Satoshi Nakamoto, the enigmatic and anonymous developer of Bitcoin, once said, “proof of work has the nice property that it can be relayed through untrusted middlemen.” What did the pseudonymous cryptographer mean in this quote?
If you know anything about medieval history, you’d appreciate that the Byzantine Empire was one of the most impactful groups of emperors and generals. The empire has continued to influence teachings in art, law, religion, architecture, and, strangely enough, cryptocurrencies.
In 1982, a group of computer scientists came up with the ‘Byzantine fault tolerance’ or ‘Byzantine generals problem’ to emphasize the challenges in distributed computing.
This notion refers to how a large group of generals has communication problems deciding whether to retreat or attack. This troop needs to agree with one action or reach a consensus to prevent faults and uncertainty.
You may be wondering how these theories translate to cryptocurrencies. In Nakamoto’s words, the middlemen they were referring to are essentially the ‘generals’ or computers operating on the blockchain.
Ultimately, cryptocurrencies work with distributed computing systems, networks of peer-operated computers worldwide, all working together to ‘mint’ new tokens. As these operations are decentralized with no central authority calling the shots, this is where proof of work (PoW) comes into play.
Understanding proof of work
Despite this model continually receiving criticism, it remains the most widely-used consensus mechanism in cryptocurrencies. It was first introduced by Nakamoto in 2008 with Bitcoin to achieve an entirely decentralized peer-to-peer digital currency.
PoW is a cryptographic system where members using nodes or computers prove a certain amount of computational power has been expended on a network. Through this process, new tokens come into being, and transactions can be validated.
When we speak of ‘mining,’ we refer mainly to cryptocurrencies utilizing proof of work. Mining is about creating blocks on a blockchain using specialized computers to solve complex mathematical equations.
Proof of work isn’t only about proving that a specific amount of work has been done but also about preventing any manipulation by purposefully using substantial energy and hardware resources.
Therefore, proof of work is a fascinating concept as it makes it profitable to act morally but quite expensive to cheat the system.
The intricacies of proof of work
A blockchain is nothing more than a publicly distributed, computer-based database of transactions lumped into blocks on a never-ending chain (hence ‘block chain’).
One of the essential parts to understand here is the coded rules behind the formation of each block, pre-determined by the developers of the cryptocurrency in question.
To create the block (which is essentially a ‘minted’ token), you need to generate a hash, a numerical function converting a random input into an encrypted output with a prescribed length.
Needless to say, the maths involved in hash functions is indecipherable even for the most advanced human mind. The only way of solving these puzzles is using substantial computing power, allowing nodes to run hundreds or thousands of hash functions every second until a solution has been found.
More advanced computers with higher hash rates stand a better chance of decoding the equations the fastest, which is the main reason why mining is so competitive and an ‘enormous guessing game.’
Once a miner has found a hash, they announce it to every node on the network. However, everyone else must confirm the function is correct by rechecking if the generated output aligns with the preset conditions.
It is only then that the block is added onto the chain, and the cycle continues to find the next one. For their efforts, the miner is rewarded with a new token.
Pros of proof of work in cryptocurrencies
Experts still consider PoW as one of the most secure methods in cryptographic transactions. Why? Simply because it is more expensive to attack, particularly on more dominant networks like Bitcoin and Ethereum.
Blockchain transactions are theoretically immutable, meaning you cannot alter them once they’ve been set. To essentially ‘reverse-engineer’ a part or entire blockchain process would require insurmountable hashing power, something that’s tremendously expensive and impractical.
Of course, it isn’t to say such blockchains do not experience attacks but rather to point out they are more unlikely. The other primary benefit of PoW relates to mining rewards.
Most proof of work coins provide you with a block reward and a cut of the transaction fees going along with that block. Hence, there’s generally a greater financial incentive for participants.
Cons of proof of work in cryptocurrencies
The three primary drawbacks of PoW are the high mining costs, the notoriously harmful environmental impact, and severe limits to scalability. It’s a well-known fact mining has increasingly become more expensive with the fiercely growing competition.
To stand any chance of profitability with mining, miners spend a few thousand dollars to acquire the most advanced computing hardware producing the highest hash rates possible.
The whole process isn’t egalitarian, and these are not the only costs to consider. Maintenance and, last but not least, electricity consumption feature heavily in the picture.
The latter aspect ties in nicely with the second major drawback of PoW: the incredibly massive energy consumption. Studies have proven PoW coins as a whole consume terawatt-hours of electricity every year, leading to millions of tons of CO2 being emitted.
Regarding scalability, the primary reason why proof of work coins are generally less scalable boils down to mining difficulty. Established cryptocurrencies like Bitcoin are known for adjusting their hash rates regularly to intentionally make finding blocks harder.
If the hash rate increases, it takes even more work to solve the hashes, making transaction confirmation much slower than other consensus mechanisms.
Proof of work operates in intriguing asymmetry whereby the work carried out by the ‘provers’ must be incredibly hard (yet possible) to perform but simple enough for the ‘requesters’ to verify.
While proof of work is still a prominent model today for generating cryptocurrencies, it’s a cumbersome process both financially, computationally, and environmentally.
Moreover, it lacks drastically in scalability, a necessary quality if we want cryptocurrencies to compete with the likes of VISA and Mastercard in confirming transactions.
It is one of the reasons why Ethereum is transitioning towards proof of stake to eliminate PoW. Hence, there is a likelihood many other projects will follow suit and slowly phase out proof of work over time.