The existence of this staked money provides a novel threat to some proof-of-stake cryptocurrencies. We have focussed our attention on Ethereum, a decentralised cryptocurrency that establishes a peer-to-peer network to securely execute and verify application code, known as a smart contract.

Ethereum is powered by the Ether (ETH) token that allows users to transact with each other through the use of these smart contracts. The Ethereum project was co-founded by Vitalik Buterin in 2013 to overcome shortcomings with Bitcoin. On September 15 2022, The Merge, moved the Ethereum network from proof-of-work to proof-of-stake, making it one of the first prominent proof-of-stake cryptocurrencies.

The proof-of-stake consensus mechanism in Ethereum relies on “validators” to approve transactions. To set up a validator there needs to be a minimum stake of 32ETH, which is currently around US$60,000 (around £43,000). Validators can then earn a financial return on their stake from operating a validator in accordance with Ethereum rules. At the time of writing there are around 850,000 validators.

A lot of hope is being pinned on the “stake” solution of validation - but hackers are sure to be looking into how they can infiltrate the system.

In our project, which was funded by the Ethereum Foundation, we identified ways in which ransomware groups could exploit the new proof-of-stake mechanism for extortion.

We found that attackers could exploit validators through a process called “slashing”. While validators receive rewards for obeying the rules, there are financial penalties for validators that are seen to act maliciously. The basic objective of penalties is to prevent exploitation of the decentralised blockchain.

There are two forms of penalties, the most severe of which is slashing. Slashing occurs for actions that should not happen by accident and could jeopardise the blockchain, such as proposing conflicting blocks are added to the blockchain, or trying to change history.

Slashing penalties are relatively severe with the validator losing a significant share of their stake, at least 1ETH. Indeed, in the most extreme case the validator could lose all of their stake (32ETH). The validator will also be forced to exit and no longer act as a validator. In short, if a validator is slashed there are big financial consequences.

To perform actions, validators are assigned unique signing keys, that, in essence, prove who they are to the network. Suppose that a criminal got hold of the signing key? Then, they could blackmail the victim into paying a ransom.

Flow diagram showing just how complicated it gets when there is an extortion attack against proof-of-stake validators, such as Ethereum

Alpesh Bhudia, CC BY-ND

The victim may be reluctant to pay the ransom unless there is a guarantee that the criminals will not take their money and fail to return/release the key. After all, what is to stop the criminals asking for another ransom?

One solution we have found – which harks back to the fact that ransomware has in fact become a kind of business operated by criminals who want prove they have an “honest” reputation – is a smart contract.

This automated contract can be written so that the process only works if both sides “honour” their side of the bargain. So, the victim could pay the ransom and be confident that this will resolve the direct extortion threat. This is possible through the Ethereum because all the steps required are publicly observable on the blockchain – the deposit, the sign to exit, the absence of slashing, and the return of the stake.

Functionally, these smart contracts are an escrow system in which money may be held until pre-agreed conditions are met. For instance, if the criminals force slashing before the validator has fully exited, then the contract will ensure that the ransom amount is returned to the victim. Such contracts are, however, open to abuse, and there’s no guarantee that an attacker-authored contract can be trusted. There is potential for the contract to be automated in a fully trusted way, but we have yet to observe such behaviour and systems emerge.

This type of “pay and exit” strategy is an effective way for criminals to extort victims if they can obtain the validator signing keys.

So how much damage would a ransomware attack like this do to Ethereum? If a single validator is compromised then the slashing penalty – and so maximum ransom demand – would be in the region of 1ETH, which is around US$1,800 (about £1,400). To leverage larger amounts of money the criminals, therefore, need to target organisations or staking pools that are responsible for managing large numbers of validators.

Remember, that given the high entry costs for individual investors, most of the validating on Ethereum will be run under “staking pools” in which multiple investors can collectively stake money.

To put this in perspective, Lido is the largest staking pool in Ethereum with around 127,000 validators and 18% of the total stake; Coinbase is the second largest with 40,000 validators and 6% of the total stake. In total, there are 21 staking pools operating more than a 1,000 validators. Any one of these staking pools is responsible for tens of millions of dollars of stake and so viable ransom demands could also be in the millions of dollars.

Proof-of-stake consensus mechanisms are too young for us to know whether extortion of staking pools will become an active reality. But the general lesson of ransomware’s evolution is that the criminals tend to gravitate towards strategies that incentivise payment and increase their illicit gains.

The most straightforward way that investors and staking pool operators can mitigate the extortion threat we have identified is by protecting their signing keys. If the criminals cannot access the signing keys then there is no threat. If the criminals can only access some of the keys (for operators with multiple validators) then the threat may fail to be lucrative.

So staking pools need to take measures to secure signing keys. This would involve a range of actions including: partitioning validators so that a breach only impacts a small subset; step up cyber security to prevent intrusion, and robust internal processes to limit the insider threat of an employee divulging signing keys.

What happens when hackers gain access to secret keys? Shutterstock/Andrii Yalanskyi

The staking pool market for cryptocurrencies like Ethereum is competitive. There are many staking pools, all offering relatively similar services, and competing on price to attract investors. These competitive forces, and the need to cut costs, may lead to relatively lax security measures. Some staking pools may, therefore, prove a relatively easy target for criminals.

Ultimately, this can only be solved with regulation, greater awareness and for investors in staking pools to demand high levels of security to protect their stake.

Unfortunately, the history of ransomware suggests that high profile attacks will need to be seen before the threat is taken seriously enough. It is interesting to contemplate the consequences of a significant breach of a staking pool. The reputation of the staking pool would presumably be badly affected and so the staking pool’s viability in a competitive market is questionable. An attack may also have implications for the reputation of the currency.

At the most serious, it could lead to a currency collapsing. When that happens - as it did with FTX in 2022 following another hacking attack, there are knock-on effects to the global economy.

Ransomware will be a challenge for years, if not decades, to come.

One potential vision of the future is that ransomware just becomes part of normal economic life with organisations facing the constant threat of attack, with few consequences for the largely anonymous gangs of cyber criminals behind the scams.

To preempt such negative consequences we need greater awareness of the threat. Then investors can make more informed decisions over which staking pools and currencies to invest in. It also makes sense to have a market with many staking pools, rather than a market dominated by just a few large ones, as this could insulate the currency from possible attacks.

Beyond crypto, preemption involves investment in cyber security across a range of forms – from staff training and an organisational culture that supports reporting of incidents. It also involves investment in recovery options, such as effective back-ups, in-house expertise, insurance and tried and tested contingency plans.

Unfortunately, cyber security practices are not improving as one might hope in many organisations and this is leaving the door open for cyber criminals. Essentially, everyone needs to get better at hiding, and protecting, their digital keys and sensitive information if we are to stand a chance against the next generation of ransomware attackers.