For this article, I will use definitions of Proof of Work and Proof of Stake as they pertain to the old Gold Standard.
The discovery of gold and the appreciation of its inherent properties quickly led to its appreciation and appeal. It is malleable, will not tarnish, and is heavy and dense.
As society evolved, their monetary systems evolved to the point where gold was used as the medium of exchange. Due to the lack of portability of gold in commerce and the advent of large safes, gold certificates became the norm for commerce. I would describe this phase as “Proof of Stake” as it required the issuer of the gold certificates to hold the gold in their possession and release as each certificate was redeemed for repossession of the gold it represented.
The flaw to this “Proof of Stake” was there were no mechanisms in place to prevent certificates from being issued that were not backed by the physical possession of gold it represented.
Prior to its discovery and broad appeal, 100% of the gold supply was available for mining. As mining efforts increased and technology improved, it resulted in most of the supply of gold being unearthed. Before the gold standard, society placed a value on gold for its beauty and scarcity. It’s “proof of work” was the physical labor involved in prospecting, assaying, and refinement into gold bars and coins.
As we know, bitcoin is mined by proof of work. It not only involved the computing power to validate the transactions in the current block but also requires solving a complex algorithm that adjusts as the current hash power supporting bitcoin changes. Other cryptocurrencies like Litecoin, Dogecoin, and Ethereum mimicked this consensus mechanism for rewarding miners. A main security feature of POW mining is it distributes new coins in such a manner that prevents a single entity from acquiring most of the supply. This allows the blockchain to become decentralized as more and more miners participate.
Bitcoin’s fixed supply is set to 21 million coins with an inflation rate that decreases by half every 210,000 blocks. Some have stated this “halving” rate mimics that of gold as it was first mined. As more gold was unearthed, less was available to mine.
As stated before, the flaw to gold’s “Proof of Stake” certificates is there was no mechanism to prevent new certificates to be printed that were not backed by physical gold in possession.
How does Proof of Stake work?
Proof of Stake requires coins to exist, usually through some sort of Proof of Work or other fair distribution models. Transactions must be validated before they are added to a block. These validations are performed by nodes. Nodes are computers that run the code in hopes to be rewarded new coins through a process called “minting” versus mining. Before a node can become a trusted validator, it must “stake” a minimum number of coins as collateral. For example, Ethereum is moving from a Proof of Work blockchain to Proof of Stake. Stakers must lock up 32 Ethereum to become a node validator.
In 2012, a new cryptocurrency called Peercoin, introduced Proof of Stake. While mining Peercoin required Proof of Work, minting new Peercoin was accomplished through staking existing Peercoin and locking it up for at least 30 days. Since cryptocurrencies are software codes, the inflation rate or the number of new coins minted per year can be defined by the code. The term “code is law” allows users to have confidence their supply of coins will not be devalued beyond the defined rate of inflation. The inflation rate of Peercoin was set at 1% per year, far below bitcoin’s inflation rate at the time.
To ensure security to the blockchain, nodes that are determined to be “bad actors” get their stake “slashed”, resulting in the loss of coins. The software code that defines the inflation rate is the mechanism that allows Proof of Stake to secure the blockchain.
This mechanism is far superior to the old gold standard.
Author: Stephen Stubblefield, Sanctuary DEX Technical Advisor