What is “proof of work” or “proof of stake”?

What is proof of stake?

Ethereum’s developers understood from the beginning that proof of work would present limitations in scalability that would eventually need to be overcome — and, indeed, as Ethereum-powered decentralized finance (or DeFi) protocols have surged in popularity, the blockchain has struggled to keep up, causing fees to spike. 

While the Bitcoin blockchain mostly just has to process incoming and outgoing bitcoin transactions, much like a vast checkbook, Ethereum’s blockchain also has to process a vast array of DeFi transactions, stablecoin smart contracts, NFT minting and sales, and whatever innovations developers come up with in the future. 

Their solution has been to build an entirely new ETH2 blockchain — which began rolling out in December 2020 and should be finished in 2022. The upgraded version of Ethereum will employ a faster and less resource intensive consensus mechanism called proof of stake. Cryptocurrencies including Cardano, Tezos, and Atmos all use proof-of-stake consensus mechanisms — with the goal being to maximize speed and efficiency while lowering fees. 

In a proof of stake system, staking serves a similar function to proof of work’s mining, in that it’s the process by which a network participant gets selected to add the latest batch of transactions to the blockchain and earn some crypto in exchange. 

The exact details vary by project, but in general proof of stake blockchains employ a network of “validators” who contribute — or “stake” — their  own crypto in exchange for a chance of getting to validate new transaction, update the blockchain, and earn a reward. 

• The network selects a winner based on the amount of crypto each validator has in the pool and the length of time they’ve had it there — literally rewarding the most invested participants. 

• Once the winner has validated the latest block of transactions, other validators can attest that the block is accurate. When a threshold number of attestations have been made, the network updates the blockchain. 

• All participating validators receive a reward in the native cryptocurrency, which is generally distributed by the network in proportion to each validator’s stake. 

Becoming a validator is a major responsibility and requires a fairly high level of technical knowledge. The minimum amount of crypto that validators are required to stake is often relatively high (for ETH2, for example, it’s 32 ETH) and validators can lose some of their stake via a process called slashing if their node goes offline or if they validate a “bad” block of transactions.  

 But even if that sounds like too much responsibility, you can still participate in staking by joining a staking pool run by someone else — and earn rewards for crypto that would otherwise be sitting around. This process is often referred to as delegating, and tools offered by exchanges by Coinbase can make it simple and seamless.