Proof-of-Work (PoW) and Proof-of-Stake (PoS) are subsets of the Nakamoto consensus mechanism, objective is to achieve distributed consensus in a distributed system such as blockchain.
PoW is probably the first consensus protocol mechanism that managed to solve, to a significant degree, a major challenge posed in a distributed ledger system — prevent double spending. It is the consensus protocol mechanism employed by Satoshi Nakamoto in Bitcoin and subsequently used in Ethereum as well.
A key feature in PoW is that nodes are required to solve a cryptographic hash function in order to earn the right to propose a new block of transactions to the blockchain. The cryptographic hash function is like a ‘puzzle’ that can only be solved via brute force trial and error, there are no shortcuts to solving it. Generally, the more computational power a node has, the higher probability of success one node has to be the first to solve the ‘puzzle’, thus earning the right to propose a new block, allowing the node to earn the block reward and transaction fees associated with the new block.
A key assumption in PoW is that the longest chain is assumed to be the honest and true, as it has the most work, or computational resource, put into it.
Combining the above mentioned, it is probably safe to assume that as long as majority of the nodes on the network are honest actors, it will be difficult for malicious actors to benefit from attempts of attacking the network. They are better off being honest actors of the network and benefit from the block rewards and transaction fees.
In 2012, when PoS was first introduced to the world in a paper released by Sunny King and Scott Nadal. The electricity cost of mining on the Bitcoin network was estimated at US$ 150k per day. Today, according to Cambridge Center for Alternative Finance (CCAF), Bitcoin currently consumes around 110 Terawatt Hours per year — 0.55% of global electricity production, or roughly equivalent to the annual energy draw of small countries like Malaysia or Sweden. Assume electricity cost of US$ 0.12/kWh, that is equivalent to around US$ 36m per day.
PoS originated from the motivation to reduce the computational burden experienced in Bitcoin, while still maintaining the decentralised nature and security of the network.
In PoS, nodes are randomly selected to propose a new block, rather than having to solve a cryptographic ‘puzzle’ to earn the right to do so. Nodes will be required to stake some amounts of the native currency to be eligible for selection. The probability of being selected is relative to the proportion of amount staked. As there is no ‘work’ done to propose a new block, nodes will only earn transaction fees upon being selected.
With PoS, participants of the network have a direct relationship with the performance of the network, especially its price, which serves as a significant deterring factor against malicious actors.
Why is PoS better than PoW
As mentioned earlier, one of the biggest point for contention is the gargantuan amount of electricity consumed to maintain the network. Many, including Elon Musk, are concerned about the source of electricity that is powering these mining pools — Are they powered by renewable energy or coal? The ambiguity and concern was enough for Elon Musk to hold back on his rhetoric to push for the adoption of Bitcoin, to allow purchase of Tesla automobiles with Bitcoin.
However, beyond the issue regarding energy consumption and environment, there are other reasons I find compelling that we should adopt PoS over PoW.
Equitable barrier to participate
In the early days of Bitcoin, it was possible to mine using a personal computer and earn a healthy profit. Today, trying to be profitable with a CPU is impossible. Over the years, together with the growth of the network, miners have became more professional and competition to be a profitable miner only gets more difficult. Today, there are dedicated mining farms using the best mining technology, ASIC miners, competing in the space.
Take for example, with the recent drop in Total Hash Rate due to the banning of mining farms in China, I might think that it will be a good opportunity to start mining Bitcoin in my room. Let’s do some quick calculations to find out.
As of writing, on 10 Jul 2021 2330hrs:
- The total network hash rate is 109.377mil TH/s.
- BTC/USD = $33,862.98
- Block reward (fixed)= 6.25 BTC
- Electricity price = US$ 0.12/kWh
- Budget =US$ 9,000
With a budget of US$ 9,000, I can afford to get 3 Antminer S9. This gives me a total of 42 TH/s, with an estimated power consumption of 4050W.
If I am to mine solo, it will probably take an estimated 49.55years to mine a block. If I choose to mine with a pool, with a 1.5% pool fee, I am estimated to earn US$ 28.71 per month. Assuming all conditions remain constant, it will take at least 26 years to breakeven. In both scenarios, it does not sound practical at all.
Adding to the already difficult situation, players with big budget that can purchase ASIC miners at scale will probably be able to benefit from economy of scale, in terms of equipment purchase and operational cost, which further enhances their position to out-compete regular miners.
With PoS, the barrier to participate in maintaining the network is significantly reduced and reward potential is linear, regardless of amount invested. Even if I only have a budget of $500, I can still participate in the staking pool and earn a profitable APY.
In the spirit of inclusivity and equitability, I believe PoS is a better consensus mechanism.
Security risk of centralisation
Inevitably, the above mentioned phenomenon resulted in the consolidation of miners in the Bitcoin space. As of writing, the top 5 mining pools contributes to more than 50% of the mining hash rate. Thus, raising major concerns about the centralised control of the network by the handful of players.
One might argue that PoS is no different, wealthy participants can choose to purchase significant portions of the cryptocurrency supply, which also leads to the issue of centralisation.
However, between centralisation in PoS and in PoW, there is a slight difference. The investment made by a miner on the PoW network has an indirect association with the performance of the network. The miner invested in the mining equipment and is only associated to the cryptocurrency because of the block rewards and transaction fee. Whereas, the investment made by a validator on the PoS network has a direct association with the performance of the network.
Noting the difference, a malicious miner, with significant hash rate, on the PoW network might possibly be able to disassociate her bottom line from the consequence of her malicious attempt. For example, if her attempt to perform a vector76 attack failed and her attempt was discovered by the community, the price of the cryptocurrency will likely take a hit. However, if she had sold her rewards previously, she would not be affected by the attempt, apart from the opportunity cost in terms of electricity cost and other operational cost in performing the attempt. But if her attempt on a PoS network was made known to the community, regardless of her outcome — success or fail, she will have to bear the consequence as the price of the cryptocurrency plummets.
The one who has more at stake, will more likely than not act in the best interest of the community. I believe that this statement is true for PoS but not necessarily true for PoW. I’ll probably be more comfortable if there are signs of centralisation in a PoS network rather than a PoW network.
Relying on PoS as the consensus mechanism also comes with its own set of problems. However, by forcing a direct association between participants and performance of the cryptocurrency, I find that it might be easier to devise countermeasures to put a leash on the malicious actors.
For example, there are efficient countermeasures that can be put in place to deter/counter a 51% attack. First, having to purchase the cryptocurrency off the market will push the price up resulting in the cost of attempt to increase proportionately. Second, a minimum un-staking period can be enforced through code. This will force any malicious actors to bear the consequence for any malicious attempts. Third, the amount staked can be slashed if any malicious actor is found guilty.
Another concern for PoS network is the nothing-at-stake problem. In the event of forks, validators can effectively validate transactions on multiple forks and it is also in their financial interest to do so. Unlike in PoW, there is no opportunity cost involved since it is computationally inexpensive to build on every fork. However, this concern was only valid in the early days of PoS. Today, an effective solution around this problem is to write a code that penalises any validators who attempt to build on multiple fork. This is easily enforceable as validators will have to sign-off on every transaction that they validate, exposing their identity.
Therefore, in a PoS network, penalty and incentives can be enforced. Whereas in a PoW network, only incentives can be enforced. ie block rewards.
In future, malicious actors may come up with more creative ways to attack the network. But with the direct association that participants have with the performance of the PoS network, I believe the developer community can come up with creative lines of code to countermeasure them. In the world of PoS, code is law.
Although PoS may not be the prefect consensus mechanism, there are growing interest surrounding it and it is also in Ethereum’s roadmap to shift themselves from a PoW network to a PoS network. With all that were mentioned, I am pretty convinced that PoS has great potential in bringing cryptocurrency to the next developmental phase, making the space more mature and ready for mass adoption.