Proof of Stake Explained — What it is, how it works, why it’s better?

Proof of Stake (PoS) is an alternative method for achieving distributed consensus. Proof of stake systems relies on individuals validating transactions based on the amount of cryptocurrency they have staked. It is not like native mining where every miner has to solve a cryptic puzzle to claim the reward, in contrast, in the Proof of Stake mechanism, the network chooses the validator on a random basis.

Proof-of-stake does not require mining which consumes resources like electricity and makes it resource-efficient than Proof-of-Work. It offers more sustainability than bitcoin’s mining process.

How Does Proof-of-Stake Work?

Proof of stake delivers the same requirement of making sure the network is reaching the consensus. Validators, a user who has staked the required coins, are randomly selected to create blocks. They are responsible for verifying and confirming any blocks they do not create. For proposing and creation of news blocks the users receive a reward. A validator could lose part of their stake if they fail to validate Or their entire stake if they conspire to fraud the network. Unlike Proof of work, the users just need to stake a certain amount of prerequisite coins to be a validator in that network. The reward and ability to approve a block are proportional to the total amount staked. Normally, the transaction fees are distributed as a reward in POS (Proof of Stake).

In the Proof of stake algorithm, the new blocks are created or forged instead of mining.

Why Proof of Stake is more Efficient?

Understanding the drawbacks of Proof of work

Proof of Stake is much more efficient in comparison to Proof of Work(POW). Proof of work is a dominated consensus mechanism and used by the prominent Bitcoin blockchain. The major issue with POW is it demands a lot of computational ability and a proportional amount of energy(electricity) to solve the cryptic puzzle in order to mine one block and get the reward. As it requires a computational ability, the miner needs to invest a considerable amount in the computer hardware and need to keep them up to date to be the 1st in solving the puzzle. For the past few years, Bitcoin has been heavily criticized for using a massive amount of energy by the miners, recently there was a complete crackdown on mining activity in China, and impacted the Bitcoin blockchain. There are many prominent cryptocurrencies that are using this method, one of them is Ethereum, the second-largest coin by total market cap.

Advantages of Proof of Stake over Proof of Work

Proof of Stake has three main benefits: energy, efficiency, and security. In contrast to POW, POS does not require intensive computational power to create and validate a node, as the validator does not require solving any puzzle but simply creating or verifying a block.

It’s also easy to set up and maintain nodes, as users are not required to buy pricey hardware to participate in POS. The randomization process to select a validator makes the network more decentralized. No mining pools are required to mine blocks. This makes it easier to maintain a stable price for one particular coin, as there’s less incentive to release many coins to reward the user.

Security

The stake acts as a financial incentive for the forger node to not create or validate fraudulent transactions. The network will detect fraudulent transactions and the creator node loses part of its stake. As long as the stake exceeds the reward, the validator will lose more coins than it gains by attempting fraud. And hence, there is less motive for any fraudulent activity by the user.

Immune to 51% Attack

The distributed nature of building data and verifying it is one of the main strengths of Bitcoin and the underlying blockchain technology.

Decentralized work by the nodes ensures that protocol rules are being observed and that all network participants agree to the current status of the blockchain. A 51% attack could be an attack on a blockchain network. This is where one entity or organization controls the majority of the hash rate, potentially disrupting the network. An attacker with enough mining power could deliberately exclude or alter the order of transactions in such a situation. They could also reverse transactions that they had made while in control.

In the Proof of Stake algorithm, any user needs to stake 51% of the total coin to dominate the network and cause any fraudulent activity. However, after detecting any malicious activity, the user will lose their staked 51% of the coins and furthermore, the value of the coin will see a sudden decrease. This makes the proof of the Stake system almost immune to any such attack. Any fraudster would not like to lose more than what they will gain.

Easily Scalable

Proof of stake system utilized sharding which helps the network to run multiple blocks parallelly at the same time. It helps avoid any strain on the network and further gives many validators to participate simultaneously. Consequently, a rapid increase in transaction throughput and decreases the chances of clogging.

Coins use the POS method

The first coin that implemented the POS method to achieve consensus was Peercoin, adopted in 2012. There are many other new projects that embraced this method upon existing POW. Nevertheless, the POW mechanism is still dominant as most of the coins are using the previous mining method for a new block. Cardano, Solana, Polkadot, and Avalanche are some of the prominent coins using the Proof of stake method. Cardano is the biggest proof of stake blockchain as per market capitalization.

Ethereum is also working to move from the existing Proof of work method to Proof of stake, citing concern over energy utilization due to mining. Ethereum Foundation has announced that it will completely be transitioned from POW to POS by 2022.

Earning through Crypto staking

Crypto staking has become a lucrative way for financial investors who do not want to take a risk of trading and fluctuation of the market. However, it requires a bit of technical understanding in order to set up your own node and become a validator. Moreover, it requires the user to keep a proper technical infrastructure with a reliable internet connection to participate as a validator. Nevertheless, if any user does not want to actively participate in the creation of the block, can still stake their coins or say delegate their asset to the validator and gets a part of the reward based on their total stake. Cryptocurrency exchanges and other blockchain companies offer flexible options for the investor to stake their coins and get a certain percentage APY. The annual earnings percentage is fixed at the time of staking along with a set of rules on the locking period and other related criteria. Any user with no technical knowledge can directly stake the coin they want and earn a good passive income without being actively involved in the POS process. Major exchanges like Binance and Kraken offer a dedicated section with easy-to-use steps to directly stake into any POS coins they support. Click here to read about how to make money through Crypto Staking in this dedicated article.

The Road Ahead

Proof of stake is still in its early developing period, hence developers do not have a very comprehensive case study and full proof framework to tackle with any malicious intent. Having said that, many new blockchain projects are finding this method useful and working to create their own ways to make it much more efficient and fix any known issues. With Ethereum moving from Proof of Work to Proof of stake the total value of POS crypto assets has been 30% of total crypto market capitalization(source: Staked). With a rapid increase in its adoption, this new technology is expected to become a game-changer and paradigm shift in the blockchain world.