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Proof of Work vs Proof of Stake

June 16, 2024
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FinMeUp
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FinMeUp

Exploring the basics of the two most popular cryptocurrency consensus mechanisms

One of the major perks of blockchain technology is its ability to maintain an unchangeable record of transactions. It does so through what is called a consensus mechanism - a way of achieving agreement on a single state of a network, even with that network being distributed among many users.

If youve spent any amount of time learning about cryptocurrencies, youve probably heard of Proof of Work and Proof of Stake. These are two of the most popular consensus mechanisms that power blockchains in the crypto space. 

Proof of Work

Proof of Work (PoW) is the OG consensus mechanism, currently powering the top two cryptocurrencies: Bitcoin and Ethereum. PoW requires the use of computer hardware for mining, an intensive process of solving algorithmic puzzles to verify data. Mining represents the Work in Proof of Work.

Miners compete with one another to determine who can solve the puzzle the fastest. The winner receives a reward in the form of the native token of that network, i.e. Bitcoin. Once the winner is determined, the block is added to all the previous blocks, continuing the endless string of data blocks in the blockchain.

PoW gives more rewards to people with more and better equipment. The higher your hash rate (computing power) is, the higher your chance to crack the code and create the next block, thereby receive the mining reward. This had led to a situation where people are building large mining farms, and to increase chances even further, miners can come together to form mining pools. They essentially combine their hash power and distribute the rewards evenly across anyone in the pool.

Pool Hashrate share
1 Foundry USA 17.9%
2 AntPool 14.3%
3 F2Pool 14.1%
4 Poolin 12.1%
5 Binance Pool 11.3%
6 ViaBTC 10.2%
7 BTC.com 6.5%
8 SlushPool 6.2%

Main drawbacks of PoW:

  • Energy: PoW requires massive amounts of energy, making it a target of environmentalists and politicians. 
  • Mining pools: PoW encourages the use of mining pools which makes the blockchain more centralized as opposed to decentralized.

Proof of Stake

Proof of Stake (PoS) first emerged as a response to the energy-intensive nature of Proof of Work. PoS does not have miners (no hardware equipment) but instead have validators. It does not let participants mine new blocks but instead mint/forge new blocks. This process replaces validation via a hardware commitment in PoW with a financial commitment in PoS. Ethereum is currently in the process of switching from PoW to PoS and its projected this will cut the networks energy usage by about 99.95%. 

As a reward, nodes receive the fees that are associated with the transactions within the block. Thus, PoS uses transaction fees as the reward for solving blocks instead of creating more crypto as the reward like in PoW. Validators will lose their stake or part of their stake if they approve fraudulent transactions. As long as the stake is higher than the transaction fees, it is within their best interest and we can trust them to correctly do their job.

PoS solving PoW problems:

  • Cost of entry: If the motivation is to be an active participant in a networks governance, the cost of entry is so much less than spending massive amounts of money on mining equipment.
  • Energy: POS does not let everyone mine for new blocks. It only selects a few validators and thus uses way less energy. In POW, everyone mines. 
  • Centralisation: PoW can become less centralized due to mining pools, which is not the case in PoS. In PoS, it is also much cheaper to set up a network, which encourages more people to become nodes and thus increases decentralization and security.

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