What is Proof of Stake (PoS) and how does it work?
Like in any other field out there, the crypto space is always undergoing a continuous change. As of now, one of the major changes going about in the crypto field is the adoption of the proof of stake mechanism as a validation method, among well-known cryptocurrencies. This is so as it is an improvement of the proof of work mechanism, a technique that has been used for over a decade. To be precise, some of the benefits that come along with the proof of stake mechanism include improved energy and computational power consumption, as well as decentralized operations, to name but a few.
As a result, more cryptocurrencies are intending to adopt it as a validation method to leverage some of its advantages. Not only to make higher profits but to also stay on top of their game. Therefore, it is wise to have some understanding about this out of the box invention as crypto investor, miner or fan to keep up with times. Or position yourself for the kill.
Without further ado, let’s dive right in!
But first, what is proof of Stake?
Proof of Stake is one of the blockchain consensus mechanisms that is currently gaining mileage in the crypto world. Like its predecessor, the Proof of Work, the Proof of Stake, is a consensus mechanism for validating new entries into cryptocurrency blockchain. The main difference between the two is that the PoS mechanism doesn’t involve the solving of complex mathematical problems. The validators are only required to stake a specified amount of tokens and have the necessary equipment in order to get started.
That said, the Proof of Stake consensus mechanism usually verifies new entries from different crypto creators and channels them to a distributed database for safekeeping. Here, the database is usually referred to as a blockchain.
As a rule of thumb, two-thirds of the network’s participants must agree for a new coin to be added to the blockchain. This makes the entire process legitimate.
What’s staking and how is it beneficial to the proof of stake mechanism?
Well, just like the name suggests, staking involves the pooling together of cryptocurrency tokens from different crypto miners into a central pool. A crypto miner is given a chance of becoming a validator by placing a stake on the pool. Those with the highest stakes are more likely to be chosen as validators than those with the least―a lucrative endeavour as long as they play by the book.
You must first sign a smart contract to become a validator, which goes a long way to ensure that you get a fair deal when being rewarded depending on your stake size. Notably, you require 32 ETH for a chance to become an Ethereum validator―the amount required differs depending on the staking system or cryptocurrency.
However you should note that becoming a validator is a chance game. The beefier your stakes, the more likely you’ll be selected to become a validator.
Benefits of staking crypto
- Allows you to earn rewards: First, staking gives you a chance of becoming a crypto validator. After which, you’ll earn rewards for accomplished work ― for instance, for securing one crypto network, and for verifying cryptocurrency transactions. Your earnings are directly proportional to your investment; the more, the higher the amount you get.
- Enables passive income: Apart from earning rewards, staking also offers you a chance to earn without lifting a finger. In this case, your stakes act as an investment vehicle. So, you can make it big if you have a significant holding under your name, depending on your chosen cryptocurrency.You can even decide to prioritize your crypto holdings to be one of the primary methods of building your wealth if you’re in the business for the long haul.
In general, whether to stake or not depends on your risk tolerance. You can decide to stick with what you have if you’re risk averse. Or choose to invest heavily in staking and stand a chance to win big if you’re a risk taker.
How does Proof of Stake (PoS) work?
Unlike PoW, the Proof of Stake mechanism bases its operations on a decentralized model to save on energy consumption and computational power. Most of the duties are carried out at decentralized points by individual crypto validators. Each one of them uses their machines to validate cryptocurrency transactions.
To successfully end a Proof of Stake process, two-thirds of the validators must be in agreement―128 validators for ETH coins, for example. Apart from that, those who violate the laid down rules usually face a penalty. In this case their crypto stakes get “burned” rendering them useless.
Mining power in Proof of Stake
Essentially, this relates to your likelihood of participating as a crypto miner/validator in the Proof of Stake mechanism. Usually, those with higher stakes are more likely to be chosen as validators. Other factors that determine an individual’s mining power include the time they have participated in the mining game, as well as the cryptocurrency in question.
Other than that, an out-of-the-hat trick for increasing your earning capabilities or mining power in a Proof of Stake mechanism is to join forces with other participants to make a joint stake. This increases your chances of becoming a validator. After which, you can split up the earned profits.
Examples of cryptocurrencies that use the Proof of Stake as a validation method
More and more coins are using the PoS consensus mechanism. Here are some of the most popular ones.
As of now, Ethereum is still using the PoW as a verification method but now wants to up its game, as well as minimize costs by introducing the PoS consensus mechanism.
According to the merger, the transition to the Proof of stake mechanism would cut power usage by 99%. Besides, the move would help the company to achieve 100,000 transactions per second and to scale up its network.
The digital coin uses the liquid-proof-of-stake mechanism to allow bakers to run their business using low hardware requirements.
The blockchain uses the PoS mechanism to initiate communication between its elements by using the hub and spoke model.
The cryptocurrency uses the delegated Proof of Stake mechanism to determine who develops the next block on its blockchain. The entire voting process takes place on a real-time basis.
Like the coin above, Tron uses a delegated Proof of Stake mechanism to achieve a consensus. It allows Tron users to vote for their favorite delegates using their currencies.
The Proof of Stake mechanism requires Cardano users to stake their coins for a chance to participate as a validator. You can either become a stake pool operator or stake pool owner as a stakeholder.
Solana uses the Proof-of-History timing beforehand to facilitate its Proof-of-Stake consensus mechanism structure.
Pros and cons of PoS
Pros of PoS
- It is an energy-efficient process unlike its predecessor: The PoS decentralizes the entire validation process, allowing miners from different locations to do the heavy lifting, which minimizes power consumption.Besides that, the process avoids the solving of complex mathematical problems requiring tons of power. This makes the process affordable, as well as friendly to the environment.
- Allows scalability: More network partners or crypto validators can join the process due to its less expensive nature as it doesn’t require hefty amounts of electricity. Or expensive computing resources to stake your crypto tokens.
- Requires minimal investment: You only need to purchase a specified minimum amount of tokens to become a validator as long as you have the necessary hardware and software requirements.
- Can be used as the main validation method for the long term: According to Business Insider, the Proof of Stake is an improved version of the PoW mechanism; therefore, chances are that it will stick around for a while. For instance, it allows the decentralization of operations, meaning less energy is required compared to others. This makes economic and environmental sense to most crypto organizations and crypto miners.In our opinion, it will be the standard validation process amongst most cryptocurrencies. This makes it a good investment if you’re a crypto miner or validator.
- There’s a chance of earning rewards: As a validator, you’re eligible for rewards upon completing your tasks. The rewards are proportional to the amount you have Staked. In addition, you can invest in stakes to earn between 5% and 14% on platforms such as Everstake, Kraken, Binance and Coinbase.
Cons of PoS
- The process isn’t fully vetted: Unlike the PoW, which has been battle tested for more than ten years, the PoS is still a new kid on the block security-wise. This makes the mechanism vulnerable to hackers who can take advantage of any security loopholes leading to massive financial losses.
- It can be costly, complicated and time-consuming to adopt:
Implementing the Proof of Stake mechanism on a cryptocurrency already using another system such as the PoW can be challenging. In particular, you’ll require lots of planning to avoid integrity issues.
Proof of Stake FAQ’s
Check out the most common questions regarding PoS consensus mechanism.
What happens to a rogue validator?
Often, a crypto miner will lose all or a part of their Stake if they validate fraudulent transactions. For example, their staked coins will get “burned” or in other words send to an unusable crypto wallet address that can’t be accessed. As a result, they become useless.
Does Proof of Stake require mining?
No, those wanting to become validators only need to invest in staking and the necessary equipment.
Why is the Proof of Stake faster?
PoS is faster because it doesn’t involve double-checking and the solving of complex mathematical equations. Additionally, it supports a decentralized model of operation, which allows the sharing of activity among the network of participants. Thereby, it enables more transactions compared to the PoW at any given time.
Does Proof of State use cryptography?
No, randomly selected validators are usually assigned with the core duty of ensuring that new entrants pass all the checks and balances. They then earn rewards as compensation for the work done.
How is the proof of Stake secure?
The Proof of Stake mechanism uses a uniquely designed algorithm to ensure security by selecting what is to be added to the blockchain. Nonetheless, its security capabilities are still under watch as more coins join the queue to adopt it. Perhaps a definite answer for the same can be established in future.
As you can see, the PoS mechanism will likely be the mainstay crypto verification mechanism for a while due to its associated benefits. For instance, its low energy and computational power consumption capabilities and general affordability, among other goodies make it attractive to crypto mining firms and individuals in equal measure. The word around town is that several crypto giants are intending to adopt it as their primary validation method. An excellent example is Ethereum which wants to replace its Proof of Work mechanism with the Proof of Stake method. We’ll just patiently witness its further application.
Either way, the ball remains in your court regarding your crypto investment decisions or opinions since this is not financial advice; content is only for educational/ fun purposes.
Zornitsa is the Editor-in-chief at Coinlabz. She is involved in researching the impact of blockchain technology and the way crypto is transforming peoples’ perceptions of finances.