The Complete Guide to Proof of Stake in Crypto [2023]

Bitcoin’s introduction following the Global Financial Crisis of 2008 was meant to change payment networks, but it ended up changing the world. At its core were novel concepts that have been built upon since, including the consensus mechanism that makes it what it is. Bitcoin, though, isn’t proof of stake.

The “OG” cryptocurrency was designed to be a network of countless computers, with a simple software download all that was required to get hooked up. Back then, Bitcoin was mined on the CPUs of simple PCs, each performing the “work” in proof-of-work.

More than 14 years down the line, Bitcoin is now mined by warehouses and even bunkers stacked with specialized mining computers called ASICs. Unlike the CPU of your PC, these devices have only one job, to mine Bitcoin, and they consume plenty of electricity while doing it.

Thus the arrival of proof of stake. When simple ASIC-resistant protocols led to warehouses simply being filled with GPUs instead, crypto innovators decided to cut out the hardware. Proof of stake, therefore, requires miners—now called validators—to put their money where their mouth is and stock up on coins rather than hardware.

What is a Consensus Protocol?

Before truly understanding proof of stake, it’s best to clarify what exactly needs to be accomplished. Blockchains are so desirable and almost mythical to the uninitiated because they are decentralized and immutable.

Immutability isn’t hard to accomplish. If you chat with your bank and tell them that you don’t have as much money in your account as you should, you’ll find that the bank’s records are indeed extremely immutable—in their favor. If there’s only one person who keeps the ledger, it’s not hard to ensure that it’s iron-clad.

However, cryptocurrencies received criticism of fractional reserve banking itself. True immutability exists only when the ledger can’t be changed once it's finalized. This isn’t possible if you give that ledger to a single custodian. The solution? Everyone with a PC and the desire to take part—decentralization.

In a decentralized network, no one party has the power to change what’s already in the ledger, or inscribe new entries in their favor. The network, or a majority of those with the ability to enter new transactions on the network, needs to agree on which transactions are legit and which aren’t.

This is what a consensus protocol is. Proof of work, proof of stake, proof of authority, even proof of burn—all exist to ensure that the network stores and publishes the correct transactions and information.

What is Proof of Stake in Crypto?

Now that the purpose of proof of work and proof of stake has been established, it’s possible to define it more clearly.

A blockchain’s “blocks” are made up of transactions, all grouped together. Proof of stake is the consensus mechanism that defines which network participants validate these transactions and add them to the blockchain.

When one of these participants, referred to as a validator, is chosen to create a block, they earn a reward. This is generally the entire reason for becoming a validator, because these block rewards provide a level of income that tends to scale with their initial investment.

This is true of proof of work mining as well, where more ASIC miners means a higher chance of a block reward. In proof of stake, that means buying and locking up as much of the network coin being staked as possible.

Some proof of stake networks define a minimum amount required to become a staker or validator. In Ethereum’s case, that’s quite a significant 32 ETH. With that minimum, though, many stakers choose to lock up a lot more since the amount of ETH they earn via block rewards scales accordingly.

As the example of Ethereum shows, proof of stake aims to incentivize network participants to bond their coins to the protocol. It also disincentivizes trading or holding without staking since those individuals aren’t earning the rewards that others are.

How Does Proof of Stake Work?

To become a validator on a proof of stake blockchain, you must first acquire the required amount of the network’s currency. As stated, the relevant amount with Ethereum is 32 ETH or more, but other blockchains may feature less stringent minimum requirements.

The staker then needs to agree to bond their funds to the protocol via a smart contract. This mechanism allows the protocol to hold the staked funds and grants the staker the right to operate a validator node. Assuming the blockchain is truly decentralized and not permissioned, anyone is free to get their hardware set up.

The blockchain’s consensus algorithm selects a node to validate data and add it to the blockchain, with the probability of being chosen determined by the amount of funds locked up.

If the validator does a good job and validates transactions accurately, they are rewarded, but misbehavior or malicious behavior is penalized. The penalty imposed is called “slashing,” whereby the protocol confiscates some or even all of the funds the node operator bonded to the protocol in the aforementioned smart contract.

Therefore, proof of stake is a system based on incentives and disincentives, and validators must offer their own funds as a bond for good behavior.

Proof of Stake Cryptocurrencies

Ethereum is an excellent example of a proof of stake cryptocurrency, but it is a fairly recent one, given that the chain adopted proof of stake consensus only in 2022. That it took the chance underlines the value of proof of stake, but plenty of other cryptocurrencies have used PoS right from the get-go, such as:

• Polkadot (DOT). Founded by the author of Ethereum’s yellow paper, Dr. Gavin Wood, Polkadot is a foundational blockchain that uses proof of stake to support its scalable parachain architecture.
• Cardano (ADA). Also founded by an Ethereum alumnus Charles Hoskinson, Cardano is a fast, scalable blockchain that takes a peer-reviewed, research-backed approach to innovation.
• Cosmos (ATOM).An often unheralded industry giant, Cosmos lends its Tendermint Core PoS to countless other blockchain projects via the Cosmos SDK while expanding an interoperable ecosystem via IBC (Inter-Blockchain Communication).
• Avalanche (AVAX). A network of three blockchains backed by PoS, Avalanche is a radical but interoperable network featuring extreme scalability and high transaction throughput.

The above is just a selection of the top PoS chains out there. In truth, there are an untold number of blockchain projects that use proof of stake, including Polygon, TRON, Tezos, and more.

That’s not even mentioning the project tokens such as Chainlink, DAI, Uniswap, Decentraland, Aave, and Illuvium that all “live” on proof of stake blockchains and, therefore, very much on PoS as well.

What is Proof of Work?

Proof of work is the classic consensus protocol that powered Bitcoin and many of the cryptocurrencies that followed it. Ethereum also used proof of work until the completion of its full transition into proof of stake in September 2022.

In PoW consensus, the network participants responsible for producing and validating blocks are called miners. They rely on the hashing power of their hardware, often a sheer quantity of it assembled at an industrial scale, to solve cryptographic puzzles faster and more efficiently than other miners.

Proof of work is sometimes regarded as the conversion of energy into cryptocurrency, and it has come under criticism for its energy demands. It’s also quite common that proof of work mining outfits gravitate toward locations where energy costs are the lowest.

The Difference Between Proof of Stake vs. Proof of Work

Proof of work and proof of stake are both consensus protocols, and they both use computers to validate transactions on a blockchain. That’s about where the similarities end.

Here’s where the two differ the most:

• Hardware. All investment that a miner, or company wishing to engage in mining, makes is done so in terms of physical hardware, and there are ongoing costs for maintenance, space, and energy. Not so for PoS, which often requires just one moderately powerful server.
• Investment. On the other hand, the investment made by a PoS node operator will be concentrated in the token to be staked. A PoS validator for Ethereum now has to buy and stake lots of ETH, whereas previously an Ethereum PoW miner had to buy many GPUs (Ethereum was not mineable using ASICs). PoW miners don’t need to buy or hold any of the coins they’re mining.
• Battle testing. Proof of work’s history of success goes as far back as Bitcoin does, and it’s clear that a well decentralized PoW network is extremely resistant to attack. PoS hasn’t been in the market quite as long.
• Energy impact. Thanks to PoW’s massive requirement in terms of hardware, it tends to be far more energy-intensive. When Ethereum switched from PoW to PoS, the Ethereum Foundation reported a 99.95% drop in energy requirement.

Proof of Stake Benefits

As the differences between the two major forms of consensus protocol suggest, proof of stake has some very significant benefits. Let’s take a look at what they are in more detail:

#1. Validator Investment

The entire point of proof of stake is for validators to own and hold a significant amount of the network currency. They are incentivized to do so and therefore are even more likely to behave in a manner that supports the health of the protocol since they don’t want to hurt their own investment.

This is in further contrast to proof of work, where miners are incentivized to buy mining hardware rather than coins. Their level of regard for the protocol often only goes so far as the currency being valuable enough to sell profitably—this is worrying for the protocol’s health as a whole since miners are not just network participants but also the ones who make key decisions.

#2. Scarcity

Since validators buy and then lock up tokens to the protocol, network currency is, in effect, taken off the market, and a sense of scarcity is created. This is even more so in protocols that allow delegation since smaller investors can also buy tokens and delegate them to validators.

Scarcity reduces the available supply of a good and therefore tends to increase. This isn’t always true in the murky world of finance, but the transparency of blockchain makes coins and tokens far harder to manipulate than in traditional markets.

Furthermore, PoW miners quite frequently mine crypto and then sell it into the market, either at regular intervals or when prices are high. For those investors regarding PoW coins as assets to hold, miners are considered almost a necessary evil.

#3. Environmental Impact

PoS validator nodes can generally be run with minimal hardware, which is one of the biggest motivators to move away from the older and far more energy-intensive proof of work model.

Proof of Stake Disadvantages

Given that there are still plenty of proof of work blockchains out there, as well as other consensus systems, it can be inferred that PoS isn’t perfect. Here are some of the disadvantages of proof of stake:

#1. Time in Market

Many proponents of proof of work believe that proof of stake hasn’t been around long enough and hasn’t seen enough battle testing. This is certainly true, and proof of work will always have the edge in that regard since it predates proof of stake. It’s also true that PoS may be susceptible to a few certain attack vectors, such as low-cost bribe attacks, that PoW may not.

#2. Wealth and Power Concentration

Proof of work gravitates toward geographies with cheaper energy, and mining power can often be concentrated in these countries. On the other hand, power in proof of stake systems goes to those who possess the most wealth in network currency.

While this is part of the design, it’s possible for very well-capitalized actors to accrue a significant amount of influence over a network and then choose to collude to take it over. While the natural defense of this is that they’re hurting their own investments, plenty of well-capitalized entities have large budgets devoted to “the cost of doing business.”

Key Takeaways

Proof of stake is a new, more energy-efficient system for attaining and ensuring consensus in a distributed network. Blockchains have disrupted and even taken over several industries, and proof of stake as a consensus mechanism may well be the most widespread form of consensus as it takes over the blockchain itself.

PoS features several advantages when compared to the proof of work consensus used by classic cryptocurrencies like Bitcoin and Monero. It shifts the emphasis of network participants away from pure profit to network security and stability since validators have to buy and hold network coins rather than mining and selling them.

Proof of Stake FAQ

#1. Is proof of stake better than proof of work?

They’ve both got their proponents and detractors, but the answer depends on your point of view. For instance, if you are critical of Bitcoin’s energy footprint, you may consider PoS networks to be better.

#2. How does proof of stake work?

Proof of stake requires validators to lock up coins with the blockchain protocol. They then earn rewards proportional to their stake and are penalized with confiscation of their funds if they misbehave.

#3. How do you earn proof of stake?

Suppose you don’t want to be a validator node operator, along with all the technical and hardware requirements. In that case, you should look for a delegated proof of stake currency where you can stake small amounts to validators and earn from them. You can also look into services like Rocketpool and Lido DAO that even let you stake small amounts of currencies like ETH that can’t be delegated.