Proof of Work versus Proof of Stake:What makes a difference?

Proof of Work (PoW) and Proof of Stake (PoS) are network consensus protocols through which a blockchain maintains its integrity.

These consensus mechanisms help address the "double spending" challenge of digital assets. Else, if users of a crypto asset were allowed to double-spend their funds, the value proposition of blockchains would be negated.

Proof of stake

Consensus ProtocolPopular blockchains using protocol
Proof of WorkBitcoin, Ethereum, Ergo
Proof of StakePolkadot, Cardano
Proof of HistorySolana

Proof of work is the algorithm used to secure most cryptocurrencies. Almost all digital currencies have a leader or central entity that keeps track of users and their many assets. However, cryptocurrencies like Bitcoin lack such a leader in charge. Proof of work is necessary when making the online currency function without a government or company running the show.

Proof of work often addresses the "double-spending challenge," which is riskier to manage without a leader in charge. For instance, if investors can double-spend their assets, it inflates the general supply, and debases other users' coins, making the currency worthless and unpredictable.

Double-spending is a characteristic of online transactions since digital activities are easy to clone. This makes it inessential to send an email or copy and paste a file to more than one recipient.

Proof of work makes it challenging to double digital money and thus works as proof that an individual has done a substantial amount of data processing.

How Proof of Work functions

Blockchain is a shared ledger that indicates the history of each cryptocurrency transaction ever conducted. Thus, blockchain is composed of blocks in which every block suggests the most recent activities preserved in it.

Proof of work is an integral part of attaching new blocks to the cryptocurrency blockchain.

Miners are the players in the ecosystem who conduct proof of work in the blockchain. The network credits a new block every time a miner introduces a new winning proof of work and usually occurs after every 10 minutes.

Getting the best proof of work is so challenging since it's the only way that miners need to win cryptocurrencies such as Bitcoin is by using specialized and expensive computers. Miners usually earn digital coins if they anticipate a complement computation. The more estimations they produce, the more digital currencies they are likely to make.

For instance, miners transform an input in Bitcoin into an irregular string of numbers and letters. The objective of the miners is to establish a hash corresponding to Bitcoin's latest "target." They need to make a hash with adequate zeroes in front. However, the probability of getting some zeros in a row is improbable. Still, miners worldwide are causing trillions of such data processes per second, making them roughly 10 minutes on average to hit such a target.

Whoever achieves the objective first wins a quantity of cryptocurrency. Then the Bitcoin protocol makes a value that miners need to hash and thus embark on the race for selecting the best proof of work.

Proof of stake is more secure and more energy-efficient, even though there's a dispute about this.

Proof of stake is a process of maintaining the virtue of a cryptocurrency and prevents users from creating extra coins illegally.

Ethereum is preparing to migrate to proof of stake to make the network more scalable and minimize the energy consumption of the platform.

Delegated Proof Of Stake (DPoS)

Delegated Proof of Stake (DPoS) is an option to PoS that enables network users to dedicate their token balances as votes, with the number of votes cast being inversely correlated with the number of tokens owned. These votes are then utilized to choose a number of delegates, who act as the voters' representatives in managing the blockchain and maintaining security.

Staking incentives are typically given to these elected delegates, who then divide a portion of the benefits to their constituents in accordance with each one's unique contributions.

In essence, DPoS makes it possible to reach an agreement with fewer validating nodes, which tends to improve network operation and frequency.

The Importance of Proof-of-Anything

It's not challenging to thwart double spending in a centralized system when a single entity controls a ledger of all the activities.

However, cryptocurrencies are different, and the objective is not to have one entity or leader in control of the system. This makes record-keeping challenging.

Proof of work enables miners to participate, and they are likely to include extra blocks to the blockchain when they have more data processing power.

Proof of stake enables miners to win extra blocks if they have more digital coins. Thus, proof of stake depends on "proof" of how much "stake" investors have.

Is Proof of Work Better than Proof of Stake?

According to Blockstream Director of Research Andrew Poelstra, proof of stake is "unable to create a distributed consensus within crypto's trust model."

Proof of stake could be a greener option that can achieve the same objectives as proof of work, yet more efficiently.

Blockchains can function more energy-efficiently using Proof-of-Stake's implementation of a consensus process that is fundamentally different from Proof-of-Work while preserving a high degree of decentralization.

How Safe is Proof of Stake?

Critics argue the system can lead to an oligopoly, and they worry that proof of stake would take blockchains back to centralized control because users who have the most coins control the system.

Stake pools and Staking

Staking might be compared to mining as a less resource-intensive process. It works by keeping money in a crypto wallet to maintain the safety and functionality of a blockchain platform. Staking is essentially the process of locking digital assets in exchange for incentives, which some have compared to blockchain rewards. However, a brief examination of the Proof-of-Stake mechanism is necessary in order to better understand what staking is.

Staking functions on the Proof of Stake framework compared to Proof of Work, and thus, some forms of cryptocurrency lack the digital infrastructure required to support it.

Staking has promoted those cryptocurrencies that support a Proof of Stake system. It has also been the main reason why most cryptocurrencies that rely on Proof of Work have decreased. On the other hand, it has been thriving since it rewards participation, yet it is much easier.

The more digital coins a user has, the more likely a system will select them to authenticate other blocks.

Staking is more beneficial to mining. For instance, staking is not resource-intensive. Since it doesn't operate on mining, staking is similar in that it assists the blockchain consensus and validation process. Therefore, each block is incentivized to include more and develop the chain.

Staking Pools

A staking pool happens when several coin holders combine their resources to enable them to improve their chances of authenticating blocks and get rewards in return. Such users primarily pool in their sources and share the rewards.

Setting up and maintaining a staking pool requires a lot of time and expertise.

Moreover, such a tactic is ineffective on networks where the barrier of entry is low. Also, a pool is less effective when the staking is too open.

Many currency traders have set up pools where there is an entry and membership fee. Currency traders often take an additional cut of the rewards to cover the maintenance of the staking pool. They create a minimum balance that users must achieve to remain in the pool since it prevents foul play.

For instance, in cryptocurrencies like Cardano, the staking pools can either be public or private. Public pools facilitate open delegation across all nodes and enable them to gain rewards. On the other hand, private pools only offer rewards to the holders of the pool.

Pool operators would probably deduct a fee from the staking benefits given to pool members because setting up a staking pool frequently takes a high level of expertise and a sizable initial investment. The stake typically has to be locked for a predetermined amount of time, and the protocol will typically establish a withdrawal or unbinding time.

Liquid Staking

A different staking format dubbed Liquid Staking has begun to be used by several DeFi protocols in addition to the conventional staking techniques that have already been covered. Creating token representations of staked assets with the ability to employ them in other DeFi apps or to obtain instant liquidity for the staked amount is referred to as "liquid staking" by protocols.

By creating a new on-chain token to reflect the staked amount, Liquid Staking essentially turns staked assets into liquid assets that can be traded further. Additionally, tokenized stake representation enables users to get beyond various restrictions put forth by specific networks, such as lock-up and unbonding times, for example.

Staking Vs. Yield Farming

Users provide liquidity to a system in both yield farming and staking in exchange for rewards. Yield farming, commonly referred to as liquidity mining, is the practice of supplying liquidity in exchange for "mining" benefits. However, Proof-of-Work mining, which requires solving mathematical equations to validate blocks, shouldn't be confused with liquidity mining.

Users who offer liquidity to a decentralized exchange or protocol do so by supplying assets like ETH, for example, so that there will be a sufficient supply of the quoted asset for the trade when other protocol users want to trade their USDC tokens for ETH.

The user that executes the deal will pay a charge to the protocol, which will then pay the liquidity provider for first providing the asset. In some ways, yield farming is similar to staking, but it entails a more dynamic process of actively transferring assets around various protocols in order to basically "farm" the best payouts.

Staking Vs. Mining

The number of tokens a participant holds determines the likelihood that they will be chosen to validate blocks of transactions in a PoS system. As a result, unlike in Proof-of-Work, the amount of staking assets held by each user instead determines which participants are able to generate a transaction block.

With PoW, network participants—often referred to as "miners"—compete to arrive at a solution to a challenging mathematical problem based on cryptographic techniques to add a transaction block to a blockchain. The block of activities is included in the blockchain after a miner discovers the answer to the issue and after receiving confirmation from other miners.

Mining and staking usually differ in the primary blockchain consensus mechanism applied to authenticate transactions. For instance, mining is used for Proof of Work, especially in Bitcoin, while staking is used for Proof of Stake which is the case for Ethereum 2.0.

Differences between Mining and Staking

  • Mining allows miners to solve complex mathematical puzzles while staking – nodes in the platform authenticate new blocks by closing their funds.
  • ‍In mining, the first miner that solves the mathematical puzzle includes a block to the blockchain, while in staking, nodes authenticate a new block by blocking original tokens in a smart contract.
  • Mining needs specialized mining tools such as the Graphics Processing Unit which consumes a lot of energy. On the contrary, staking is more environmentally sustainable and can save up to 99% of energy.
  • ‍Mining requires more data processing power and offers a higher chance of getting rewarded by solving the block. Staking requires more native tokens to get selected to authenticate new blocks.

Staking is often meant for medium- to long-term investments because the tokens are locked up for a predetermined period of time. Staking is thought to be the safer, less hazardous investment option compared to yield farming and generates a respectable return on investment. On the other hand, yield farming and liquidity mining include higher risks, such as the possibility of temporary loss, and as a result, they frequently produce the greatest annual percentage yields (APYs) in the cryptocurrency industry.

Staking Stablecoins

Staking stablecoins allows users to hold their funds in the latest low-interest-rate setting and get yields free from market volatility.

How to Stake Crypto

Your staking option will determine the process of staking digital currencies. For instance, cold staking differs from directly validating on a Proof of Stake network. Anyone whose assets are simply sitting idle in a cryptocurrency wallet and not producing any passive income may consider staking as a potential investing strategy.

There are two roles one can play in staking:

  1. Validation: Blockchain businesses and technical experts are the best candidates.
  2. Delegation: Acceptable for the majority of crypto asset owners.

Crypto asset owners must stake their tokens as security in a Proof-of-Stake (PoS) network in order to become validator nodes, as opposed to using electricity as in the case of the Bitcoin PoW network. Validators are chosen at random to build and validate blocks, and the likelihood that a validator will be chosen depends on the number of tokens invested. If PoS were a democracy, users' stakes would be the equivalent of their voting power. Participants in a PoS system can effectively cast votes in on-chain governance using their staked assets.

How to earn staking rewards

Users stake their cryptocurrency with a Proof-of-Stake node to authenticate a block of transactions in exchange for staking incentives. The user will receive staking rewards if the node they have delegated to successfully signs or attests to blocks, boosting the value of all of their crypto assets. A percentage of the node's assets, and consequently the user's assets, may be drastically diminished or destroyed if the node is unreliable or malicious.

As a result, staking rewards are advantageous for both single stakers and protocol nodes since they encourage users to secure their assets in compensation for some form of native token payment while also enhancing the protocol's overall security. These incentives are known as inflationary rewards when stakers are chosen for block validation and earn recently created native asset rewards.

Advantages and disadvantages of PoW

Because more computers and network users must evaluate and approve transactions, proof of work is a more decentralized method of confirming transactions on a blockchain. The more decentralized the better, in the eyes of many crypto fans and conservatives.

However, having more computers also means using more energy. Over the past year or so, as more individuals have been interested in the industry, the environmental effects of cryptocurrency mining have come under increased attention. Because of the complexity and greater entrance barrier, which are primarily intentional, the crypto market is less vulnerable to hackers and attacks, another problem.

The potential to be more decentralized and improved security are among PoW's top benefits. However, slower transaction speeds, higher transaction validation fees, and increased energy consumption are among PoW's biggest drawbacks.

Benefits and drawbacks of PoS

Experts claim that proof of stake has several advantages over proof of work. Blockchains that are more adaptable and thus simpler to find greater adoption with new users are made possible by their fast processing speeds and more efficient power requirements.

Additionally, proof of stake offers chances to increase one's cryptocurrency earnings. You can obtain incentives in the form of more coins by locking up your money in a liquidity pool. A proof of stake network has more options to make money and connect to a financial system than a proof of work platform.

Despite the occasionally attractive returns, experts advise exercising extra caution when choosing which cryptocurrencies to invest in. Many cryptocurrencies, particularly small altcoins that can offer greater staking benefits, have a greater risk of collapse and plummeting because the industry is still in its early stages.

Less energy use, income potential, and quicker transaction speeds are some of the main benefits of PoS. However, PoS has some significant disadvantages over PoW, such as difficulty in completely decentralizing the network and lower levels of security.

PoW vs. PoS energy consumption

With proof of work, more energy is used than with proof of stake. For instance, according to research from the Cambridge Center for Alternative Finance, the bitcoin network alone consumes as much energy as Sweden or Malaysia combined.

That has something to do with PoW's need for more sophisticated hardware. Some bitcoin miners carry out the work using massive, sophisticated computing devices.

Proof of stake necessitates far less effort and no specialized tools. As a consequence, it is viewed as a more sustainable choice than evidence of labor. According to the Ethereum Foundation, switching to PoS will lead to a network that consumes over 100% less energy.

Proof of Stake or Proof of Work-based Blockchains

Bitcoin is the most well-known blockchain platform that makes use of PoW. But proof-of-work is also used by other blockchains, including those for Litecoin, Dogecoin, Monero, and Bitcoin Cash.

Both PoW and PoS will ultimately be employed, along with additional alternatives like Solana that include a method called proof of history to approve transactions.

How does it all affect cryptocurrency investors?

The distinction between proof of work and proof of stake is less significant for the average cryptocurrency trader than many other key measures and factors. For investors trying to make wise decisions about which cryptocurrencies to invest in or pass on, information like trade history, market cap, and pricing are more valuable.

The best way to invest in cryptocurrencies, according to experts, is to preserve it to less than 5% of your total portfolio and to avoid doing so if doing so will prevent you from establishing and keeping a sizeable emergency fund or from paying off massive debt like credit card or private loan debt.

In Summary

The act of pledging cryptocurrency assets to a cryptosystem in order to receive incentives in return is referred to as staking. Users that stake their holdings in a protocol automatically contribute to maintaining the system's security, and in exchange, they are rewarded with native tokens.

Given the fact that Proof of Stake miners are only permitted to mine a portion of transactions that are proportional to their ownership stake, as opposed to Proof of Work miners who must expend excessive energy to solve hashing problems, Proof of Stake is arguably a more advanced and scalable blockchain solution.

Proof of Work has thus far proven to be a reliable mechanism for validating activity blocks, although it is neither the most environmentally friendly nor the most effective processing technique. Instead, staking offers a less resource-intensive option that enables users to directly validate blocks by either delegating to network validators or becoming network validators themselves.