Proof of Stake consensus winning the battle of scalability and sustainability

Market Insights Mar 26, 2021

Proof of Work (PoW) is the consensus algorithm introduced in 2008 by Satoshi Nakamoto in the Bitcoin white paper. Used by major cryptocurrencies, it remains today the dominant one. The mechanism aims at preventing double-spend which, in the context of digital money, applies when someone copies and spends the same units in different places.

A blockchain is arranged in blocks so that no user is allowed to spend any of their holdings twice. A transaction is only considered valid when a candidate block is confirmed, meaning it has been added to the blockchain. For that, the miner (the user creating the block) uses computer power, until he finds a solution to the puzzle, in a combination of game theory and cryptography. When the miner finds a valid solution, he is rewarded with cryptocurrency. Then, he gets the right to add the new block to the network and the other participants update their blockchains to include the new block.

But, for major digital assets today, the conditions are incredibly challenging to satisfy in terms of computational cycles and electricity. Moreover, the process is slow as the PoW consensus can lead to higher block time.

Proof of Stake (PoS) consensus algorithm was first designed in 2012 by Sunny King as an alternative to PoW to tackle its inherent issues. While both algorithms share the same goal of reaching consensus in the blockchain, the process is quite different as PoS rewards validators and stakers based on their staked tokens. This way, instead of utilising energy to answer PoW puzzles, a PoS validator is limited to verifying a percentage of transactions reflecting his ownership stake. For instance, a validator who owns and stakes 3% of the Tezos available can theoretically mine only 3% of the blocks.

While more than 90% of PoS blockchain has its particular staking currency, some networks such as NEO adopt a two-token system where the rewards are paid in a second token.

The production of blocks through staking enables a higher degree of scalability for blockchains. This is one of the reasons why Ethereum network has planned to migrate from PoW to PoS in a set of technical upgrades collectively referred to as ETH 2.0. The shift in the fundamental architecture of the Ethereum blockchain signs a new era for PoS and other opportunities tied to the rise of this alternate consensus mechanism are emerging, such as Cardano (ADA), Tezos (XTZ), Polkadot (DOT), Cosmos (ATOM), and more.

There are many different PoS digital assets and they all have a unique value proposition.

Tezos pioneered PoS and is still evolving as a self-amending protocol with decentralised governance. Cosmos and Polkadot differentiate themselves by their focus on interoperability with other blockchains in their ecosystem. Chains such as Matic and Skale are focused on Ethereum Layer 2 scalability. Binance Smart Chain has taken an interesting approach to PoS with a small set of 21 elected nodes and full EVM (Ethereum Virtual Machine) compatibility.

The ten biggest digital assets by stake value are listed in the table below, as of the 24th of March. The annual reward of each coin in the top varies between 6 and 26%, which is quite a large bracket. With PoS and cryptocurrencies being such nascent technologies, many protocols are still in an experimentation phase in regard to their consensus and economic parameters. PoS rewards are usually based on the inflation of the total supply of token. These inflation rates, which are sometimes decided before launch, are actually very dynamic as they depend on parameters such as staking ratio and decentralised governance decisions.

Source: https://stakingrewards.com/

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Caroline Jacquard

Seasoned marketing manager with 15+ years of experience in the financial industry: traditional finance, alternative investment and digital assets. Advisor @trakx.io