Proof of Work (PoW) and Proof of Stake (PoS) are the two most common consensus mechanisms that secure blockchain networks.
The two have a lot in common. Both consensus mechanisms have the same function: validating transactions and then updating the ledger with those that conform to the network’s rules. Additionally, miners (in Proof of Work) and validators (in Proof of Stake) are both rewarded with the network’s native cryptocurrency for performing this role.
So where do they diverge? Both PoW and PoS are design choices that come with their own efficiencies and tradeoffs.
Ethereum’s planned transition from Proof of Work to Proof of Stake and the Bitcoin network’s energy consumption have led to passionate debates for proponents of both consensus mechanisms.
In this article, we’ll look at the benefits and downsides of each.
But first, it’s important to understand the problem that both solve.
The double spending problem was the major obstacle to functional digital currency networks. Double spending is the digital equivalent to spending the same dollar bill twice. With physical cash, a transaction is not complete until the bill is actually handed over by the purchaser. But in an insecure digital network, anyone could effectively copy and paste the same unit of money and spend it as many times as they like.
In 2008, the pseudonymous Satoshi Nakamoto proposed an elegant implementation of Proof of Work in the Bitcoin whitepaper. Unlike previous digital currencies, Bitcoin has risen to the level of global adoption and took just 12 years to become a trillion dollar asset. In comparison, Apple – the world’s first trillion dollar company – took 42 years to reach that milestone.
So how does Proof of Work actually work?
Proof of Work
To put it simply, Proof of Work requires miners to back up their assertions as to the correct state of the network with verifiable work. This takes the form of complicated mathematical puzzles that are difficult to solve but easy to verify.
If there were no work required, it would be trivial for anyone to come along and propose harmful updates to the ledger that compromise its integrity.
Miners compete to be the first to solve the mathematical puzzle. The first block with a valid solution to the problem is added to the blockchain, and the miner receives the block reward. For Bitcoin, this reward is currently 6.25 BTC, with a new block added to the blockchain every 10 minutes on average. The block reward halves every 210,000 blocks. With a target block time of 10 minutes, this takes approximately four years and is referred to as the halving cycle.
The more hash power a miner has, the more likely they are to be the first to solve the problem. A miner with one megahash per second of hashing power can cycle through one million potential solutions to the problem per second. The total hash power of Bitcoin miners is currently around 125 exa-hashes per second, or 1018 (1,000,000,000,000,000,000) possible solutions every second.
Advantages of Proof of Work
The main advantage of Proof of Work is its security. Because miners must commit real resources to the network (in the form of computing hardware and the electricity required to power it), anyone who wishes to attack the network and double-spend coins would need to obtain more than half of the network’s hash power. This is called a 51% attack. While much has been said about Bitcoin’s energy consumption, it’s one of the main features that secures the network and allows for trillions of dollars of value to be transacted trustlessly.
Proof of Work is also critical to a cryptocurrency network’s decentralization. There’s no central authority processing transactions, but rather a collection of independent nodes competing against each other to submit valid blocks. The result is an effective method of achieving consensus in an environment where there are sizable incentives for dishonesty.
Anyone can contribute hashing power to the network and potentially earn block rewards. In the early days of Bitcoin, people did this on home computers, taking advantage of the original block reward of 50 BTC. Now, industrial-scale miners have taken over with specialized hardware that makes the chance of a hobbyist miner being the first to submit a valid block next to zero. Yet the fact remains that Proof of Work is a foundation of Bitcoin’s – and other PoW chains – decentralization.
Disadvantages of Proof of Work
Proof of Work does not prevent 51% attacks, it just makes them extremely costly, at least on larger networks. Smaller networks with less hash power have fallen victim to this type of attack.
As mentioned previously, PoW requires a lot of energy. It’s this transmutation of energy into economic value that underpins Proof of Work systems. Yet mining farms operate tens of thousands of individual devices, with each consuming about as much energy as a household espresso machine. In a world concerned about the effects of climate change and where the ESG (environmental, social, and governance) effects of an investment are front of mind for many institutions, Proof of Work’s energy consumption can be a negative factor.
You may have seen headlines proclaiming that Bitcoin uses more energy each year than the country of Norway. This is true, however for some context Christmas lights in the U.S. each December use more power than countries such as El Salvador and Indonesia use in a year. It boils down to a question of what you value and whether or not that includes a globally-accessible decentralized monetary asset.
Proof of Stake
Proof of Stake is an alternative consensus mechanism that addresses some of Proof of Work’s externalities, and introduces some of its own.
Proof of Stake does away with the complicated mathematical puzzles that define Proof of Work. Instead, validators stake an amount of collateral to the network and are selected based on the proportion that this stake makes up of the total. They then check the list of submitted transactions and include the legitimate ones in the next block, updating the blockchain.
Staking is the validators’ proof of their skin in the game. A validator which submits a fraudulent block can have its stake slashed as punishment.
Proof of Stake assumes that validators will act in the best interests of the network, as they are invested in its continued value. This differs from Proof of Work, which does not require miners to hold any of the currency whose transactions they are validating.
Advantages of Proof of Stake
The main advantage of Proof of Stake is its vastly reduced energy consumption.
Ethereum will soon switch from a Proof of Work consensus mechanism to Proof of Stake, and the team has estimated that this will cut the network’s energy consumption by 99%.
Proof of Stake doesn’t require the specialized hardware that PoW does. Bitcoin Proof of Work miners overwhelmingly use ASIC (Application-Specific Integrated Circuit) mining rigs, which are expensive and quickly become obsolete. Proof of Stake validators, on the other hand, can secure the network from hardware as simple as a smartphone.
Sharding – a scaling solution which would greatly increase throughput on the Ethereum base chain – is a technology which requires a Proof of Stake system.
Lastly, Proof of Stake changes the mechanics of a 51% attack. Instead of an attacker needing to gain 51% of the network’s hashing power, they would instead need to control more than half of the total amount of collateral staked, or at least collude with others who collectively make up a majority.
Disadvantages of Proof of Stake
Proof of Stake does not address the centralization concerns that have sprung up on Proof of Work networks. Just as the largest miners in PoW are more likely to come up with the next block due to their hash power, validators are selected according to the size of their stake. A validator who stakes 320 ETH on Ethereum 2.0 is 10 times more likely to validate the next block than one which stakes the minimum of 32 ETH. This means that the largest stakers are mathematically guaranteed to validate more blocks and earn more rewards than smaller stakers.
Forks present unique challenges to Proof of Stake networks. Whether it’s a hard fork or a soft fork, a validator is incentivized to validate transactions on both chains, as there is no cost for doing so and they can claim double the block rewards. A Proof of Work miner would need to expend energy to validate blocks on the two chains, making it economically unattractive if they knew that one fork would soon be valueless. This could lead to more frequent forks, which would mean greater instability for users.
Proof of Work and Proof of Stake are both feasible ways of validating transactions on a distributed ledger. Proof of Work has a nearly-immaculate record on the Bitcoin network, as its mathematical consensus mechanism backs coin issuance with real-world resources: energy and hardware.
Proof of Stake adopts a more economic approach, requiring validators to post collateral that can be slashed in the event of dishonest activity. It aims to reduce the amount of energy required to power a decentralized network, and a number of PoS blockchains are currently in existence. A major test of the consensus mechanism will come with the upcoming transition of Ethereum – the second most valuable blockchain network – from Proof of Work to Proof of Stake.