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Cryptocurrency: Proof of Work vs. Proof of Stake

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Cryptocurrency Proof of Work vs. Proof of Stake

You might have come across the idea of moving from an Ethereum based consensus that follows the Proof of Work (PoW) to one that follows the Proof of Stake. Click Here To Go Straight To Our Online Tutorial

Here, we will talk about Proof of Work and Proof of Stake and learn the differences between the two. I will define what mining is or the procedure through which new cryptocurrency coins are created.

In addition, I will talk about the changes that would be experienced if Ethereum was to move from Proof of Work to Proof of Stake.

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What is the Proof of Work?

We’ll start by giving simple definitions to these terms.

Proof of work is a code whose main objective is to prevent cyber-attacks. The main objective of this attack is to use up a computer’s resources by sending many fake requests.

Proof of Work existed before Bitcoin. Satoshi Nakamoto used it to her/his (it’s still not certain whether Nakamoto is male or female) digital currency and completely changed the way digital transactions are carried out.

Markus Jakobsson and Ari Juels were the ones who came up with the term Proof of work in 1999 in a document which they published.

Proof of work is one of the major ideas that was published in Nakamoto’s white paper in 2008. This concept makes trustless and distributed consensus possible.

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The Definition of Trustless and Distributed Consensus

When you use a trustless and distributed consensus, it simply means that you can send or get money from another party without having to trust the services of a third party.

Traditional means of carrying out transactions require that you rely on third parties. This includes using platforms like PayPal, cards or banks. These platforms have their own registers and keep a record of all transactions and balances.

In order for you to understand this well, consider this case scenario. If Chloe sends $100 to Bob, the money will be debited from Chloe’s account and credited to Bob’s account. Bob and Chloe have to trust that this third party platform that they are using will do everything right.

However, when it comes to Bitcoin and other cryptocurrencies, every party that is involved in the transaction has their own ledger (Blockchain); therefore everyone can verify the transaction on their own.

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Mining and Proof of Work

In order to define mining, we first need to define proof of work. Mining has to be done so as to come up with a group of trustless transactions (a block) on a blockchain (a distributed ledger).

Mining is done for two reasons:

To authenticate the credibility of a transaction, and to avoid double spending

To come up with new digital currencies by giving rewards to miners when they complete a preceding task

When you intend to carry out a transaction, here are some of the things that are happening in the background:

Transactions are put together in what is known as a block

Miners validate that each transaction within a block are authentic

For this to happen, miners need to solve a mathematical problem, which is referred to as a proof of work problem.

The first miner to solve the problem for each block is given a reward

Confirmed transactions are kept in the public blockchain

The “mathematical problem” has a main feature known asymmetry. The work should be fairly challenging on the side of the requester but not difficult to check for the network. This concept is referred to as a CPU cost function, computational puzzle or CPU pricing function.

The entire network of miners gets into a contest to see who will be the first one to solve the mathematical problem in regards to the candidate block. The only way to solve this problem is usually through brute force. This usually requires that several attempts be made to come up with a solution.

When a miner succeeds in solving this problem, they make it known to the whole network while simultaneously receiving a protocol from the network as their cryptocurrency prize.

Technically, mining is about inverse hashing; it defines a number, therefore the cryptographic algorithm of block data has than the set threshold.

This threshold is referred to as a difficulty. It is what defines the competitive nature in mining. The more computing power that is added to the network, the more the threshold increases, consequently raising how many calculations need to be done in order to come up with a new block. This technique raises the price of creating a block, forcing miners to be more efficient by improving their mining systems, so as to have a positive economic balance. This parameter is updated approximately after every fortnight and it takes 10 minutes to come up with a new block.

It’s not only Bitcoin that uses PoW, Ethereum also does and so do other blockchains.

There are some features of proof of work that differ, based on the platform where they are being used. But I won’t get into too many technical details about this so that I do not confuse you.

What is important for you to know is that Ethereum users want to turn things around by introducing the concept of proof of stake.

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What is a Proof of Stake?

Proof of stake is another way of verifying transactions and attaining the consensus.

This algorithm works the same way that proof of work functions, except that it uses a different way to reach the same goal.

The idea about proof of stake arose in a Bitcoin forum in 2011. However, the first digital coin that followed this concept was Peercoin in 2012. Other coins that also used it include ShadowCash, BlackCoin, Qora, and Nav Coin.

In proof of work, miners get rewarded when they solve a mathematical problem with the aim of verifying transactions and coming up with new blocks. However, with proof of stake, things are different. The miner who comes up with a new block is selected in a deterministic way, based on the wealth of the block, otherwise known as a stake.

If there is no block there’s no reward.

In addition, the number of blocks that were created in the beginning remains constant. Therefore, in proof of stake, since there is no block reward, miners get the transaction fees. This explains why in this system, miners are referred to as forgers.

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Main Differences and Takeaways

People who support proof of work argue that it makes it possible to handle cryptocurrency more effectively as a currency. Those who support proof of stake are of the opinion that it encourages investors to hold onto their coins for long periods of time, consequently making them inactive.

Those who support proof of stake also have valid points of argument. Key among them being that it deals with the high energy consumption problem that Bitcoin has brought about. As the number of people who use Bitcoin goes up and the number of transactions also increases, more and more energy will be required to keep the network going. As more computing power is being used, the hash rate also becomes more challenging. The more challenging it becomes, the more work that the computer has to do, so as to create a new block. This will require the use of more energy. The challenge that Bitcoin faces when it comes to its growth and mining lies in its energy consumption. Critics cannot see how this problem can be solved under PoW. Bitcoin’s network uses up more energy than what’s used by 159 countries.

Proof of stake guards against 51% attacks on its blockchain. In order for someone to control the blockchain, they need to own at least 51% supply of the blockchain’s coins. For instance, if someone was to attack Cadano blockchain, they need to own $609,286,157.643 worth of Cadano. This is so unlikely to happen.

Proof of work and proof of stake all have their advantages and disadvantages. It is exciting to see how the market will respond to each system or a hybrid of both systems. Just keep in mind that when it comes to a proof of work, once all their coins are minted and are in circulation, there will be no more blocks to give as rewards. This might prompt proof of work to update to a new proof of stake, who knows, only time will tell.

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Why Ethereum Wants to Use Proof Of Stake?

Vitalik Buterin is the creator of Ethereum. Together with the Ethereum community, they are working to create a hard fork, so as to change Ethereum from proof of work to proof of stake.

Why would they want to make this change?

In a distributed consensus founded on proof of work, it takes a lot of energy to mine. Based on data from 2015, in order for one Bitcoin to be transacted, it required the same amount of energy that 1.57 American households consumed in a day.

These energy costs are paid for in the form of fiat currency. This has resulted in the value of the digital currency going down.

According to recent research, it has been predicted that by 2020 for Bitcoin transactions to take place, as much energy as is used by Denmark will be needed.

This issue is causing developers to have sleepless nights. That is why Ethereum wants to transition to using a proof of stake, for a much more inexpensive and environmentally friendly distributed form of consensus.

In addition, miners are rewarded in a different way. Under proof of work, the miner will not have to own the digital currency that they are mining.

In proof of stake, forgers own the minted coins.

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Is it a More Secure System?

If you are using a computer system, you definitely want to minimize the risk of being hacked as much as possible. This is especially if your system has something to do with money.

Therefore, which one is more secure: proof of work or proof of stake?
Professionals are concerned about this issue, but there are also skeptics.

When you use a proof of work, you cut out all the bad actors, thanks to the technological and economical discouragements.

If you are planning to attack a proof of work, you will need to use up more money than you would manage to steal in order for you to hack the system.

A proof of stake system might be cheaper to attack; therefore it needs a full proof algorithm that is hardtop attack.
To take care of this problem, Buterin came up with a Casper algorithm that can set a system where a scrupulous validator will lose their deposit.

Buterin explained that using the Caspar protocol, validators are required to submit deposits in order to get involved. If their deposits are identified as having been obtained in an unscrupulous manner that went against set rules (slashing condition), then their deposits get taken away.

Slashing conditions refers to a set of rules that users supposed to adhere to and not break.

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Conclusion

With a proof of stake, there is no need for validators to use their own computing power since what affects them is how many coins they have and how challenging the network is.

Therefore, a switch from proof of work to proof of stake in future might have the following advantages:

Less energy needed

A more secure system as hacking will become more expensive. In case a hacker wants to buy 51% of the coins, there will be a fast reaction in the market and the price will go up.

Therefore, CASPER will be a security deposit algorithm that is influenced by the consensus system. In order for validators or Nodes to be a part of the consensus system, they must pay a security deposit. The Casper algorithm will define the particular of prizes that validators get as a result of control that it has over security deposits.

In case an invalidator comes up with an ‘invalid’ block, he will lose his security deposit and all the privileges that he has in the network.
The concept behind Casper is that validators will follow the rules and come up with positive feedbacks that will speed up consensus.