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Our next topic is Proof-of-Work and Proof-of-Stake and their importance in using Cryptocurrency. But, before proceeding with this blog post, please make sure that you have read our discussion on cryptocurrency mining as it will help you better grasp the concepts.
The vision of the pioneers of digital cash was to create a peer-to-peer system free from the interference of any government institution or third-party regulators. The hallmark feature that defines digital currency is its decentralization.
When Bitcoin became available for public use, Proof of Work provided the Blockchain with a way of verifying blocks of transactions while remaining decentralized. However, as Bitcoin grew and other cryptocurrencies started to emerge, the weaknesses of Proof-of-Work became slowly exposed and this is when Proof-of-Stake came to light.
Proof of Work
Proof-of-work (POW) is the first known consensus mechanism used in cryptocurrency. It is because of POW that the term ‘mining and miners’ came into existence.
The ‘miners’ are the ones who authenticate the Bitcoin transactions taking place in the Blockchain. They solve highly difficult mathematical equations in order to validate and add new blocks. Then, they receive rewards for completing the computations.
It is now common knowledge that POW consumes way too much energy. It is one of the primary reasons why people think it is inefficient. But before we make hasty conclusions and before we discuss POS, let’s take a look at the pros and cons of Proof of Work.
Pros of Proof of Work
- It is at the heart of maintaining consensus and the decentralized nature of cryptocurrency. Proof-of-work ensures that network participants maintain the synergy within the crypto network so that everyone can benefit yet no one will abuse it.
- POW maintains the high-level security that is imperative for a decentralized financial system like Bitcoin and others. POW prevents users from ‘double spending’ their money.
- ‘Miners’ are incentivized because they receive rewards for efficiently computing, authenticating and adding new blocks. This will motivate more people to contribute to the upkeep and development of the Blockchain network.
Cons of Proof of Work
- It is inefficient due to slow movement of transactions which end up in higher fees. Because the POW model is not considered scalable, the work process becomes sluggish. Investors and potential clients doubt it energy efficiency.
- As clamored pointed out by several crypto enthusiasts, the environmental impact of POW is largely negative because of the large amount of energy consumption and its carbon footprint.
- The computers required to carry out cryptocurrency are entirely a class of its own. Simple PCs don’t have enough power for mining activities.
Despite the criticisms about the Proof-of-Work structure, there are still many coins that stick by this method of mining cryptocurrencies including Bitcoin as the first and foremost, along with Litecoin (LTC) and Dogecoin (DOGE).
Proof of Stake
This is another type of consensus mechanism in the cryptocurrency network. PoW requires ‘miners’ to compute complex mathematical equations while Proof of Stake (PoS) oblige their participants to stake their coins in exchange for receiving transactions fees as a reward.
In the Proof of Stake system, there are no miners. The participants are called validators. They carry out check-and-balance tasks, authentications, take part in result verifications and preserve the security of records.
It earned the name ‘staking’ because the coins of validators act as collaterals. They are staking crypto, eventually forming a staking pool. so they can be accepted as validators.
There is a specific amount required before validators are allowed to join in the PoS operations. Ethereum sets their requirement at 32 ETH.
Pros of Proof of Stake
1. Significantly reduced energy consumption because it uses the staking of coins to achieve consensus in the Blockchain. It relies on the number of coins that validators will stake therefore it is not computationally intensive.
2. There is potential scalability because Proof-of-stake because it doesn’t depend on supercomputers to function. There is also a lesser need for huge computational power.
3. Due to less energy needed and a better scalable model, processing fees are cheaper, and transactions to the Blockchain move faster. Smart contracts are used in PoS to enhance transparency and speed of transactions. This results in lesser computing resources and works required.
Cons of Proof of Stake
1. Proof-of-stake started in 2012 as initiated by Peercoin (PCP). Ethereum decided to adapt and use POS in its Blockchain. Therefore, it is quite new and still untested. Compared to POW, it has lesser history and volume of transactions accomplished.
2. Security is an issue as well because it is not as labor-intensive as POW and it does not have many requirements for validating transactions. This makes it vulnerable to glitches or cyber-attacks.
3. If a person or a certain group owns a large share of coins or ‘stakes’, they can hold influence how the validations are done. This will disrupt the consensus mechanism upon which Blockchain rests.
The long term performance of Proof-of-Stake is under close scrutiny of investors. Both POW and POS have supporters and detractors. Some of the coins using POS are Avalanche (AVAX), Cardano (ADA), Ethereum (ETH), and Solana (SOL).
In traditional finance, any person or group who holds 50% or higher shares of stocks have control over decisions and movements within the company or institutions.
The same thing happens in the crypto world. A 51% attack happens when someone or a certain group successfully controls more than 50% of a blockchain’s hashing power. This means they will be able to mine faster than other participants in the network.
Mining at a quicker rate than others makes the blockchain network vulnerable to manipulation and double-spending.
Consensus mechanisms are structures hold people accountable for their money. A part of its success depends on how investors cooperate with each other to maintain honesty and data accuracy in a certain blockchain.
Each kind of consensus mechanism will always have its drawbacks. It is better to choose depending on what kind of cryptocurrency you will be comfortable using. If you are concerned about the environment and desire speedy and cheaper transactions; Proof-of-Stake may be for you. However, if you want a system that has been tried and tested since the bitcoin Blockchain came out, you might appreciate the advantages that POW holds.
Think wise and think twice Cryptobelievers! Until our next post.