What is proof of stake in crypto? How PoS works, simply explained

Proof of stake is a consensus mechanism in which people lock up, or “stake”, their own coins to earn the right to confirm transactions and add new blocks to a blockchain. Instead of burning electricity like Bitcoin miners, validators put money at risk: they earn rewards for honest behaviour and can lose part of their stake if they cheat. Ethereum, Cardano, Solana and most newer blockchain networks use some form of proof of stake (PoS), and it has become one of the two main ideas in blockchain technology for reaching agreement.

What is proof of stake in crypto, in plain words?

Proof of stake is a way for thousands of computers that do not trust each other to agree on one shared record of transactions without a central authority. The deposit is the trick: if you want a say in what goes into the next block, you have to put your own coins on the line first.

Every blockchain needs a rule like this. Without one, anyone could write fake transactions or spend the same money twice. Proof of work solves it with computing power; proof of stake solves it with capital. In a proof of stake model, the people who verify transactions and validate blocks do not need computational power or processing power to win; they need coins at risk.

The people who do this work are called validators. A validator is software, run by a person or company, that holds staked coins, checks blockchain transactions and votes on each new block. Full nodes keep a copy of the chain and check the rules too, but only validators put coins at risk and receive rewards for it.

How does a proof of stake system work?

Proof of stake works in a repeating cycle. The details differ per network, but most PoS systems follow the same basic steps.

The economic incentive does the work. Cheating would mean risking a large deposit for a small gain, and because validators attest to each other’s work, a single validator cannot slip in a fake block unnoticed.

Block rewards and slashing

Block rewards are the carrot. On Ethereum, validators earn ETH rewards for proposing and attesting, paid partly in newly issued ETH, which adds to the total supply, and partly from transaction fees. New validators join a queue before they can start earning.

Slashing is the penalty for provable bad behaviour, such as signing two different blocks for the same slot. Part of the validator’s stake is destroyed and the validator is removed from the network. This is what makes the system secure: attacking the chain means losing the same money you would need to attack it.

Proof of stake vs proof of work

Proof of stake and proof of work are the two consensus mechanisms behind most major cryptocurrencies. They aim for the same result, a ledger nobody can rewrite, by different means. With PoW mining, PoW miners race each other with computational power, as on the Bitcoin blockchain. In proof of stake, validators do not compete on speed; the protocol simply picks one, and other participants check the work.

At first glance proof of stake looks better on every line, but the trade-offs are real. Proof of work has the longer track record, and its security rests on something outside the system (energy). Proof of stake rests on the coins themselves, which critics say favours those who already hold the most.

Ethereum PoS and the drop in energy consumption

Ethereum’s switch from proof of work to proof of stake, known as the Merge, took place on 15 September 2022. The Ethereum network kept running, with the same balances and smart contracts, but block validation moved from miners to validators with staked ETH.

The biggest change was energy usage. The Ethereum Foundation estimates that the Merge cut Ethereum’s energy consumption by about 99.95%. Proof of work had been criticised for using as much electricity as small countries; with proof of stake, that argument largely fell away for Ethereum, while it remains a debate for Bitcoin. That gain in energy efficiency is the main reason most new blockchains choose a PoS consensus mechanism.

Advantages and downsides of proof of stake (PoS)

Proof of stake has several advantages, but it is not free of risk. These are the main points on each side.

Advantages:

• Energy efficient. No mining race, so no wasted energy or specialist hardware.
• Lower barrier for network participants. You can take part through staking pools without buying mining equipment.
• Security through capital. An attacker would need a large share of all staked coins and would risk losing them.

Downsides:

• Concentration. Large exchanges and staking providers can control a big share of staked coins, which weakens decentralisation.
• Rich get richer. Rewards go to those who already hold the most coins.
• Newer design. Problems such as long range attacks, where an attacker uses old validator keys to build an alternative history, need extra safeguards.
• Complexity. More rules mean more things that can go wrong in the software.

What proof of stake means for you

For most investors, proof of stake matters because of staking: you can lend your coins to the security of the network and earn rewards. You do not need 32 ETH or your own validator; exchanges and staking pools combine many small amounts.

Here is a simple example. You stake €1,000 of ETH through an exchange. Over a year you earn some extra ETH as staking rewards, minus the exchange’s commission. If the ETH price falls 30% in that year, your stake is worth about €700 plus rewards. The rewards are a small extra; the price risk is the main event.

Whether staking makes sense for you depends on other factors than the reward rate. Before you stake, check these points:

• Is the platform licensed? In the EU, choose a MiCA-licensed crypto exchange and check it in the ESMA register. You can compare options on our crypto staking platforms page.
• Can you get out? Some networks and platforms have unbonding or lock-up periods, so you may wait days before you can sell.
• Who carries slashing risk? Ask whether the platform covers penalties or passes them to you.
• Taxes. Staking rewards can be taxable. In the Netherlands, crypto falls under box 3, which taxes a notional return on what you own on 1 January.

There is an EU angle on energy as well. MiCA requires crypto platforms to publish information on the climate and environmental impact of the consensus mechanism behind each crypto-asset they offer, so you can compare proof of stake and proof of work coins on that point.

Other types of PoS consensus mechanism

Not all PoS blockchains look like Ethereum. Delegated proof of stake lets holders vote for a small number of block producers. Nominated proof of stake, used by Polkadot, lets holders back validators they trust. Solana combines proof of stake with its own timekeeping system to process new transactions quickly. The core idea stays the same: the validator’s stake is what keeps them honest.

The bottom line

Proof of stake secures a blockchain with money at risk rather than electricity. It made Ethereum far more energy efficient and opened staking to ordinary holders, but staking rewards never outweigh the risk of the coin itself falling in value.

Related terms

• Proof of work
• Staking
• Validator
• Slashing
• Ethereum