Proof of work (PoW) is a consensus method utilized to sequence and validate an often unimaginably long history of transactions. In Bitcoin, PoW plays a critical role in ensuring the security and trustworthiness of the decentralized digital currency. This consensus algorithm functions by requiring network participants to solve a complex mathematical problem, called a hash function, in order to validate new transactions and add them to the blockchain. However, the process requires an enormous amount of computational power, and thus, a significant amount of energy consumption.

A New Consensus Algorithm Is Initiated

As a direct result of this glaring environmental deficiency, the need has become painfully evident for new consensus mechanisms that place greater emphasis on methods that require less time and energy to implement. Without a doubt, the one that has built the most traction and momentum as of 2023 is the proof-of-stake (PoS) model.

Whether Bitcoin, Ethereum, Cardano or any of the countless other cryptocurrency projects, there is little doubt that the real stars of the crypto show are the consensus mechanisms themselves. It’s through their implementation of complex computer networks working together in a secure manner that we are able to strive for a collectively decentralized future.

The unfortunate truth, however, is that it remains entirely necessary to find solutions to a variety of issues before blockchain networks can function as intended. Decentralized cryptocurrency networks, for instance, have the responsibility of ensuring that no participant in the network spends the same amount of money more than once. The issue of a double spend may seem like a rather innocuous thing to worry about but we must remember one certainty: there is no central authority in cryptocurrencies like Cardano.

In regards to these networks, it is both a blessing and a curse that they do not have a central authority, like banks or fintechs (like PayPal). Due to the existence of a solidified and battle-tested consensus mechanism, a hard fork should never realistically occur on account of the failure of the network. A hard fork refers to a radical change to the protocol of a blockchain network that effectively results in two branches.

We often take this for granted in the non-crypto world, as centralized organizations such as banks play a key role in providing a stabilizing force, with banking activities controlled by a board of decision-makers or by regulators.

This runs in contrast to cryptocurrencies like Cardano, which are wholly dependent on the activities of their respective communities. In order for all of this to work, it is non-negotiable that blockchains must attain consensus in order to validate the transactions and the blocks.

Proof of Stake and Proof of Work

Proof of work and proof of stake are the two principal consensus techniques that are being utilized by decentralized finance (DeFi) initiatives to reach consensus on cryptocurrency networks. Both of these consensus processes are used on a second-by-second frequency to validate transactions.

The team working with global revolutionary Satoshi Nakamoto while building the first cryptocurrency, Bitcoin, had quickly realized that they needed to find a mechanism to authenticate transactions without the assistance of a third party. They came up with a solution called the blockchain. The proof-of-work consensus approach, which enables networks to agree on which transactions are valid, was utilized in order for them to accomplish this goal.

Proof of stake, on the other hand, is a cutting-edge consensus method that drives more contemporary DeFi initiatives and cryptocurrencies. PoS is also often referred to as proof of equity (PoE). Some initiatives begin with proof of stake right away, while others transition from proof of work to proof of stake. This pivot is easier in theory than it is in practice, as quickly establishing a PoS consensus network is a big technological challenge, and not as simple as using PoW to obtain network consensus. Cardano, for its part, launched from the start using proof of stake in 2017, and was for a while the the largest cryptocurrency project to employ a proof-of-stake protocol.

What Do We Mean by Proof of Work?

In 1993, the concept of proof of work was presented for the very first time. Its arrival was not a particularly earth-shattering event, as it was initially seen as a means to counteract network spam emails and denial-of-service attacks. Fast forward to year 2008, in which Satoshi Nakamoto proposed the notion of proof of work (PoW) as a means of validating newly created blocks in the Bitcoin network.

Proof of work relies on the ability of network users to provide evidence that a certain computational task has been finished. This is where we get the alternative name: proof of evidence. In order to accomplish this lofty goal, a mathematical equation needs to be solved, and as a result a node is utilized.

A node is any physical instrument, like a computer, that is capable of receiving data from other nodes in a network, transmitting data to other nodes, or forwarding data to other nodes. Utilizing this synchronization allows for participants to act together in solving the equation necessary to validate a transaction. Once the equation is solved, and the transaction has been confirmed, a new block on the chain can be validated.

The most efficient mathematicians on planet earth, computer validators, are then awarded some of the freshly-formed crypto coin, along with the responsibility of establishing a cryptographic link between the most recent block and the block before it. Miners, as they are commonly referred to, are the people who solve the problems, and the activity itself is referred to as mining. A blockchain is protected for use by all parties concerned through the collaborative efforts of those very same parties.

How Does Proof of Work Work?

A distributed ledger that records financial transactions in a chronological order using a method known as blockchain ordering, a blockchain is thus a system that consists of a number of blocks. The very first block in a proof-of-work blockchain is referred to as the genesis block or block zero, with its location predetermined by the software.

This block does not relate to a previous block because it is not allowed by its sheer specification. After that, every block that is added to the blockchain contains an accurate and up-to-date copy of the ledger, and it always makes reference to the blocks that came before it on the chain.

In proof of work, a race is held in which certain players or miners are encouraged to invest computational resources to submit blocks that comply with the network's rules. In order to participate in the competition, PoW algorithms determine who will be allowed to update the ledger with the new entries.

The ledger keeps a record of each transaction and organizes the transactions into successive blocks to prevent users from making duplicate purchases, also known as double spending. The immutable ledger is distributed globally so that it cannot be altered, and in so doing allows other users to instantly reject an updated version of the ledger.

Users are able to identify tampering by utilizing hashes, which are lengthy strings of integers that function as proof of work in practical applications. As the hash function is a one-way function, the only thing that can be accomplished with it is a comparison of the original data to the data that was used to generate the hash.

Nodes will then examine transactions, keeping an eye out for double spending. They will act deliberately over whether or not to accept proposed blocks as new links in the chain, as there is a genuine risk in doing so. Double spending is the intentional act of making two payments in the same currency in order to deceive the person who is the beneficiary of those financial transactions. The network's immutability, decentralization, and trustlessness are three of its most significant properties; however, double spending would utterly eliminate all three of them.

Proof of work makes it extremely difficult to engage in double spending because any change to the blockchain would necessitate the re-mining of all subsequent blocks. This should in theory render double spending nearly impossible, since users are unable to exert undue control on the amount of processing power available on the network due to the high cost of the machinery and electricity necessary to carry out hash functions.

A proof-of-work protocol uses encryption and computer power in addition to other methods in order to generate consensus and guarantee the legitimacy of transactions that are recorded on a blockchain.

The process of hashing, which creates new blocks, is accompanied by a competition between miners to discover the answers to various mathematical puzzles. Miners accomplish this goal by making educated guesses about a hash, which is a series of numbers that are supposedly generated at random. A cryptographic hash, creates a signature, which can be attached to a text or data file. When the information included in the block is combined with a hash function, the resulting hash value needs to yield a result that satisfies the standards that were outlined for the protocol.

The miners who had won the hash then broadcast the solution to the network, allowing other miners to confirm that it was a valid solution to the problem. In the event that the response is accurate, the block will be added to the blockchain, and the miner will earn the block reward in the form of cryptocurrency.

The Benefits and Drawbacks of Using Proof of Work

In proof-of-work mining, miners are required to spend a significant amount of money purchasing electricity in order to process a block on the network by solving difficult mathematical riddles. Energy is required to run the machines that are involved in the mining process, which is the process of confirming transactions and results in the production of digital assets. Use of energy is also vital for the network's security since it enables the network to keep accurate transaction records and adhere to a predefined monetary policy.

In addition, the network is safeguarded because in order to cheat the chain, an adversarial actor would need to control 51% of the computer power that the network possesses. On top of this, in the event that a blockchain operating under a proof-of-work system forks, miners will be required to make a choice on whether or not they will continue to support the original blockchain or make the switch to the more recently forked blockchain network.

A miner would need to split their processing power evenly between the two different blockchains in order to keep both of them operational when a fork occurs. Hence, proof-of-work systems aggressively work to prevent forking and urge miners to choose the side that does not want to destroy the network by providing an economic incentive for them to do so.

These characteristics are compatible with game theory, by which miners are required to engage in strategic behavior in order to achieve the highest possible returns on their investments. People will always choose the alternative that is least difficult, exactly like in conditions of restricted rationality. Oligopolies are no different in this regard as they act rationally to improve their chances of avoiding internal corruption and arriving at rational conclusions with the assistance of game theory.

In spite of the numerous benefits previously described, proof of work may nonetheless be prohibitively expensive and wasteful of available resources. Miners are forced to contend with a variety of challenges, one of them being the rapid depreciation of expensive equipment.

It should also be noted that mining can produce a significant quantity of heat, and, depending on the miner's location, might require an exorbitant amount of electricity. In addition, when there is a high volume of users on the network, the transaction costs for using the system will increase, in what are commonly referred to as gas fees. Additionally, there exists a real vulnerability to a 51% attack.

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How Does Proof of Stake Work?

By 2011, it became clear that there would need to be a different approach or alternative to proof of work. Developers acted with the intention of addressing the problems caused by the proof-of-work consensus process by lowering the amount of computational resources required to maintain and operate the blockchain network. Instead of actually carrying out the work that has to be done simultaneously, this concept focused its energy on highlighting that there should be a demonstrable interest in the larger ecosystem.

In order to validate transactions on a proof-of-stake network, a user just needs to demonstrate that they hold a certain quantity of cryptocurrency tokens that are native to the blockchain. This makes proof of stake the kind of consensus mechanism that many forward thinking blockchain networks employ in order to reach distributed consensus.

For example, miner A places a bet of thirty coins, miner B places a bet of fifty coins, miner C places a bet of seventy-five coins, and miner D places a bet of fifteen coins. In this particular situation, Miner C would be given priority to both write and validate the following block. The transaction fees or network fees that Miner C will collect are different from the block reward that will be given out according to the proof of work protocol.

How Exactly Does Proof of Stake Work?

Like proof of work, the very first block in a proof-of-stake blockchain is referred to as the genesis block, and its location is predetermined by the software. After that, every block added to the blockchain contains an accurate and up-to-date copy of the ledger, and it always makes reference to the blocks that came before it on the chain.

In a PoS network, miners do not compete with one another for control over the ability to add blocks. It is more typical to say that the blocks were "minted" or "made" than that they were "mined." PoS blockchains do not impose any constraints on who can propose blocks depending on the amount of energy they consume, in contrast to PoW blockchains. Proof of stake and other innovative consensus mechanisms thus eliminate the need for mining entirely.

The proof-of-stake model is preferable to the proof-of-work approach in a number of respects, the primary one being that mining blocks does not require a significant amount of energy. In addition, there is no necessity for cutting-edge technology in the production of new blocks. Proof of stake also allows for a greater number of nodes to exist within the network.

A network with a greater number of nodes is in turn better able to build governance principles that provide a more robust resistance to centralization. This is made feasible in PoS systems by a greater level of hardware independence than is found in other payment processing systems. It is for this reason that proof of stake is generally considered to be the consensus technique that will prevent network centralization.

A proof of stake blockchain requires users to "stake," or lock up, a set amount of the network's money in a particular contract before their participation in the process of adding blocks to the blockchain may be taken into consideration. The quantity of crypto assets that they have staked is the primary determinant of whether or not they will be chosen as the subsequent block producer. Individuals who participate in harmful behavior thus run the risk of having their stake taken away as a direct result of their actions.

PoS may take into consideration, in addition to pure randomness, other factors that do not always benefit the wealthiest nodes. One example of such a factor is the length of time a node has been staking its coins. A network charge is given as a block reward in the proof of Stake method, just like it is for proof of work, with the fee awarded to the individual who submits a valid block.

Block selection in PoS is based on coin ownership; hence, exchanges offer staking services, which permit users to stake crypto on behalf of other users in return for more reliable rewards. The ability for numerous players to combine their computing resources and boost their odds of winning is provided by the concept of a stakeholder pool. They combine their staking power during the verification and validation of new blocks in order to enhance their chances of collecting block rewards, which helps ensure that new blocks are created as quickly as possible.

The Benefits and Drawbacks of Using Proof of Stake

The proof-of-stake method has provided a solution to the problem of energy efficiency. Systems that are based on PoS are substantially more scalable than systems that are based on PoW, and they also authorize transactions a great deal faster. A system can scale to the point where it can handle more transactions per second (TPS) than certain, already-existing systems by modifying the parameter of the system or changing the consensus process of the system. PoS networks are able to process thousands of requests per second with a spike in latency of less than a millisecond because they establish a consensus before blocks are formed, which allows for increased throughput.

And yet PoS comes with its own unique set of difficulties. To give just one example, the network is still susceptible to manipulation by those who own the most tokens, with the earliest adopters standing to benefit the most from it.

Due to the fact that the PoS concept is still in its development, the crypto community may not have enough awareness of other potential problems that it may bring. In contrast to the proof-of-work approach, for example, this model does not have a performance history. In addition, there is no guarantee that proof of stake measures will prevent players from forking. If a blockchain were to split, each validator would receive a copy of their stake on the new forked blockchain in the form of a duplicate.

The "nothing to lose" dilemma can also occur when a validator gives their stamp of approval to both sides of a fork, which might theoretically provide them the ability to double-spend their coins and make twice as much in transaction fees.

When Would It Be Appropriate to Utilize Proof of Work or Proof of Stake?

The explanations presented above make it clear that both methods of reaching a consensus have advantages as well as disadvantages. They each take unique approaches to achieving the same overarching aim, yet both are united in their pursuit of that objective. A blockchain network's distributed design cannot function properly without a consensus mechanism. This is because the consensus mechanism decentralizes the control that is held by the organizations that are responsible for certifying transactions. To ensure that the immutable, trustless, and distributed characteristics of a blockchain network are preserved, it is vital to have a consensus mechanism that works as intended.

The requirements of a network define the type of agreement that is required to be in place. For instance, the prevention of fraud, the security of networks, and the creation of trust all necessitate the presentation of proof of labor. Proof-of-work miners cannot be deceived about a transaction since proof of work provides such high levels of security. As a safeguard against any potentially harmful actions, a participant node in the blockchain must provide evidence that the work has been completed and turned in before it can be granted permission to add new transactions to the ledger.

If there are multiple versions of the blockchain floating throughout the network, proof of work can help narrow down which version is the most trustworthy. And actual proof of work is required for the creation of a distributed clock that will allow miners to freely enter and exit the network while still keeping a constant operating rate.

In a manner comparable to this, the utilization of a PoS-based technique has significant repercussions on the performance and security of the network. PoS is utilized in situations in which a high transaction speed is required for on-chain transactions as well as actual network transfer settlement. In addition, the validators likely have sizeable holdings of the network currency, which gives them a financial incentive to keep the chain's security intact and ensures that it will continue to be maintained.

Nonetheless, it remains debatable whether or not the security measures taken by either PoS or PoW are effective against potential threats. Proof-of-space, also known as the Chia project, is a validation method that is being developed specifically for the purpose of reliably validating transactions. Chia's consensus method is designed to solve a number of the centralization issues that plague proof-of-work and proof-of-stake blockchains respectively, and so stay tuned for further coverage on that concept!

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