Cryptocurrency beginner's guide: Proof of Work vs. Proof of Stake

Highlights

• At the back of every cryptocurrency lies a network of computers that ensures the security of the software and regulates the issuance of new units. 
• The system that governs cryptocurrency is known as a consensus mechanism.
• Proof of Work (PoW) and Proof of Stake (PoS) are the two consensus mechanisms that are widely used to regulate cryptocurrency transactions and the verification of trade.

Cryptocurrency adoption is increasing with every passing day as users believe it is a good long-term investment option given its real-life use cases and decentralised nature. However, before you start investing in any cryptocurrency, you need to understand its mechanism so that you will be in a better position to evaluate all available cryptocurrency investment opportunities.

At the back of every cryptocurrency lies a network of computers that ensures the security of the software and regulates the issuance of new units. The system that governs cryptocurrency is known as a consensus mechanism. Two consensus mechanisms that are widely used to regulate the process of cryptocurrency transactions and the verification of trade before they are added to a blockchain's public ledger are Proof of Work (PoW) and Proof of Stake (PoS). In this article, we will tell you what these two mechanisms are and how are they different.

What is Proof of Work (PoW)?

PoW was first introduced in the early 1990s to reduce email spam. Bitcoin's creator Satoshi Nakamoto first applied PoW technology in a digital money system.

In a PoW blockchain, the first block is hardcoded into its software and is named genesis block or block 0. This block does not refer to a previous block. But subsequent blocks added to the blockchain refer to previous blocks and contain a copy of the full ledger.

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Miners on a PoW network compete against each other to create a new block by solving complex mathematical problems. This process is called hashing. Although these problems are hard to solve, these are easy for the network to verify the correct solution.

In a PoW protocol, miners combine computational power with cryptography to create consensus and ensure the validity of transactions stored in a blockchain.

In order to create new blocks, miners compete against each other to generate the correct result for mathematical problems during the hashing process. In this process, miners guess a string of pseudorandom numbers (also known as hash). These numbers when combined with the data provided in the block and passed through a hash function computer, must produce a result that matches the given conditions set out by the protocol.

Once a winning hash emerges, it is broadcasted to the network so that other miners can verify whether the solution is correct. The block gets added to the blockchain if the solution is found correct and the miner gets rewarded with the block.

This block reward is a new cryptocurrency, which is awarded by the blockchain to the miner. But for cryptocurrencies like Bitcoin, the block reward gets reduced after a certain number of blocks have been found. The logic behind this is to keep the total cryptocurrency supply finite and deflationary.

What is Proof of Stake (PoS)

PoS was introduced in 2012 as a modification to PoW as it is highly energy consuming. In a PoS protocol, participation is determined by the ownership of coin supply rather than relying on computers racing to generate the appropriate hash.

PoS decreases computational labour required to verify transactions and blocks that ensure the security of different cryptocurrencies and blockchains. It also aims to alleviate environmental sustainability and scalability difficulties linked with the proof-of-work (PoW) protocol.

Furthermore, proof-of-stake (POS) makes it possible for cryptocurrency owners to validate block transactions depending on the number of coins staked by a validator.

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What are the key distinctions between PoS and PoW?

PoS is perceived as less dangerous in terms of the possibility of a network attack since it structured compensation in such a manner that an attack is less favourable.

One key distinction between the two consensus mechanisms is energy usage. When mining, PoW demands a lot of energy. On the contrary, PoW blockchains don’t need miners to spend more energy. PoS also enable networks to consume significantly fewer resources.

Both consensus mechanisms entail economic penalties for network interruptions. When miners submit invalid information or blocks in PoW, they incur a sunk cost, which is the cost of computing energy, power and time. On the other hand, in proof of stake, validators’ staked crypto investment is utilised as an economic incentive to operate in the network’s best interests. Upon accepting a bad block, a portion of the staked money will be cut as a penalty.

To validate transactions, PoS employs a random selection of miners. On the other hand, PoW adds new blocks to the blockchain and confirms transactions by using a competitive validation method.

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