That’s why cryptocurrency needs Proof of Work (PoW)

Bitcoin uses too much energy, is too polluting and somehow useless anyway – this opinion is widespread in the crypto-critical population. It was an absolute horror week for every bitcoin enthusiast. In the European Union, the topic “Bitcoin ban” was once again on the agenda. In an exciting vote, the MiCa draft was ultimately rejected by the ECON committee. The proponents of the draft primarily criticized Proof of Work (PoW), the consensus process that is used in Bitcoin mining and is the main cause of the high power consumption.

Bitcoin is a scarce commodity

Unlike fiat currencies, which can be printed in any quantity, bitcoin is one of the scarcest commodities on earth. Its quantity is limited to 21 million – this number cannot be changed. Anyone who wants to produce Bitcoin (called mining in technical jargon) must therefore muster energy. The flow of energy that flows into the Bitcoin network is primarily regulated by the so-called Difficulty Adjusment (DA). This mechanism essentially determines the level of difficulty with which a miner can find a Bitcoin.

The Bitcoin creation process is therefore inherently linked to a work process. In an exchange of blows with US Senator Elizabeth Warren, MicroStrategy CEO and Bitcoin maximalist Michael Saylor put it this way:

Bitcoin is digital energy. With this technology, we can transmit any amount of energy, at any frequency, anywhere in time and space, with almost zero friction. This is smarter, faster and stronger than mechanical, chemical or electrical energy. Digital energy is the future.

Michael Saylor, Source: Twitter

According to Saylor, the mining process converts electrical energy into digital energy. One could look at the digging process for gold in a similar way, because here too, due to the rarity of gold, energy has to be expended to get it out of the ground. Once mined, it is available forever as a medium of exchange due to its specific properties. The often criticized proof-of-work process imitates exactly this prospecting process for gold, so to speak. Because of these similarities, Bitcoin is also referred to as “digital gold”.

Bitcoin – a climate killer?

Yes, bitcoin mining consumes a lot of electricity in absolute terms. In relative terms, however, a different picture emerges. According to information from Bitcoin Mining Councils annual electricity consumption in 2021 was 220 TWh. There are now even calculations that show that investing in Bitcoin has less of an impact on the climate than investing in the S&P500 – more on that here.

According to the Bitcoin Mining Council, the share of renewable energies is now 58.5 percent (see Figure 2). The member companies of the Bitcoin Mining Council even come to 66.1 percent. But how much CO₂ would you actually save if you ban Bitcoin? According to a new study by Coinshares, the share that could be achieved by immediately switching off Bitcoin amounts to 0.08 percent of global CO₂ emissions.

So that there are no middlemen or banks who can control or control Bitcoin, Bitcoin is not managed centrally by one institution, but decentralized by an infinite number of computers (nodes) around the world. Seen in this way, the high power consumption is also a kind of protection against enemy attacks. For example, if you wanted to change a transaction on the blockchain, you would have to use all the computing power that has been used up to now – and that is simply impossible. In this way, the Bitcoin network is a bulwark and the most censorship-resistant asset in the world to date.

Switching to Proof-of-Stake – is it possible?

So why not just switch to the Proof-of-Stake (PoS) method, which is used with Cardano, for example? After all, this is much less energy-intensive and also has many other advantages. Ethereum is currently impressively demonstrating how such a switch could look like, because the Ethereum Foundation wants to switch to the PoS procedure in the first half of the year. Ultimately, this means less energy consumption and greater scalability. So what should speak against Bitcoin?

Fred Thiel from Marathon Digital Holdingsone of the largest Bitcoin mining companies in the US, explains in a conversation with BTC-ECHO what the fundamental difference between a proof-of-work and a proof-of-stake system is:

With a proof-of-stake system, it is relatively easy for a large stakeholder to manipulate the system. I think we will see that all proof-of-stake systems need to rely on an external, independent validator, which may very well be the bitcoin blockchain.

Fred Thiel to BTC-ECHO

Also Professor Dr. Philipp Sandner, head of the Frankfurt School Blockchain Center (FSBC) at the Frankfurt School of Finance & Management, currently sees no alternative for PoW:

PoW is the only mechanism that can enable decentralized consensus without requiring any elements of trust. The reason is that the consensus algorithm is inseparable from doing work. In concrete terms, electricity is consumed in order to carry out arithmetic operations as part of the consensus algorithm. And why do we need the “doing of work”? Because this is the only way to get the block time of ten minutes. And why the block time? Because only in this way can there be enough time between two network states (before a transaction and after a transaction) so that data worldwide has time to be synchronized on thousands of computers. Without this timing, there is a risk that the databases would become asynchronous on thousands of distributed nodes. Then the consensus would be endangered.

Philipp Sandner to BTC-ECHO

Michael Saylor takes a similar view, but takes it a step further by citing Proof of Work as the only process that can create digital wealth.

The only recognized method of creating digital property is Proof of Work. Non-energy based crypto approaches such as Proof of Stake must be considered securities until proven otherwise. Banning digital property would be a trillion dollar mistake.

Michael Saylor up Twitter on the possible EU ban

The PoW method thus guarantees network security and is therefore inextricably linked to Bitcoin. In addition, it is precisely these properties that make Bitcoin so attractive to people in countries that do not have the luxury of a functioning legal system that adequately defines and secures property rights.

It can therefore be stated that Proof of Work can be considered superior in the essential points. In particular, the point of security plays a decisive role in a decentralized system. Proof of Stake allows for a more centralized structure here and is therefore more vulnerable to enemy attacks. Additionally, over the past 13 years, Bitcoin has proven to be the best performing network in the world in terms of network authenticity, reliability, and security. Bitcoin has never been hacked and has been running like Swiss clockwork ever since. The perfect basis for a global monetary network.