Sixteen types of consensus mechanism empower the Top 100 blockchain projects based on market capitalization. Together these projects are responsible for 94% of the total cryptocurrency market. This article describes the highlights of all 16 consensus mechanisms.
The latest release of this article describes Proof of Work, Proof of Stake, and Delegated Proof of Stake. In the coming period, we will enrich this article with descriptions of
Proof of Work (POW) is the first consensus mechanism used by the first chain ever developed, which is the Bitcoin blockchain. Many cryptocurrencies and other chains have since followed suit and have adopted POW. Early PoW versions are Hashcash by Adam Back (1997) and Reusable Proof of Works (2004) by Hal Finney who was also the recipient of the first Bitcoin transaction. Bitcoin's PoW is described in the whitepaper by Satoshi Nakamoto (2008).
The Proof of Work process is known as mining, and nodes are known as miners. Miners solve complex mathematical puzzles that require a lot of computational power. The first miner to solve the problem gets to create the next block and receives a reward for creating that block.
POW uses a 'hash function' to create conditions under which a single participant is permitted to announce their conclusions about the transmitted information to the chain. All the members of the system can independently verify these conclusions. False conclusions are prevented by the hash function's parameters, which ensures that incorrect information will fail to compute acceptably.
While calculating the hash, it should be noted that problems are asymmetric, meaning it will take a lot of time to calculate the correct answer. Once found, the answer is easy to verify. Secondly, the only way to solve these puzzles is trial and error. That means that miners with higher computational power will be able to solve the problem faster. Lastly, the level of difficulty of the puzzles depends on how quickly the blocks are being mined. Blocks have to be created at regular intervals to maintain a consistent supply of currency. If new blocks are being created too fast, the puzzle will get harder and vice versa.
While the Proof of Work mechanism ticks a lot of consensus requirements, it isn't without its faults. First and foremost, the POW system is extremely inefficient because of the sheer amount of power and energy it eats up. Using POW is highly environmentally unfriendly. In addition to this, POW is partial to individuals and organizations with higher computational power. Computational power is extremely costly, and as POW is partial towards it, blockchains that work on POW like Bitcoin aren't as decentralized as desired. Computational power is bundled in so-called mining pools. Today, approximately 70% of the hash rate concentrates amongst six major mining pools.
Proof of Stake (POS) is the environmentally friendly brother of Proof of Work. POS consensus mechanism was introduced in 2011 to solve the problems of the most widely used Proof of Work Mechanism. While they share the same purpose of reaching consensus, the method of reaching consensus is different.
Proof of Stake algorithm uses a pseudo-random election process to select a node to be the validator of the next block. The selection is based on a combination of factors, including the staking age, randomization, and the node's wealth. POS is based on the premise that those who own most coins on the blockchain have a vested interest in maintaining the network and keeping the prices of their coins high.
It should be noted that unlike POW in the POS system, blocks are said to be forged rather than mined. Cryptocurrencies using POS often start by reselling pre-mined coins, or they launch with Proof of Work algorithm and then shift to the Proof of Stake algorithm.
Users who want to participate in the forging process must lock a certain number of coins into the network as a stake. The size of the stake determines the chances of a node being selected as a validator to forge the next block. The bigger the stake, the higher the chances. To not prefer the wealthiest nodes, unique methods are added to the system over time. The most common ones are the Randomized Block Selection and Coin Age Selection.
The main advantage of the POS algorithm is energy efficiency and security. A higher number of users are encouraged to process nodes as it is easy and affordable. This, along with randomized processes, makes the network more decentralized since mining pools are no longer needed to mine the blocks. Since there is less need to release new coins as rewards, the prices of coins using POS as a consensus mechanism stay relatively stable.
While POS has its advantages, the system isn't fault-free. One disadvantage of POS is the only way to acquire coins is from someone who already has them. This may create problems around distribution. Another critic is that currencies kept as stake cannot be traded, and thus these cannot be used as a form of payment.
Ethereum 2.0 is all set to implement the Proof of Stake mechanism to replace their current Proof of Work mechanism to make their blockchain more environmentally friendly and decentralized.
Delegated Proof of Stake (DPOS) is a consensus mechanism first proposed in 2014 by Daniel Larimer (founder of Steemit, Bitshares, and EOS). DPOS aims to be very fast, very secure, and use little energy.
The essence of DPOS is that you appoint someone to secure the network on your behalf. In DPoS, token holders vote to nominate a fixed number of delegates (also called block producers or witnesses). All the token holders can vote, and their votes are weighted based on their stake size. The more tokens they have in their stake, the more influence their vote holds. The selected delegates then become block producers and validate and create new blocks.
Depending on the project, the number of block producers varies from 21 (EOS) to 101 (Lisk). The block producers are continuously ranked based on the tokens allocated (not given) to them. As such, they have a crucial incentive to contribute as much as possible to the network. The most notable DPOS projects are EOS, Tron, Lisk, Steemit, ABBC coin, Bitshares, Ark, and Oxycoin.
DPOS eliminates the need for computing power and thus electricity consumption, making it much more environmentally friendly compared to Proof of Work (PoW). Compared to POS, with DPOS, the number of nodes with write access is limited to the number of block producers. This design boosts the transaction speed, but at the cost of centralization.