What is Consensus Mining?
Note: Data in this section last updated August 26th, 2022
Centralized networks, such as banks, have a small army of bookkeepers, accountants and auditors to process transactions.
While decentralized networks can’t rely on an in-house staff, they can leverage a distributed group of users known as “miners” for a similar purpose.
Miners are the de facto auditors of decentralized platforms. They are responsible for processing the output of transactions, confirming asset ownership, ensuring there is no fraud and updating the blockchain with the new results. Unlike auditors at a traditional bank, almost anyone can be a miner – there’s no hiring process, no location requirements and miners don’t even have to disclose their identity (in fact, most miners are completely anonymous).
As such, most decentralized platforms have thousands of miners located all over the world that can validate transactions.
While this seems like an elegant solution to the problem of centralization, it raises a few concerns. In particular: how can we trust the miners? How do we know that they won’t abuse their power and send a bunch of money to themselves or their friends?
The answer is surprisingly simple – we use economic incentives to reward good behavior and punish bad behavior.
While there are several incentive schemes, the most popular– used by both Bitcoin and Ethereum – is known as “Proof of Work”.
Overview of Proof of Work Mining
Proof of Work requires miners to solve an extremely difficult math problem to earn the right to validate new blocks. This problem is so difficult that it can only be solved by random guessing. As such, miners often employ dozens to hundreds to thousands of computers to make millions of guesses, hoping that one of them gets the correct answer.
This uses a lot of electricity, and therefore effectively costs miners a lot of money to “bid” on the right to validate transactions (it’s not uncommon for a miner to spend tens to hundreds of thousands on electricity costs before successfully mining a block).
Once a miner solves the puzzle, she will then update the blockchain with the new transactions and send it to the other miners on the network for approval.
If she did everything correctly, the network will accept the new block and she will receive a reward (at the time of publication, the rewards were ~$3K for mining an Ethereum block and ~$125K for mining a Bitcoin block).
If, however, she tries to cheat the system, it would be painfully obvious to everyone – the aforementioned hash would be broken and the new block wouldn’t connect to the old one. As such, the network will reject the new block, causing the miner to not only lose out on the rewards, but also waste money on electricity costs.
So, at the end of the day, the network is secured by economic incentives and game theory – a miner who acts appropriately could receive hundreds of thousands of dollars in rewards, while one who attempts to cheat the system will almost certainly be left with nothing but a huge electricity bill.
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