Two of the most confusing terms people will find when doing research on cryptocurrencies, NFTs, and blockchain technologies, in general, are proof of work and proof of stake—these are the two most widely employed consensus mechanisms that blockchains use to validate transactions
Consensus mechanisms determine the approach that each blockchain uses to guarantee security and transparency in a decentralized environment, as well as the way in which computational power from nodes is employed to carry out these processes efficiently.
What is a Consensus Mechanism?
Blockchain systems process and validate transactions recording information in a database or ledger across various nodes. The nodes are computers or other devices that record those transactions. To ensure that transactions in the blockchain are valid, the information in all the nodes must coincide, reaching a consensus.
The consensus mechanism is the method used by the blockchain to reach that consensus or to verify that the data in all the nodes is the same, ensuring that no external party has altered it in any way. These mechanisms are a central part of what sets blockchain systems from centralized systems, where a single entity manages and updates the data.
Proof of Work vs. Proof of Stake
The two most popular consensus mechanisms, Proof of Work (PoW) and Proof of Stake (PoS) are present in almost every one of the largest blockchains in existence, such as Bitcoin and Ethereum. However, there are other types of consensus mechanisms like Proof of Capacity and Proof of Activity.
Proof of Work (PoW)
The popularity of PoW systems is owed in no small measure to the fact that they’re employed by the largest and oldest blockchain in existence, Bitcoin.
In PoW systems, nodes are required to solve a mathematical problem of increasing complexity in order for the network to expand, preventing any single party from altering the system on its own.
Network expansion in a blockchain such as Bitcoin reflects in an increase in the number of cryptocurrency tokens available and in circulation. This process is known as mining, which requires exceptional amounts of computing power but rewards those who solve the mathematical puzzle with new tokens.
PoW also ensures that transactions in the blockchain can be carried out on a peer-to-peer basis, within a secure environment, and without the need for trusted third parties, centralized entities, or intermediaries.
Proof of Stake (PoS)
PoS follows a similar logic to PoW, as they’re both consensus mechanisms that validate transactions in a blockchain. However, it was created as an alternative to PoW and differs in important ways. Chief among them is the fact that nodes validate transactions based on stakes.
In PoS systems, validators need to stake certain amounts of cryptocurrency coins for a chance to validate transactions and benefit from the emergence of new coins. Validators are chosen randomly, with higher stakes leading to higher chances of being chosen.
Ethereum is one of the most prominent blockchains to use a PoS system, where users are required to stake 32 ETH (around U$62,000) for a chance to become validators. Blocks of data are validated as multiple validators are chosen. If the data between all the validators coincides, the consensus is reached and the block is finalized and closed.
PoS offers some advantages over PoW, primarily, the fact that the validation process requires far less computing power and energy, making the blockchain potentially more scalable, and allowing for faster transactions.
Nonetheless, the advantages that PoS gains in scalability comes at the expense of some degree of decentralization compared to PoW, as users with higher amounts of cryptocurrency will tend to have more control over validation processes.
Nevertheless, for a user to truly take over the validation processes in a PoS system, they would have to own over 50% of the token, which is highly unlikely for most PoS blockchains. Therefore, it is generally considered that PoS systems are more advanced and efficient than PoW ones.
Why are Consensus Mechanisms Important?
Consensus mechanisms are the core of the functionality of a blockchain system. They are the element that allows blockchains to function safely and transparently in a decentralized environment.
Some of the most important variables that allow a blockchain to function and grow depend on the consensus mechanism, such as scalability, security, and the degree of decentralization.
Whether the blockchain will be able to grow, increase its amounts of tokens and support higher translation volumes and speeds will largely depend on the consensus mechanism.
Another important aspect of consensus mechanisms relies on the discussion surrounding the environmental concerns about blockchain. Consensus mechanisms determine the amounts of computing power and energy that blockchain uses, so the only way a blockchain can be truly environmentally friendly is by having a highly sophisticated and efficient consensus mechanism.
For anyone who wishes to make a long-term investment in a cryptocurrency or fund a new blockchain project, it is important to understand the nuances of the consensus mechanism that is going to be employed.