. Unlike a public blockchain which is a decentralised system where consensus-building could take time, in a private blockchain, a network is more centralized and therefore the decision-making is much faster. Further, since in a private blockchain setup, a network consensus can be reached much faster than a public blockchain, it consumes significantly less amount of energy and material resources. In a private blockchain, there is no constant alarm or confidence issue. The records cannot be independently verified as the integrity of the network relies on the credibility of the authorized participants and therefore, responsibility can be easily identified. In a private blockchain setup, each participant is known and has credentials to have been granted access and be a part of the network. Therefore there are no chances of any contrary impact.

Disadvantages

The integrity of the private blockchain depends on the standing of the authorized participants. It is necessary to trust each other since they are the ones who are supposed to verify and validate the transactions. Actors outside this private blockchain must, therefore, trust these participants on the network, when they have no possibility of control over the verification of the data transferred there. With fewer participants, it is much easier for a hacker to take control of the network and manipulate the data on it and corrupt the blockchain system. The purpose of the blockchain somewhat failed through this system; the whole idea was to have a decentralised ledger and be able to not have control of power in one (or a few) hands. The private blockchain is built and maintained by an organisation or consortium of them, this leads to centralisation, defeating the very essence of Blockchain. 

Public blockchain

Advantages

All the data on public blockchains are easily available for public access; from verifying the transactions to securing financial data, a participant/user can use this blockchain for a variety of uses. Transparency is one of the major promising features of a public blockchain.

As stated earlier, public blockchains are decentralised ledger; multiple nodes are created in the network and therefore it is extremely difficult for hackers to crack all these nodes and corrupt a transaction or steal data. Since anyone can participate in the security and maintenance of public blockchain, the system will be more secure. The nodes in a public blockchain network do not have regulations to follow. All the participants/users are empowered to work on the network and participate in the validation of truncations with no central authority overlooking their every act.

Disadvantages

In a public blockchain setup, one does not personally know who validates the transaction/data, the risk of potential conspiracy/collusion increases. Public blockchains are extremely slow. It takes time for the entire network to reach a common consensus and there are restrictions/limitations on the number of transactions that can be fed in a block, therefore it takes time to process all the transactions in the network. Since it takes a significant amount of time, a considerable quantity of electrical resources is consumed, making it a major disadvantage for a public blockchain network. Further, due to its slow nature, public blockchain cannot compete with its counterpart on scalability issues.

Comparison table

Basis

Private blockchain

Public blockchain

Access

Particular organisation or its affiliates who have permission

Anyone

Actors

Familiar

Do not know one another

Authority

More Centralised; can be said to be partially decentralized (not as much as public blockchain)

Decentralised

Consensus

With permission

Permission-less

Collision

No chance

There is a risk

Data handling

Read and write access for a particular organisation

Read and write access for anyone

Efficiency

High

Low

Energy Consumption

Minimal

High

Immutability

Partial

Full

Security

Prone to hacking, manipulation of transactions and stealing of data

Secure

Transaction Cost

Low

High

Transaction Speed

Fast

Slow

Conclusion

There are a lot of differences between both types of blockchain networks. However, in reality, one can use both these networks together at their own convenience. This is a third kind, known as permissioned blockchains. This is a midway that allows for a mixed usage of the public and private blockchains and supports customization. This type of blockchain allows anyone to join the permissioned network, but only after verification of their identity, and allocation of designated permissions to execute only certain activities on the network. In an enterprise environment, both private and public blockchains are suitable, if correct features are chosen. However, the final decision is entirely on the participant. With tremendous opportunities, blockchain technology is referred to as being on the edge of digital disruption. If we face the challenges in a timely manner, at an early stage, then it is believed that technology can strengthen the economy.

References

  • The Blockchain – Industry Applications and Legal Perspectives, http://www.nishithdesai.com/fileadmin/user_upload/pdfs/Research%20Papers/The_Blockchain.pdf last viewed on 03.07.2021 at 03:10 P.M.
  • https://omdia.tech.informa.com/topic-pages/artificial-intelligence last viewed on 03.07.2021 at 03:00 P.M. 

Students of Lawsikho courses regularly produce writing assignments and work on practical exercises as a part of their coursework and develop themselves in real-life practical skills.

LawSikho has created a telegram group for exchanging legal knowledge, referrals, and various opportunities. You can click on this link and join:

Follow us on Instagram and subscribe to our YouTube channel for more amazing legal content.

LEAVE A REPLY

Please enter your comment!
Please enter your name here