August 31, 2021 |James Messi
Among the altcoins that have been created since the launch of the world’s first ever digital currency, Bitcoin, Ethereum has been the second most popular and the closest rival of Bitcoin. However, Ethereum differs from Bitcoin in its intended use. While Bitcoin is mostly a store of value, Ethereum functions not only as a store of value but also as a platform that allows its users to create applications without anu interference of third parties.
Over the years, as Ethereum has gained popularity and its patronage grew, the cryptocurrency’s platform has undergone several changes. One of these changes came in the form of a hard fork that birthed two different blockchains that run in parallel to each other: Ethereum and the Ethereum classic.
When the original Ethereum blockchain was subjected to an attack that exploited its vulnerabilities and resulted in the theft of more than $50 million in ETH, Ethereum’s native token, the cryptocurrency platform’s user base were split into two factions. On one side, users were pushing for a hard fork in order to be able to return the lost tokens to the victims of the hack, and on the other are those who wanted to continue the blockchain in keeping with Ethereum’s tenets. This resulted in the abovementioned split in Ethereum’s user base.
The group that continued to maintain the hacked blockchain became known as the Ethereum Classic, with its new native token ETC. While the camp that pushed for the hard fork carried on the name of Ethereum, with its native token ETH. The twin Ethereums continued to run in parallel with each other, with each making their separate developments. However, the new Ethereum went on two gain the most in terms of popularity and network acitvity.
Owing to this popularity, Ethereum has garnered more patrons, especially during the pandemic. With the growth in its user base, Ethereum’s developers have gone to great lengths to try to improve the platform’s scalability, speed, security, and more.
To this end, Ethereum 2.0, a major upgrade of the blockchain network, is next. Among this massive upgrade’s aims is to boost Ethereum’s processing capabilities from around 30 transactions per second to as high as 100,000 transactions per second. Another aim of the 2.0 upgrade is strengthening security. The upgrade would also greatly boost Ethereum’s sustainability. By switching from a proof-of-work algorithm to a proof-of-stake algorithm, Ethereum’s energy consumption and carbon footprint would be significantly decreased.
But how exactly does this change in algorithm work, and how would it affect Ethereum’s network and the prospect of staking on it?
From Proof-of-Work to Proof-of-Stake
The proof-of-work and proof-of-stake algorithm are both consensus mechanisms. These models are requirements to be able confirm transactions that take place on a blockchain, without the need for a third party. However, although both of these are algorithms are used to secure blockchains, the two mechanisms are vastly different from one another in the ways that they operate.
In the proof-of-work algorithm, new blocks are “mined” by crypto miners, the individuals who execute proof-of-work. New blocks are accepted and added to the cryptocurrency’s blockchain each time a miner comes up with a new winning proof-of-work. However, chancing upon a winning proof-of-work is immensely difficult and the only way that miners could do the work needed to earn, say, Bitcoin is by utilizing expensive computers made especially for crypto mining. The proof-of-work algorithm’s advanced cryptographic puzzles serve as authenticators for transactions. Crypto miners are rewarded with the respective cryptocurrency’s coin by solving these puzzles, or correctly guessing a matching computation. The more computations these miners’ computers churn out, the more likely they would be able to solve a cryptographic puzzle and be rewarded.
However, this process of mining blocks requires tremendous amounts of energy. In fact, when it was first launched, Bitcoin and its proof-of-work model required an equivalent of $150,000 daily electricity costs. This energy expense has only gone up since then, reaching up to millions of dollars. This massive energy consumption has also been criticized for its negative impact on the environment.
These drawbacks are what Ethereum’s planned shift to a proof-of-stake algorithm seeks to address.
In the proof-of-stake algorithm, the expansive array of costly, specialized computers were ditched in favor of a less energy consuming, less special hardware reliant, and more scalable alternative. In this consensus mechanism, users can stake their ETH in order to become validators in the network. A validator does the same thing that miners do in proof-of-work: order transactions and create new blocks. To be able to become a validator, users will need to stake at least 32 ETH. Ethereum staking is also used to incentivize the good behavior of validators. As an example, a user can lose some of their stake for doing counterproductive activities such as failing to validate blocks.
Contrary to proof-of-work, proof-of-stake does not use an inordinate amount of computing power because validators are chosen at random and are not competing with other validators. Instead, the randomly chosen validators are tasked to create blocks or check and confirm blocks that they did not create. This validation is also known as attesting. Unlike proof-of-work mining, where miners get rewards for solving complex mathematical puzzles, validators are rewarded for proposing new blocks and attesting to blocks that they did not make.
What Does It Mean to Stake?
But what is staking, and how does it work? Simply put, staking is the process of participating in the validation of transactions on blockchains that use proof-of-stake algorithms. You can also think of Ethereum staking as depositing or locking your money in a bank. By letting the network put your ETH to use, you are earning passive income. Staking your ETH will not only let you earn rewards without effort, but also contribute in the security and efficiency of the blockchain projects that you support.
The Stakes of Ethereum Staking
Not everyone who is willing can afford to have stakes in the network. Presently, the minimum amount of ETH that can be staked is 32 ETH, or equivalent to roughly $99,000 USD, not a small amount. Furthermore, validators are expected to be connected to the blockchain 24/7, and going offline can be subject to penalty.
The rewards that are given to users who have staked ETH are dependent on the total number of ETH staked and the number of validators on the network. When the ETH staking pool decreases, the annual interest rate increases. Therefore, for those who have accumulated enough ETH, staking can be an attractive method for gaining passive income.