Beginner’s Guide to the Proof-of-Stake Consensus Mechanism

Beginner’s Guide / 10.12.2019

Proof-of-Work, the mechanism to secure a decentralized network, was first introduced in the Bitcoin protocol, back in 2009. It was a revolution in its own right, because of its ability to allow the flow of value and information over the internet, without the risk of being attacked. Since then, Proof-of-Work or PoW has been implemented over various other protocols like Ethereum, Dash, Litecoin, and it has achieved great success.

But as it is always said, there are always trade-offs. To help secure a network, PoW asks for something in return, something that disincentives actors to work against it. In most cases, PoW requires huge amounts of investment in equipment and energy. The nodes running PoW have to contribute huge amounts of electricity in order to secure the network. In June 2019, the energy required by the entire Bitcoin Network crossed the total energy need of the Czech Republic, and since then the need has only gone up.

There was a dire need for an alternative mechanism that did not require as much power and at the same time could secure the network. Dozens of alternatives to the PoW mechanism were introduced over the last decade. Out of the lot, the consensus mechanism Proof-of-Stake has come out to be the most widely favored.

In a previous article, we have discussed the differences in various consensus mechanisms that have been introduced. Today, we will dive deeper into the Proof-of-Stake consensus mechanisms and discuss the innovations and advantages of the protocol.

What is Proof-of-Stake (PoS)?

“In proof of stake, besides incentivizing honesty, dishonesty is discouraged.” – Mohit Mamoria, Is Proof of Stake the solution?

Proof-of-Stake (PoS) is a typical computer algorithm through which some cryptocurrencies achieve their distributed consensus. It is in many ways an alternative to the Proof-of-work algorithm by achieving the same distributed consensus, at a lower cost and in a more energy-efficient way.

Proof of Stake takes away the energy and computational power requirement of PoW and replaces it with a stake. A Stake is referred to an amount of currency, that an actor is willing to lock up for a certain amount of time. In return, they get a chance proportional to their stake to be the next leader and select the next block, ultimately gaining the network reward.

PoS uses a time-stamping method to reach a consensus about a block by betting on it. This process alone opens a variety of criticisms. Say the betting amount is set to 10,000 ABCoin, and the average holder has about 20 ABCoin. So, anyone with the minimum betting requirement is bound to get richer with each block while the others wait for the chance to place a bet. Not everyone can afford to be a staker. It can be argued that over a period, the gap will become significant, and therefore, the power to influence the ABCoin network will lie in the hands of a few, not unlike the current state of the Bitcoin PoW network.

Iterations of PoS

If you think of Proof-of-Stake to be ice cream, then you can also imagine there to be a lot of flavors of the ice cream. Different people favor different flavors, and similarly, different projects favor different iteration of the PoS mechanism. They differ in algorithms, incentives, and pools among other things.

These variations are not always clear and could cause some confusion when purchasing proof of stake coins. And so, we are here to clear the confusion for our readers, to help them make better-informed decisions.

PoS

Proof of Stake is a consensus method that essentially replaces mining with token ownership. Instead of having to perform complex calculations, a token holder participates in block creation by “staking” their tokens, i.e. keeping them in a specific location and not spending them. The staker is then granted a reward, which could take the form of transaction fees or a block reward based on the new tokens generated for blocks their stake helped create.

The chance that a staking token holder will earn those rewards is generally proportional to the number of tokens they are staking, so that someone who stakes more tokens has a higher chance of generating blocks and will thus earn more. The staking requirement helps ensure that the people generating blocks have “skin in the game” — the more tokens they have, the more often they’ll earn rewards because their ownership makes it less likely that they’re trying to harm the network.

Projects Running on PoS

  1. Ethereum (Proposed)
  2. Neo
  3. Decred

DPoS

Delegated Proof-of-stake or DPoS, is a consensus mechanism that builds on the traditional PoS mechanism. This consensus mechanism was created by Daniel Larimer in order to solve Bitcoin’s perceived scaling problems. Since then, DPOS has proven to scale and is the consensus mechanism behind the 3 most active blockchains running today. It is similar to a democratic process where around 20 representatives are selected as the block producers for a blockchain.

The Delegated Proof of Stake (DPoS) consensus algorithm is considered by many as a more efficient and democratic version of the preceding PoS mechanism.

A DPoS-based blockchain counts with a voting system where stakeholders outsource their work to a third-party. In other words, they are able to vote for a few delegates that will secure the network on their behalf. The delegates may also be referred to as witnesses and they are responsible for achieving consensus during the generation and validation of new blocks.

Therefore, the DPoS algorithm creates a voting system that is directly dependent on the delegates’ reputation. If an elected node misbehaves or does not work efficiently, it will be quickly expelled and replaced by another one.

Concerning performance, DPoS blockchains are more scalable, being able to process more transactions per second (TPS), when compared to PoW and PoS.

Projects running on DPoS

  1. EOS
  2. Tron
  3. Cardano
  4. Lisk

Hybrid PoS and PoW

The objective of a Hybrid Proof of Work and Proof of Stake systems is to capture the benefits of the respective approaches and use them to balance each other’s weaknesses.

A new wave of consensus models have been created to take advantage of the benefits of both PoW and PoS systems.

There is typically a requirement that these special nodes hold a certain amount of the currency as collateral, to demonstrate that they can be trusted to act in the network’s best interests, which is just like the rationale for Proof of Stake. Dash is the original masternode coin and refers to this model as Proof of Service. This article focuses on hybrids with a Proof of Stake component and will not consider the array of coins which emulate masternodes or Proof of Service.

Decred and Dash are among the few cryptocurrencies to utilize both PoW and PoS in recognizable forms and merge them together to produce a multi-factor or hybrid consensus mechanism.

Projects Running on Hybrid PoS and PoW

  1. Dash
  2. Decred

Masternodes based PoS

Masternode coins” are, in some senses, also hybrids, in that they have a recognizable Proof of Work component that performs a similar role as in Bitcoin, and an additional role for special nodes..

Masternode is simply a cryptocurrency full node or computer wallet that keeps the full copy of the blockchain in real-time, just like you have Bitcoin full nodes and is always up & running. But masternodes are considerably different in their functionality than normal nodes.

Due to their inherent inclusion of nodes into the incentive system, Masternodes can also be customized to carry out dozens of other features. Governance, Privacy, Voting, etc., can be carried out through the Masternodes, as they effectively help in running the network.

Projects running on Master-node-based PoS

  1. PIVX
  2. ZCoin
  3. Divi Coin

Hope this small guide helps our readers in understanding the intricacies and iterations of the Proof-of-Stake protocol and help them make better decisions regarding the same.

To know more about the different types of consensus algorithms, check our write up here.

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Sudarshan M is a long time crypto-enthusiast. Pulled in by bitcoin early on, it did not take long for Sudarshan to divert all of his academic attention from business studies to blockchain by doing his Masters and eventually pursuing his PhD in the subject.