What do Proof of Work and Proof of Stake means? Consensus algorithm explanation.

What the difference between PoW, PoS, DPos? A simple explanation of one of the most important concept for the entire crypto industry.

Nov 16, 2022

Blockchain consensus is the procedure by which network participants agree on the current state of data on the blockchain. Through this, consensus algorithms establish reliability and trust in the blockchain itself.

Why does a blockchain need a consensus algorithm?

The consensus algorithm provides the backbone of all cryptocurrency blockchains and ensures their security. Before we go on to look at the different consensus algorithms, we need to define what consensus means for blockchain.

Blockchain is a decentralized, distributed, and commonly public digital database that is used to record transactions. Each such transaction is recorded as a "block" of data, which must be independently verified by peer-to-peer computer networks before it can be added to the chain. This system helps to protect the blockchain from fraudulent activity and solves the problem of "double-spending".

To ensure that all participants ("nodes") in a blockchain network agree on one version of the story, blockchain networks such as Bitcoin and Ethereum implement consensus algorithms (also known as consensus protocols or consensus mechanisms). These mechanisms aim to make the system fault-tolerant.

What are consensus algorithms?

Consensus is the process by which a group of peer nodes (nodes) in the network determines which transactions in the blockchain are valid and which are not. Consensus mechanisms are the techniques used to achieve this consensus. It is these sets of rules that help protect the network from malicious behavior and hacker attacks.

There are many different types of consensus mechanisms, depending on the blockchain and its application. While they vary in power, security, and scalability, they all have one goal: to ensure the validity and integrity of records. Here is an overview of some of the most well-known types of consensus mechanisms used in distributed systems to achieve consensus.

Proof-of-Work (PoW)

Used in Bitcoin, EthereumPoW, and many other public blockchains. Proof-of-work (PoW) was the earliest consensus mechanism ever created. It is considered the most reliable and secure of all consensus mechanisms, despite existing concerns about scalability. Although the term "Proof-of-Work" was introduced in the early 1990s, it was Bitcoin founder Satoshi Nakamoto who applied the technology in the context of digital currencies.

In PoW, miners essentially compete against each other to solve extremely complex computational puzzles using powerful computers. Whoever comes up with the first 64-digit hexadecimal number ("hash") gets the right to form a new block and confirm transactions. The successful miner is also rewarded with a predetermined amount of cryptocurrency, known as a "block reward.

You can find a detailed explanation of how blockchain works in our last article: What is blockchain: the simplest explanation.

Since generating new blocks requires a large number of computing resources and energy, PoW transactions are expensive. This is a barrier to new miners, leading to concerns about centralization and scalability limitations.

And it's not just the high costs. The most common criticism of PoW is the impact of electricity consumption on the environment. This has led many to look for more sustainable, energy-efficient consensus protocols such as Proof-of-Stake (PoS).

Proof of Stake (PoS)

This popular consensus algorithm is based on a process known as "staking". In a Proof of Stake (PoS) system, miners must "freeze" some tokens in their wallet to get a chance to be randomly selected by the system as a "validator". This process is similar to the lottery, where the more coins you bet, the higher your chances.

“Staking” is the process of locking up cryptocurrency assets for a reward.

Unlike PoW, where miners are incentivized with a reward per block (new coins created), those who contribute to the PoS system simply receive a commission per transaction.

PoS is seen as a more sustainable and eco-friendly alternative to PoW, as well as being more secure against “51% attacks”. However, because the system favors organizations with a large number of tokens, PoS has drawn criticism that it can lead to centralization.

Delegated Proof-of-Stake (DPoS)

A modification of the PoS consensus mechanism, delegated share proof (DPoS) relies on a reputation-based voting system to reach consensus. Network users "vote" to select "witnesses" (also known as "block producers") to secure the network on their behalf. Only the top-level witnesses (those with the most votes) are allowed to validate transactions on the blockchain.

To vote, users add their tokens to the stacking pool. The votes are then weighted according to the size of each voter's share - the more coins they have in the stacking pool, the more eligible they are to vote. Selected witnesses who successfully validate transactions in the block receive a reward, which is usually shared with those who voted for them.

Top-tier witnesses are always at risk of being replaced by those who are considered more reliable and therefore receive more votes. They may even be removed from the list if they fail in their duties or attempt to confirm fraudulent transactions. This encourages witnesses to always remain honest, ensuring the integrity of the blockchain.

Although DPoS is less popular than PoS, many people consider it more efficient, democratic, and financially inclusive than its predecessor.

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