For blockchains to operate as decentralised platforms, the nodes taking part in that particular network have to be able to reach consensus in order for the blockchain database to be updated. 

Here, the consensus mechanism refers to the method a blockchain uses to validate and ensure the legitimacy of the data stored in the blockchain. It is only with a working consensus mechanism can new blocks be approved and added into the chain. At the same time, a consensus mechanism ensures that users of the cryptocurrency do not double-spend their digital currency. 

However, because blockchain technology is still in the process of being developed and worked on, different forms of consensus mechanisms are being adopted by cryptocurrencies. Amongst them, the Proof of Work and Proof of Stake mechanisms are the most utilised ones. 

Proof of Work (PoW)

As a protocol adopted by the popular cryptocurrency, Bitcoin (which uses the SHA-256 hashing function), PoW is a system that works by requiring ‘miners’ to solve complicated cryptographic puzzles so that blocks can be added onto the blockchain. 

For example, for a cryptocurrency like Bitcoin, the mining nodes compete with each other to solve a mathematical problem that includes the hashing function. As the problem is extremely complicated, all the participants will have to use the brute-force method (trying all possible solutions) in order to find the solution. However, while the solution is difficult to find, the verification of the answer is simple and all the nodes in the system can help to verify the correctness of the function. 

Once the solution to the mathematical problem is found and verified, the block is then ‘mined’ and can be added to the blockchain. As a reward, the miner who found the solution will be rewarded with newly minted Bitcoin (for the Bitcoin network). 

The Issues With The PoW Protocol

As the PoW protocol requires all participating miners to compete and solve extremely intricate problems, the process requires a large amount of energy and computational power. In fact, according to the Cambridge Centre for Alternative Finance (CCAF), Bitcoin currently consumes around 0.55% of global electricity production annually. 

This means that running a blockchain with the PoW protocol creates an extremely large carbon footprint that many want to avoid. 

Proof of Stake (PoS)

In order to reduce the environmental footprint and computational power required for the PoW consensus mechanism, Proof of Stake (PoS) was developed. Cardano (ADA) is an example of a blockchain that uses this consensus protocol. 

The PoS protocol utilises validators who lock up some coins as a ‘stake’ instead of miners who solve mathematical problems to validate transactions. After a block of transactions has occurred, the protocol uses an algorithm (that differs for each blockchain) in order to choose validators by random that will verify the transactions. 

Once the transactions are verified, the block is added to the blockchain and the validators will be rewarded with some of the cryptocurrency. 

PoS protocols often include some form of penalty to deter validators from adding incorrect blocks to the blockchain. Some of the staked coins will be taken away from a validator who ‘verifies’ a block with altered/inaccurate information (and is caught by the other randomly picked validators).

With this system of staking coins, blockchains can considerably reduce the amount of computational work required for the blockchain to function, allowing the network to be less wasteful. At the same time, with validating, the barriers to entry are much lower (as compared to mining) because of the lower hardware and energy requirement. This aids in the blockchain’s decentralisation by encouraging the development of new nodes.

The Development of Even More Consensus Protocols

However, even with the benefits of the PoS protocols, PoS is not the ideal consensus mechanism (as it comes with its own drawbacks). 

With the constant development of blockchain technology, the search for better and more efficient consensus mechanisms remains an ongoing process that will likely continue for a long time to come. 

Amidst the constant developments in blockchain technology, Regtank remains committed to helping firms remain compliant with the latest regulatory laws, as well as keeping up the fight against ML/FT activities.

Contact us at info@regtank.com for a demo!