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Proof-of-stake (PoS) is a cryptocurrency consensus mechanism designed to prevent fraud by paying users to vouch for the legitimacy of transactions.
» Learn more about how staking works
The main alternative to proof-of-stake technology is proof of work. The first and most valuable cryptocurrency, Bitcoin, is an example of crypto that uses proof of work, relying on Bitcoin mining rather than staking.
Proof-of-stake cryptocurrencies have some advantages. For example, staking uses dramatically less energy than mining, and the financial barriers to entry with staking can be lower. However, proof-of-stake cryptocurrencies also carry risks, such as possible losses related to mistakes or fraud. These are just a few of the differences between proof of work and proof of stake.
» Learn more: The best platforms for staking
Understanding consensus mechanisms
Proof of stake is known as a blockchain consensus mechanism. Here’s what that means:
Because most cryptocurrencies have no central authority keeping track of transactions and balances, their underlying systems need a way for users to agree on who owns what.
Theoretically, any user can attempt to update the shared ledger of historical transactions, so developers have designed ways to prevent fraud or mistakes from getting through. They do this by aligning users’ economic incentives around keeping an accurate record.
Using proof of stake is just one way of doing that.
» Learn more: How to buy cryptocurrency
How proof of stake works
Proof-of-stake cryptocurrencies allow people who use the network to gather records of transactions and propose them for inclusion in the permanent record of their underlying blockchain.
» Learn more: What are altcoins?
While this process is technical, everyday users of cryptocurrencies can participate in it if they have a basic understanding of how it works.
Some users, often those who have extensive holdings in a cryptocurrency, can act as validator nodes. Their computers do the actual work of collecting network transaction data and submitting it for inclusion.
Validator nodes whose “blocks” of transactions get added to the ledger are given a reward in the form of cryptocurrency, so there's stiff competition to be the one whose information the network selects. Validators can increase their chances of winning a block by putting cryptocurrency at stake. Basically, the more they have on the line, the better their chances of winning a reward.
It’s not a risk-proof proposition. For example, validators on some blockchains can lose part of their stake — in a process called slashing — if they submit inaccurate information or sometimes if their computers go offline unexpectedly.
So how do regular people get in on the proof-of-stake game? Anyone who owns a proof-of-stake cryptocurrency can “delegate” their crypto to a validator with more network power than they have.
There are a few ways to do this. If you have your own crypto wallet and some basic crypto knowledge, you can stake or delegate crypto yourself.
If you’re selecting a validator, it’s a good idea to research their historical performance and reliability. Online communities or official websites for crypto projects often offer analytics showing statistics about validators.
Some crypto exchanges offer programs through which they'll stake crypto for you. This can be a simple option for beginners, but there are some tradeoffs. For one, the providers may take a cut of your earnings.
In addition, there's a substantial amount of regulatory scrutiny over how third-party staking programs are operated. The U.S. Securities and Exchange Commission has cracked down on some operators, arguing that their staking or rewards programs are actually unregulated securities.
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The bottom line
Comparing proof of stake and proof of work is essential when deciding whether to invest in a particular cryptocurrency. But even if you believe proof-of-stake cryptocurrencies are superior, it’s important to remember that not all proof-of-stake cryptocurrencies are of equal value.
As always, read up on the cryptocurrency project you want to support. Get a sense of what it’s trying to achieve and whether any other products on the market might be able to do it better.
However, if you buy a proof-of-stake cryptocurrency, you’ll be well-served by a better understanding of how it works.
» Learn more: How decentralized finance (DeFi) works
The author owned Bitcoin, Cardano, Solana and Ethereum at the time of publication. The editor owned Bitcoin and Ethereum.
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