Blockchain is the technology underlying decentralized systems such as cryptocurrencies. For each one, there’s a method for coordinating the activities of the network, referred to as a consensus algorithm.
The consensus algorithm ensures that the parties involved in coordinating the network can agree on a single source of truth, regardless of the failure of some members. No single entity has the monopoly of control, so the network is run on the basis of trustlessness.
Yet, the members are able to come to agreement concerning how data is distributed, for example. In cryptocurrencies, this is achieved through a consensus mechanism, which ensures there’s immutability, privacy, security, and transparency.
A consensus algorithm is therefore a method through which all participating members of a blockchain network can come to an agreement about the state of the network. They can agree on what is true on the network and what isn’t, making the network secure.
Consensus Algorithms in Crypto
Consensus algorithms apply wherever the use of blockchain technology is applied. However, in cryptocurrencies, the algorithm is used mainly for verifying transactions and ensuring that no one cheats the system.
There are many of them as we will see shortly, but they are all geared towards verifying transactions in a public manner, with many participants involved. Generally, crypto transactions are recorded in blocks, which come together to form the blockchain.
The transactions are verified by these participants called nodes – computers connected to the network – and added to the blocks. By helping to verify transactions through whichever algorithm, the nodes help to secure the network and are rewarded through an established system unique to the crypto network.
There are different consensus algorithms used for cryptocurrencies, but here are the most common ones.
Proof-of-Work (PoW)
This is the first ever consensus algorithm, created by Satoshi Nakamoto who is also the creator of Bitcoin. The Bitcoin network is maintained through this algorithm, which requires confirming transactions by solving complex mathematical puzzles using specialized computers.
Node operators known as miners verify transaction blocks through a process known as mining, and in return are rewarded with a fixed amount of Bitcoins that is reduced by half roughly every four years.
There has been an argument that PoW is too energy-consuming, and so unhealthy for the environment. However, there’s an increasing use of clean energy for mining, which counters the argument.
Apart from Bitcoin other cryptocurrencies like Dogecoin, Litecoin, and many others also use PoW consensus algorithm.
Proof-of-Stake (PoS)
Proof-of-stake is a consensus algorithm that requires nodes to stake their assets in order to participate in transaction verification. Such participants are called validators. For Ethereum for example, validators are expected to own and stake at least 32 ether to qualify.
By staking their assets, validators are expected to do everything to ensure the integrity of the network and are in return rewarded with more tokens from transaction fees. There have been arguments that PoS compromises decentralization in order to increase scalability and lower transaction fees.
Examples of crypto networks that use this algorithm are Ethereum, Ethereum Classic, and many others.
Delegated Proof of Stake (DPoS)
This is a variation of the PoS consensus algorithm. Validators in this system are delegated, hence the name. Rather than every staker participating in validating transactions, they delegate their responsibilities to a few individuals who will then serve as validators on the network.
After validating a block, the delegated validator then shares the rewards with those who delegated him. DPoS is even more centralized than PoS since the validators only delegate a few to do the actual validator’s work. Examples of cryptocurrencies using DPoS are Solana, Tron, and EOS.
Conclusion
Blockchain networks function through consensus algorithms, and so every cryptocurrency uses one. The argument about which one is better does not arise, because the choice of a consensus mechanism depends on the goal of the network.
However, it is generally said that PoW is energy-consuming and cumbersome, while PoS and DPoS are more scalable and faster, but centralized, which is contrary to the original idea of decentralization.
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