Even if you are miles away from the crypto space, you cannot escape the news around Bitcoin consuming enormous electricity. There is always some media outlet running their ‘special’ on environmental concerns of Bitcoin mining. But guess what? They are not completely wrong.
Though banking uses 56X more energy, Bitcoin isn’t the greenest way to operate a cryptocurrency. We can do better. That is primarily because of its consensus mechanism.
You see, a blockchain is a distributed ledger. Therefore, all the computers running the network (or at least 51% of them) have to agree on adding the next block in the chain. This can be done in multiple ways known as consensus mechanisms. While proof-of-work is where all the nodes deploy computing power (hence electricity) to validate the block, proof-of-stake does things differently. What is proof-of-stake, and how does it work after all?
What is Proof-of-Stake in Blockchain?
Proof of stake is a consensus mechanism where all the computers running the network (nodes) stake their tokens/coins to participate in the validation process. Staking is just another word for locking up your coins on the network to validate transactions. By depositing their tokens, they have a vested interest in safeguarding the integrity of the network.
Also, to validate the block, only one of the nodes is appointed based on the number of tokens staked, time since staked, and randomization. This means it saves the energy that otherwise would have been spent by other nodes in proof-of-work (PoW). In PoW, all the nodes try to validate the block before anyone else.
How Does Proof-of-Stake (PoS) Work?
In a proof-of-stake consensus mechanism, the participants stake their cryptocurrency to become validator nodes. In other words, they sign up for maintaining the network using their computer and paying the required fee. In return, they get a cut of the transaction fees paid by the user.
Once staked, these tokens cannot be used elsewhere. However, depending on the cryptocurrency, you can un-stake them and trade if need be. Some blockchains allow immediate un-staking while others have something called ‘Bonding Period’. This is the number of days you have to wait before you un-stake your staked crypto.
Once you enter the game and a block is up for validation, the network randomly chooses a validator to perform this task. If performed successfully, the node is rewarded with cryptocurrency.
On the other hand, if the node isn’t successful in validating the block or validates it incorrectly, a penalty is levied on it, and it may also get barred from further validations. This process is known as slashing.
Example of Proof-of-Stake
Due to its less energy-intensive nature, proof-of-stake has gained popularity. In fact, Ethereum is also trying to move from proof-of-work to proof-of-stake by the end of this year. So let us talk about a few cryptocurrencies powered by proof-of-stake mechanism
A. Ethereum 2.0
Ethereum has already begun testing for its proof-of-stake blockchain called Beacon chain. Anyone can become a validator node by locking up 32 ETH. If you do not have 32 ETH to stake right now, a lot of exchanges like Binance are offering staking pools where you can deposit as low as $10 worth of ETH and Binance would stake it on your behalf once a lot of 32 ETH is created.
Only caveat? You cannot unstake your ETH until 6 months after the launch of the proof-of-stake mechanism on Ethereum. In the meantime, you would get stETH, a representative token of your staked ETH. It would be converted to actual ETH in a 1:1 ratio once everything goes live.
Founded by Charles Hoskins, Cardano is another blockchain that runs on proof-of-stake since inception. As a validator, you can set up a node and lock in your $ADA (native token for the Cardano blockchain). Once the block needs to be validated, the algorithm selects the validator. A successful validation attempt is rewarded by more Cardano.
Proof of stake has become so popular over a period of time that over 80% of the world’s cryptocurrencies are powered by it. Apart from the examples discussed above, some key blockchains using the PoS consensus mechanism are as follows:
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What are the 5 Different Types of Proof-of-Stake?
Owing to its widespread adoption, multiple blockchains have added subtle variations to the proof-of-stake consensus protocol to come up with a refined version fit for their use case. In this section, we will talk about 5 key types of proof-of-stake.
A. Pure Proof-of-Stake (PPoS)
Often users stake using multiple accounts to increase their chances of being selected as the next validator. Pure proof-of-stake overcomes this problem by assigning the highest probability of winning the validation rights to the node with the highest staked amount. This way, individuals refrain from setting up more than one node.
Algorand (ALGO) uses the PPoS method to protect its network.
B. Hybrid Proof-of-Stake (HPoS)
Due to its sheer network, it is very difficult to do a 51% attack on Bitcoin. But for the blockchains that do not have as many participants, a few influential nodes are enough to overtake the network.
To overcome this problem Hybrid Proof-of-Stake was introduced. It is a cross between proof-of-work and proof-of-stake. In an HPoS mechanism, miners (from PoW) can only create new blocks. However, validators (from PoS) would validate each of these blocks after they have been mined.
This intends to make the verification process fairer for all the users in the network.
Now consider a situation where someone with sizeable funds sets up a node and wins the validation rights the most number of times. This is against the ethos of democratization of wealth. Therefore, an additional layer of approval was added through Delegated Proof-of-Stake.
In DPoS, network users elect/vote for a validator to win the rights to validate a block. So even if you have the highest number of tokens staked, you still need votes from the users to be able to validate the transactions.
This vote is done by locking in crypto by the users. And if their validator gets to validate a block, the reward is split proportionately amongst all the users who voted for him. This is of course after the validator takes his share of the revenue.
Quite often, validators are also required to present a proposal proving their ability to validate the transactions. This makes sure that only serious nodes with clean intentions are allowed to safeguard the network.
A lot of blockchains in the Cosmos ecosystem use DPoS.
D. Leased Proof-of-Stake (LPoS)
A subtle spin-off to the delegated proof-of-stake is Leased Proof-of-Stake or LPoS. It allows crypto holders to lease some of their funds to the nodes to verify blocks on their behalf. While you would vote for delegators in a DPoS mechanism, here there are no votes. You can simply lease your tokens and boost the chances of a particular node being selected as the validator. Even the individuals with smaller contributions can take part in the network security through LPoS.
WAVES blockchain, launched in 2017 uses LPoS mechanism. Users are allowed to remove their leased tokens anytime.
E. Liquid Proof-of-Stake (LPoS)
In simpler terms, Liquid Proof-of-Stake is the flexible cousin of delegated proof-of-stake. Once again, it involves handing over your funds to someone to validate the network. But this comes with a slight twist. Instead of having only that option, stakers can choose to become validators themselves.
You can either outsource your validating rights to someone else or use your funds to start validating on your own. While the number of validators increases in this mode, promoting decentralization, the chances of getting selected as a validator are still highest for the biggest staker.
Tezos uses LPoS consensus mechanism where the process of mining is called baking and bakers can validate the new blocks.
What Are the Benefits and Drawbacks of Proof-of-Stake?
We are too early in this game to establish a clear winner. Therefore, just like everything else, there are two sides to the entire tussle of which consensus mechanism is the best. So, this section is dedicated to showcasing some of the benefits of using proof-of-stake with some downsides as well.
Benefits of PoS
The entire noise around Bitcoin consuming so much electricity proved to be beneficial for the cause of proof-of-stake. But that is not the only benefit it entails. Let us find out what PoS has in store.
Since the validator is chosen by the algorithm, it is faster as compared to PoW where everyone tries to validate a block and only one of them wins. This paves the way for faster transactions at a cheaper price.
Here’s a fun fact for you. If you choose to pay for your coffee with Bitcoin, the waiter may ask you to pay first and then have your coffee. However, the same waiter would let you sip your brew in peace and ask for money on your way out if you are paying using fiat.
This is because of something called ‘finality’. Finality is the time taken by a blockchain transaction to become irreversible. For Bitcoin, this time is 60 minutes or 6 blocks (each block takes approximately 10 minutes.
For blockchains running on PoS, this is not a problem. Most of them achieve finality within minutes of the transaction.
Mining on proof-of-work powered blockchains requires massive specialized equipment. For example, in the case of Bitcoin, one needs mining rigs (which are tons of specialized computers connected together), electricity, mining software and mining pool membership.
None of this is required for proof-of-stake. For example, if you wish to become a validator on Tezos blockchain, all you need is a decent computer and 8000 Tez. There is no need to buy specialized equipment.
And of course, the energy requirement for proof-of-stake consensus algorithms is way less than proof-of-work. In fact, Ethereum is all set to spend 99% less energy to run once it moves to PoS from PoW.
Disadvantages of PoS
Let us flip the coin and see what lies on the other side. Disadvantages of PoS:
Bitcoin and proof-of-work have been around for about 12 years now. The consensus mechanism has stood against the test of time and has delivered spectacular results. One cannot claim the same for PoS.
B. Unequal Distribution
Since the algorithm is naturally inclined towards the nodes with the largest number of tokens staked, it tends to favour the whales more than the retail investors. Therefore, there is still a chance for a whale to manipulate the system.
C. Bonding Period
As discussed earlier, it takes a while to get your staked funds back in case of some blockchains.
What is the Difference between POS and POW?
A quick memology (a meme-based analogy) to describe the fundamental difference coming your way.
Get it? Proof of work is like a legit race where everyone is trying to win the right to mine the next block. Whereas proof of stake is like the ‘dictator’. Only one individual will run and eventually win the race. Of course, this individual doesn’t hold a gun in their hand and relies on an algorithm, but you get the drift.
This is also the reason PoS is less energy intensive than PoW. Let us find out some additional differences between these two most popular consensus mechanisms.
|Block creators are known as miners||Block creators are known as validators|
|Energy and equipment is required to become a miner||Native cryptocurrency is required to become a validator|
|Does not allow scalability||Allows it to be scalable|
|Miners receive block rewards||Validators receive network fee|
|Higher barriers to entry for a miner.||Lower barriers to entry for a validator|
|Energy intensive||Energy efficient|
With growing environmental concerns, we believe it is wise to move to energy-efficient modes of maintaining a blockchain. Apart from that, Ethereum’s movement to PoS is the biggest validation of this fact. With next-generation blockchains coming up with newer ways to achieve consensus, PoS is here to stay as it gains more stability over a period of time.
1. Is PoS better than PoW?
In terms of energy consumption and overall efficiency, proof-of-stake is better than proof-of-work. However, it still needs to prove itself as a secure method of reaching consensus.
2. How will Proof-of-Stake make money?
Proof-of-stake blockchains make money by levying gas fees to transact on the network. This gas fee is used to compensate miners. The more the demand for crypto, the higher its gas fees.
3. Is Solana Proof-of-Stake?
No, Solana uses Proof-of-History (PoH) as its consensus mechanism. With PoH, you can create a historical record that proves that an event occured at a specific moment in time like clicking a picture of the newspaper- this means that the picture was clicked after the newspaper was published.
4. Is Bitcoin going to Proof-of-Stake?
No. Bitcoin supporters believe the PoW mechanism to be the only way to reach consensus in the most secure manner. Bitcoin can be forked to create a new blockchain that runs on PoS but the OG Bitcoin may never switch.
5. Who invented Proof-of-Stake?
Scott Nadal and Sunny King developed Proof-of-Stake (PoS) in 2012 to reduce the electricity usage while mining cryptocurrency. PeerCoin was the first blockchain project to adopt PoS. It is for the same reasons that Ethereum blockchain is shifting its consensus from proof-of-Work to proof-of-stake.