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Proof of Stake

Proof of Stake (PoS) means a person can mine or validate block transactions according to how many coins s/he holds. This means that the more currency owned by a miner, the more mining power he or she has. This only applies to altcoins built on the PoS platform, unlike Bitcoin.

The first cryptocurrency to adopt the Proof of Stake method was Peercoin, followed by Blackcoin, and ShadowCoin

How does Proof of Stake (PoS) work? 

Proof of Stake was created as an alternative to Proof of Work (PoW), to tackle inherent issues in the latter. When a transaction is initiated, the transaction data is fitted into a block with a maximum capacity of 1 megabyte. This is then duplicated across multiple computers or nodes on the network. The nodes are the administrative body of the blockchain, They verify the legitimacy of the transactions in each block.

To carry out the verification step, the nodes or miners would need to solve a computational puzzle. This is known as the Proof of Work problem. The first miner to decrypt each block transaction problem gets rewarded. Once a block of transactions has been verified, it is added to the blockchain, a public transparent ledger.

Mining requires a great deal of computing power to run different cryptographic calculations to unlock the computational challenges. The computing power translates into a high amount of electricity and power needed for the proof of work. In 2015, it was estimated that one Bitcoin transaction required the amount of electricity needed to power up 1.57 American households per day. To foot the electricity bill, miners would usually sell their awarded coins for fiat money. This would lead to a downward movement in the price of the cryptocurrency.

Voting Power

The Proof of Stake (PoS) seeks to address this issue by attributing mining power to the proportion of coins held by a miner. Therefore, instead of utilizing energy to answer PoW puzzles, a PoS miner is limited to mining a percentage of transactions that is reflective of his or her ownership stake. For example, a miner who owns 3% of the Altcoin available can theoretically mine only 3% of the blocks.

currency graph

Bitcoin uses a PoW system and as such is susceptible to a potential Tragedy of Commons. The Tragedy of Commons refers to a future point in time when there will be fewer bitcoin miners available. This is due to little to no block reward from mining. The only fees that will be earned will come from transaction fees. These will also diminish over time as users opt to pay lower fees for their transactions. With fewer miners than required mining for coins, the network becomes more vulnerable to a 51% attack. A 51% attack is when a miner or mining pool controls 51% of the computational power of the network and creates fraudulent blocks of transactions for himself, while invalidating the transactions of others in the network.

With a PoS, the attacker would need to obtain 51% of the cryptocurrency to carry out a 51% attack. The proof of stake avoids this ‘tragedy’ by making it disadvantageous for a miner with a 51% stake in a cryptocurrency to attack the network. Although it would be difficult and expensive to accumulate 51% of a reputable digital coin, a miner with 51% stake in the coin would not have it in his best interest to attack a network which he holds a majority share. If the value of the cryptocurrency falls, this means that the value of his holdings would also fall, and so the majority stake owner would be more incentivized to maintain a secure network.

Which Cryptocurrencies?

As of May 2017, Ethereum (ETH) is in the process of completely switching from a PoW to a PoS system. Cardano, Nano and PIVX are also all popular PoS implementations, with Cardano rolling out their Shelley release, which introduces delegated PoS, soon.

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