Bankless: 4 perspectives to tell you why PoS is better than PoW

Proof of Stake is the only way to remain decentralized over the longest timeframe.

Later this year, the proof-of-work (PoW) Ethereum blockchain will “merge” with the existing proof-of-stake (PoS) Beacon chain. The upcoming network upgrade will remove PoW from Ethereum and replace it with the PoS consensus mechanism that currently protects the Beacon chain.

This transition to PoS will be the most significant blockchain network upgrade that the crypto space has ever seen. As the merger approaches, the discussion around Proof of Work vs. Proof of Stake will become more relevant, especially as crypto networks become more integrated into everyday life.

Consensus mechanisms are complex, and the process of understanding them is full of rabbit holes and psychological traps. The crypto industry itself has yet to reach a consensus on the nature of consensus mechanisms, their lasting impact on their respective ecosystems, and the assets that power them.

This article will clarify some common misconceptions about Ethereum Proof of Stake, while also illustrating some highly underestimated advantages of the PoS consensus mechanism.

summary

PoW is PoS with an extra step

People think of PoW and PoS as being very different. Even though they have different properties, they ultimately end up in the same place.

1. Which of the two has a higher return on capital?

Which mechanism has a higher return on investment? Why does this matter?

2. What types of assets do PoW and PoS generate?

Does the consensus mechanism affect the nature of the asset?

3. Governance and power differences between PoW and PoS

How does the consensus mechanism affect the governance structure of the blockchain? Does proof of stake give stakeholders governance rights?

4. Dealing with 51% attacks

How do PoW and PoS recover from a 51% attack?

Conclusion: Which one is "legacy technology"

Hint: Not the one that requires years of research

1. Which of the two has a higher return on capital?

Which mechanism has a higher return on investment? Why does this matter?

PoS is often criticized for making the “rich richer” due to the compounding of assets. For example, if you are very wealthy, your capital will make money faster than you can spend it.

But this is a completely outdated and wrong concept. Proof of Stake protects the security of Ethereum by staking ETH as a validator. Users can freely adjust the staked assets and receive a fixed rate of return according to the formula. The amount of staked ETH does not change the rate of return on the stake.

In contrast, large funds will generate higher returns in PoW.

For example, if two Bitcoin mining farms are built, one with an investment of $100,000 and the other with an investment of $100 million, the computing power of the $100 million mining farm will be more than 100 times higher than that of the $100,000 mining farm. The key to breaking the proportional growth of computing power and investment lies in some additional activities, such as the cost of purchasing hardware, hardware maintenance and loss, electricity consumption costs, infrastructure construction, cooling equipment, etc. Each related activity is a growth point for big capital to increase its rate of return. The economies of scale of big capital give it an advantage over ordinary users or investors.

By eliminating the extra activities that generate economies of scale, PoS can become the world's fairest public chain consensus mechanism.

In fact, PoW is the system that makes the rich richer. PoS allows users to stake ETH at home at zero cost, but PoW forces everyone to join the competition of economies of scale. The concentration of computing power caused by economies of scale will reduce security and concentrate funds in network control participants, further exacerbating oligopoly.

This is traditional technology.

A $1 million ETH staked investment will earn the same ROI as a $1,000 investment, or even a $1 billion investment.

This is the technology of the future.

At the same time, PoS also has the characteristics of economies of scale. Validators with larger stakes can conduct frequent transactions to increase long-term returns. As the stake increases, the cost of monitoring validators will also increase, and better hardware and networks require certain costs.

But compared with the difference in income between large and small PoW miners, the difference between large and small PoS stakers is obviously much smaller.

PoW creates a structural imbalance between the elite and the masses, which is exactly what the blockchain industry wants to eliminate.

2. What types of assets do PoW and PoS generate?

Does the consensus mechanism affect the nature of the assets?

There is a saying that the formal connection with energy consumption turns PoW currency into a "commodity currency". Similarly, "using assets to get dividends on assets" turns PoS currency into an "equity currency".

I think these are interesting conceptual models, but they are not definitions to be used as a reference.

ETH has characteristics of both commodities and equity.

BTC is basically none of these.

commodity

The "goods" produced by blockchains are their block space. Apple sells iPhones, Google sells ads. Blockchains sell blocks.

Purchasing transaction space on a blockchain costs money (gas), and you need to use each blockchain’s respective currency to purchase block space.

There is a correlation between the block space of a blockchain and the corresponding currency that can be used to purchase it. BTC is the only currency that can be used to purchase Bitcoin block space, and ETH is the only currency that can be used to purchase Ethereum block space. Purchasing block space on any chain creates a certain demand for the corresponding currency.

This makes the nature of the block space part of the nature of the asset. Since the asset monopolizes the block space, the characteristics of the block space are integrated into the essence of the asset.

Here are the main differences between Bitcoin and Ethereum:

With Bitcoin, there is no formal relationship between block space and the asset, other than the fact that Bitcoin block space must be purchased using BTC.

In contrast, Ethereum’s EIP-1559 directly ties the value of Ethereum blockspace to the value of ETH. EIP-1559 converts demand for Ethereum blockspace into demand for ETH.

EIP-1559 changes the relationship between assets and blockchains by consuming rather than recycling the currency used to pay for block space. Purchasing Bitcoin block space sends BTC to miners, who then reintroduce it to the secondary market (to pay for mining costs). In contrast, purchasing Ethereum block space burns ETH (via EIP-1559), consuming it like a commodity and removing it from the supply.

Ethereum block space supply is inelastic. At the same time, due to the existence of EIP-1559, the increase in block space demand has led to an increase in the ETH consumption rate.

This makes ETH fully reflect the commodity value of Ethereum block space.

Since the main use of Bitcoin is "holding", the demand for Bitcoin block space is generally not large. Transfers need to be possible, but the value of Bitcoin lies not in the transfer of Bitcoin, but in its total supply of 21 million.

rights and interests

PoW supporters compare PoS to the equity characteristics that it gives ETH. I do think ETH has equity-like characteristics, but these characteristics do not come from the consensus mechanism. The price of ETH is formally linked to the value of the Ethereum network (establishing a "stake" relationship) through two mechanisms:

EIP-1559 Collateral requirements in DeFi

Collateral

Collateral

ETH is the original collateral for DeFi; ETH's trustless nature creates more demand for DeFi than any other asset, and the growth of DeFi leads to an increase in the value of ETH. "Decentralized finance" can also be called "trustless finance," and in order to trust these financial products in their early stages, overcollateralization is required.

As the number and utility of DeFi applications grow, more ETH is needed as collateral. This induced reserve demand creates a relationship between the overall DeFi superstructure and the value of ETH.

DeFi applications translate into demand for ETH, linking the value of the Ethereum network to the price of ETH on the secondary market. Ultimately, the price of ETH is a measure of the value of the goods and services provided by Ethereum, which sounds a lot like fairness.

Bitcoin does not have the ability to host DeFi applications, and there is no such link between the network and assets.

EIP-1559

Similar to giving ETH commodity attributes (as mentioned above), EIP-1559 also gives ETH equity-like attributes.

All Ethereum applications generate economic activity in a broad sense. Each application on Ethereum generates some incentive for its use, which creates demand for Ethereum block space. By consuming ETH for each transaction, EIP-1559 ties the value of economic activity to the demand for ETH.

The impact of EIP-1559 on the nature of ETH assets is similar to both commodities and equity. Discussions about "commodities" and "equity" are meaningless.

If you have to ask whether ETH is more like a commodity or equity? It is both and neither. ETH is ETH. The same is true for Bitcoin. BTC is not a commodity. There are only 21 million of them, and BTC does not benefit from the growth of the Bitcoin network, so it is not equity either.

That is how it is.

3. Governance and power differences between PoW and PoS

How does the consensus mechanism affect the governance structure of the blockchain? Does proof of stake give stakers governance rights?

Ethereum’s proof of stake is often confused with explicit on-chain governance. There are indeed blockchains with on-chain token governance, such as Tezos and Decred, where Tezos is PoS and Decred is a hybrid PoW/PoS. Consensus mechanisms and token governance are unrelated, they are different aspects of blockchain design, but are often treated as the same thing.

The "workload" in PoW will not reduce human governance any more than PoS.

It is cryptography, not proof of work, that reduces human governance from cryptoeconomic systems. Crypto uses cryptography, not consensus mechanisms, to reduce human governance.

Lyn Alden once posted on social media:

“The consensus mechanism is not about proof of work, but about governance. Only proof of work can reduce or eliminate governance. PoW systems can become commodities, and PoS is essentially stocks. I like stocks, but stocks are not commodities.”

Signing a private placement memo to invest in a 150MW mining rig to mine BTC cheaply for the next decade, and then investing those profits into more ASICs and other mining equipment, is not "work". PoS does require work, and validators actually have to do real calculations to drive the network forward. As in PoW, the CPU of the PoS validating computer generates heat and consumes energy when processing block transactions. The difference is that all calculations verified by PoS are useful, not just competing to see who uses more electricity by generating meaningless hash values.

PoW does not eliminate the need for governance due to its resource-intensive nature. I would say the opposite.

The resource-intensive nature of PoW has caused dissatisfaction among local forces, and its reliance on supply chains, physical buildings, energy consumption, and other physical things has also made PoW subject to current real-world managers.

Crypto is here to build the digital world of the future; reliance on physical things is a liability.

4. Dealing with 51% attacks

How do PoW and PoS recover from a 51% attack?

PoW

In PoW, once someone accumulates 51% of the hashing power, there is nothing to stop them from continuing to launch attacks endlessly. This is called a "nesting attack"; the attacker can launch a 51% attack on the chain again and again, rendering it ineffective.

In a 51% attack scenario, if honest miners cannot obtain additional computing power, the attacker can completely control the transaction content.

The computing power that secures Bitcoin is generated outside the network.

PoS

ETH is a virtual ASIC, which has the following major advantages:

1. ETH will not decline, but will become stronger.

PoW proponents claim that this creates structural centralization, since a validator on day 1 is essentially guaranteed to still be a validator on day 10,000, while miners will be replaced due to hardware equipment investment and operating costs.

PoS supporters claim that this will better empower individuals because only those with special knowledge, political connections, and a lot of capital can meet the challenge of maintaining a market share of computing power. PoS accepts all of these challenges and includes them in the value of ETH, distributing the upside of these benefits to those who can afford to hold and stake ETH.

2. ETH is easily transferable, extremely decentralized, and not affected by the real world

The staked ETH does not actually exist anywhere in the real world. This makes the PoS network much more resistant to attacks. PoW mining equipment is subject to physical forces (military, officials, tanks) and cannot be easily moved. The bulkiness of PoW facilities makes it easy to plunder, just as gold is eventually plundered by nation-states.

3. Most importantly, Ethereum is familiar with ETH

Unlike ASICs, the Ethereum network can identify malicious and honest stakers.

In a PoS attack, the attack comes from a specific address that holds a specific amount of ETH used to attack the network. Everyone can objectively see where the supply of staked ETH that will attack Ethereum comes from.

"15 million staked ETH at address 0xabc123attackeraddress789xyz proposed an invalid block, attempting to fork the network"

There are two possible situations here:

a. A staker generates an invalid block. The protocol can look at it objectively and remove the staker who proposed the invalid block. The whole process does not require human intervention.

b. The attacker has more than 66% of the stake and is able to prevent scenario a from happening. This allows the maker to delete all transactions.

In the dire scenario b , PoS enables the system to fork into a new chain while removing the attacker’s staked share. The community will identify the validators controlled by the attacker and will come to a consensus on whether and how to remove these validators from the active set. Either forcefully withdrawing them from their stake, or even removing these validators from the system entirely, effectively destroying their stake.

Once this fork occurs, a large amount of ETH is removed from the network, and the share of ETH staked owned by honest and chain-aligned actors grows significantly. The supply of ETH is also significantly reduced, and everyone who is not attacking the chain has a larger share of the ETH supply. It properly rewards those who stand with the network, while also increasing the cost of subsequent attacks, as the threshold for attacking is now a larger percentage of the total supply. This is very elegant.

This process will not become an official part of the Ethereum network (and may never even happen in practice, given the deterrent effect of the soft fork threat). It will require human intervention and off-chain coordination to achieve; this is generally against the spirit of cryptocurrency. The goal is to not have to fork. But in contrast, Bitcoin does not even have this option. In a 51% attack on PoW, human intervention is also required to restore the network to normal operation. However, unlike PoS, there is no clear path for honest computing power to return to above 51%.

Both PoW and PoS result in actions external to the network to restore network consensus.

PoS:

1. Identify the attacker’s address (easy, just look on-chain).

2. Coordinate a block height to fork away the attacker’s stake (not easy, but fork coordination has happened many times in Ethereum’s history and is known to be controllable. We’ve done it before).

PoW:

1. Coordinate with ASIC manufacturers and the supply chain to increase ASIC production as quickly as possible.

2. Once the ASIC is produced, it is transported to a mining farm with energy.

3. Make sure these new ASICs are not shipped to miners who are launching attacks (but you have no idea who they are!).

The timescale to fix a 51% PoW attack is long. Without knowing the nature of the attack and the attacker’s resources, it’s impossible to say how long, but I think it’s clear that it’s easier to coordinate a forked PoS network at a block height than it is to coordinate a global supply chain to get ASICs into the hands of honest miners.

PoW solutions to 51% attacks are not only lengthy, but also not guaranteed to work. “Just producing more ASICs” is not the solution to a PoW 51% attack.

However, more importantly, scenario 1 does not actually gain any meaningful incentive from the network. Will miners really risk deploying capital to purchase ASICs when the network is under a 51% attack? What if the price of BTC plummets due to a loss of confidence in the network? Can miners really get the maximum ROI from the ASICs they need to purchase? Why take the risk? There is no guarantee that the network will come back online, and the legitimacy of BTC as an asset will be seriously threatened. If this causes the price of BTC to fall, honest miners will be even more reluctant to risk investing more capital to produce honest computing power.

Most importantly, this shows that whoever controls ASIC production and the supply chain controls the PoW chain. Because of its relationship to electricity consumption, the PoW chain is limited by how the physical world is organized. Whoever controls the physical world controls the PoW chain.

This is the deal that PoW makes; by relying on physical things, it hands control to those who control the physical world.

Yes, Bitcoin mining equipment is distributed all over the world, but PoS validators leave no physical footprint. The ETH staked to the Ethereum network does not actually exist on any one specific computer. The validating computer that staked ETH can be destroyed, but the staked ETH can be recovered and redeployed from a private key anywhere in the world.

This is one of the many reasons why PoS is more decentralized than PoW; there is no supply chain centralization, no economies of scale centralization, and no large mining facility centralization.

Conclusion: Which one is "traditional technology"

A common argument in the Bitcoin camp is that “proof of stake is legacy, old technology.”

The narrative is that it is a reincarnation of the same power structures that the world already abides by, when in reality, Bitcoin and PoW are the true innovation.

I think anyone making this claim is seriously confusing key factors in blockchain design. Conceptual models and metaphors about returns on capital or associations with traditional governance structures are not evidence, especially when they ignore the highly relevant details of Ethereum’s implementation of PoS.

One of my favorite criticisms of Bitcoin culture is that when the base chain doesn’t allow for L1 innovation, it moves to the social layer. I think anyone claiming that PoS is “legacy technology” is just making up stories to fill in their knowledge gaps with what they want to see, whereas Proof of Stake is rigorously researched by those at the forefront of cryptoeconomics.

Proof of Stake will go down in history as one of the most democratized forces of power ever created.

This is the legacy Ethereum is building for itself. Proof of Stake is best suited to achieving the fair distribution of money and power in marginalized communities, and the system is designed to achieve these goals.

This is the only way to maintain decentralization over the longest timeframe.

Original title: 《4 Misconceptions about PoS vs PoW》

By David Hoffman, Co-founder of Bankless

Compilation: czgsws, 0×22, 0x9F, rhythm BlockBeats