For a long time, bitcoin has been perceived by many as an anonymous payment system for online purchases. This myth has been largely propagated by mass media when bitcoin emerged as a popular payment method on the dark web. However, this is far from the truth.
Due to its publicly viewable blockchain, every bitcoin wallet and every single bitcoin transaction that has ever been processed can be viewed by anyone online. This lack of financial privacy is seen by many as a hindrance to mass adoption of bitcoin. For that reason, several efforts have been launched to increase bitcoin’s privacy. The most prominent of these is Confidential Transactions.
What are Confidential Transactions?
Confidential Transactions (CT) for the Bitcoin network, as explained by Bitcoin Core developer Greg Maxwell, are “a cryptographic tool to improve the privacy and security of Bitcoin [that] keeps the amounts transferred visible only to participants in the transaction (and those they designate).”
Maxwell highlights the need for an added layer of privacy for bitcoin transactions stating: “Insufficient financial privacy can have serious security and privacy implications for both commercial and personal transactions. Without adequate protection, thieves and scammers can focus their efforts on known high-value targets, competitors can learn business details, and negotiating positions can be undermined. […] Insufficient privacy can also result in a loss of fungibility–where some coins are treated as more acceptable than others–which would further undermine Bitcoin’s utility as money.”
While bitcoin partially addresses this issue through the use of pseudo anonymous wallet addresses, the reality is that once you transact with someone you can link the address they have used up with other addresses they have used to receive insight into their financial situation as well as transaction habits. Needless, to say, this level of financial privacy does not suffice.
Confidential Transactions can solve this issue by making bitcoin transaction amounts private, through the use of Borromean ring signatures and Pedersen commitment schemes, while preserving the ability of the public network to verify that all blockchain entries still add up. CT can do this without having to add any new cryptographic assumption and with a manageable level of overheard, according to Maxwell.
In simple terms, Confidential Transactions allow users to make bitcoin transactions that are fully verified by the Bitcoin blockchain but without the transaction amounts being publicly viewable. The detailed mathematics behind Confidential Transaction can be found here.
When can we expect Confidential Transactions on the Bitcoin network?
The concept of CT was first introduced by computer scientist Dr. Adam Beck on the BitcoinTalk Forum in 2013. Since then, it has become a popular discussion point among bitcoin community members as the need for more privacy for digital currency transactions is arguably needed for decentralized digital currencies to become accepted by more businesses and individuals. Based on Dr. Beck’s original work, Greg Maxwell began working on Confidential Transactions for the Bitcoin network.
The latest developments regarding Confidential Transactions happened in November 2017, when Maxwell announced that progress had been made with testing a solution.
In earlier testing, Confidential Transactions had been 16x larger than normal bitcoin transactions, which would be too much for the Bitcoin network to handle at scale. However, thanks to Stanford researcher Benedikt Bünz building on the work of Jonathan Bootle, the output of a CT transaction can be reduced down to 3x the normal size of a bitcoin transaction.
This brings Confidential Transactions much closer to implementation on the Bitcoin network, and might also mean we could see CT on other digital currencies such as Litecoin, as hinted at by Litecoin founder Charlie Lee on Twitter. As yet, though, there is no set date for the roll out of Confidential Transactions as more work needs to be done to ensure its full functionality.
If Bitcoin does not implement privacy features, will it maintain its status?
Bitcoin’s status as the leading digital currency with the largest market capitalization could come under threat as cryptocurrency users are increasingly choosing anonymous digital currencies over bitcoin when it comes to making online payments and money transfers due to the added layer of transactional privacy that they can offer.
Leading anonymous digital currency Monero (XMR), for example, allows users to hide their wallet addresses as well as transaction details when making a payment. Using ring confidential transactions, ring signatures, and stealth addresses, Monero transactions do not give any transactional information to the public. Zcash (ZEC), on the other hand, uses zk-SNARKS, a type of zero knowledge cryptography, to allow users to hide the transaction amount as well as details about the sender and the recipient.
Given that the likes of Monero, Zcash, and its privacy-centric peers offer a layer of financial privacy to online payments as well as lower transaction fees than bitcoin, it is not too far-fetched to assume that one or some of these cryptocurrencies could eventually surpass bitcoin as the most used digital spending currency on the Internet.
Having said that, should the bitcoin community come to a consensus to add privacy-enhancing features, such as Confidential Transactions to the Bitcoin network, this would increase the likelihood of bitcoin maintaining its position as the world’s leading digital currency for years to come.
Furthermore, as bitcoin is increasingly moving from being a digital spending currency to a gold-like investment asset class, the desired added layer of privacy that many early cryptocurrency adopters would like to see for bitcoin may not play such a big role for bitcoin after all. Institutional investors, venture capitalists, and high network individuals who are increasingly placing funds into bitcoin are primarily doing so due to the gold-like scarcity that bitcoin offers. Hence, for this growing group of bitcoin holders, transactional privacy is less of a concern.
Currently, anonymous cryptocurrencies are gaining in popularity as online spending currencies and for remittances. However, none of them are even remotely close to having an ecosystem anywhere near the size of that of bitcoin. It will, therefore, take several more years for anonymous coins to challenge bitcoin as spending currency and potentially even longer to challenge it as a broader investment asset class.