Proof of Work versus Proof of Stake and the link to Dog coin memes

Well, although I have been involved in crypto for 4 years now, one area that I know very little about and still struggle understanding is proof of work (POW) versus proof of stake (POS) and on alternative (derivative) variations of those such as delegated proof of stake and proof of authority.

So I thought it might be helpful to put what I do know done in the hope that it helps others who may be in a similar quandary!

What do these refer to?

They all refer to the way mining (read blockchain validators and thus block producers) is enacted on different blockchain platforms and how blocks and thus the longest and most accurate chain is produced/confirmed for any coin on the blockchain.

It’s extremely important to align miners towards confirming absolutely the longest, most accurate chain as otherwise the data in the chain is at risk of being subject to change and hence bad actors can do things such as erase history and cause double spend attacks. Double spending is where a miner or bad actor can use the same coin they have spent in one place in multiple places as they erase from the chain history that they have spent it already and so can repeatedly spend the same coin. Immutability and untamperable history is a huge selling point of blockchains.

Proof of Work

Pros of POW

In 2013, all coins that were launched were all proof of work algorithms which means that miners run software to create new blocks and the longest chain was the “truth” and would be built on by the next miner who won the race to decrypt the next block and earn the fees and coin awards (say BTC) for winning that race.

The “cost to double spend” is measured in how expensive and logistically difficult it would be to obtain 50%+ of the network and start freezing transactions or interfering with the blockchain. Bitcoin (BTC) and Bitcoincash (BCH) uses a hashing algo called dSHA256 and the computing power behind dSHA256 miners is vastly more powerful than any computing network in the world. This means that they can likely even resist very sophisticated state-level attacks on it’s network. The miners are decentralised around the world and have invested likely over $100B in equipment.

Cons of POW

By far the biggest negative of POW is the electricity costs needed to run these machines. This has become topical this week as Elon Musk brought this subject to the front pages of the news and thereby causing BTC to come off by 17% in 24 hrs. Miners are increasingly using renewable energies and more and more efficient machines but nevertheless its heavy cost. BTC is by far the worst offender as the most dominant coin and also with their community’s determination to keep block sizes unrealistically low. With bigger block sizes allowing 100x more transactions for the same level of energy usage.

Proof of Stake

Pros of POS

POS is often touted as a solution to this problem of energy usage and has been adopted by more and more coins. The most notable that is moving to this model is Ethereum in 2.0. With POS, miners stake at least 32 ETH say and become a node and validator on the network. The argument goes that, as miners know with certainty that they will get a certain allocation of coins from network inflation regardless of the energy spent, they don’t need to aggressively own and run more and more mining equipment and so it doesnt become an arms race for number of machines and hence excessive electricity costs. Instead it simply becomes an arms race to own as much of the coins (ETH) as possible.

Cons of POS

Rich become richer

Whilst it’s great that you can stake your bags and earn more it means that new entrants have no chance to participate and hence the rich get richer analogy. Imagine if Satoshi was around and staked his coins under POS, very few people would have a chance to participate economically.

Also there is a 32 ETH minimum for staking on ETH2.0. This means that smaller investors simply cannot stake without going through a centralised pool or exchange and giving up their governance/voting/decision making power on the network. The end result will be that on any POS network, the biggest stakers will always be exchanges — which are already huge honeypot attack vectors for governments and regulatory bodies.

Any government looking to control, regulate, handicap or cripple cryptocurrencies should be a huge fan of PoS, with as high a minimum coin amount and as complex a setup process as possible.

Nothing at stake

In my opinion, the biggest issue under POS is the nothing at stake quandary. This is that under POW it’s expensive to confirm multiple chains due to electricity costs (a physical, real cost external to the system) and so you are incentivised to block produce on the longest or most correct chain. It is a powerful incentive to stay “honest” as a miner. Under POS as it doesn’t cost anything to validate blocks on multiple chains or change your mind as to which is the valid chain, unless a credible method is in place to penalise miners/validators, a miner should just validate every block they see as there is no downside in doing that with only upside in that they make get multiple rewards.

“Slashing” has been said to be a solution for this where miners will be penalised with stake fines (hence the term slashing) for misbehaving or picking the “wrong” blockchain, thus incentivising miners/nodes to take great care to be on the same chain constantly. However it is not clear how this will solve the nothing at stake issue as:

  • If the slashing penalty is too low, then miners can still potentially misbehave by changing their mind on chains or by validating blocks on multiple competing chains
  • If the slashing penalty is too high, then miners will be disincentivized to switch to another chain even though that is the longest chain as they may have already confirmed another chain

This may not be a resolvable problem. The Satoshi Nakamoto style solution to the “Byzantine Generals” problem is a powerful game theory solution to a problem that’s been worked on in computer science for decades.

As such there are serious issues around chain convergence under POS compared to POW

Hacking

A smaller risk but a risk nevertheless is that under POS, miners have to expose their hot wallets to sign when message validating. There are mechanisms around protecting their private keys but it is a risk.

Proof of Authority (POA)

Is an interesting concept that smartBCH is using for block producers where validating nodes must prove they have hash rate on BCH’s POW mainnet chain (the BCH network) is combined with POS on the side or Layer 2 chain to prove your authority to produce blocks.

Final thoughts

As much as crypto diehards might be upset at Elon Musk’s negative comments this week on energy costs of securing BTC, it is an important discussion to be had in the industry and beyond. Crypto is the future of money and as such Elon should also compare the energy costs of securing USD which he conveniently omits and is far higher.

Weighing the pros and cons above, I for one am a believer in POW but not at any cost. It’s one of the reasons (along with transaction fees) that I have become keener on understanding and owning more BCH in my portfolio as bigger blocks and more transactions have a huge and positive impact on the “transactions value/cost of producing a block” ratio.

As technology advances (Moore’s law and all that) I hope that the combination of more and more efficient machines and more use of renewable energy by miners will mean that POW continues to do its more fair and good work.

As for the mention to dog coin memes….meh…no idea, just put it there in the hope that more people may bother reading to the end!

Cofounder, CoinFLEX. All opinions my own.