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Author Topic: Would you trust a centralized colored-coin broker?  (Read 1529 times)
greBit
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April 16, 2013, 10:59:30 AM
 #1

This is a work-procrastination fuelled topic, a call for community insight...

What would it take for you to trust a colored-coin broker, `goldBTC Limited`?


This imaginary broker, based in Switzerland, will allow you to trade your USD for a symbolic amount of Bitcoin, which represents a given weight in gold.

e.g. When you pay them $500 they will physically put a gold bullion coin into secure storage for you, and provide you with a cryptographic 'receipt' which can be later cashed in for gold or USD equivalent.

The cryptographic receipt is a `colored bitcoin`, publicly verifiable by anyone as being worth X grams of gold and entirely transferable like Bitcoin.

The benefit in having these backed-by-fiat-or-something coins is that it would allow for real-time P2P trading to occur, without the hassles of dealing with fiat money. The downside is the centralization and the fact that you need to trust that goldBTC Limited will really redeem the coins and that they won't go out of business with your money!

What would it take for you to trust a broker like this with your money?

- I guess there would be a big difference between short-term vs long-term storage of 'goldBTC'.
- Much less trust required for using it as a temporary medium of exchange and when amounts are small.

Public transparency
 
- Have a mechanism to allow anyone to check that the company is indeed solvent and contains enough assets for a bank run to occur (dunno how)
- Publicly verifiable data about the number of coins that have been minted / amount redeemed / amount in circulation / etc
- Anyone can check if colored bitcoin is valid and how much it is worth
- Up front about monetization / simple business models

Guaranteeing your colored coins can be redeemed

- In the face of bank account freezing / natural disasters / theft / ...
- Redundant storage of assets so that your coins can always be redeemed
- An insurance fund in BTC perhaps

Security practices (if they get hacked & go out of business)

- Taking immense care over private keys used for minting coins
- Cryptographically random private keys stored in bank vault
- Offline transaction signing
- Being open about security practices
- ...

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Sukrim
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April 16, 2013, 11:19:08 AM
Last edit: April 16, 2013, 12:35:03 PM by Sukrim
 #2

Colored coins are nearly the same as taking a bank note (e.g. 1 USD), noting down the serial number and stating that anyone who hands you this bank note can redeem something that is potentially worth much more than this bank note (e.g. a bar of gold).

As the security is provided externally (it is hard to counterfeit this bank note - or the colored coin) all that actually needs to be trusted is:
* The list of coins with their additional values to be correct (e.g. "note #12345 is worth 1 kg of gold to me")
* That the value actually CAN be redeemed (which might create legal hassle if certain limits are broken, like me handing out 1 million USD colored coins to 1 million ppl. and after some trading amongst them suddenly somebody wants to redeem ALL of them at once) and the additional value is rectified.

All in all you create a new currency with you as the central authority and backed by Bitcoin by issuing colored coins. If you for example sell 1 BTC colored coins that can redeem 1 oz of silver, it might currently be smarter to keep the coin than to redeem it. Similar to actual silver dollar coins which are worth more for their silver than their face value for example.

I'm not sure if there's any development/technical issue with this other than accidentially spending colored coin for their face value if they have a redeem value that is far higher, I guess this is rather a question of trust.

Ripple allows for similar mechanisms, just backed by exactly nothing while colored coins are backed by their coins.

What's nice depending on the implementation is that you could break down colored coins further than the redeemable part might allow (trade 1/100th Apple stock? Easy! To really redeem them you need however at least 1 full coin...). This can be desirable or not, depending on the redeemable part.

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April 16, 2013, 12:05:01 PM
 #3

Before I make a comment related to the topic,
please note that this is a thread to discuss Bitcoin client or Bitcoin network.
I'll ask the moderator to move this to where it belongs:
https://bitcointalk.org/index.php?board=12.0

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Project Development
Organization of Bitcoin and related projects, bounty campaigns, advertising etc.

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April 16, 2013, 12:13:02 PM
 #4

If a large company supported the system, then enough people would trust them.

In Eve Online, you can buy 1 month of play time and you get an in game item.  If they offered them as colored coins as well, then they would act as a mint.

I think the conversion is item to game time, so the coins are actually worth a particular fiat amount.

However, since they have to be destroyed, the coins would actually be a flow.

Even if the game was starting to die, they wouldn't necessarily lose value.  The only way they would lose value is if the total outstanding coins is greater than the total amount of game time left in the game.

People would buy less coins, so supply would drop and they could still turn them in.

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dansmith
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April 16, 2013, 12:42:09 PM
 #5

What would it take for you to trust a broker like this with your money?

The broker should not be the handler of the secure storage.
He should outsource it to a reputable third party.
The reputable third party should provide frequent public reports of the broker's balances.
These reports can be matched in real-time to the amount of colored-coins issued.
The jurisdiction of the broker and storage handler should be such that the gold cannot be seized legally in case the  broker is sued or in case of his bankruptcy.


There should be a system in place (which requires some flexibility of the storage company) which prevents the broker to abscond with all of his gold, e.g:
Only 10% of all supply can be withdrawn over a period of 1 week.

There should be a mechanism in place which allows a third party to issue an order to the storage to lock down the gold and prevent the broker from accesing the funds. This can be done in case the broker starts withdrawing gold without anyone redeeming their colored coins (which can be tracked in real-time).

P.S. Sorry for moving this thread to a somewhat quieter thread. But we really should keep the order in this forum, even though this particular subject is of paramount importance.

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dansmith
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April 16, 2013, 12:51:40 PM
 #6

@greBit

Quote
- Taking immense care over private keys used for minting coins

You do realise though that they only need one private key for their emmiting (master) address? That's it.
If they have a need to emit more colored coins than they initially had in their master address, they simply top-up their master address from any other address.

Thus they are like the root Certification Authority which only needs to secure one private key.

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Sukrim
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April 16, 2013, 12:54:48 PM
 #7

They can even color arbitrary coins not in their possession, just tell someone you have e.g. 1 BTC lying around and they can release a statement that this coin now represents 1 kg of gold, redeemable with them once you pay them the price for that gold.

The private keys for that _payment_ money need to be safe of course, the ones for the _special coins_ don't even need to be in their possession.

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TierNolan
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April 16, 2013, 01:08:33 PM
 #8

They can even color arbitrary coins not in their possession, just tell someone you have e.g. 1 BTC lying around and they can release a statement that this coin now represents 1 kg of gold, redeemable with them once you pay them the price for that gold.

They still need a private key though, since they have to sign that message.

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Sukrim
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April 16, 2013, 01:25:23 PM
 #9

They can even color arbitrary coins not in their possession, just tell someone you have e.g. 1 BTC lying around and they can release a statement that this coin now represents 1 kg of gold, redeemable with them once you pay them the price for that gold.

They still need a private key though, since they have to sign that message.

True, but as you said "a", not "the" private key. These would be so rarely used anyways that they can and should be kept offline and only signed statements are transferred.

dansmith implied that they first need to get some coins sent to their address to be colored... maybe that's the case with some current implementations(?), but it's not really needed, as you in the end just use some arbitrary coins as tokens. Remotely declaring them to be these tokes might actually help and is possible as Bitcoin is an open ledger system.

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April 16, 2013, 01:57:03 PM
 #10

This is a work-procrastination fuelled topic, a call for community insight...

What would it take for you to trust a colored-coin broker, `goldBTC Limited`?


This imaginary broker, based in Switzerland, will allow you to trade your USD for a symbolic amount of Bitcoin, which represents a given weight in gold.

e.g. When you pay them $500 they will physically put a gold bullion coin into secure storage for you, and provide you with a cryptographic 'receipt' which can be later cashed in for gold or USD equivalent.

The cryptographic receipt is a `colored bitcoin`, publicly verifiable by anyone as being worth X grams of gold and entirely transferable like Bitcoin.

The benefit in having these backed-by-fiat-or-something coins is that it would allow for real-time P2P trading to occur, without the hassles of dealing with fiat money. The downside is the centralization and the fact that you need to trust that goldBTC Limited will really redeem the coins and that they won't go out of business with your money!

What would it take for you to trust a broker like this with your money?

- I guess there would be a big difference between short-term vs long-term storage of 'goldBTC'.
- Much less trust required for using it as a temporary medium of exchange and when amounts are small.

Public transparency
 
- Have a mechanism to allow anyone to check that the company is indeed solvent and contains enough assets for a bank run to occur (dunno how)
- Publicly verifiable data about the number of coins that have been minted / amount redeemed / amount in circulation / etc
- Anyone can check if colored bitcoin is valid and how much it is worth
- Up front about monetization / simple business models

Guaranteeing your colored coins can be redeemed

- In the face of bank account freezing / natural disasters / theft / ...
- Redundant storage of assets so that your coins can always be redeemed
- An insurance fund in BTC perhaps

Security practices (if they get hacked & go out of business)

- Taking immense care over private keys used for minting coins
- Cryptographically random private keys stored in bank vault
- Offline transaction signing
- Being open about security practices
- ...



This is something we're looking in to as a part of crypto.pm - would be great to have a chat with you about your ideas. Could you drop an email to hello@citrus.pw?

https://crypto.pm/ -- public cryptocurrency exchange currently in testing.

https://escrow.pm/ -- fee free automated escrow.
dansmith
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April 16, 2013, 02:11:43 PM
 #11

The awesome part for a colored-coin broker is that he can setup a hack-proof mechanism so that even if his private key is compromised, no damage will be done.

The broker should have a website where all new deposits are reflected in real-time, and if the private key was compromised and stolen colored coins issued, the recepient who knows that these are "fresh" coins issued just an hour ago can look up on broker's site whether the coins came as a result of a deposit or were created out of thin air.

Thus security of a private key becomes a non-issue.

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greBit
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April 16, 2013, 02:44:26 PM
 #12

The awesome part for a colored-coin broker is that he can setup a hack-proof mechanism so that even if his private key is compromised, no damage will be done.

The broker should have a website where all new deposits are reflected in real-time, and if the private key was compromised and stolen colored coins issued, the recepient who knows that these are "fresh" coins issued just an hour ago can look up on broker's site whether the coins came as a result of a deposit or were created out of thin air.

Thus security of a private key becomes a non-issue.

I would argue that the private key definitely needs to be secured - a malicious person who steals the key could then forge statements such as "Bitcoin from address X is worth 10 grams of gold per satoshi"

People on the P2P exchanges would happily trade with these tokens expecting them to be worth what they are supposed to be worth, only to find that the broker refuses to redeem. Only the broker knows that these coins are a result of hacks and he cant really prove it either ...

Everyone would lose trust in the broker.

greBit
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April 16, 2013, 02:47:12 PM
 #13

@greBit

Quote
- Taking immense care over private keys used for minting coins

You do realise though that they only need one private key for their emmiting (master) address? That's it.
If they have a need to emit more colored coins than they initially had in their master address, they simply top-up their master address from any other address.

Thus they are like the root Certification Authority which only needs to secure one private key.

I was thinking of how it might be possible to separate out the concerns of different keys to mitigate risk of security breaches.

What about having one super_secret_key for minting, which never leaves a bank vault, nor touches the internets...

  • We maintain a master address M where super_secret_key is its private key
  • We perform a 'minting' operation once a week, offline, in the vault of a bank. We mint K coins.
    • Create a new bitcoin address for new wallet, W
    • Transfer minimum_satoshi * K to the address --> transaction T
    • Sign statement "Bitcoin 'descending' from transaction T is worth 10 grams per satoshi
  • We then have a wallet, W, with a fixed quantity of minted coins to see us through the week

To perform real-time transfers to customers, we require the private key of W to be more easily available than super_secret_key

If a hack occurs, and W's private key is leaked, it is bad but not fatal for the company - the company will guarantee to redeem all coins even fakes to keep the trust of his customers.
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April 16, 2013, 02:58:40 PM
 #14

@grebit

Quote
"Bitcoin from address X is worth 10 grams of gold per satoshi"

Isn't it fundamental for the broker in establishing trust of the customers to Announce before he even starts to emit coins that his colored-coin satoshi is equivalent to a gram of gold? Will not all markets participant know in advance what is the set-in-stone value of a certain colored-coin?


Why even allow for the possibility to re-evaluate the ratio between the colored-coin and the gold? 

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greBit
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April 16, 2013, 03:27:31 PM
 #15

This is something we're looking in to as a part of crypto.pm - would be great to have a chat with you about your ideas. Could you drop an email to hello@citrus.pw?

Sent you a PM.
greBit
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April 16, 2013, 03:41:54 PM
 #16


Isn't it fundamental for the broker in establishing trust of the customers to Announce before he even starts to emit coins that his colored-coin satoshi is equivalent to a gram of gold? Will not all markets participant know in advance what is the set-in-stone value of a certain colored-coin?

Why even allow for the possibility to re-evaluate the ratio between the colored-coin and the gold? 

hmmm maybe I need to rethink this a bit. I definitely do not want re-evaluate the ratio between colored-coin and the gold

But then the broker needs to have the power to publish the redeem value of all the colored coins in circulation, so everyone knows which coins can be accepted in trade.

The colored-coins vs redeem-value information needs to be signed by the brokers private key and published for all to see.

Not sure how you could prevent the broker from re-modifying the value of existing coins, except that it would be obvious to his customers that he is trying to cheat!
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