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All crypto products and services that are available to users today are built on blockchain technology. Distributed ledgers, peer networks, wallets, system integrations, system management, and smart contracts are some of the most common parts of a blockchain network.
Each of these parts is very important for making sure that a blockchain network works. In addition to these components, blockchains also use crypto staking and crypto mining to secure their networks.
What do the concepts of staking and mining mean? How do these concepts affect the operations of a blockchain network? Are they similar? This article will answer these questions and give you more information about staking and mining cryptocurrencies.
We will also talk about the difference between staking and mining. To begin, let us briefly discuss cryptocurrency staking.
Crypto Staking
Staking crypto assets means locking up digital currencies for a set amount of time in a crypto wallet connected to a proof-of-stake (PoS) blockchain network. This action aims to maintain and improve the performance of such blockchains. Additionally, this process plays a crucial role in securing transactions on the blockchain.
Staking rewards are given to investors who lock up their cryptocurrencies on a blockchain network to keep them safe. Cryptocurrency staking was created to improve the operation and safety of blockchain networks that run on a proof-of-stake consensus mechanism.
But now that rewards are part of the staking process, many crypto investors see this idea as a way to make passive income and therefore as an investment opportunity. The majority of the time, this process has higher risks and rewards than traditional financial platforms like banks.
To fully understand how cryptocurrency staking helps keep a blockchain network running, you need to know how proof-of-stake consensus mechanisms work.
Proof-of-Stake: How Does It Work?
The proof-of-stake consensus mechanism is the direct replacement for the proof-of-work consensus mechanism. This model uses validators, which are network nodes, to check transactions and help a blockchain network reach a consensus.
Different variants of the proof-of-stake model have been developed over the past few years. However, all of these variants share a similar working principle. Most of the time, the algorithm that runs the PoS system picks blocks at random and sends them to a network node for review.
The network node validates the transactions and ensures they are legitimate. Once legitimacy is confirmed, nodes add such blocks to the ledger in exchange for transaction fees and block rewards. Nodes that add the wrong blocks of data to the network are penalized.
Crypto Staking: How Does It Work?
Investors who want to enjoy staking rewards need to lock their crypto assets on a proof-of-stake blockchain. Usually, these investors are invited to join a staking pool to stand a chance of becoming validators.
Most of the time, investors with a lot of crypto assets in the staking pool have a better chance of becoming blockchain validators. After being selected as validators, stakers help secure the blockchain by validating transactions and adding new blocks of data to the network.
In most cases, blockchain validators stake the same cryptocurrency to pay staking rewards. The digital currency used to pay out these rewards is different from the digital currency used to pay out staked coins.
Crypto Mining
Mining is the process by which proof-of-work (PoW) blockchains like Bitcoin validate transactions and generate new coins. Cryptocurrency mining is an energy-intensive process that requires high levels of computing power.
Most of the time, mining uses large, decentralized networks of computers in different parts of the world to check and protect POW blockchains. These decentralized networks also act as virtual ledgers that keep track of all the transactions that happen on the blockchain.
Computers on the proof-of-work network are given new coins in exchange for validating transactions on their blockchain. This process is continuous as miners secure and manage the blockchain. In return, they earn coins as rewards for their activities. The Bitcoin blockchain is the most popular example of a chain that uses the proof-of-work consensus mechanism in the crypto space. How does it function?
Bitcoin Mining: How Does It Work?
At its inception, the bitcoin mining process was simple and uncomplicated. At the time, mining cryptocurrency was possible using a home computer. But as Bitcoin's blockchain grew, the amount of computing power it took to run it went up a lot. Hence the adoption of more specialized equipment for the mining process.
To confirm and record new transactions on the blockchain, these special computers solve hard math puzzles. This process also leads to the minting of new bitcoins. As was already said, this process uses a lot of energy and computing power, which crypto miners give away for free.
The Bitcoin network adopts a lottery for distributing newly minted coins. To win the lottery, computers on the network must ensure they are the first to predict the value of a "hash." The term "hash" refers to a 64-digit hexadecimal number. Generally, the computer that is first to provide the correct hash will receive the new coins.
Staking vs. Mining: Similarities and Differences
There are some similarities between staking and mining. This section will consider some of the similarities between the two concepts. Additionally, we will review their differences.
Similarities
- Crypto mining and staking play a crucial role in ensuring the operation of each blockchain network. Both concepts help to maintain, improve, and secure their respective blockchain networks.
- Both concepts lead to the creation of new coins on their networks.
- Stakers and miners earn rewards for maintaining and securing their respective blockchains.
Differences
- Mining is associated with a proof-of-work consensus mechanism, while crypto staking is attached to proof-of-stake blockchain networks.
- Mining requires specialized equipment that consumes enormous amounts of energy. Staking does not have high energy demands or require special computers for maintaining a blockchain.
- The first crypto miner to solve the cryptographic puzzles adds a new block to the network. For staking, nodes add new blocks by locking their native coins into a smart contract.
- To earn rewards, miners must solve cryptographic puzzles. In contrast, nodes simply need to lock their cryptocurrencies to validate transactions on the blockchain. Nodes will earn rewards based on the amount of their staked tokens.
- Mining requires high computational power. Hence the need for specialized mining equipment. In contrast, nodes that commit a significant number of crypto assets to the staking pool have a higher chance of becoming blockchain validators.
See also: Yield Farming vs. Staking.
Conclusion
Crypto mining and staking are crucial to the operation of blockchain networks. Apart from maintaining and verifying transactions, both concepts also help secure blockchains. Compared to other ways to make money, staking is a simpler way for investors to do so.
Even though popular assets like Bitcoin use crypto mining to run their proof-of-work blockchain networks, many other top crypto projects use crypto staking to protect their networks. Users can stake their crypto assets on many crypto platforms, like exchanges and DeFi protocols.
Disclosures
The content is only provided for informational purposes. It is not meant to be tax or financial advice, and it does not recommend any particular investment plan. Every investment has risk, including the possibility of a cash loss. Past performance does not guarantee future results.
Bitcompare does not guarantee good investment outcomes. The way a security or financial instrument did in the past does not show how it will do in the future. Before investing in options, clients should carefully assess their financial goals and risk tolerance. Due to the importance of taxes in all staking transactions, a customer who is thinking about staking should talk to a tax expert to find out how taxes affect the outcome of any staking strategy.
