5 July 2020
Proof of Work
In a Proof of Work system, nodes or “miners” compete to process transactions for users. This competition consists of a race to solve a mathematical problem called a hash problem. This hash problem can only be solved through “brute force” by guessing thousands of random numbers.
This means that PoW miners need to have powerful computers that can quickly produce random numbers and perform complicated calculations. It also means that mining becomes more expensive as more miners join the network – since the difficulty of the hash problem must be raised by the software to accommodate the greater hash power produced by more miners.
PoW networks are more secure the greater the size of the network. And supporters of PoW see this as an advantage.
But critics argue that this prevents PoW networks from being broken down into shards.
No sharding with Proof of Work
Sharding is a system that traditional computer networks use to allow for thousands of transactions per second.
Instead of keeping the entire database on one server, a sharded network breaks the database down into smaller chunks and distributes these chunks to different computers. When a user submits a transaction, it is sent to the particular server that carries the data they are looking for.
This prevents a central server from being overloaded.
Sharding allows large traditional networks like Google, Facebook, and Paypal to process billions of transactions per second without crashing.
But on a PoW blockchain network, every node must keep a copy of the entire database. Due to this, PoW networks cannot be sharded.
If developers tried to create a PoW network with sharding, they would have to break up the blockchain ledger into smaller chunks of data. Each chunk would then need to be held by a smaller number of computers. But these smaller networks would be insecure because PoW is less secure the smaller the network is.
This means that there is an upper limit to how many transactions can be processed on a PoW network. For example, Bitcoin can only process around 4.6 transactions per second, and Ethereum can only process around 15 per second.
If the number of transactions goes above this limit, users find that their transactions get “stuck” and fail to process. And the only way they can prevent this problem is by offering larger transaction fees to the nodes – raising the cost of using the network.
Critics of PoW argue that this inability to scale frustrates users and prevents the mass adoption of cryptocurrency.
Proof of Stake
In a Proof of Stake (PoS) system, block producers are chosen from a pool of users that have coins staked or held in a wallet. The more coins a user has, the more likely he is to be chosen to add a block to the ledger.
PoS nodes are called validators. Validators do not need to spend electricity to solve a hash problem. They need to have enough computing power to process transactions. But there is no additional need to guess random numbers or calculate hashes.
For this reason, the cost of running a validator machine does not increase as more validators join the network.
The number of coins that a PoS node needs to stake is also not determined by the number of total nodes. So PoS networks do not become more secure as they grow in size or less secure as they shrink.
Sharding with Proof of Stake
Because smaller PoS networks can be just as secure as larger ones, they can be sharded by breaking down the blockchain into chunks the same way a traditional database would be.
In a sharded PoS network, each shard is stored by a small subset of nodes on the network. If one node goes offline, there are others available that hold the data the user is looking for. So no one computer controls the shard.
On the other hand, the number of computers holding the shard is small enough that all of them can communicate with each other and update their copies within a matter of seconds.
A shard node only processes transactions dealing with data in its particular shard or to settle balances between its shard and others. For example, let’s say that Joe’s ETH balance is in Shard A, while Bob’s ETH balance is in Shard B. Only the Shard A and Shard B nodes will process the transaction.
This means that users of other shards will be unaffected by this transaction. In other words, users of Shard C will not have to compete with Joe and Bob to get their transactions processed. So they will not have to pay higher transaction fees as transaction volume increases.
Most sharded PoS networks also contain a Beacon Chain or Master Chain. This is a blockchain ledger that contains all transactions that have occurred on any shard prior to a few minutes.
The Beacon Chain exists as an extra security measure in case disagreements arise between shards. But in most cases, merchants will consider a transaction to be finalized when it is processed by the relevant shards – even if it hasn’t been added to the Beacon Chain yet.
There are currently no sharded PoS networks in operation. But Ethereum 2 will use sharding, and it is scheduled to launch later this year.
We will discuss Ethereum 2 in more detail below.
Proof of Stake vs Delegated Proof of Stake
Proof of Stake should not be confused with Delegated Proof of Stake (DPoS).
On a DPoS network, node ownership is not open to everyone. Only validators that are elected by users can add blocks to the blockchain. And each user gets a vote for every coin he owns.
On a PoS network, any user that owns the minimum number of coins and is capable of staying connected to the network can operate a node. The actual block producer is chosen randomly, not voted into office. But the more coins a user has staked, the more likely they are to be chosen as a block producer.
Proof of Stake Coins
Here is a list of the known Proof of Stake coins.
Peercoin was the first-ever PoS coin. In Peercoin, a user is more likely to be chosen as a block producer if their coins have been held in their wallet for a longer period of time.
Nxt was created by users who were unsatisfied with Peercoin. Nxt uses “randomized block selection.” In other words, a user does not have a greater chance of getting chosen if they have held their coins for a longer period of time.
Blackcoin was created by users who felt that other PoS coins had been distributed unfairly.
Blackcoin started off as a PoW coin. But developers announced a timetable in advance for the network to move to PoS. Today, Blackcoin is a pure PoS coin and cannot be mined.
Proof of Stake and Ethereum 2.0
Ethereum is currently a Proof of Work blockchain network. However, the Ethereum Foundation plans to create a new network called Ethereum 2.0.
In Ethereum 2.0, users will be able to burn (destroy) ETH 1.0 coins and be credited with ETH 2.0 coins in exchange. Users with at least 32 ETH 2.0 coins will be able to run validator nodes and earn transaction fees for processing user’s data.
Instead of holding ETH 2.0 in their wallets, validators will need to transfer these coins to a special smart contract to be held as a bond. This bond will be forfeited if the validator attempts to process fraudulent transactions that other nodes reject.
Ethereum 2.0 is expected to launch in several phases over the next few years. The first phase, called Phase 0, should begin sometime in 2020.
Criticisms of Proof of Stake
Some blockchain developers do not support a transition of networks to Proof of Stake.
Critics of Proof of Stake argue that a wealthy validator may be able to buy up a large number of coins and use them to control the network and process fraudulent transactions. These critics also argue that Ethereum 2’s bonded validators system is untested and may prove vulnerable to attacks.
While it is true that PoS systems have proven to be better at scaling than PoW ones, many developers still fear these systems will prove to be insecure.
Regardless, the movement to transition blockchain networks into PoS seems to be gaining steam. So if you’re a blockchain user or investor, this trend will be important to watch in the future.