Proof-of-Work (PoW) Vs. Proof-of-Stake (PoS)

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Consensus mechanisms are crucial in the blockchain industry—here are the most famous consensus algorithms and the main differences between them

If you know anything about blockchain technology, then you may be familiar with what consensus mechanisms are. Proof-of-work (PoW) and proof-of-stake (PoS) systems are the most popular blockchain consensus mechanisms, even though there are a number of other systems that exist today.

Before proof-of-stake, proof-of-work was the most commonly used algorithm in blockchain technology.

However, things changed. Ever since the underlying protocol of the second most famous cryptocurrency, Ethereum, announced the plan to incorporate the algorithm proof-of-stake, crypto enthusiasts started eagerly debating and comparing these two consensus mechanisms.

In this guide, we will help you better understand the significance of both algorithms, and hopefully, provide you with a clear view of their characteristics.

The Importance of Blockchain Consensus

Blockchain technology is a revolutionary system and definitely one of the biggest discoveries of this century. To understand blockchain technology, one must completely understand its features and key points. Blockchain technology has many characteristics that distinguish it from other existing designs.

One of the pivotal aspects of this type of technology is its distributed ledger. The name originates from the ability of this distributed ledger to store records of previous transactions across a network of computers around the world instead of storing them in a central location.

The distributed ledger has the main operation of ensuring all the participants in the network collectively agree with the ledger’s contents. Inside the network, this represents the consensus mechanism.

The importance of consensus in such a system lies in the fact that without it, a decentralized system will fall into pieces in a split second. Here, it does not matter whether the participants in the network trust or do not trust each other. They have to agree on specific functional principles that will be common for all of them.

This is the only way blockchain technology can work in the way it does, and maintain security and stability.

The Proof-of-Work (PoW) Algorithm Explained

As a concept, proof-of-work existed long before crypto assets were invented. Moni Naor and Cynthia Dwork first published the term in a journal article in 1933. However, the proof-of-work algorithm was not labeled until 1999 when researcher Markus Jakobson coined it.

Simply put, proof-of-work is a data piece, which is easy for others to verify but very difficult to produce. It is mainly costly and time-consuming. The PoW system is an economic measure that deters denial-of-service attacks and other abuses of the service. A key feature of this protocol is its asymmetry; on the requester side, the work must be moderately though while the service provider has no hard time checking the work.

Because Bitcoin is the most well-known implementation of the PoW algorithm, we will explain the general concept in terms of Bitcoin mining.

In the blockchain of Bitcoin, the transactions are grouped in a mempool, which stands for memory pool. The blocks in the system are created every 10 minutes. In order for the transactions to go inside this mempool, they need to be verified. The process is called mining, while the processors are called miners.

When a Bitcoin user requests a transaction, this data is immediately transferred to the miner that proceeds with the verification process. Then, the miner includes the transaction in the next available block. To be able to do so, the miner has to know crucial information that is hidden from anyone else. This information is regarding the cryptographic hash value of the block that was last recorded. For creating a brand new block, this hash value must be ascribed.

No skills are required to find the hash of the last block, as the miner tries different numbers repeatedly. Similar to solving a mathematical puzzle, the miners have to make random guesses until they get the right accurate combination.

This course of action usually takes a lot of time. It is a competitive process and the miners are rewarded with a fraction of Bitcoin for their work.

A successful miner is the one that uses immense computing power to solve a massive mathematical puzzle and beat every other participant in the game. As soon as the miner finds the last block’s hash value, it announces to the network. The other computers on the network, also known as “nodes,” verify the hash. The miner is then able to create a new block in the mempool along with the transactions.

Because the cryptographic puzzle is asymmetric, it is extremely hard to solve. To make it additionally complex, the puzzle is revised every 14 days, which requests more computing power to effectively re-solve the puzzle.

In this network, it is too expensive to carry out a DDoS attack, as the hacker will probably spend more to make it happen than what they will earn. Therefore, the proof-of-work algorithm makes the blockchain technology exceptionally secure.

This high security, however, comes at a high price. The nodes’ computing power is ever-increasing, requiring more electrical energy than ever. In turn, this problem attracts negative media coverage, which affects the whole system.

Further, the miners’ competition is today bigger than ever. Hence, the difficulty level of the encrypted mathematical puzzle is frequently increased. With these improvements comes the Bitcoin mining rewards that will also advance simultaneously.

What happens when all of the rewards for the miners are exhausted? Here is where the PoS algorithm comes in the picture.

As of now, some of the most prominent cryptocurrencies such as Bitcoin, Monero and Ethereum have adopted the proof-of-work algorithm.

The Proof-of-Stake (PoS) Algorithm Explained

Proof-of-stake is the second most famous algorithm that is used in the blockchain network, especially the cryptocurrency blockchain.

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Currently, cryptocurrencies such as BlackCoin, Peercoin, Qora, NavCoin, ShadowCash, LEOcoin and Nxt have adopted the PoS algorithm.

Unlike the PoW system, the PoS algorithm does not involve rewarding the participants with any new coins. In order for the participants in this network to verify the transaction, they collect the transaction fees. This is one of the main differences between proof-of-work and proof-of-stake.

The PoS system mentions “stakes” that are basically a set of nodes. These stakeholders make a decision to stake their cryptocurrencies for the validation of the transaction. The longer the duration of the stake and the larger the amount is, the higher the chances for the stakeholder to take responsibility for validating that transaction.

In this network, the included cryptocurrencies are already created, which means there are no mining processes. Due to this, the soaring energy costs for solving of complex cryptographic puzzles are eliminated. The process of transaction validation in the proof-of-stake system is called forging.

The scalability in the PoS protocol is also enhanced since there is no need for all of the participants in the network to be involved in the process of transaction validation.

Another solution called sharding is implemented in the proof-of-stake algorithm. This concept has its roots in database management, where it offers more efficient storage of different database divisions in separate server instances. In the cryptocurrency blockchain systems, sharding represents storing the horizontal network’s portions in individual groups of nodes. Sharding cannot be implemented in the proof-of-work algorithm since no node has the ability to see the whole network.

Currently, cryptocurrencies such as BlackCoin, Peercoin, Qora, NavCoin, ShadowCash, LEOcoin and Nxt have adopted the PoS algorithm. Peercoin was the first cryptocurrency that ever used the proof-of-stake algorithm.

Comparing Proof-of-Work and Proof-of-Stake

  1. Cost and Energy

Regarding the expenses and the energy used for these algorithms, proof-of-stake is proven a green and cost-efficient alternative to proof-of-work. Due to cutting out the energy-intense processes such as mining, the PoS systems have higher energy efficiency benefits.

Another key advantage of the proof-of-stake algorithm is that the competition is lessened since there are no rewards included. The PoW system has a more competitive nature, which means that powerful mining computers are a required investment. Thus, more energy supply is needed to keep up productivity.

For the system to run, the proof-of-stake protocol requires a mere fraction of energy. The lower the energy cost is, the more accessible the validating role becomes for anyone within the community.

  1. Centralization

The risk of centralization is an increasing concern with the blockchain networks that utilize the proof-of-work algorithm. Because the mining role is becoming progressively reserved only for large operations, the control of these networks is moving from fewer and fewer hands.

Luckily, there is a fair solution provided by the proof-of-stake algorithm. The amount of network control in this blockchain system is directly related to the amounts of participants’ investments. Therefore, if a particular participant invests five times more than another participant in the network does, the first participant will have five times more control than the second participant will. This makes the system fair for both parties.

However, one of the caveats here is that it’s nearly impossible to compete against huge mining farms. This is a blessing and a curse of both consensus mechanisms.

  1. Security

Compared to proof-of-work, the proof-of-stake algorithm is relatively new. As a result, it has not reached the same level of adoption, nor has it been rigorously tested.

Nonetheless, during this time that the system exists, several potential security risks have already been recognized.

A constant blockchain fork is not healthy for the entire network and can possibly lead to major instability. Thus, PoW systems recognize this danger and naturally discourage constant forking by splitting computational resources between the original blockchain and the newer forked one.

Opposite than this, PoS systems are not able to discourage forking and make a rational decision. This situation can cause a problem known as Nothing at Stake. On the newly forked blockchain, the validators receive duplicate copies of their stakes when the blockchain forks. There is a high risk to claim twice the fee amount if the validator signs off on both sides of a fork. Since the participants are not obligated to increase their own stakes so they can validate transactions, there is no economic incentive to prevent negative behavior.

Which Consensus Mechanism Is Better?

Both of these blockchain consensus algorithms have their own strengths and weaknesses.

Crossed out golden bitcoin coin on the China flag

China is currently initiating proposals to ban Bitcoin mining in order to save the environment.

The proof-of-work protocol has been around longer, which has allowed researchers to test its power, effectiveness and security. It is an extremely secure system, but as noted, it’s also a very competitive one.

Among the flaws of the PoW algorithm, there are the increased centralization of the mining processes, the high energy costs and the increased strain on the environment. Communities around the world are growing concerned about the increased levels of energy consumption used in Bitcoin mining, and the costs associated with it.

China is currently initiating proposals to ban Bitcoin mining in order to save the environment. The mining role is restrained and kept safe for the big players only. Such a scenario leaves the other participants in the network empty-handed and without opportunity.

The PoS algorithm, on the other hand, provides a blockchain that is more scalable and has a higher transaction throughput. Although the proof-of-stake system is less centralized and in this sense better than the proof-of-work system, it notably less secure to use.

Now that you know the pros and cons of both blockchain consensus mechanisms, it all comes down to choosing the risk you are more willing to take.

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