If you follow blockchain, or even just accidentally clicked on a YouTube video about Ethereum once, you’ve probably seen “the Merge” pop up a lot in your feed. Undoubtedly, the stage of the Merge that occurred in September 2022 was an important milestone in Ethereum’s development. The milestone brings up an important discussion around proof of stake, the system that Ethereum transitioned to with the Merge. While that discussion may seem deeply technical and irrelevant to all of us except the engineers working on the front lines, Ethereum’s transition and proof of stake (PoS) in general are important to everyone working in tech and beyond.
What Proof of Stake Is
Proof of stake is a consensus mechanism — that is, a method to validate and agree on entries written to a distributed ledger. Without the involvement of a centralized entity like a moderator or server, a consensus mechanism is needed to keep the system secure from fraudulence and falsified transactions.
Proof of work (PoW) was the first blockchain consensus mechanism. In this traditional system, transactions were only added to the blockchain when miners successfully completed a cryptographic math puzzle that required lots of computation. The cost of computation makes it uneconomical for bad actors to write false transactions, such as giving themselves thousands of bitcoins. In return for their effort, miners receive token compensations called block rewards that are generated when the blockchain is lengthened by the work of the miners who collect, validate, and settle transactions onto it.
PoW has been used for many years to great success, but it has limitations. For one, it consumes a lot of electricity, a fact that doesn’t mix well with the environmental, social, and governance (ESG) goals of many companies and governments. It’s also difficult to participate in as a miner because you need expensive equipment and specialized facilities, leading to the centralization of the validator network.
On the other hand, PoS reaches consensus by staking or “locking up” a chain’s native tokens for a period. Each person that stakes tokens becomes a potential validator, where the chance to be designated the validator and claim the block reward is proportional to the number of tokens you staked. If you attempt to game the system by validating false transactions, you can lose your stake.
The Advantages of Proof of Stake
- Scalability. Because validators don’t have to solve computational math puzzles to add blocks to the chain, transactions in those blocks are settled much more quickly. The speed of transaction settlement is a core infrastructure metric of a blockchain, like bandwidth and the internet, and it affects the entire rest of the stack built on it, from decentralized applications (dApps) to decentralized exchanges (DEXs) to non-fungible tokens (NFTs) marketplaces and GameFi. It’s usually called TPS (transactions-per-second). A higher TPS also typically means fewer gas fees, i.e. the fees that end users must pay when doing blockchain transactions. Gas fees depend on network usage and can range up to hundreds of dollars in popular times like around an anticipated NFT collection’s release, for example. Lowering gas fees is key to driving user adoption of Web3 applications.
- Decentralization. PoS lowers the barriers to entry to becoming a validator, increasing the diversity of the validator network and avoiding the formation of large, semi-centralized structures like miner pools and large mining facilities owned by corporations.
- Energy Usage. The Ethereum Foundation pointed out that the Merge will cut Ethereum’s energy usage by 99.95% due to the switch from PoW to PoS.
As a side note, the September 2022 Merge stage only marginally increased Ethereum’s TPS, which currently stands between 10 and 20. Compare that to Visa’s max TPS of around 50,000, and Solana’s 65,000. Solana is a PoS native chain that is being used more and more for NFT projects and in GameFi applications because of its rapid transaction speed. Other chains like Cardano, Avalanche, and Polkadot also use PoS and have become industry favorites as infrastructure for applications, particularly for organizations operating on-chain that need security, stability, and speed. The team behind Ethereum had to make the switch to PoS if it wanted Ethereum to remain the dominant chain with scripting functionality.
It’s important to know that Ethereum’s transition from PoW to PoS is actually a multi-year process. The team at the Ethereum foundation plan for Ethereum’s TPS to reach 1M by the end of the entire transition. I’m extremely excited to see the day when that milestone is reached, and what it means for the ecosystem built on top of Ethereum.
Proof of stake is laying new groundwork for Web3. Right now, it’s similar to the earliest days of the internet, when protocols were still being discussed. If we’re using that analogy, we’re not even at hypertext transfer protocol secure (HTTPS) level yet – PoS may just be the Transmission Control Protocol/Internet Protocol (TCP/IP) level of the stack and will certainly play a pivotal role in the coming decade or two. While that might seem like unexciting news, think about what innovations foundational protocols like TCP/IP gave rise to, from social media to Zoom meetings to Google search itself. We haven’t discovered what those killer apps for Web3 are yet, but PoS sets us down the path to finding them.