PoW vs PoS – Consensus Protocol Run Down

pow-vs-pos-bulltrapWith the long awaited and now postponed Ethereum fork, I thought it would be a good idea to refresh the knowledge for those who are familiar with the PoW and PoS algorithms and introduce it from scratch to those who haven’t explored it yet.

You will find out how proof-of-work (PoW) and proof-of-stake (PoS) protocols differ from each other:

  • How they compare in a run down
  • Advantages vs disadvantages
  • Common issues

In addition to that, it will be beneficial for all the investors to understand these two concepts in order to better the odds of making successful long-term investments.

First and foremost though, let’s explore what a consensus algorithm is all about and what it does.


dapp-iconWhat is a Consensus Algorithm

There’s a difference between consensus and consensus rules, and this oftentimes renders a lot of confusion, especially for the folks who are new to cryptocurrencies.

To put it simply, consensus is the agreement among the majority of the network nodes on which version of the blockchain is the longest, most verified and most validated chain before appending a new block to it. Nodes are considered to be in consensus when they have the same blocks in their blockchain as each and every single node stores an independent blockchain that contains only blocks validated by that node.

When the majority of nodes store the same validated blocks, the consensus is reached and we know which version of the blockchain is the one to go ahead with.

The consensus rules, on the other hand, are a certain set of stricts validation predeterminants which allow the nodes to maintain the network consensus. These could be a prevention of double spending, rejecting invalid data, blocking improperly formatted inputs and outputs or penalizing bad actors. Or all of these at once and way more, depending on the complexity of the consensus rules.

Think of it as a computer program that outputs a desired outcome such as a validated block to be appended to the chain, and rejects everything else unless all of the rules are successfully met without compromise.

Bitcoin, for instance, is built on top of a trustless consensus which means that you don’t need a centralized third-party intermediary to transact within the network, because the network itself is able to provide the required trust between the transacting parties.

This is also where the real value of Bitcoin derives from. It tends to be overlooked by a lot of people and underappreciated by those who don’t fully understand the freedom of a decentralized and trustless transacting.

To wrap this up, the consensus proposes a revolutionary, trusted and fully automated way of transacting with people in a decentralized world that’s free from the so-called middlemen and the drawbacks that come with it. You are, for the first time in your life, your own bank and the person in charge of your money.

And that brings us to the proof-of-work, a certain version of the consensus algorithm, which makes the network come alive.


powWhat is Proof-of-Work (PoW)

For the simplicity of this section, I will use Bitcoin as the example. However, the vast majority of the principles apply to every coin that uses proof-of-work.

PoW is the most popular decentralized algorithm which is responsible for validating the blocks before appending them on a chain and it’s done by brute force and it requires a lot of computing power, and therefore electricity, to carry out the work.


PoW: The SHA-256

That’s due to the one-way cryptographic hash function called SHA-256 which generates a great deal of asymmetry. You can easily hash any string of text or numbers with SHA-256, but you can’t decrypt and un-hash this data unless you use brute force which is essentially a time-consuming and computationally expensive process of trial and error that consumes a lot of resources.

sha-256

Bitcoin uses SHA-256 to hash every new block’s header, and before this new block is added to the chain, a miner needs to un-hash it — in other words, a nonce has to be found which is equal to or less than a specified target set by the network’s difficulty threshold. The only way to find the nonce is to use no skill but computational brute force and this demonstrates the proof of work.

This process is often referred to as a mathematical puzzle that needs to be solved by demonstrating proof of work.


bitcoin-mining-iconPoW: The work

What the proof of work also involves, apart from adding the block on the chain, is the validation of the trustless transactions within this new block before it’s appended onto the ledger.

In other words, the miners are responsible for checking whether the transactions are valid and legitimate, and once successfully verified, they are bundled together into a block which then becomes a candidate to be added to the blockchain as long as other nodes on the network arrive at the same conclusion and have the same data as the majority.


convert-iconPoW: The block reward

Finding the nonce is what the miners are after. They perform a lot of work and when the nonce is found, the block can be appended to the chain and propagated.

The successful miner who’s the first to un-hash the puzzle and provide a valid nonce is incentivized by doing the work with 12.5 BTC including all of the transaction fees. At the time of writing and Bitcoin trending at around $3,600, a miner gets paid roughly $50,000 every 10 minutes.

That’s also how new coins are coming into the circulation as they are released by the network code with every newly created block which amounts to 1,800 new BTC every day.

When Bitcoin first launched, the reward sat at 50 BTC per block. Every 210,000 blocks, there’s a block reward halving which means that every four years, the miners will get half of the reward. In less than a year and a half from now, the reward will be reduced to 6.25 BTC + fees for every block.


market-iconPoW: The difficulty adjustment

In the Bitcoin example, the consensus rules specify that a new block should be created every 10 minutes on average. This is how long it should take to solve the puzzle by trial and error and add a new block onto the chain.

If it takes longer than that, it means that the hashing power of the network had decreased, and because now there’s a smaller amount of computational power involved in solving the puzzle and it makes it longer to find the nonce, the network needs to do something to bring it back to the 10-minute mark. This is called a difficulty adjustment and it takes place every 2016 blocks, or on average, every two weeks.

By contrast, if the blocks are appended faster than 10 minutes, the difficulty adjustment will make it harder for the miners to solve the puzzle which will ultimately make it longer to find the nonce and bring it back up to 10 minutes.


fungibility-iconPoW: The security

As of this writing, the Bitcoin hashrate sits at 42,325,538,810 GH/s.

It makes the network practically unbreakable and resistant to any malicious attacks including the 51% attack.

I’m saying practically, because in theory, it is possible to obtain the 51% hashing power. But if somebody was to ever put their hands on such an enormous amount of computational power as a single entity, they would still need a lot more resources because they would have to re-write more than half a million blocks which took 10 minutes on average to calculate, and then create the longest chain.

All of the above in less than 10 minutes. Is that theoretically possible? It is. Is it practically possible? It’s not, at least not as of today.

The quantum computers are still light years ahead of reaching their full potential. And even when they do come into existence, the proof of work algorithms will surely be enhanced or replaced completely to defend against it.

However, as of today, it’s virtually impossible to hack the Bitcoin network and that’s another prerogative for where the real value for this coin comes from.


What is Proof-of-Stake (PoS)

Just like PoW, proof of stake is an algorithm that strives to achieve consensus within the network on the block that’s being validated in order to be added to the ledger, it verifies the transactions, and it also comes with predetermined rules to arrive at that consensus.

However, it does not use computational power to perform the work of solving the puzzle, and therefore, it’s considered to be a greener solution to secure the network. That’s because there’s no mathematical puzzle to solve in the first place. Instead, the block is validated and then created by a node who put in advance their own coins at stake before that block gets appended to the chain.

The block validator is chosen in a deterministic way based on the amount of funds they locked up within the network in order to become a validator. For example, if I staked 1 coin to be able to validate a block and you put up 10 coins of your own collateral, you would be 10 times more likely to win the validator election because you have more to lose than I do.

That’s also where the security of a PoS blockchain derives from — a validator is expected to act in good faith and adhere to the consensus rules as s/he has their own coins at stake. If a validator turns out to be a bad actor that manipulates the chain in any way for their own benefit, the coins they put at stake will be lost.

There are plenty of crypto coins that use different mechanics of PoS in order to select a validator including a minimum number of coins they’re required to lock away, but that’s basically the science behind it.

There’s also no block reward for the selected validator. Instead, the validator collects the transaction fees from the block upon successful validation of that block as the incentive.


scale-iconPoW vs PoS: Main differences

 

  • PoW mining vs PoS forging
    Whilst PoW blockchains rely on miners and their computational power to mine the blocks, PoS validators forge the blocks with little energy usage.

  • Miners vs Forgers
    Anyone who runs a full node on a PoW algorithm can become a miner and has a chance to be incentivized by doing the work whilst PoS forgers are selected pseudo-randomly based on the amount of coins they hold and are willing to put as collateral.

  • Coin creation vs Fixed supply
    In PoW, new coins are released into circulation with every mined block whilst in PoS, the coins are usually pre-mined and the supply is fixed from the start. In cases like Ethereum, where the switch from PoW to a hybrid of PoW and PoS might pose a challenge to tackle this problem successfully.

  • The speed of PoW vs PoS
    PoS is a lot faster and efficient to validate the transactions and append new blocks onto the chain because one selected validator does all the work whilst in PoW all of the mining nodes do the work, but only one of them can solve the puzzle which leads to a huge amount of energy consumption

  • The security of PoW vs PoS
    It’s uneconomic to attack a PoW blockchain such as Bitcoin because it would have costed more money to perform a successful attack than it could be stolen whilst an attack on a PoS blockchain diverts to new challenges such as cartels and manipulation which involve a much smaller amount of money and could result in centralization

alternative-iconPoW vs PoS: Pros and Cons

Undoubtedly, PoS is a much greener solution to the power-hungry PoW. This is definitely one of the biggest advantages the proof-of-stake has over the latter. More than that, the validators are invested in the network they are validating which makes it unlikely for them to cheat due to having their own coins at stake.

However, PoW miners are invested extrinsically in the network as they spend money on energy to be able to mine the blocks on a chain. Whilst staking coins might seem like a good idea to prevent bad actors from manipulating the network, investing real cash in a tangible resource such as electricity might be even better. In my opinion, PoW triumphs over PoS in this department.

As it usually happens in blockchains, they do fork. Whether it’s a dispute within the community or different ideas being developed, one way or another and sooner or later, there will be a time for a fork. In PoW, miners have to decide what chain to back and support after a fork, because if they were to split their computational power and mine two chains at the same time, the probability of solving the puzzle would have halved for them which would ultimately result in generating less profit.

In PoS, unlike PoW, forks aren’t discouraged. A validator could start validating two chains at the same time because it doesn’t take a lot of resources to do so, and receive incentives from both chains simultaneously. This is known as the nothing at stake problem are there is currently a range of developments to tackle this issue. Nevertheless, PoW is more organized and straight forward when the chain is forking.

You could also argue that PoS promotes the dogma of rich getting richer. This is also true in PoW because in order to show a constant profit as a miner, one has to invest a lot of money in the mining equipment, and most likely keep adding on more equipment to increase the hashing power over time, not to mention the energy cost.

However, when there’s no computational power involved in PoS, if you want to put your hands on the transaction fees, you need to accumulate the most amount of coins, and the chances are that you will be the most incentivized validator on the network. This could pose a few serious issues that are yet to be resolved, especially when PoS works best if all the coins are pre-mined and there are developments such as Ethereum where that’s not the case.

In the Ethereum example, to qualify as a network validator, one must own at least 1000 ETH which simply means that the already rich will get even richer which isn’t necessarily fair to someone who wants to participate in securing the network.

There’s one thing I don’t agree with a PoS algorithm that runs a blockchain payment network. Since such a network aspires to be a peer-to-peer payment platform, locking away coins sort of contradicts the first principle of this network. If you were trying to transact using gold, you would have to lock some of it away in order to carry out a transaction, and what happens if you didn’t have enough of it?


final-iconFinal word

The PoS algorithm is advanced because it uses virtually no electricity, but comes with a fair number of flaws. And the same thing applies to PoW. None of them are perfect, but PoW seems to be a much more reliable solution.

I don’t think, however, that PoW is the be-all-end-all of blockchain algorithms and it’s here to stay for good. The chances are that it will eventually be replaced by something more robust, more secure and less energy-dependent. But the same thing goes for PoS. It seems too shaky, too unreliable and too fresh to make a promised impact at this moment in time.


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Disclaimer: You should do your own due diligence, research and analysis before you invest any money in cryptocurrencies. Cryptocurrencies are highly volatile and classed as high-risk investments. You should never invest any money unless you’re prepared to lose your capital. The author of this article holds the said assets and might be biased towards them.

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