Staking: PoS mining pools explode, is the era of Mining 2.0 coming?

Mining 1.0

The main players in the Mining 1.0 era are Bitcoin mining pool giants such as BTC.com, F2Pool, and AntPool. In the past month, the top ten Bitcoin mining pools controlled 87% of the computing power, and they are all based on the Proof of Work (PoW) mechanism. We can basically assume that the Mining 1.0 era has begun under the Bitcoin PoW mining mechanism. What are the characteristics of the Mining 1.0 era?

Proof of Work

The Bitcoin network has been successfully operating for ten years. Thanks to the innovative mechanism model design of PoW, mining has changed from a simple profit-seeking behavior to an effective driving force for maintaining the stable development of the entire business network. Fundamentally speaking, in order to participate in PoW, miners only need to own an ASIC mining machine. Compared with PoS, there is no need to own and pledge tokens to mine Staking - this is a fundamental difference between PoW and PoS. PoW also has some systemic problems while maintaining the stable operation of the P2P network system.

Some common major problems with PoW are:

1. Monopoly of ASIC mining machines. PoW mining has become a relatively unbalanced competitive field. Mining machine manufacturers with large funds (such as Bitmain and Canaan Creative) and large miners are able to produce and/or hoard ASIC mining machines. ASIC has a huge advantage over GPU mining. In theory, PoW mining can be done by anyone with a computer. Satoshi Nakamoto's original idea was: " Proof-of-work is essentially one-CPU-one-vote ", but with the passage of time, PoW mining has become very uneconomical for CPU/GPU. Bitcoin mining machines have entered the 7nm era. Due to the complexity of chip research and development processes and the huge amount of capital investment required, ASIC mining machines are inevitably monopolized by a few industry oligarchs.

2. Energy expenditure. The mining process is a computationally intensive industry that consumes a lot of resources - energy and capital. The annual electricity consumption of the Bitcoin mining industry is about 49 TWh - this is comparable to the annual electricity consumption of Singapore (source).

3. Mining rewards and profit motivation. After nearly ten years of development, the PoW mining industry has accumulated a lot of funds, and the mining infrastructure has been basically complete, with a mature industrial chain (mining machine manufacturers, mining farm operators, miners, mining pools, etc.). Every miner must seek to maximize cash returns to recover capital investment (mining machines, mining farms, electricity costs). To this end, they need to sell mining rewards in a timely manner. Here, regardless of the downward risk of market coin prices that may be caused by such sales, miners are more concerned about the impact of mining rewards on their own income.

Miners have an economic incentive to maintain network security (and value), but miners are more focused on recovering their investment and paying operating costs as quickly as possible. Miners' priority is to support network change proposals that are beneficial to their own interests - these proposals are more about optimizing block rewards and near-term profits, which may and are inconsistent with the broader developer community. In inconsistent situations, miners will choose to vote with "computing power", typical examples of which are Bitcoin Cash forks (BTC and BCH) and the computing power war in November last year (BCH and BSV), which once caused network chaos and currency prices to fall.

Including the Ethereum Constantinople upgrade last month, the most controversial aspect of this upgrade was the reduction of mining rewards, which greatly damaged the interests of Ethereum miners. According to incomplete statistics from TokenGazer, the number of Ethereum nodes has dropped sharply to an average of 20 per day, a 60% drop from its peak.

4. Excessive concentration of computing power. In PoW networks, 51% attacks are becoming more and more common, just like the recent 51% attack on Ethereum Classic (ETC). The core of the problem is fair competition and economies of scale in PoW mining.

Miners who have access to capital advantages and cheap electricity have a particular advantage in receiving block rewards. Mining is becoming more and more centralized. The higher the computing power of a miner, the greater their influence on the network. To a certain extent, a group of miners can conspire to conduct a computing power attack. Although the Bitcoin network has not been attacked, miners can use their computing power to attack smaller PoW networks and perform double spending, just like the computing power attacks suffered by BTG and ETC before.

In short, PoW is increasingly unable to meet the blockchain's pursuit of democratic consensus-decentralized trust.

The beginning of the Mining 2.0 era

Let's briefly review the consensus mechanism:

If we define Mining 1.0 as based on the PoW mechanism, including mainstream coins such as BTC, LTC, Ethereum-PoW, etc., then we can define various mining based on PoS and its variant consensus mechanisms as Mining 2.0, in which all nodes in the PoS mechanism participate in the consensus by staking tokens. Typical examples include: Ethereum-PoS, Tendermint, Algorand, EOS DPoS, DFINITY, PBFT, etc.

1. Proof of Stake (PoS)

PoS is an elegant solution. Validators in a PoS network are also token holders, and since the value of the tokens is directly staked, the role of incentives begins to emerge. Generally speaking, stakers must lock their tokens as collateral, and in exchange, they are entitled to the right to validate blocks and receive mining rewards.

This process is often referred to as "Staking" or "validation". Block rewards are what we call "Staking rewards" or "rewards" . PoS networks have a built-in inflation rate that is applied to pay validators as the main incentive to validate the network and protect the network. If validators do evil, they will be punished by losing their stake or not receiving Staking rewards.

2. Staking-as-a-Service (StaaS)

As shown in the figure above, token holders of the PoS network can validate themselves or delegate to Validators - who act like Staking-as-a-Service (StaaS) service providers, to perform validation on their behalf.

The staking process is time-consuming and requires technical knowledge, best security practices, and constant uptime monitoring. In some networks, validators can lose their collateral if a node goes offline - a process called slashing. Other networks require validators to maintain a minimum collateral balance, which may be too high for most individual token holders or limit the number of validator participants. Given these factors and complexities, most token holders choose to work with professional StaaS providers.

3. Staking Economic System

Currently, more than 70 PoS projects have participated in the staking economy, with an average of 40% of the token supply being delegated or participating, totaling $ 4 billion . 47% of EOS tokens, worth $181 million, are participating in the staking pool.

Cosmos, a cross-chain project that has been widely sought after recently, launched its mainnet in the first phase last week. Nearly 40% of its Atoms have been bound to 93 of the 100. The number of validating nodes will reach a maximum of 300 within ten years, and can also be voted to increase. The overall staked portion of its tokens has exceeded $ 300 million .

4. Participants in the Staking Economy

By holding the issued tokens of blockchain projects and operating related verification nodes, supporting verification, voting, transactions and other functions, and maintaining the robustness and safe operation of the network, it has been recognized by the project network, investors and users. The institutions or types currently involved in Staking can be divided into the following categories:

-StaaS third-party node operators: such as Staked.us (received $4.5 million in funding led by Pantera); Bison Trails (received $5.25 million in funding led by Galaxy Digital); Wetez (received funding led by Continue); Cryptium Labs, etc.

- Node operators affiliated with investment institutions: such as Polychain Labs, NGC StakeX, Hashquark, Tezos Capital, etc.

- Exchanges, mining pools and wallet operators: such as Huobipool, Sparkpool; Cobo wallet, Math wallet;

5. Staking is the new blue ocean of mining economy

Depending on the PoS network and related parameters (including participation rate and time), the return on investment can range from 5% to 50% per year. The benefit of staking is that token holders can receive rewards as long as they hold for a long time. In addition, if token holders do not choose to stake, the value of their tokens will depreciate due to network inflation. Therefore, the incentive for staking can become very strong.

*Liverpeer’s incredible 154% return is not included in the above chart.

We expect PoS networks to gain $ 30 billion in value (i.e., market capitalization) in the next 12 to 24 months. These networks will maintain an annual inflation rate between 5% and 15%, which is equivalent to a fixed amount of rewards of $1.5 to $4.5 billion per year issued to token holders. With the launch of more PoS public chain mainnets, coupled with the recovery of the crypto market capitalization, the total amount of staking rewards will increase significantly.

Conclusion: Under the wave of decentralized economy, due to the rise of PoS consensus mechanism, especially the network effect brought by EoS, Tezos and Cosmos, the value of large-scale commercial applications is prominent, which leads to the fact that Staking economy is in a stage of vigorous development. Of course, there are also some problems in PoS node operation, such as declining income, large households, and failure of governance mechanism. The challenges brought by PoS and staking may require some time for the market to test and develop. Can it bring changes and new opportunities to the traditional mining industry? We will wait and see.