Several reports suggest it cost around $150 000 daily to maintain Bitcoin’s blockchain in 2012. The pseudonymous cryptographer, Sunny King (along with fellow scholar Scott Nadal), recognized this severe problem. Today, this figure sits somewhere at about $6.7 million.
In August 2012, the two men released the whitepaper entitled ‘Peercoin: Peer-to-Peer Crypto-Currency with Proof-of-Stake,’ making the pair the credited creators of the proof of stake (PoS) consensus mechanism.
King and Nadal understood the work required to create blocks on the blockchain was heavily energy-dependent (proof of work) and wasteful, to which they introduced the novel idea of ‘staking.’
Using some deterministic algorithm, the two developers believed nodes or computers should instead be chosen to validate based on their stake instead of computational power and mining difficulty.
Peercoin and Blackcoin (created by NXT) were the first two cryptocurrencies employing the staking model in 2013. Over time, countless others have followed suit, bringing much-needed light to this unique consensus mechanism.
Polkadot, Solana, Cosmos, and Cardano are some of the numerous successful examples using this system. According to CryptoSlate, 13.51% of all existing cryptocurrencies use the proof of stake design.
While this figure is dwarfed by proof of work’s 67%, the former consensus mechanism will increasingly become a worthy alternative in the coming years.
Understanding proof of stake
Most cryptocurrencies function using a consensus mechanism, a fault-tolerant, blockchain-based system necessary for achieving distributed agreement on a computer network.
This structure is what ultimately creates new tokens, validates transactions, and secures the blockchain. Up until 2013, cryptocurrencies were still using the proof of work framework relying on competitive computational ‘mining’ or the practice of using computers to solve complex mathematical hashes.
Staking replaces miners with validators or forgers. Here, the blockchain selects the next person to be rewarded with a block through a pseudo-random selection process based on the stake size.
The stake is the locking or freezing of one’s coins. With each cryptocurrency, there is a minimum required stake to join that particular network. The locked funds act as some form of collateral, a disciplinary measure for any malicious validators.
Any potential threat actors violating the blockchain rules stand a chance to lose their entire stake and consequently be booted out of the network.
Other forms of proof of stake
A few versions of PoS have come to the fore, most notably delegated proof of stake (DPoS).
Introduced in 2014, DPoS is an altered PoS form using delegates through a voting system. As a stakeholder, you outsource your holdings to a reputable delegate or ‘witness’ (who themselves need to be staking) to stake on your behalf on the network.
Other versions of staking include leased PoS, hybrid PoS, liquid PoS, proof of validation, and proof of importance.
The intricacies of proof of stake
Each PoS protocol will naturally function distinctly with choosing their validators. However, your stake size is the primary differentiator; the bigger it is, the higher your chances of being selected.
The problem with this priority method is centralization, whereby the blockchain is inherently biased only on the wealthiest who dominate the blockchain.
While not completely solving the issue, PoS networks employ some randomization in their selection process by considering other factors, primarily the coin staking age and general randomized block selection.
With the former, the protocol observes your staking age by multiplying the sum of days you’ve staked by the number of coins. Once you’ve validated a block, your age is reset to zero, and you must wait for a specific time to forge again.
The blockchain utilizes a formula combining the stake size and the lowest hash value with randomized block selection. Like with proof of work cryptocurrencies, PoS is relatively competitive. As a standalone forger, you receive fewer rewards by staking on your own with many projects.
Similar to how there are mining pools, we have staking pools as well. By pooling their coins (like how miners pool their hashing power), the group stands a far greater chance of validating blocks to increase their earnings.
Here, you have a primary validator node setting up the staking pool and splitting the rewards among the participants for a small fee.
Pros and cons of proof of stake
Let’s look at the main advantages and disadvantages of PoS in cryptocurrencies.
The most significant benefit of PoS over PoW is the former uses significantly less energy, making it more environmentally friendly. Moreover, transaction fees are much lower.
Subsequently, since cryptocurrencies employing this system don’t require any expensive hardware from participants, the barrier to entry is considerably reduced.
However, this doesn’t necessarily mean staking is cheaper (as we’ll explore later). Another massive selling point with proof of stake is scalability. Where many PoW cryptocurrencies only facilitate a few tens of transactions a second, PoS can handle hundreds and thousands.
It all boils down to its autonomous nature as there is far less computational work involved in validating blocks (although this makes it less secure).
Experts generally agree proof of stake is not as secure as proof of work. As previously mentioned, less work goes into creating and validating the blocks. Proof of work was designed to intentionally make block production difficult while also rewarding mining efforts.
PoS does have commendable security systems, disciplinary measures for participants and is hugely expensive (but slightly easier) to attack. Yet, its automatic block production is one of the reasons most experts consider it less secure.
Like most blockchains, staking does discriminate based on wealth. For instance, you will need at least 32 ETH (about $131 200 at the time of writing) to stake Ethereum when it transitions towards PoS, probably sometime in 2022.
Hence, the barrier to entry isn’t necessarily lower for every cryptocurrency. On the point of rewards, you earn less with PoS than PoW as the former compensates one in transaction fees while the latter provides you with the block and a cut of the transaction costs.
As more light has been shone on the enormous carbon footprint left by cryptocurrencies in recent years (most notably created through mining), there’s been contention over which is better, PoW or PoS?
The long-anticipated Ethereum 2.0 upgrade is primarily for the blockchain to transition from PoW towards PoS to reduce the carbon footprint and produce massive scalability levels. Such a move is a bold statement in a push for proof of stake.
All blockchains face financial, computational, security, and environmental concerns. While not an entirely perfect solution, PoS is advantageous on all these fronts, particularly in the environment. One of the detrimental factors of cryptocurrencies is scalability.
For this digital asset to grow in mainstream acceptance, it undoubtedly needs to confirm transactions near or at the enormous levels of brands like VISA and Mastercard.
Based on these thoughts, blockchain production will likely switch towards more sustainable and less intensive methods. Staking, thus far, seems to tick all the boxes.