Proof of Work vs Proof of Stake

trezor bitcoin wallet

There are two common ways that blockchain networks mine new coins: proof-of-work and proof-of-stake. In this article we’ll explain the difference and what it means for bitcoin, Ethereum, and other altcoins.

Proof-of-work Proof-of-stake
Which blockchain adopts it Bitcoin, Ethereum*, Litecoin Nxt, Peercoin, BlackCoin, Gridcoin
How to select the block creator The one who has the proof of solving a math function. The one who locks up the wealth as a bet to enter a random selection algorithm
Reward Block reward + Transaction fee No block reward, just transaction fee
Hardware reliance Heavy Light
Potential issue 51% attack Nothing-at-stake attack

New to Blockchain?

Before reading you should know that blockchain refers to the record of transactions being sent and received on a network, for example, Bitcoin; and that miners are essentially the bookkeepers of those transactions. 

Proof-of-work: a method which requires miners to validate transactions on a blockchain by working out a mathematical function (called hash).

Proof-of-stake: a method which allows miners to validate block transactions according to how many coins they choose to put at stake on that network (as deposits). Here is a post where the founder of Ethereum explained a design philosophy of PoS.

Both methods exist to serve a common purpose on the blockchain: To validate that the person sending bitcoin (or any digital currency) has the correct amount of funds in their account. And that after the transaction is done, he or she no longer has the coin in their account (aka. to avoid double spending).

And yet, the two take an inherently different approach towards that goal.

PoW v.s. PoS: Buying a shovel v.s. Deposit in a bank

By definition, Proof-of-Work means to solve the hash function and prove the result is correct. While it’s hard to unravel the function, it’s easy for other miners to verify the result once a miner gets it – just putting it back to the function to see if it works out, like an algebraic problem. If it does, congrats! Here’s the prize. So take out your shovel, do the physical work, and show everybody you have mined the gold.

Proof-of-Stake, however, is a mechanism that needs no math. Instead, inside the network, you simply lock up a certain amount of your stake, i.e. your whatever cryptocurrency generated in this blockchain. That is your proof because something is at stake. The network uses a random selection algorithm to determine who the next block creator is, with factors like how many coins you lock up, what the coin’s age is, or how long you have locked up already, etc. Different PoS-based blockchain has various criteria, but the gist is not much hardware work is required. It’s somewhat like deposition and interests.

PoW v.s. PoS: Block reward v.s. No block reward

In PoW-based blockchain, miners do the hard work and will be rewarded. Recall Bitcoin and Ethereum, where a new block rewards 12.5 Bitcoins and 5 Ethers. But there’s another thing called a transaction fee. When you send a Bitcoin to me, that transaction needs to be validated and documented on the blockchain through the hash function math that miners are doing. But they are not doing it for free so you need to attach a transaction fee. The next lucky miner who creates the next block will receive all the transaction fees and the block reward itself, so it’s 12.5+ Bitcoins.

In PoS method, the blockchain has no block reward. Only transaction fees. That’s also why participants in the PoS blockchain should be called validators, not miners. They only facilitate the validation process of transactions without the mining activity like PoW does.

Ethereum Mining

Ethereum Mining

PoW v.s. PoS: Hardware heavy v.s. Light reliance

Because of the hefty math solving, PoW requires supercomputing power. For example, Bitcoin mining involves tons of mining chips which consume lots of electricity, depreciate fast, and could pile up at the landfill.

On the other hand, PoS relies substantially less on hardware. By just locking up your stake inside the blockchain network, you won’t expect a daunting electricity bill as you would from Bitcoin mining rigs.

PoW v.s. PoS: Potential Threat

Following the point above, since PoW mining requires physical hardware, the more powerful mining chips you have, the stronger computing capacity you own, then the more likely you can create the new blocks. It leads to a potential danger when one place accumulates over 51 percent of the entire network mining power. It is then capable of becoming a center, which is the fundamental situation that blockchain tries to eliminate. This is called 51% attack.

On the other hand, PoS imposes a threat called Nothing at Stake attack. The details can be very technical. But the important concept is that just as validators lock up a lot of their stakes, they can also lock up nothing. They may have no chance of creating the next block but because nothing is at stake for them, they have nothing to lose just to purposely mess up the blockchain. This video is recommended if you’d like a more technical explanation.

*Ethereum currently is still running on the proof-of-work protocol. But it is confirmed that proposals for Ethereum to switch to proof-of-stake, known as Casper, are being developed by the network’s founder Vitalik Buterin.

Hot Wallet vs. Cold Storage

bitcoin trezor wallet

 

Can you explain the difference between a Hot Wallet and Cold Storage?

Hot wallet refers to any cryptocurrency wallet that is connected to the internet. Generally hot wallets are easier to setup, access, and accept more tokens. But, hot wallets are also more susceptible to hackers, possible regulation, and other technical vulnerabilities. 

Cold storage refers to any cryptocurrency wallet that IS NOT connected to the internet. Generally cold storage is more secure, but they don’t accept as many cryptocurrencies as do many of the hot wallets. Cold storage devices (aka. Trezor, Ledger) also cost close to $80 USD, where as hot wallets are free. 

Should I buy a bitcoin wallet? 

If you’re going to own more than $100 USD worth of Bitcoin, Ethereum or any cryptocurrencies, you want to buy a cold storage wallet immediately! I use the number $100 USD because that’s how much a cold storage device costs. 

Maybe you’ve heard people say “Bitcoin is so empowering because you can ‘Be your own bank'”? It’s true. You are your own bank. Not Bank of America.  So with that responsibility comes some pros and cons. At the end of the day crypto has fewer middleman fees, and less sloppy bank regulation etc etc, but it is your responsibility to ensure your crypto investments are stored in a safe are yours and yours alone. 

Generally as a rule of thumb you should only leave as much money on your hot wallet as you would with a leather wallet that you’d keep in your pocket. Think of it this way, if you were held at gunpoint while holding a leather wallet, then you’d only lose that money in your pocket, and not your entire bank account. If you keep all your money in Coinbase it’s as if you are walking around town with all your money in your pocket. 

In short, here’s an analogy to help you out: a hot wallet can be though of as a pocket wallet that you walk around town with, cold storage is a bank vault. 

Recap: Hot Wallet Pros & Cons

Pros:

  • Free
  • Quick access to your cryptocurrency (many hot wallets are accessible via your cell phone) 
  • Easy to use, and user-friendly

Cons:

  • Hot wallets by definition are connected to the Internet which means that your cryptocurrency is less secure (e.g. hackers, possible regulation, and other technical vulnerabilities) 

Best hot wallets:

Cold Storage: Pros & Cons

Pros:

  • The most secure option
  • As it’s completely offline this provides a greater level of safety.

Cons:

  • Expensive to buy  ($80 USD+)
  • Not ideal for quick or regular transactions (because I leave one of mine at home, and another in a safe deposit box. I personally don’t know anyone that carries around a Trezor for payments — if you’re that person write it in the comments, I’m sure you will)

Best cold storage bitcoin wallets:

  1. Trezor – Stores BTC, BCH, BTG, ETH, ZCash, Dash (more coming soon)
  2. Ledger Wallet  – Stores BTC, BCH, BTG, ETH, ZCash, Ripple, Dash, ARK, Stellar, (hopefully Monero coming soon) and more

trezor bitcoin wallet

 

Best cold wallet for Bitcoin, etc?

Here at One Month we all use Trezor. Trezor is a hardware wallet on which you can store bitcoin, ether, Dash, Zcash, Litecoin, Bitcoin Cash, Bitcoin Gold and any ERC-20 token. It allows for 2-Factor Authentication, and if you lose your Trezor – as long as you remember your secret password you can quickly regain access to all your keys, money, history, accounts and emails. If you own or are thinking of owning cryptocurrency buy a Trezor.