By now, you’ve heard of cryptocurrency.
Heck, you may even own some crypto.
But if you’re like most people, you don’t even know what it is.
And you almost certainly don’t know that the real value with this topic is not the actual cryptocurrency but the technology on which it runs – The Blockchain.
So let’s start there and run with this.
What is the blockchain?
To answer that, it’s best to start by looking at what it’s trying to replace.
Right now, if you want to transfer anything of value – a title, a purchase, money, etc – to someone else, that transfer is part of a transaction and that transaction needs to be verified.
Let’s take the case of online banking.
If you want to send money to your brother in Paraguay, you have to wait for a number of verifications to occur in order for that transaction to go through.
Your bank needs to verify that you have enough funds to make the transfer.
Your bank needs to verify that you don’t have any other pending transactions that would invalidate your Paraguay transfer.
As the money crosses the border, there are a litany of other transactions that need to occur.
And the only entities that can perform these verifications are the source bank and the target bank because they hold the ledger of each party.
In the world of the blockchain, every computer on the network can verify a transaction because they all have a copy of the ledger.
So basically, what we have is a system that allows a group of connected computers to maintain a single updated and secure ledger.
In the world of cryptocurrency, this is the actual currency – Bitcoin, Ethereum, Ripple, etc.
However, this could be anything.
Titles, deeds, digital kittens, whatever.
On the blockchain, all these transactions get packaged into a block and all the computers on the network have access to the blocks.
The transactions are encrypted and the blocks are kind of locked with a random number.
If there were only one computer on the blockchain, that computer would require almost a year to be able to guess that random number and unlock that block in order to verify it.
But, the blockchain is a network of thousands of computers, so the average time it takes for one of them to guess the random number is about 10 minutes – and no matter how many computers join the network, that timeframe will remain the same because there will be a larger pool of numbers to guess from.
Anyway, the first computer on the blockchain to guess the number right, verifies the transactions in the block and then broadcasts it to all the other computers on the network.
That’s a heck of a lot quicker than waiting a week for a title check – or four days to send money internationally.
So who owns these computers on the blockchain that do this guessing and verifying?
Anyone can add a computer to the network and begin trying to solve the random number and verify transactions, but as the more computers get added, the faster your computer will have to be in order to be fast enough to guess any numbers before the other computers.
Generally speaking, the faster your computer, the more it costs to buy and operate it.
So why are these random people spending money on computers to verify transactions?
For every block they win, they are awarded with a fraction of a bitcoin (or other crypto).
In bitcoin terms, the amount won is halved every four years. So in 2012, these computers may have won a whole bitcoin and then in 2016, that number would have been .5 bitcoin (I’m using simple examples here).
OK. So perfect system, right? Everybody wins?
The blockchain model we have just described is called the Proof of Work model.
In the POW model, miners get paid for doing work and anyone can do the work.
So what’s the problem?
There are a couple.
First off, the miners have to pay a lot of money to run their computers on the network.
This expense is in the form of massive electric bills, and to pay those bills, they need fiat currency (i.e. cash) to pay them.
This puts downward pressure on the value of bitcoin because a lot of it is inherently always going to be sold.
Additionally, there are environmental concerns over the increasing amount of energy required to verify transactions.
As of today, the amount of energy required to verify as single transaction is enough to power a US household for a day and a half.
As more computers join the network and as more transactions take place, the energy requirement is only going to go up.
At some point, the miners will exit because the money they get for verifying and selling the crypto won’t be enough to cover their costs.
This presents another problem.
The blockchain works only because no one ones it.
If enough computers leave the network to the point where a single entity can control more than 50% of the computers on the network, the blockchain becomes vulnerable to a number of attacks.
And there is no intrinsic reason not to attack the blockchain for this entity because they aren’t holding onto the crypto. They’re turning it into cash almost immediately.
So they’re not hurting themselves by causing mayhem.
That brings us to the Point of Stake blockchain model.
The POS model is very similar to the POW with a few exceptions.
First off, not just anyone can put a computer on the network and start verifying transactions.
In order to put a computer on the network, you have to own some of the crypto.
And even then, you’re only eligible to verify a percentage of transactions matching the percentage of your ownership.
So, if you own 2% of Cody Coin, you are eligible to verify 2% of the transactions that use Cody Coin.
Additionally, you are not awarded a Cody Coin (or a fraction of Cody Coin) for verifying a transaction.
Instead, you are awarded the transaction fee associated with that transaction.
This solves the energy problem because, instead of spending energy going after every transaction, each computer is going after only a fraction of transactions.
Additionally, it solves the mayhem problem because, even if a single entity could get a hold of 51% of a crypto currency, they would only be harming themselves if they caused mayhem with that crypto.
However, there are technical hurdles to the POS model and it also causes a kind of hoarding.
The POS model incentivizes entities to hold on to coins as kind of assets rather than spend them as a currency is supposed to be used for.
Both POS and POW have strengths and weaknesses and while the trend right now is moving toward POS, many are arriving at hybrid solutions.
In either case, both are blockchain models that, no matter what happens with cryptocurrency, will revolutionize the way transactions take place.