Decentralized Identity (DID) is transforming digital identity management by offering a blockchain-based alternative to traditional centralized systems. With billions of records exposed in data breaches, DID ensures privacy, security, and user control. Its applications span healthcare, KYC compliance, and e-governance. In this article, SwapSpace’s CPO Andrew Wind discusses the challenges of centralized identity and explores the principles, components, and uses of DID.

Centralized identity systems rely on a central authority, such as governments or corporations, to manage and authenticate users' identities. These systems store personal data in centralized databases, requiring users to trust these entities with their sensitive information. Centralized identity systems dominate the digital landscape, but they come with the following challenges:

• Data breaches and privacy risks

  Over 22 billion records were exposed in global data breaches between 2020 and 2023. High-profile breaches, such as Equifax (2017) affecting 147 million users, underscore the vulnerability of centralized databases.

• Lack of user control

  Users lack ownership of their personal data, which is often stored and monetized by corporations. Some social media platforms have faced criticism for mishandling user data, such as the Cambridge Analytical scandal involving the misuse of data from 87 million profiles.

• Single points of failure

  Centralized systems are susceptible to outages and cyberattacks. For example, in 2021, a global Facebook outage disrupted access to accounts for billions of users worldwide.

• Identity theft and fraud

  In 2023, American adults lost a total of $43 billion to identity fraud, marking a 13% increase in total losses compared to the previous year. In the third quarter of 2024 alone, there were 290,000 reported cases of identity theft and 117,000 cases of credit card fraud.

• Exclusion and inefficiency

  One billion people worldwide lack access to formal identity systems, excluding them from financial services and government programs.

Decentralized identity is built on the principle of giving people complete control over their digital identity. Unlike centralized systems, where personal data is stored in vulnerable storages, DID empowers users with:

• User sovereignty: Users own their identity, storing credentials on personal devices or secure decentralized hubs. For instance, blockchain-based wallets like MetaMask allow users to authenticate without intermediaries.

• Privacy by design: DID minimizes data exposure. Zero-knowledge Proofs enable users to verify their identity without sharing sensitive details. For example, zk-SNARKs, used in Zcash, validate transactions without revealing the sender, receiver, or amount.

• Security: DID eliminates single points of failure. Microsoft’s ION, built on Bitcoin, ensures tamper-proof identity verification, leveraging the blockchain’s immutability for robust security.

• Interoperability: Standards like W3C’s Decentralized Identifiers and Verifiable Credentials allow seamless interaction across platforms and applications, accelerating adoption globally.

• Accessibility: DID addresses the 1 billion unbanked individuals worldwide by enabling digital identity without reliance on traditional institutions. Projects like ID2020 aim to provide blockchain-based identity solutions for vulnerable populations.

• Decentralized Identifiers (DIDs) are unique, blockchain-based identifiers controlled by users without intermediaries. For example, Spruce integrates with Ethereum to enable users to control their digital identities and securely authenticate with apps.

Interesting fact! Over 1.5 million DIDs were issued on Sovrin, a blockchain-based identity network.

• Verifiable Credentials (VCs) are digital proofs of identity attributes, such as age or qualifications, issued by trusted entities. A university issues a VC to a graduate, who then proves their degree to employers without contacting the university. For instance, IBM’s Blockchain World Wire integrates VCs for cross-border compliance.

• Identity hubs are personal data storage solutions under user control, allowing selective data sharing. For example, Solid Pods, a Tim Berners-Lee initiative, stores data locally or in trusted cloud services, ensuring privacy and interoperability.

• Smart contracts automate secure, transparent processes like verifying credentials without intermediaries. For example, Civic uses Ethereum smart contracts for decentralized KYC services.

• Zero-knowledge proofs validate information without revealing it. For example, they provide eligibility to enter a restricted area without disclosing personal data.

• Blockchain technology with immutable ledgers ensures data integrity, prevents tampering, and enables trustless systems. For example, the Sovrin Foundation uses Hyperledger Indy for scalable identity solutions.

Decentralized identity is transforming various sectors, offering secure and user-controlled solutions:

1. Finance

   Simplifies Know Your Customer (KYC) and Anti-Money Laundering (AML) compliance by allowing users to share verified credentials directly.

   Example: Civic’s platform enables users to prove identity while unrevealing sensitive data, reducing onboarding time by 30-50% for financial institutions.

2. Healthcare

   Ensures secure and private sharing of medical records. Patients own their data, sharing it selectively with doctors and insurers.

   Example: Patientory uses blockchain to manage and share health records securely.

3. Supply Chain and The Internet of Things (IoT)

   Verifies identities of devices and stakeholders in IoT networks or supply chains, reducing fraud and increasing transparency.

   Example: VeChain integrates DIDs to verify authenticity in the luxury goods supply chain.

4. E-Governance

   Provides citizens with secure digital IDs for voting, accessing government services, and cross-border travel.

   Example: Estonia’s e-Residency

Blockchain networks struggle with scalability. For instance, Ethereum’s network can process about 15-30 TPS, limiting the number of DIDs it can support efficiently.

Diverse DID standards across platforms hinder seamless integration. Efforts like W3C’s DID standardization are ongoing but not universally adopted.

Ensuring compliance with KYC/AML laws without compromising user privacy is complex. Governments like China and India favor centralized digital IDs, creating resistance to DID adoption.

Users often find managing private keys and credentials cumbersome. Studies show that 20% of cryptocurrency users lose access to their wallets due to mismanagement of private keys, highlighting usability concerns.

Although secure, DIDs are not immune to vulnerabilities. If a user’s private keys are compromised, their identity may be irretrievable.

The future of decentralized identity lies in its integration into mainstream digital ecosystems, empowering individuals and businesses alike.

• Government and global collaboration

Governments may adopt blockchain-backed IDs for secure and efficient citizen services, such as e-voting or cross-border identity verification. The EU’s EBSI (European Blockchain Services Infrastructure) aims to implement DID for public administration processes across Europe.

• Interoperability and standardization

Adoption of standards like W3C’s Decentralized Identifiers and advancements in technologies like Zero-Knowledge Proofs will drive interoperability and trust in the ecosystem. Partnerships between blockchain projects and tech giants, such as Microsoft ION on Bitcoin, signal a future where DIDs coexist with traditional systems.

• Inclusion and accessibility

DID can address global identity challenges, particularly for the 1 billion people without formal IDs, enabling access to financial services and digital resources. ID2020 continues to collaborate with NGOs to provide blockchain-backed IDs to refugees and underserved populations.

Decentralized identity gives users full control over their personal information online, ensuring privacy and security. It’s valuable in banking, healthcare, government, and Web3, addressing the risks of centralized systems. Challenges remain, such as scaling, interoperability, and legal compliance, but technologies like blockchain and W3C standards are driving progress. By eliminating reliance on trust, decentralized identity has the potential to revolutionize online interactions, making them safer and more user-friendly.