Cryptocurrencies are trying to change the way the world does business. They aim to streamline the process of various transactions -- from lending money to opening a bank account. The idea is these operations take place on a blockchain network. A central authority doesn't oversee them. Instead, the network must verify transaction data to make sure all information is accurate.
Enter proof of work and proof of stake. They are known as "consensus mechanisms." The result is the same: verification of data and a completed transaction. But the way of getting there is a bit different. Bitcoin (BTC 0.01%), the world's biggest cryptocurrency, uses proof of work. Ethereum (ETH 0.52%), the world's second biggest, started out using proof of work too. But Ethereum now is transitioning over to proof of stake. Is one better than the other? Let's take a closer look.
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Proof of Work
In both proof of work and proof of stake, the verification process involves many computer nodes. These computer nodes verify transactions. And this maintains a decentralized system. Anyone can operate a node -- but you need a good deal of technical knowledge to do it. And if you're involved in proof of work, you also need quite a lot of computing power. In proof of work, nodes compete for the opportunity to verify data by trying to solve complex mathematical puzzles. That's why so much computing power is required.
The advantage of proof of work is this: security and dependability. Manipulation of the system is nearly impossible due to the complexity of the mathematical equations needed to reach verification. The big disadvantages of proof of work are high energy use and costs as well as lack of speed.
For example, Bitcoin uses about the same amount of energy annually as a country the size of Sweden. The cost of high-powered computer systems and maintaining them limits the scalability of the proof-of-work system. And finally, the entire transaction process is far from being the quickest in the industry. Bitcoin processes about seven transactions per second. That's compared to thousands by blockchains using other consensus mechanisms.
Proof of Stake
Proof of stake cuts out the need for complex computations. So, it beats proof of work when it comes to energy efficiency. Instead, the power to validate transactions goes to those with the most holdings of the network's native currency. The idea is those with a significant stake in the system are less likely to manipulate it. And if they do, they could have their stake destroyed.
It's easier for an investor to participate in the proof-of-stake system than in the proof-of-work system. That's because technical knowledge and sophisticated computer systems aren't required. In fact, you don't even have to stake holdings on your own. Exchanges operate stake pools. That means you can commit some of your holdings to a pool and gain rewards in return.
Proof of stake beats proof of work when it comes to speed too. For example, Ethereum only processes 30 transactions per second as a proof-of-work blockchain. The network expects to process as many as 100,000 transactions per second once it's transitioned to proof of stake and launched its shard chains.
So, which is better?
Proof of work still is considered king when it comes to security and decentralization. In proof of stake, validation power constantly given to the largest stakeholders could result in a form of centralization. That can't happen in a system -- such as proof of work -- that relies on solving complex mathematical puzzles.
And that's why proof of work may be the best method for some operations. Financial transactions requiring the highest security might opt for a proof-of-work blockchain.
Proof of stake wins when it comes to speed. It's clear speed is key when it comes to many operations -- from payments to gaming.
All of this means there isn't one particular consensus mechanism that's better than the other on all levels. At least not today. And so there may be room for many consensus mechanisms as cryptocurrencies evolve in this exciting market.
