A comparison between the two main consensus algorithms: functionalities, advantages, and disadvantages.
Consensus algorithms dictate how transactions are verified and how new coins are issued in a decentralized network.
The consensus mechanism employed determines how the network can update and modify the information contained in the transaction ledger.
Proof of Work (PoW)
The first implementation of Proof of Work, the algorithm underlying Bitcoin mining, was developed in 1997 by Adam Back in the Hashcash project, a system designed to prevent denial-of-service (DoS) attacks and email spam.
As the name suggests, PoW requires ‘proof’ that a certain amount of ‘work,’ in terms of technological and energy resources, has been done to create a new block in the blockchain and obtain the block reward (block subsidy + fee).
To understand how the right to write a block in the Bitcoin blockchain is obtained, refer to the in-depth analysis by Atlas21 on mining.
Strengths of PoW
The advantages of PoW are primarily three:
- Security: the PoW algorithm has proven to be the most secure over time. The computational power required to control 51% of the network makes attacks prohibitively expensive.
- Decentralization: mining activity is distributed worldwide, with various mining pools located in different countries.
- Energy consumption: despite various criticisms of its energy consumption, PoW allows a return to a paradigm similar to the gold standard, where a significant amount of resources and work is required to obtain a scarce and valuable asset.
Limitations of PoW
- Mining pools: over the years, PoW has incentivized the creation of mining pools, groups of miners that join forces to increase their chances of confirming a block and winning the reward. This concentration of computing power in the hands of a few mining pools can be addressed with the implementation of the Stratum V2 protocol, allowing individual miners to select transactions to include in a block.
Proof of Stake (PoS)
Proposed in 2011, Proof of Stake has emerged as an alternative to PoW. PoS does not rely on ‘proof of work’ but rather on the allocation of capital invested in the coin, known as ‘stake.’
To select the next block ‘validator,’ a lottery is conducted where those with more locked funds have a greater chance of winning and earning transaction fees as a reward. This mechanism can lead to long-term centralization in Proof of Stake.
Limitations of PoS
- Centralization: as entities with the highest number of coins have the greatest likelihood of being selected as block validators, the PoS model may lead to increased centralization over time, consolidating control of the network in the hands of a few.
Strengths of PoS
- Management efficiency: despite deviating from the concept of disintermediation, one consequence of PoS centralization is the ability to propose changes and implement updates more quickly, relying on a smaller team and following the ‘move fast and break things‘ development approach.
