What is Proof of Stake?
Key Takeaways
- Proof of stake is a type of consensus mechanisms used for securing blockchain networks.
- PoS uses validator nodes to maintain the integrity of information on the blockchain, and add new blocks of transactions to the network.
- This algorithm requires validator nodes to stake or lock up their own crypto on the network as collateral.
- By using staked crypto to deter poor behaviour, proof of stake provides a secure, decentralized system for processing blockchain transactions.
Blockchain networks are decentralized, meaning no central authority oversees transactions or keeps the system running. Instead, these networks rely on a distributed group of nodes to verify transactions and add new blocks to the chain. But this presents a challenge: how do blockchains keep their nodes operating, and stay secure, without a central authority?
The answer is something called a consensus mechanism, a set of incentives and rules that keeps blockchains securely. There are different consensus algorithms that use different rules and incentives, but one of the most common is Proof of Stake (PoS). Known for its energy efficiency, passive income options and scalability PoS most recently garnered attention as the consensus mechanism of Ethereum 2.0. But how exactly does it work, and how does it differ from its main alternative, proof of work? Let’s find out.
What is Proof of Stake?
Proof of stake (PoS) is a protocol that enables distributed blockchain nodes to process transactions, without manipulating the network. In PoS systems, nodes known as validators are tasked with maintaining the accuracy of the blockchain and validating new blocks of transactions. Validators get paid in cryptocurrency for creating new blocks in the blockchain. But to participate, they must first “lock up” some of their cryptocurrency as collateral.
Unlike Bitcoin’s proof of work, which demands its miner nodes to compete using powerful computational resources, PoS chooses validators based on how much cryptocurrency they lock up. This makes the system a less energy intensive way of achieving security. Let’s take a closer look.
How Proof of Stake (POS) Consensus Works
Validating transactions in PoS systems depends on how much a validator locks up or sets aside their tokens in a network.
Here are three key elements we should understand before going any further:
- Validator Nodes.
- Validating blocks of transactions.
- Slashing.
Validator Nodes
In PoS, validator nodes are the computers responsible for checking and confirming transactions. Validator nodes each have a copy of the blockchain’s transaction history, and use this to keep track of transactions and make sure new blocks are accurate before adding them to the chain.
Being a validator has some requirements: each validator must “stake” a certain amount of the native currency on the network to run a validator node. This is why the system is called proof of stake.
When a validator is selected by the network, they get to add a new block of transactions to the blockchain. The selection process is similar to how classroom monitors are selected, with nodes chosen based on a combination of good behaviour and the size of their stake .
Validating Blocks of Transactions
When a validator is chosen to add a block, it verifies its transactions. It’s like a teacher checking homework before marking it complete. The validator reviews each transaction, ensuring all transferred coins are accounted for without errors.
The first step is independent validation, where every node performs tests on the new block. These tests ensure the block meets specific criteria, such as having a valid structure, proof-of-work, and size limits. If any of these checks fail, the block is rejected. The checks prevent dishonest miners from adding invalid blocks to the blockchain.
Validators add verified blocks to the blockchain and earn a reward in the network’s native currency. Rewards incentivize validators to run their software continually and add new blocks to the network, keeping the whole blockchain running.
If a validator tries to cheat the system, the network imposes penalties known as slashing. The network takes away part of the collateral they put up as security. Slashing is a powerful deterrent, ensuring validators follow the rules. The independent validation process ensures that the blockchain remains secure, honest, and efficient, preventing any single participant from manipulating the system.
Slashing
Slashing is a penalty in proof-of-stake (PoS) blockchains meant to discourage bad behavior by validators. It happens when a validator acts against the rules, such as proposing invalid transactions, double-signing, or simply being offline instead of validating blocks. Slashing keeps the network secure by ensuring reliable validators follow the rules.
When slashed, validators lose a portion of their staked assets, which is collateral. The amount can vary depending on the PoS protocol, but the penalty should hurt enough that validators think twice before acting maliciously or neglecting their duties.
There are different reasons a validator might be slashed. Double-signing is when a validator signs two conflicting blocks, undermining the consensus mechanism. Another reason is submitting invalid block proposals that break the network’s rules. Even downtime, when a validator is offline for too long, can result in slashing, as the network relies on validators to stay online and active.
Slashing helps maintain the integrity of the blockchain and encourages good behavior. Validators are motivated to stay honest and reliable since they risk losing their investment if they don’t. You must also consider slashing when using staking services, as downtime from those running the nodes can cost you rewards through slashing penalties.
Proof of Stake V Proof of Work: What’s the Difference?
PoS and PoW are the most common consensus mechanisms in the blockchain ecosystem, and they achieve security using very different mechanisms. Here’s a summary of their key differences for comparison:
Miner Nodes vs Validator Nodes
A proof of work system network relies on miner nodes. These miners use powerful computers to solve complex cryptographic problems for the right to add new blocks to the network, This a process is known as cryptocurrency mining. For each new block added, the miner will receive a reward. This process is competitive, with miners racing against each other to be the first to solve the puzzle.
PoS doesn’t use miners. Instead, it uses validator nodes. Validators don’t solve puzzles but are chosen based on the number of coins they’ve staked or locked up in the network. The more coins a validator stakes, the better their chances of being selected to add the next block.
Energy Consumption
Because PoW involves solving complex cryptographic problems, it requires special hardware, such as ASICs or GPUs, which usually require a lot of power. Mining round the clock takes up a lot of electricity. Bitcoin, for instance, takes up approximately 0.55% of global electricity production.
PoS is more environmentally friendly. Validators do not have to operate powerful machines; they help by investing in their cryptocurrency. This significantly decreases the energy required for transaction validation.
Collateral Asset (Crypto vs Energy)
Both systems require participants to have some form of collateral to ensure they behave honestly. With Proof of Work, the collateral is energy. Miners invest in electricity and hardware, which costs a lot of money. If miners try to cheat, they risk losing their investment, as they still have to pay for their expensive equipment and power usage.
In Proof of Stake, the collateral is the cryptocurrency itself. Validators lock up or stake their coins to guarantee their honest behavior. If a validator cheats or acts maliciously, they risk losing part or all of their staked coins. The collateral ensures that validators act in the network’s best interest.
Node Selection Protocol
Proof of Work operates on a resource-focused race. Miners compete to solve problems, and the one who solves it first adds the new block. This system rewards those who can invest in more powerful machines, making it harder for smaller miners to participate.
Proof of Stake selects validators based on the amount they’ve staked. There’s no race; it’s just a selection process based on how much of the network’s cryptocurrency a validator is willing to lock up.
Scalability Options
One of the main criticisms of PoW is its scalability limitations, as seen with Bitcoin’s network. The network adds a new block roughly every 10 minutes, but the process can’t speed up, so when more transactions need to be processed, there are longer delays. However, PoS is more flexible.
Due to its flexible transaction processing, Proof of Stake (PoS) is well-suited for scalability. PoS networks often employ techniques like sharding, where the blockchain is divided into smaller segments or shards. Each shard can process transactions independently, increasing the network’s overall capacity.
Additionally, PoS can utilize parallel processing and batching to optimize transaction throughput further and reduce latency. These techniques make PoS a promising solution for scaling blockchain networks to meet growing demands. Ethereum’s planned switch from Proof of Work to Proof of Stake, known as The Merge, highlighted on its roadmap, is an example of how networks adapt to improve scalability.
Proof of Stake |
Proof of Work |
|
|---|---|---|
| Node Type | Validator nodes | Miner nodes |
| Energy Consumption | Low | High |
| Node Collateral | Cryptocurrency | Energy |
| Node Selection | Based on stake | Based on computational power |
| Scalaility Options | Scalable | Hard to scale |
How Secure Is Proof of Stake
Proof of Stake (PoS) offers a different approach to securing blockchain networks than the traditional Proof of Work (PoW). PoS aims to improve scalability and reduce the environmental impact of cryptocurrency mining, but questions remain about its security. Of particular interest is the 51% attack.
A 51% attack happens when an individual or group gains control of more than half the network’s total staked coins. With this control, they can manipulate the blockchain, changing the network rules or approving fake transactions to benefit the group.
In PoW systems like Bitcoin, attackers must control 51% of the network’s computing power to pull off such an attack. Executing a 51% attack on a PoW network would be more challenging as the hardware costs would be enormous.
Similarly, a 51% attack in PoS would be difficult. Acquiring 51% of a significant PoS network’s staked tokens is incredibly expensive and challenging as the network’s value increases. For example, a network with a high TVL of $100 million would require a single validator to control or have an influence of over $51 million.
Purchasing most coins becomes prohibitive as users stake more coins, making the attack less likely. In theory, an attacker risks their financial position, as a successful attack could damage the network’s value, reducing the worth of their staked coins.
No major PoS network has experienced a successful 51% attack, but PoS remains a relatively new system, having gained widespread adoption only in the last few years. Given its short history, its long-term security remains an area of interest.
As more blockchain networks adopt PoS, time will tell how well it withstands the threat of 51% attacks and other vulnerabilities.
Blockchains That Use Proof of Stake
PoS allows participants to stake their coins and become validators. Here are five blockchains using PoS, each with its unique ecosystem and features;
- Cardano (ADA).
- Tron (TRX).
- EOS (EOS).
- Cosmos (ATOM).
- Tezos (XTZ).
Cardano (ADA)
Cardano is a blockchain that began in 2017 and focuses on offering a more secure and scalable solution for decentralized applications (dApps). Its native cryptocurrency, ADA, is used for payments and as a stake in the Cardano ecosystem. Cardano’s development is unique because it takes a rigorous, research-based approach. Each improvement or upgrade is peer-reviewed by academic experts.
Cardano has built a well-established ecosystem focusing on the education, healthcare, and finance sectors. Projects in these areas leverage Cardano’s scalability and security, making it a reliable platform for long-term solutions. Its focus on creating a sustainable and scalable network sets it apart from many other blockchains. One of its key advantages is using Ouroboros, a PoS protocol that secures the network with less energy consumption than PoW systems.
In addition to its PoS model, Cardano strongly emphasizes interoperability, enabling it to work seamlessly with other blockchain networks.
Tron (TRX)
Since 2018, Tron has been disrupting the old ways of the content-sharing industry. TRX, the native token, is crucial for the network. You can use it to build, interact with, and play around with decentralized apps. Tron lets creators share their content with consumers without middlemen. It’s an excellent choice for anyone wanting to avoid traditional platforms’ fees and limitations.
Tron’s ecosystem is well-known for its contributions to decentralized finance (DeFi) and gaming. The platform offers a variety of tools and services that developers can use to create games, financial products, and more. One of Tron’s significant partnerships is with BitTorrent, a file-sharing protocol that has helped Tron create a comprehensive file-sharing and entertainment platform. The collaboration expands the scope of the Tron network, making it more versatile in its applications.
Tron’s ability to support high transaction speeds and low fees has made it a favorite among developers and users in the entertainment and DeFi industries.
EOS (EOS)
EOS, a blockchain platform launched in 2018, utilizes a unique consensus mechanism called Delegated Proof of Stake (DPOS). DPOS differs from PoS as it involves electing a small group of individuals, block producers, to validate transactions and create new blocks.
In EOS, token holders can vote for their preferred block producers. The producers with the most votes become responsible for validating transactions and producing blocks. EOS uses a system that encourages accountability and rewards those who contribute positively to the network’s performance.
EOS’s DPOS system has been praised for its efficiency and scalability, but critics point to its centralization. A single entity could potentially gain network control with only a few block producers validating transactions.
Cosmos (ATOM)
Cosmos entered the scene in 2019 to enable interoperability between different blockchains. It is a decentralized network of interconnected blockchains that utilizes a Proof of Stake (PoS) consensus mechanism. The ATOM token secures the network and allows for staking. In Cosmos, validators stake their native token, ATOM, to participate in the consensus process. The more ATOM a validator stakes, the higher their chances of being selected to create new blocks.
Using the Tendermint consensus engine, Cosmos achieves respectable speed and reliability. The engine enables the network to process transactions quickly and efficiently, making it suitable for various applications, such as DeFi.
Tezos (XTZ)
Tezos launched in 2018 as a self-amending blockchain known for its governance model. It allows stakeholders to vote on proposed protocol upgrades. The native currency, XTZ, serves for staking, transactions, and governance.
Tezos supports smart contracts and decentralized applications, and its on-chain governance mechanism allows for seamless network upgrades without hard forks. Proof of stake continues to shape the future of blockchain technology, making these networks more accessible, scalable, and energy-efficient.
Staking Crypto – Passive Income From Proof of Stake
Staking offers a way to earn passive income by locking up cryptocurrency in a blockchain network that uses a proof-of-stake (PoS) mechanism.
Validators lock their tokens in the network, supporting its operations by helping confirm transactions and secure the system. But you don’t need to be a validator to stake your coins and share in the rewards.
For participants, staking offers two key advantages. First, it allows them to earn a return on their holdings, which could be higher than traditional financial products like savings accounts. Second, it will enable individuals to participate in the network’s governance, giving them a say in decisions such as software upgrades and changes to network rules.
However, there are risks involved in staking. Locking up tokens for a set period can expose investors to market fluctuations, and some networks may have penalties for validators who act dishonestly or fail to validate transactions properly.
Overall, staking offers a balance of reward and responsibility. By contributing to network security, participants earn passive income and safeguard the long-term success of blockchain ecosystems.
Fast FactClosing Thoughts
Proof of Stake (PoS) has become a widely used alternative to PoW, providing a more efficient means of protecting blockchain networks. Staking crypto allows participants to contribute to the network’s security and earn a profit at the same time.
As PoS becomes more popular, it becomes the go-to consensus algorithm for many of the most critical blockchains, such as Ethereum. However, as a relative new system that hasn’t been battle tested to the same extent as proof of work, we can only really know the effectiveness of proof of stake over time.Understanding how these systems operate, including node selection and security, is crucial in decision-making. The development of PoS will define the future of blockchain technology and create new prospects for investors and developers.
