Financial service providers such as Visa or Mastercard do not need consensus mechanisms, as they control the entire network themselves. When someone uses their Visa credit card, the information is sent to a central database managed by Visa. All Visa credit card users trust that the company will protect all sensitive personal information and process the transactions they order. Because only Visa controls the network, it can reverse and censor transactions. In addition to censorship and the resulting lack of power to resolve disputes, these centralized databases are also exposed to increased risk of hacking and corruption.
With the release of the Bitcoin Blockchain in 2009, a solution to conduct transactions in a peer-to-peer network in a trustworthy, traceable and immutable manner is available for the first time. In such a network, there is no superior authority to ensure that all participants adhere to the established rules. Meanwhile, there are different consensus mechanisms to ensure that all participants in a decentralized network agree on the rules.
What is a consensus mechanism?
A consensus mechanism is the way in which a group of people without a superior authority reaches a decision and ensures agreement.
A consensus mechanism is mainly responsible for three things:
- It ensures that the next block in a blockchain is the one and only version of the truth.
- It prevents malicious attackers from taking over the system and successfully forking the chain. To do so 51% of hash power is required.
- It ensures reliability for the network, which includes multiple nodes, and is one of the most important aspects because it ensures the integrity of the data. One of the main goals of the consensus mechanisms is to prevent users from spending the same coin twice (double spending). If a user could send the same coin to two different wallets, the supply of coins could be inflated indefinitely, which would lead to hyperinflation (significant decrease in purchasing power). To avoid double spending, each computer that manages the blockchain must have the same information about which wallets contain which values. Therefore, users of the blockchain must constantly update the transaction history to keep all wallet balances up to date.
There are currently about three dozen different consensus mechanisms, but none of them is perfect. Each consensus mechanism has its own strengths and weaknesses. In the following I will roughly describe the most important ones:
Proof of Work (PoW)
Proof of Work (PoW) is the very first distributed consensus mechanism. It was developed by Bitcoin creator Satoshi Nakamoto. This consensus mechanism has already been described in the topic Blockchain: function & disadvantages.
Proof of Stake (PoS)
Proof of Stake (PoS) is a consensus mechanism that requires no special mining hardware. All coins are created right at the beginning (premining) and their quantity does not change. This means that there is no block premium in the PoS system so that miners cannot charge transaction fees. In PoS each node is linked to an address and the more coins this address contains, the more likely it is to create the next block. The address which is allowed to place the next block is determined by chance, but the more coins it has, the more chances it has to do so.
An attacker who wants to perform a fraudulent transaction would need more than 50% of all coins to complete the required transactions reliably. The purchase of this amount of coins would drive up the price and make such an undertaking unaffordable.
Since the PoS system is not as energy consuming as PoW, the costs do not have to be covered in the same way as for Bitcoin. Thus, PoS systems are well suited for platforms with a static number of coins without the inflation of block rewards (creation of new coins). The rewards for staking consist only of transaction fees.
Delegated Proof of Stake (DPoS)
Delegated Proof of Stake (DPoS) was developed in 2014 by Daniel Larimer who was significantly involved in the development of the crypto currencies BitShares, STEEM and EOS.
The principle of DPoS is based on the principle of PoS, with the difference that the work of the stakeholders is outsourced to third parties. In other words, the coin owner can vote for certain delegates to secure the network in his name.
The delegates can also be called witnesses and are responsible for reaching consensus when creating and validating new blocks. Voting rights are proportional to the number of coins each user holds on his address. The voting system varies from project to project, but in general each delegate makes an individual proposal when asking for votes. Usually, the rewards collected by the delegates are shared proportionally with their respective voters. Therefore, the DPoS algorithm creates a voting system that depends directly on the delegates’ call. If a dialed node behaves poorly or does not work efficiently, it is quickly rejected and replaced by another. In terms of performance, DPoS block chains are more scalable because they can process more transactions per second.
Other consensus mechanisms include proof of asset, storage, intelligence, believability, devotion, retrievability, authority, …
Last Updated on 16. February 2021