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There are numerous ways to make money with cryptocurrencies. Trading, lending, and mining are some of these. Staking is another one.
When staking, you keep a fixed number of crypto coins in your wallet for a set period. During this time, these staked coins generate a passive income. The reward earned depends on the cryptocurrency held and of course on the number of coins held. In that sense, staking rewards are like a dividend or interest on a savings account but with much greater risk. Rewards are paid out in the staked cryptocurrency.
Staking is only possible when the crypto assets use a proof of stake (PoS) consensus mechanism. Here, crypto miners or validators as they also are called create and verify new blocks on the blockchain within a decentralized network. Ethereum, the world’s second-largest cryptocurrency, as well as other altcoins such as Solana, Polkadot, or Cardano can all be staked.
Staking guarantees trust in cryptocurrencies
Staking can be seen as a sort of commitment. If the miner validates fraudulent or flawed transactions and data, they can lose all or parts of their staked coins. If they validate legitimate and correct data, they can earn crypto coins as rewards.
Crypto validators must stake a certain number of crypto coins to be eligible for rewards in exchange for their work. Each blockchain network has its own set of rules. For example, Ethereum requires each of its miners to hold a minimum of 32 ETH. This was equivalent to around 60,000 US dollars on May 2, 2023. Staking pools, and democratizing staking, are allowed and offered by third parties.
The world’s largest crypto exchange, Binance, does not offer staking pool solutions as such. It instead “mimics” the underlying blockchain technology…with a rigid framework of fixed time periods for staking. Coinbase, the largest US exchange, has a staking pool, where users can stake any amount.
Bitcoin is un-stakeable
As you have probably noticed, the world’s largest cryptocurrency, Bitcoin, does not allow staking. Unlike Ethereum, Bitcoin, Dogecoin and Litecoin use the older proof of work (PoW) consensus mechanism for their blockchain. Validators must find the right code to earn a block.
The miners protect the blockchain on which the cryptocurrency operates by resolving mathematical problems. This PoW mechanism also protects against malicious attacks and is judged to be immutable. PoW mechanisms do, however, have a major disadvantage: their intense energy use. In this respect, PoS-based cryptocurrencies offer a distinct competitive advantage.
Ethereum claims its uses 99 percent less energy since it switched to PoS in December 2020, but its coins can only be unstaked since April 12, 2023 (Read an article about this upgrade here).
Risks involved with staking
The regulatory environment surrounding staking remains unclear, especially in the US. In February 2023, the Securities and Exchange Commission fined Kraken 30 million dollars for having failed to register its crypto staking-as-a-service program. The country’s third largest crypto exchange in terms of trading volume thus started to automatically withdraw any staked Ethereum held by US clients once the Shapella upgrade made it possible in April 2023 (See article on the Shapella upgrade here). Other exchanges, such as Coinbase, may soon be targeted by the US regulator. Non-US clients are not impacted by the SEC’s crackdown on staking.
Many crypto investors thus wonder whether Bitcoin will move away from PoW to PoS. What do you think? Will it follow in the footsteps of Ethereum or is it too expensive?