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Original research, analysis and reports across the frontier of cryptoeconomics, blockchain technology, and digital assets.
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Research

November 26, 2019

Analysis

November 11, 2019

Analysis

November 1, 2019

Analysis

October 21, 2019

Analysis

October 11, 2019

Analysis

October 4, 2019

Analysis

September 26, 2019

Analysis

September 19, 2019

Update

September 12, 2019

Cryptoasset Report

September 5, 2019

Update

August 23, 2019

Report

August 2, 2019

Cryptoasset Report

May 23, 2019

Cryptoasset Report

May 9, 2019

Cryptoasset Report

April 25, 2019

Cryptoasset Report

March 1, 2019

Quarterly Report

February 26, 2019

Cryptoasset Report

December 20, 2018

Cryptoasset Report

December 18, 2018

Quarterly Report

August 20, 2018

Analysis

June 6, 2018

Analysis

April 4, 2018

Token-based fundraising

March 6, 2018

Analysis

March 2, 2018

Token-based fundraising

February 12, 2018

Token-based fundraising

February 4, 2018

Token Sales

December 29, 2017

Introduction

August 2, 2016

Introduction

July 13, 2016

Education

July 4, 2016

Introduction

June 21, 2016

Introduction

June 14, 2016

Introduction

June 7, 2016

Introduction

March 24, 2016

Introduction

March 17, 2016

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Analysis

October 4, 2019

An Update on Proof of Work

Proof of work remains a critical and enduring feature of the public blockchain industry.

As the consensus mechanism underpinning the majority of the most valuable base blockchain networks to date, Proof of Work has historically played a central role in the cryptoasset industry. Today, mining has largely fallen out of favor for new protocols, as staking and delegation mechanisms have become more widespread. However, Proof of Work remains an enduring feature of the industry, albeit concentrated in a smaller number of protocols. Of our Signal crypto projects, 10% employ some form of mining, with over $6.5 billion paid out in block rewards in the past year, an estimated over $6 billion worth of hashing infrastructure active today, and steadily increasing hashrates in key industries.

Why the Shift Away from Proof of Work?

Distributed blockchain protocols each define a process by which nodes form global consensus on the state of a database. Prior to Bitcoin, the primary mechanism for solving this problem involved a known set of computers whose agreement was managed by a Byzantine Fault Tolerant method. One of the Bitcoin’s core innovations was a process by which consensus could be securely determined competitively by a distributed network of anonymous, potentially adversarial nodes. Broadly speaking, ‘membership’ (i.e. the right to verify transactions) was based on computational power that could not be easily faked or scaled without use of real, costly resources. Thus, mining was the ‘proof-of-work’ that enabled an unknown and dynamic set of computers to agree on the state of Bitcoin’s ledger.

Variations of Proof-of-work dominated the cryptocurrency landscape for years, though it also has accumulated a variety of criticisms and concerns, including how capital intensive ASIC mining is, the incentives to centralization that such capital intensity has, the immense energy footprint of PoW networks, performance limitations with such a vast network, governance concerns given the share of mining activity occurring in a small handful of censorship-friendly countries, and more. Energy consumption in particular has proven a sore spot

This set of concerns led to a broad push among protocols to tweak the proof-of-work design to address these issues; for example, by using a new hash algorithm that is less susceptible to ASIC development. But other consensus protocols, long discussed in theory, increased in popularity, most notably Proof of Stake and Delegated Proof of Stake. In both, ‘membership’ (i.e. the right to verify transactions) is based on token holdings (of self or others) that cannot be easily faked or scaled without use of real, costly resources -- in particular, capital to acquire the tokens.

Today, Proof of Work has fallen out of favor for new projects in the industry, and the significant majority of more recent project launches either utilize some form of Proof of Stake (for base blockchains) or utilize a metatoken on another platform (thus obviating the need to orchestrate consensus). Since the beginning of 2018, only a handful of PoW projects have raised significant capital or launched to prominence. PoW as a topic used to dominate industry discussions; today, with a few exceptions, it is rare to find a series of articles or research exploring it in depth. Of major headline blockchain protocols launched or heavily discussed in the past two years (Telegram, Libra,Cardano, Tezos, Cosmos, Tron), only Grin and Beam utilize Proof of Work.

Proof of Work is Not Dead

A newcomer to the industry would be forgiven for thinking the era of Proof of Work is over.

Nonetheless, many proof of work protocols remain active. Smith + Crown’s Signal set of projects includes 11 PoW networks, most of which were launched over two years ago. These all have attracted and sustained immense, dynamic, and still-active industries. The table below provides two estimates for how extensive such infrastructure is today around the world. The annualized mining cost is an estimated amount of USD-equivalent resources would be needed to sustain the network’s Q3 hashrate: it is indicative of how much sunk capital is actively maintaining these networks. The value of last year’s block rewards similarly shows the scale of opportunity miner’s faced in the previous year; given how competitive mining has become, this number should approximate or slightly overshoot the scale of capital needed to acquire it. Note: the two numbers aren’t meant to be compared to estimate profitability but more to illustrate market size.

Network
Year Launched
Hash Algorithm
Annualized Mining Costs (relative to BTC's) [1]
Value Last Year's Block Rewards [2]
Bitcoin
2009
SHA-256
$4.7B (100%)
$4.7B
Ethereum
2015
Ethash
24-29%
$1B
Bitcoin Cash
2017
SHA-256
2.75-3.25%
$200MM
Litecoin
2011
Scrypt
10-12%
$332MM
Grin
2019
Cuckoo Cycle
6-7%
$75MM (3)
Beam
2019
Equihash
2.5-3%
$39MM (3)
Decred
2016
Blake-256
2-2.5%
$28MM
Monero
2014
Cryptonight
1-1.25%
$58MM
Dash
2014
X11
1.25-1.75%
$72MM
Sia
2015
Blake2B
0.15-0.25%
$18MM
Zcash
2016
Equihash
0.6-0.8%
$149MM

The table above also under-reports total global hashing activity; a number of valuable cryptoasset networks not included in the Signal list are secured with Proof of Work. Proof of work remains a piece of the cryptoasset industry, and the industry is active beyond Bitcoin’s own mining industry.

Mining Difficulty Grows

Indeed, despite the relative fall-off in discussions many early PoW networks have seen significant growth in mining interest. The following figure shows the log growth in difficulty, a reliable indicator of network hashrate, normalized for each network’s initial difficulty value, since inception. Difficulty is a network-specific parameter that continually adjusts according to how quickly blocks are produced, in order to maintain a consistent block time. Thus, difficulty is a proxy for mining activity and efficiency; when a greater quantity or more efficient miners come online that are able to solve the hash puzzle more quickly, the difficulty parameter adjusts.

Figure 1. Hash Rate of Major PoW Networks
Hash Rate of Major PoW Networks

Thus, despite the comparative lack of new projects utilizing Proof of Work, many of the industry’s most successful projects continue to use the mechanism successfully, and continued innovation and investment in mining provide a signal to long-run potential.

What’s Next for Proof of Work?

Despite the many criticisms of proof-of-work, there remains something compelling about the Proof of Work consensus process from a cryptoasset design perspective.

  • First, it is not heavily influenced by initial token distribution, as PoS and DPoS systems are. Anyone at any time can join as a miner at any time, regardless of the price of the cryptoasset. Those who ‘get in early’ do not have an enduring advantage.
  • Second, computation directed toward proof of work--especially ASIC-based computation--represents a capital cost in a network that isn’t easily recouped other than through mining.
  • Third, evidence suggests that the story on mining’s energy use is more complex in practice than headline numbers show: many mining facilities use renewable energy and are located in remote areas where energy may not have an alternative use. It is not difficult to imagine using proof-of-work specifically as an outlet for energy overproduction in the future.

There was a time in the industry when ‘hash power’ was imagined as a strategic global resource, distributed around the world, to be directed toward securing sovereign cryptoassets. The collective conclusion that this might instead involve well-financed companies establishing operations in areas with the cheapest energy and consuming more electricity than entire countries made such a vision seem fairly misguided, at best naive. But evidence suggests the idea endures and for operating networks, continues to function.

It would be unsurprising if the industry, armed with lessons from the past several years, broadly returns to a discussion about Proof of Work, as the technology, narratives, and network design continues to evolve.

Footnotes

  1. This range estimates the capital and operating cost needed to sustain the network’s current hashrate. It is a crude measure and is intended to be illustrative rather than definitive. Operationally, the measure is calculated estimating the average hashrate cost of leading 2019 mining equipment, assuming capital costs discounted from market prices, 18mo electricity costs at $.05 per KWh (an assumption used by Coinshares, among others) and $.05 soft costs (used by Sia/Obelisk). The estimate is higher than that provided by Digiconomist’s Bitcoin Energy Consumption Index, which uses a different methodology and as a measure largely agrees with the Cambridge Bitcoin Energy Consumption Index. Their methodology, validated by academic literate on the topic, bases miner operating costs on block reward values and broadly assumes miners operate at a profit at all times; this might not be true at all points in time and could underestimate costs if the network is built out relative to the price. Cost estimates for alternate networks were calculated as the ratio of a similar calculation to Bitcoin relative to other protocols. Note: Zilliqa excluded from this list due to unique low-intensity use of proof of work.
  2. Does not include transaction fees, which remain relatively negligible as a share of block rewards for major protocols.
  3. Value of block rewards since network launch in January 2019.