Proof-of-Stake/Proof-of-Work is a distinctive feature often used to define the potential growth of a cryptocurrency. These are the consensus mechanisms used to verify transactions on a blockchain network without involving a centralized entity.
Those, who are willing to invest in a cryptocurrency or want to install a mining rig, must have a detailed understanding of how these mechanisms work. It may help them with making an informed decision.
What is Proof-of-Work?
Proof-of-Work is a blockchain-based algorithm that has a great contribution to the history of crypto as it was the first method used for validating blockchain transactions.
Unlike other payment options, cryptocurrencies don’t have any central authority that may keep an eye on their users’ financial activities. But there needs to be a system that may control the “double spending problem” in these networks because the currency’s overall supply may be significantly affected if the users started double-spending their coins.
Proof-of-Work (PoW) was the first method used to solve this problem. PoW was a tried and tested method that was being used for controlling spam emails since 1993. So, Satoshi Nakamoto decided to use it for Bitcoin’s Network. The method worked well and it’s still securing Bitcoin and other cryptocurrencies.
How Does PoW Work?
A blockchain is a public ledger that is made up of a series of blocks. Each block contains information about transactions processed using that network. Each block refers to its previous block and these blocks are organized in chronological order.
In the PoW mechanism, the authority to validate transactions is distributed among users who have the blockchain installed on their mining devices. The users who validate transactions are called Miners. The ledger generates a mathematical equation whenever a user requests a transaction.
The miners need to solve this puzzle to validate the transaction. The process of solving the equation is so difficult that the miners are bound to install highly expensive devices to find the winning proof-of-work. Once the miner solves the puzzle, a new block is added to the blockchain and the miner gets some reward in the form of Bitcoin.
Proof-of-work is a mechanism where miners need to solve complex cryptographic puzzles faster than others. Once a solution is generated, the other system on the network verify that solution using the proof-of-work protocol. After this complex process, the miner is rewarded some coins for suggesting the right solution.
Bitcoin is the first cryptocurrency that introduced the concept of Proof-of-work in the crypto industry in 2009. Ethereum, Litecoin, and Dogecoin are other popular names that are using this mechanism for processing transactions.
Pros and Cons of PoW
PoW mechanism prevents abuses and misuse while providing a secure mechanism for achieving consensus. This mechanism prevents individuals and organizations from tampering with the database. It helps with establishing a credible monetary policy.
In the crypto world, an individual or an organization needs to have at least 51% of the network’s computing power. And it’s almost impossible in the case of Bitcoin or other cryptocurrencies that use the PoW mechanism for transaction validation because the expenses for the mining process are pretty high.
And that’s also the negative side of the PoW protocol because the miners need to spend a hefty amount of money to install the high-quality equipment. Moreover, they need to spend a lot of money on the energy consumed to run the mining devices. Another downside of the PoW mechanism is that the transaction fees ultimately surge when there’s a number of transactions in the backlog waiting to be verified.
What is Proof-of-stake in Crypto?
Proof-of-stake (PoS) is also a consensus mechanism like PoW but it’s designed to eliminate the inefficiencies of the PoW mechanism. This mechanism provides better transaction speed while reducing the transaction fee.
In this method, the validators are required to stake the native tokens of the blockchain network where they want to participate in the transaction validation process. Unlike PoW miners, PoS validators don’t need to install any expensive equipment. They can simply start earning rewards by staking the crypto tokens they own.
But it’s important to know that the validator may lose some of his/her holdings if they verified a bad transaction.
How Does Proof-of-stake work?
In the PoS network, the participants are randomly selected to validate the transaction. The participants need to freeze their coins in a specific wallet if they want to participate in the validation process. The participant, who has staked more coins, is given the priority to validate the transaction to generate new blocks.
It doesn’t mean that only one person validates the transaction. The system takes confirmation from multiple participants to ensure that the transactions meet the standards of the network. The validators then receive rewards for validating these transactions. The participant, who has staked more coins, is eligible for higher rewards compared to others.
Pros and Cons of PoS
The most important benefit of the Proof of Stake system is that it’s an energy-efficient solution. In a Proof-of-Work system, the miners are in a race of validating transactions before others. Therefore, they install high-quality equipment that consumes a lot of energy. And there aren’t any priority criteria in this system.
So, whenever an equation is generated all the devices, that are connected to the network, start looking for the solution. On the contrary, PoS eliminates the need for installing high-quality equipment. Moreover, it prioritizes the validators based on the number of native tokens they’ve staked. PoS supports the adoption of cryptocurrencies on a bigger scale because it doesn’t harm the environment.
Another important benefit of PoS is that it distributes rewards among everyone who has staked their coins. Thus, nobody gets a chance of dominating the network even if they join forces together.
The negative side of the PoS system is that the validators need to hold a specific amount of native tokens to earn the rewards. In most cases, they’re supposed to spend millions of dollars to become a validator in a PoS network. But fortunately, people can still earn some rewards by joining a pool run by an organization.
These organizations equally distribute rewards among those who have staked their coins with them. It’s a great option for those who want to generate passive income from cryptocurrencies while enjoying the long-term benefits of their holdings.
Cardano, Atmos, Solana, and Tezos are some popular cryptocurrency projects that are using PoS protocol for transaction processing. Ethereum is also going to implement this protocol in its newly built blockchain ETH2 because it doesn’t only process native transactions but also hosts smart contracts, Defi Projects, NFTs, and more.
Proof-of-work and Proof-of-stake are the two different consensus protocols used in different crypto networks. Both the methods have their own advantages and disadvantages. We’ve highlighted the factors that differentiate between PoW and PoS. If you need more information about these consensus protocols, feel free to get in touch with us.