Karl Montevirgen is a professional freelance writer who specializes in the fields of finance, cryptomarkets, content strategy, and the arts. Karl works with several organizations in the equities, futures, physical metals, and blockchain industries. He holds FINRA Series 3 and Series 34 licenses in addition to a dual MFA in critical studies/writing and music composition from the California Institute of the Arts.
Doug is a Chartered Alternative Investment Analyst who spent more than 20 years as a derivatives market maker and asset manager before “reincarnating” as a financial media professional a decade ago.
Before joining Britannica, Doug spent nearly six years managing content marketing projects for a dozen clients, including The Ticker Tape, TD Ameritrade’s market news and financial education site for retail investors. He has been a CAIA charter holder since 2006, and also held a Series 3 license during his years as a derivatives specialist.
Doug previously served as Regional Director for the Chicago region of PRMIA, the Professional Risk Managers’ International Association, and he also served as editor of Intelligent Risk, PRMIA’s quarterly member newsletter. He holds a BS from the University of Illinois at Urbana-Champaign and an MBA from Illinois Institute of Technology, Stuart School of Business.
Proof of work (PoW) is a decentralized system that verifies blockchain transactions without banks or other central authorities. Instead, an algorithm and network participants ensure the record of transactions stays accurate and secure.
How does proof of work secure the blockchain?
Miners compete to solve complex puzzles, and the first to succeed adds a block of transactions to the chain. This prevents double spending and makes tampering nearly impossible, since altering one block would require redoing all previous ones across the network.
What are the drawbacks of proof of work?
While effective at securing transactions, proof of work has major downsides: it consumes vast amounts of energy, can be slow and costly, and is not entirely safe from centralization risks or a potential 51% attack, in which one entity gains majority control of a networkâs mining power and can manipulate transactions.
Youâve probably heard that Bitcoin transactions are highly secure and executed with near-perfect accuracy despite lacking a central (or human) entity to verify and oversee the process. It sounds pretty amazing, but how is it possible?
Crypto blockchain networks use algorithms to secure, verify, and self-govern activities on the blockchain. In the case of Bitcoinâthe first cryptocurrencyâdevelopers pioneered a verification mechanism called proof of work.
Key Points
Proof of work is a system that allows cryptocurrencies like Bitcoin to operate without a centralized authority.
Proof of work lets blockchain networks operate by consensus rules rather than âtrust.â
Proof-of-work mechanisms consume a lot of energy, prompting blockchain developers to create alternative verification systems.
So how does it all work? What are its advantages and risks? And if youâre looking to invest in cryptocurrency using this mechanism, what might you need to know?
What is proof of work?
Proof of work (PoW) is a decentralized system used to verify the accuracy of transactions on the blockchain network.
In other words, proof of work removes the need for a central authority like a bank, business, or government agency to monitor and manage transactions and their corresponding accounts. Instead, an algorithm verifies thousands upon thousands of transactions on any given day to make sure the entire history of transactions remains pristine and unaltered.
How proof of work âworksâ
Cryptocurrency transactions take place on a decentralized public ledger called a blockchainâa huge digital list of all transactions. Each âblockâ contains a limited number of crypto transactions. Linking these together creates a chain of blocks, hence the term âblockchain.â
Learn more about blockchain technology.
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Every computer (or ânodeâ) participating in a cryptoâs blockchain network has its own copy of this blockchain (which, again, is a history of transactions bundled into blocks).
How does a new transaction get into a block? This is where proof of work comes in. Suppose you want to send someone a certain amount of Bitcoin:
Transactions are grouped. Your transaction is pooled with other non-verified transactions (people buying, selling, or exchanging Bitcoin). These transactions are waiting to be placed into a block.
Miners compete to verify the next block.Crypto miners worldwide (basically, computers operating in the network) work to solve a complex mathematical puzzle. Their goal is to spit out a 64-bit âhashâ (like a signature or a password) that matches Bitcoinâs âtarget hash.â Truth be told, itâs a huge guessing game. Mining computers make trillions of guesses per second, which is why, as weâll explore later, the process is energy inefficient and costly. It takes, on average, around ten minutes for miners to mine a new block.
A new block is mined and the transactions are added to the blockchain. The first miner to reach the goal gets to write the next page of blockchain transactions. The grouped transactions are placed in a block. That block with its solution is sent to the entire Bitcoin network so that each computer can validate it and update their copies of the ledger.
Every move in the Bitcoin network must happen in âconsensus,â meaning that all computers must agree to the same data. This is why proof of work is called a âconsensus mechanism.â Itâs also why the Bitcoin network is referred to as a âtrustless system.â The entire system is mechanized by computer consensus rather than relying on the trust of any single entity (as opposed to a banker who might accidentally âloseâ your paycheck deposit or misallocate your funds).
Proof-of-work verification systems
The critical advantage of proof of work is that it prevents double spending. When you hand some cash over to your grocery clerk to buy a loaf of bread, you canât then use that same cash to buy a gallon of milk. That cash is spent.
Is Bitcoin bad for the environment?
Bitcoin is widely criticized for consuming a shocking amount of energyâcomparable to that of entire countries, as measured by the Cambridge Bitcoin Electricity Consumption Index. But the truth about cryptocurrency energy usage is more nuanced than you might think. And believe it or not, you can invest in crypto responsibly without creating a gigantic carbon footprint.
But when it comes to cryptocurrencies, where no central authority monitors or manages transactions, double-spending poses a real risk. If people could double-spend a crypto, then that currency would lose all value.
With proof of work, all transactions are verified and broadcast throughout the entire system, making them nearly impossible to tamper with or change. If you send someone one Bitcoin, that information is sent to and recorded throughout the entire network. You cannot spend that same Bitcoin again.
This is what makes Bitcoin and other cryptos that use proof of work virtually tamper-proof. If a bad actorâa scammer or hacker, for exampleâwanted to change the information in a block, that person would have to change previous blocks, and all of the computers participating in the network would have to agree to the changes. The time, energy, and cost of this massive effort, assuming it could even be done, would likely outweigh the potential profit from tampering with the blockchain. So, although tampering is not impossible, itâs highly unlikely.
Problems for proof of work
With all its benefits, proof of work also has some disadvantages.
It uses a lot of energy. To mine new blocks, computers work around the clock making trillions of calculations every second to solve the next hash puzzle. By some estimates, Bitcoin consumes up to 150 terawatt hours annuallyâmore than enough to power the entire country of Argentina (a population of 45 million people).
Scam risk: The dark side of crypto
A 51 % attack is just one way bad actors can exploit cryptocurrency. From phishing and pump-and-dump schemes to fake ICOs and wallet scams, the risks go well beyond blockchain mechanics. Learn more in Britannica Moneyâs guide to cryptocurrency scams.
Itâs slow. Waiting several minutes to verify a single transaction can be considered slow compared to sending cash digitally in a matter of seconds.
Itâs not centralization-proof. The whole point of creating decentralized cryptocurrency is to ensure that no single entity is in charge of the entire system. But if a few mining pools were to control the majority of Bitcoinâs hashing activities (which, by the way, would take massive computational power), then they would in essence control the majority of Bitcoinâs operations.
Itâs somewhat vulnerable to a 51% attack. If one entity could take over 51% of Bitcoinâs mining capabilities, then it could disrupt the rules, possibly allowing for double-spending or blocking the confirmation of new transactions.
The bottom line
Proof of work is a unique mechanism that allows cryptocurrency networks to operate securely without the need for a centralized authority. However, its energy inefficiency is a real drawback. And other blockchain developers are creating new verification systems, such as proof of stake and proof of history, aiming to improve on proof of workâs innovations.
