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Proof of Work and Proof of Stake Explained

Illustrations by A. Gnetova and G. Phan

In This Article

Bitcoin (BTC)
   
Ethereum (ETH)
   
Litecoin (LTC)
   
Peercoin (PPC)
   

Proof of work and proof of stake are both ways of achieving trustless and distributed consensus on the blockchain.

Many crypto assets use consensus mechanisms to verify the validity of information added to the ledger. This prevents double spending (sending two transactions with the same token) and invalid data added to the blockchain. There are many different consensus mechanisms; they all have the same purpose but differ in their methods, especially in how they assign and reward the verification. Two of the most popular consensus mechanisms are Proof of Work and Proof of Stake, but what are the differences between them?

In This Article:

Proof of Work Explained

Proof of Stake Explained

Comparing PoW and PoS

Proof of Work (PoW) Explained

proof of work

  • Proof of work actually existed long before bitcoin. The concept was initially published by Cynthia Dwork and Moni Naor in 1993, described as a way to deter spam. However, the term ‘proof of work’ came much later.
  • Proof of Work It is better known today for its use with cryptocurrencies. To produce Bitcoin, miners compete to solve puzzles so that they can complete a block and be rewarded with newly minted coins. This puzzle is what we call ‘Proof of work’.
  • The only way to increase your chances of solving the puzzles on a Proof of Work consensus is by using more computational power. Essentially, your chance of validating a block equates to how many computational cycles your hardware can get through.
  • Proof Of Work is the consensus mechanism used by most cryptocurrencies, including Bitcoin and Ethereum. Although, sometime in the first quarter of 2020, Ethereum is set to upgrade its network and move to a Proof of Stake mechanism.

Proof of Stake (PoS) Explained

DeFi Value

  • Proof of stake does not use a mathematical puzzle; instead, it relies on a deterministic probability influenced by the number of coins staked at a specific moment. In other words, your chances of creating a valid block will be proportional to the number of coins you “lock” or put at stake. For example, someone with 30 coins is three times more likely to be the next block validator than someone with ten coins.
  • With PoS, there are no new coins created; all of the coins are created at the beginning. Validators are rewarded with transaction fees as opposed to newly minted coins.

Comparing PoW and PoS

1.Amount of electricity consumed

One of the significant drawbacks of PoW is huge energy waste. According to the Digiconomist, bitcoin mining requires an annual energy consumption (66.7 TWh) that equates to the energy consumed by the entirety of the Czech Republic, a country of 10.6 million people. PoS has a significantly reduced energy consumption as miners don’t need to competitively binge through electricity to win blocks.

Electricity Energy

  • These lower energy costs also mean that the role of validating is more accessible for anyone as you don’t need powerful mining computers to participate. However, some people feel that PoS is less democratic. Those who have already accumulated a lot of ETH will have a higher chance of winning blocks, therefore, providing a platform for the rich to get richer.

2. Security

PoS is relatively new compared to the PoW system, and consequently, it hasn’t been as rigorously tested. PoW innately discourages the blockchain from forking. If a blockchain is forked, miners have to decide which chain to support; in order to support both sides, the miner would have to split their computational resources. In PoS, when the blockchain forks, the validator could sign off on both sides and claim double the transaction fees, a problem known as ‘nothing at stake’.

Bitcoin Security

3. Decentralisation

As mentioned earlier, due to the energy consumption and hardware required, mining is becoming increasingly confined to large-scale operators. This threatens the decentralised nature of the network that is so paramount to the ethos of crypto assets. However, as commodity hardware is allowed to be used for PoS, greater decentralisation is possible.

4. Supply Distribution

With PoW, the costs associated with validation, usually means that miners chose to sell their coins rather than hold onto them. This creates an evener market liquidity. PoS, on the other hand, encourages hoarding as people are rewarded for having more coins.

5. Chance of ’51 attack’

A 51% attack is when a miner or pool controls over half of the computer power of the network. At this point, they could create fraudulent transaction blocks and invalidate others. WIth proof-of-stake, this scenario is not favourable for a miner. It would not be in your best interests to have a 51% stake in a coin and attack a network in which you hold the majority share. If the value of the cryptocurrency decreases, the value of your holdings also decrease. Therefore the majority stakeholder is incentivised to maintain a secure network.

In addition to Bitcoin, Litecoin also uses PoW. Ethereum is in the process of switching to a PoS system.

Other consensus algorithms?

There are several other types of consensus algorithms not mentioned here, each with their own advantages and disadvantages. Some coins (such as Peercoin PPC) even used a mixed system. Ultimately they are all trying to achieve the perfect combination of functionality and security with the ability to scale. Hopefully, by now you have a better understanding of the differences between Proof of Work and Proof of Stake.


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