As we expected, since the publication of Crypto TREND we have received many questions from readers. In this edition we will answer the most common.
What changes will happen that can change the game in the cryptocurrency sector?
One of the biggest changes that will affect the world of cryptocurrencies is an alternative method of checking blocks called Proof of Stake (PoS). We will try to keep this explanation at a fairly high level, but it is important to have a conceptual understanding of what the difference is and why it is a significant factor.
Remember that the underlying technology with digital currencies is called blockchain, and most modern digital currencies use a validation protocol called Proof of Work (PoW).
With traditional payment methods you need to trust a third party such as Visa, Interact, a bank or a clearing house to calculate your transaction. These trustees are “centralized,” meaning they keep their own personal ledger that stores the transaction history and balance of each account. They will show you the transaction and you have to agree that it is correct, or start a dispute. This is seen only by the parties to the transaction.
With bitcoins and most other digital currencies, ledgers are “decentralized,” which means everyone on the network gets a copy, so no one should trust a third party, such as a bank, because anyone can directly verify information. This verification process is called “distributed consensus”.
PoW requires that “work” be done to confirm a new transaction to enter the blockchain. With cryptocurrencies, this check is done by “miners” who have to solve complex algorithmic problems. As algorithmic tasks become more complex, these “miners” need more expensive and powerful computers to solve problems first. “Mining” computers are often specialized, usually using ASIC (Application Specific Integrated Circuits) chips, which are smarter and faster at solving these complex puzzles.
Here is the process:
- Transactions are combined into a “block”.
- Miner verifies that the transactions in each block are legitimate by solving a hash algorithm puzzle known as the “proof of work problem”.
- The first miner to solve the “proof of work problem” block is rewarded with a small amount of cryptocurrency.
- After verification, transactions are stored in a public blockchain throughout the network.
- As the number of transactions and miner increases and the difficulty of solving hashing problems increases.
Although PoW has helped get blockchain and decentralized, unreliable digital currencies, it has some real drawbacks, especially with the amount of electricity these miners consume trying to solve “proof of work” issues as quickly as possible. According to the Digiconomist Bitcoin Energy Consumption Index, bitcoin miners use more energy than in 159 countries, including Ireland. As the value of each bitcoin grows more and more miners are trying to solve problems by consuming even more energy.
All of this energy consumption just for transaction verification has motivated many in the digital currency space to look for an alternative method of verifying blocks, and the main candidate is a method called “Proof of Share” (PoS).
PoS is still an algorithm, and the goal is the same as in proof of work, but the process of achieving the goal is completely different. With PoS there is no Miner, but instead we have “validators”. PoS is based on trust and knowledge that all people who check transactions have skin in the game.
Thus, instead of using energy to respond to PoW puzzles, the PoS validator is limited to checking the percentage of transactions that reflect his or her share of ownership. For example, a validator that owns 3% of the available airtime could theoretically test only 3% of the blocks.
In PoW, the chances of you solving a proof of work problem depend on what computing power you have. With PoS it depends on how much cryptocurrency you have “at stake”. The higher your bet, the higher the chances that you will break the block. Instead of winning cryptocurrencies, the validator who wins receives a transaction fee.
Validators enter their bet by “blocking” part of their fund tokens. If they try to do something harmful against the network, such as creating an “invalid block”, their share or collateral will be confiscated. If they do their job and do not break the network, but do not win the right to check the unit, they will get back their share or deposit.
If you understand the basic difference between PoW and PoS, this is all you need to know. Only those who plan to become miners or validators should understand all the intricacies of these two verification methods. Most of the general public who wants to own cryptocurrencies will simply buy them through an exchange rather than engage in actual mining or verification of block transactions.
Most in the crypto sector believe that in order for digital currencies to survive in the long run, digital tokens need to move to the PoS model. At the time of writing, Ethereum is the second largest digital currency after Bitcoin, and their development team has been working on its PoS algorithm called “Casper” for the past few years. It is expected that we will see that Casper will be implemented in 2018, which will put Ethereum ahead of all other major cryptocurrencies.
As we have seen before in this sector, major developments such as the successful introduction of Casper could raise prices for Ethereum. We will keep you posted on upcoming issues of Crypto TREND.