Centralization of mining and the threat of censorship of sanctioned transactions in bitcoins

By the beginning of 2023, the Foundry USA Pool, owned by Barry Silbert's DGC holding, became the largest mining pool in the Bitcoin network.. Could this threaten to freeze transactions from sanctioned addresses?

After the ban on mining in China in September 2021, most of the mining capacity of the Bitcoin network was concentrated in North America, the United States and Canada.. These two countries are located, according to the beginning of 2022, more than 45% of the mining equipment. Now that share is even bigger as the exodus of miners from China continues into 2022.. However, there is no fresh information on the geographical distribution of capacities yet.

During the same period, the share in the Foundry USA network, the only large American pool for corporate miners, more than doubled.. In the first week of February, it remains in the region of a third of the total network hashrate, between 32% and 34%. On some days, the share of the pool rose to 40%.

FTX, Genesis, DCG and what does mining have to do with it

Founded in 2019, Foundry Digital is one of the largest mining companies in the world.. She not only mines at her own facilities and maintains a mining pool. It is a broad-based platform that includes hardware hosting services, an ASIC miner marketplace, a logistics division for hardware delivery, a mining data center contractor, a training portal, and a service for staking major coins on PoS.

Foundry Digital is essentially an analogue of Grayscale for the mining market. The company initially positioned itself as a service provider for institutional clients. There are no retail miners and their equipment in its data centers. This allows you to significantly reduce the cost of technical support and marketing.

In the turbulent 2022, Foundry not only did not suffer, but, on the contrary, expanded its business. At the end of November, the company bought two mining data centers from the bankrupt Compute North for $14 million, well below the market price.. In March 2022, Foundry joined the Blockchain Association, which lobbies for the interests of the cryptocurrency business in the US government.. However, so far without much success.

Foundry has been one of the biggest beneficiaries of China's 2021 miner exodus. After the ban on mining in China, the largest mining companies at that time began to export equipment. A significant part was transported to the closer Kazakhstan, Mongolia, Russia and other countries. However, only the ocean separates China and the United States, and sea transportation of large cargoes has always been cheaper than land transportation.. Therefore, many miners loaded the equipment on ships and sent it to the US and Canada, where there are regions with cheap hydroelectric power.. As well as the infrastructure for the immediate launch of all transported ASICs, which the Chinese took care of in advance.

Foundry was able to accept $300 million worth of Chinese equipment in its data centers, and it was this equipment that ensured the growth in the share of the company's mining pool. After all, Chinese miners could not refuse such a trifle as switching equipment to the pool of a new host.

A business as promising and growing in times of crisis as Foundry Digital must seem very resilient.. But there is a nuance. Foundry was originally founded as the mining arm of the Digital Currency Group (DCG) by Barry Silbert.. And as you know, after the bankruptcy of FTX, the previously prosperous DCG found itself in serious financial problems.. One of the holding companies, Genesis Global, is in the process of bankruptcy, the amount of its debts exceeds $5 billion.

To close the story with Genesis and avoid complete ruin, Zilbert will have to sacrifice some of his assets.. Information about the possible sale of Coindesk, the largest news portal about the cryptocurrency industry, has already appeared.. But $200 million is clearly not enough, and sooner or later DCG will be forced to sell some of its profitable subsidiaries.. These are the Grayscale Investments cryptocurrency trusts, the Luno exchange and the Foundry Digital mining platform.

Foundry is 100% owned by DCG, it is not listed on the stock exchanges and has no public capitalization. The potential deal is unlikely to be public.

Ping matters

Why did large Chinese miners, after relocating equipment to the USA, switch to a pool owned by an American company? One can suspect here political reasons and the unspoken demands of the “host side”. But, most likely, the situation is much simpler and the reasons are purely technical.

Mining is a very competitive industry. And the competition goes on constantly, for each mined block. With the constant growth of mining capacities, the profitability of a piece of equipment is gradually decreasing. New capacities appear in the network constantly and uncontrollably. To maintain market share, industrial miners need to constantly increase their capacity by purchasing new ASIC miners.. This means that the faster the existing equipment mines blocks, the higher the chances of not missing out on future income, which will have to be shared with a large number of other miners.

The “golden hash”, which allows you to form and write a new block to the blockchain, can be found by several devices located in different parts of the world at once. The reward will be received by the miner who first collects the block and sends it to as many P2P network nodes as possible. So, every millisecond is precious. Therefore, large miners take into account everything: the speed of the software and hardware of the pool servers, the speed and width of communication channels, and many other factors.

If ASICs located in the USA send the results of their work to a pool server physically located in China, it will inevitably receive them hundredths or even tenths of a second later than the server located nearby. Do not forget about the “Big Chinese Firewall”, which creates additional delays in data transfer both when receiving from ASICs and in block distribution. In the missed seconds, the block can go to another mining cryptocurrency. Therefore, for large miners, ping to the pool server matters. Just like for high-frequency traders – ping to the exchange server.

Chance of a “51% attack” by Foundry USA

Foundry USA is not the first pool to have the theoretical ability to influence the operation of the Bitcoin network.. Its share of the hashrate has not yet gone beyond 40%, and in the history of Bitcoin there have already been periods when one pool owned more than 50% of the network hashrate. At various times, BTC Guild,, F2Pool and Antpool (in conjunction with became the “dominators”. However, none of them realized the capabilities of the so-called 51% attack.

Financial difficulties of Digital Currency Group are reflected in subsidiaries, including Foundry Digital. This means that the expansion of the company's own capacities will slow down or stop altogether, as the management company will take the income. And doubts about the reliability of the pool will force potential large customers and investors to find another partner to place equipment or use the pool. Therefore, a further increase in the share of Foundry USA in the global hash rate is unlikely.

Theoretically, a short-term attack to roll back individual transactions (double spending or others) can be organized with a small share of the network hashrate, for example, 20-25%. The luck factor can allow multiple blocks to be overwritten in a row even without hashrate dominance. Conversely, if luck turns against a miner, even one who owns 80% of the hashrate, he can create fewer blocks in a few hours than other miners.

Owning more than 50% of the hashrate guarantees superiority only in the long term. This means that the economic motivation to carry out a 51% attack on such a large blockchain as Bitcoin is too small.. The pool that launched the attack will quickly lose the power of third-party miners that it cannot control. Thus, it is necessary to dominate not only the current hashrate, but also the physical capacities of the equipment. And in 2023 it is worth billions of dollars.

Now some users are expressing the opinion that the motivation of the pool can be not only economic, but also political. For example, if government regulators require its operator to comply with sanctions and censor transactions from a list of banned addresses. But the same factors are at work here: for reliable long-term control over the network, it is necessary to own more than 50% of the hashrate and equipment all this time. However, the current geographic distribution of pools and miners still does not allow for this.

Pools and sanctions

The question that worries many Russian users of cryptocurrencies is whether mining pools can join Western sanctions and jeopardize the crypto payments of Russians. Many blockchain analysis services are marking an increasing number of cryptocurrency addresses as “sub-sanctioned”. At first, these were targeted sanctions, ostensibly aimed only at the assets of “Russian oligarchs” and North Korean hackers, but they are becoming more widespread and vague.

In addition, the very technology of payments in the Bitcoin blockchain leads to a constant fragmentation of transaction inputs, which means that any user who is not involved in any way with people and organizations that have fallen under sanctions has a chance to receive a “sanction label”.. It is enough to receive a transaction from an exchanger or exchange that does not use automated AML services. This is all the more possible in payments between individuals and small businesses.. The sanction label can be obtained out of the blue, as happened with Bitzlato (BTC Banker) clients.

In other words, the implementation of the sanctions policy on the blockchain becomes an indiscriminate weapon of mass destruction.

Undoubtedly, the consequences of sanctions against countries and people can significantly limit the decentralization of leading cryptocurrencies, which have long been under the gun of regulators.. It is very difficult to challenge the freezing of a payment with sanctioned coins, at best, it will take a long correspondence with the technical support of the exchange (exchanger) and the provision of all kinds of documents. No guarantees to get your money back.

In the event of a Foundry sale, it is difficult to predict who will gain control of the largest mining pool and the company's own facilities.. Both Chinese miners and leading players in the American cryptocurrency market may be interested in this, for example, Coinbase, which does not have its own mining assets.. If it is an American company, it will also be obliged to comply with the sanctions.

It should not be forgotten that in addition to Foundry Digital, several other major players in the mining market are located and traded on American exchanges in the United States: Riot Blockchain, Greenidge Generation, Marathon Digital, Hut8 Mining, Bit Mining and others.. Their total hashrate can reach 10% of the total network hashrate, but they do not have their own pools and can use, among other things, the Foundry pool.

How Miners Can Operate

If miners are also involved in the execution of sanctions, this potentially poses a great threat to the decentralization of the first cryptocurrency, which means a long-term increase in the price of bitcoin. Here it is very important how far the regulators are ready to go in their requirements and what percentage of the hashrate will remain in the jurisdictions under their control.

The peculiarity of Foundry USA is that mainly large miners located in the USA work on this pool.. They have less reason to change the pool even if it violates the principles of the Bitcoin network, since the loss of profitability caused by a price drop as a result of a successful attack on the blockchain will not depend on a specific pool.

Technically, the pool, subject to the rules of the Bitcoin protocol, can act in only one way: do not include transactions from sub-sanctioned addresses in its blocks. If even most pools with overwhelming hashrate do this, the victims of the sanctions will be able to find loopholes.

  • Firstly, this is an offer of an increased commission for confirming a transaction.. In this case, their transactions will be processed in priority order by pools that do not comply with sanctions. And the problem will be solved with just a small additional cost.

  • Secondly, it is the launch of their own pools, which will focus on the priority confirmation of transactions of their users.. Russia, Iran, and in the future China can go down this path if the ban on mining is lifted. Such a policy of network separation will lead to transaction confirmation delays for many participants, but will not have a critical impact on the operation of the Bitcoin blockchain.

Worse, if the pools controlled by the regulators work for unconditional blocking of transactions from prohibited addresses, even violating the rules of the protocol. It will be effective if the total share of the hashrate exceeds 50%. In this case, controlled pools will be able to rewrite even confirmed block chains containing “sanction transactions”. Together with them, the transactions of bona fide users included in the blocks of the “probable adversary” will also disappear from the blockchain.

Such an apocalyptic scenario will inevitably lead to the complete exclusion of all “wrong miners and users” from the network and potentially threatens another hard fork.. The network will be finally divided into at least two separate segments. And this will cause the collapse of the bitcoin rate, since the network, under the current rules of the protocol, will not be able to oppose anything to the dictatorship of the majority of miners.

The good news is that while Western governments do not oblige miners to block sanctions transactions, there is no information in the public space about such plans.. In addition to the American Foundry with 33%, a small share – about 2% of the hashrate – has the Czech Braiins Pool (formerly Slush) and the Japanese SBI Crypto (1.5%). The share of independent miners with unknown jurisdiction does not exceed 2%. Thus, potentially US regulators are directly or indirectly able to control no more than 40% of the hashrate. All other large pools are in Asian jurisdictions.

Based on the foregoing, so far we can only talk about the “war of miners” in the form of forecasts and assumptions. But this question can resurface at any time as the geopolitical conflict escalates.