Gavin Andresen recently suggested a design for a wallet protected by
two-factor authentication via one-time-passwords with the aid of a
third-party service to counter-sign 2-of-2 protected wallets.(1) The
design is useful when the user can't sign transactions on a second
device, such as a phone, but can provide one-time-passwords. (possibly
generated on a smart phone or stored on paper) However involving a
third-party has privacy and availability risks. Here is an alternate
design, also using one-time-passwords, that removes the requirement for
a third-party, along with other advantages and disadvantages.

User experience

The user has a wallet with a separate balances for savings and a smaller
day-to-day spending amount. Transactions spending the day-to-day balance
do not need two-factor authorization, while spending the savings balance
does. As the day-to-day balance becomes low the user is able to top it
up by authorizing the movement of discrete multiples of some amount from
savings to spending. That authorization requires one one-time-password
per multiple being moved.


Savings use P2SH outputs matching the following scriptPubKey form:

HASH160 <H(nonce_i)> EQUALVERIFY <pubkey> CHECKSIG

spent with:

<sig> <nonce_i>

The way the pubkey/seckey is generated is unimportant, although some
kind of deterministic scheme is preferable. Nonces on the other hand are
generated deterministically using a counter-based one-time-password
scheme that takes some secret seed and an integer i.  A large number of
H(nonce_n) are generated in advance and moved to the computer holding
the wallet. (generating them on that computer is also possible, but
obviously risks the secret seed being compromised)

A brute-force attack to spend a signed txout requires the attacker to
find a preimage, thus the security level is the number of bits for the
nonce; 64 bits is sufficient. (remember the birthday attack doesn't
apply here) Unfortunately the most popular one-time-password scheme, the
RFC6238 used in Google Authenticator, only outputs six digits numbers,
well below the security level required. (Google Auth is generally used
in a time-mode, but also has a counter mode)

The older RFC2289 however turns the passwords into six words from a 2048
entry wordlist, giving a 64-bit nonce with 2-bits of checksum. RFC2289
implementations are also well suited to paper print-outs and generally
make it easy to do so. RFC2289 as written uses SHA1, however the
suspected vulnerabilities in SHA1 are partial-preimage collisions, not
relevant in this application.

In a sense the user is now acting as an oracle answering the question of
whether or not funds should be allowed to move from savings to spending,
without being responsible for where those funds are allowed to go. As
described in (2) it is easy to create a whole range of conditions by
using multiple nonces if the use-case demanded. For instance a corporate
environment may want multiple parties to be required to authorize the
funds to move, possible with multiple nonces.

It's interesting to note how in some cases it may be preferable that the
authorization is simply authorization to spend without any other
involvement. Here the party acting as an oracle not only doesn't need to
know where funds are going but can even authorize the spend in advance
without two-way communication - possibly even prior to the funds being
received in the first place. This authorization can be easily given
manually, for instance over the phone, and the accounting to keep track
of the total amount authorized can be easily done with pen and paper -
something not possible with CHECKMULTISIG wallets.

Funding the wallet

As with any multi-party wallet receiving funds must also be handled
carefully to ensure an attacker can't fool the user into giving the
sender the wrong address. This requires the involvement of all parties
required to authorize an outgoing payment. In addition here the
protection only works if funds sent to the wallet are split up into the
discrete authorization amounts the user wishes. (possibly with more than
one amount level)

There hasn't been as much thought put into these systems as there has
been on payment protocols between a customer and a merchant, but the
basic idea is to have more than one device participate in the generation
of payment request signed somehow. For fund splitting the request can be
that the funds are paid to multiple txouts in one go.  For recurring
payments the request could have some mechanism for multiple addresses to
be specified for future use. Fall-back to a standard multi-signature
wallet is possible as well.

More research is needed.



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