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Proof-of-Work Cryptocurrencies: Does Mining Technology Undermine Decentralization?

Author

Listed:
  • Agostino Capponi

    (Department of Industrial Engineering and Operations Research, Columbia University, New York, New York 10027)

  • Sveinn Ólafsson

    (School of Business, Stevens Institute of Technology, Hoboken, New Jersey 07030)

  • Humoud Alsabah

    (Department of Industrial and Management Systems Engineering, Kuwait University, Kuwait City, Kuwait)

Abstract

Does the proof-of-work consensus protocol serve its intended purpose of supporting decentralized cryptocurrency mining? To address this question, we develop a game-theoretical model in which miners first invest in hardware to improve the efficiency of their operations and then compete for mining rewards in a rent-seeking game. We show that centralization grows with heterogeneity in mining costs, but hardware capacity constraints prevent the most efficient miners from monopolizing the mining process. Investment leads to a more decentralized network unless larger miners have a significant comparative advantage in acquiring new hardware. Our model generates empirically supported implications: (i) mining centralization is countercyclical with respect to mining reward, and (ii) a change in mining reward leads to a less-than-proportional change in hash rates.

Suggested Citation

  • Agostino Capponi & Sveinn Ólafsson & Humoud Alsabah, 2023. "Proof-of-Work Cryptocurrencies: Does Mining Technology Undermine Decentralization?," Management Science, INFORMS, vol. 69(11), pages 6455-6481, November.
    • Handle: RePEc:inm:ormnsc:v:69:y:2023:i:11:p:6455-6481
    DOI: 10.1287/mnsc.2023.4840
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