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Blockchain systems use different consensus algorithms. The popular ones are the Proof of Work (PoW) and Proof of Stake (PoS). Proof of Burn is relatively new but is already used by different blockchain systems.
So, what is a Proof of Burn for cryptocurrency, and what are the advantages and disadvantages? Continue watching as we uncover the details, including how Proof of Burn Works.
What is Proof of Burn, and how does it differ from Poof of Work
To understand what Proof of Burn is and how it differs from Proof of Work, we must first know the meaning of crypto burning. In simple terms, burning cryptocurrency means permanently removing tokens from circulation. That is possible by sending them to the burn address, also known as the eater address.
Burn addresses exist in the system, but they don’t have a private key to access the content. Think of it as an email address where you don’t have the password to read the inbox. People can still send emails to it, but you cannot access that information.
If I may ask, why would you burn coins? Burning coins works the same way as reducing a commodity from the market. By destroying or burning cryptos, scarcity is created. That will automatically lead to an increase in the value of the remaining tokens since the demand will rise.
We can also use a company analogy to understand how burning bitcoins work. When a company buys its shares, the values return to the shareholders. However, the prices of crypto do not increase overnight due to burning them.
What is Proof of Burn for cryptocurrency
Proof of Burn is a form of blockchain consensus algorithm with minimum energy consumption compared to Proof of Work (PoW). A consensus algorithm is a procedure by which all Blockchain network participants commonly agree on the current state of a distributed ledger.
Any crypto mining website that uses PoB ensures that each miner reaches a consensus through burning coins. But wait, what is PoW?
PoW is the most popular consensus-generating algorithm where miners get rewards for updating a blockchain. Miners use high computing power to solve complex mathematical equations that give a monetary value. The more computing power a miner uses to solve a cryptographic puzzle, the higher the chance of getting the right to mine the blocks. However, this approach requires expensive computing hardware, which consumes high power. PoB solves these challenges.
You can refer to Proof of Burn (PoB) as an energy-efficient version of PoW. Instead of using power-intensive and expensive computer hardware, POB takes a different approach.
The inventor of the PoB consensus algorithm, Iain Stewart, uses an analogy to better explain how it works. He states that burnt coins are like physical mining rigs. Crypto miners burn their available coins to purchase virtual mining rigs instead of computing hardware. This gives them the power to mine blocks without solving complex cryptographic puzzles. And the more coins miners burn, the more powerful their virtual mining rigs become and hence their mining power.
How Proof of Burn works
All participants of Proof of Burn must show proof of having burnt or destroyed coins. As the name suggests, this process is referred to as coin burn or cryptocurrency burning. As stated earlier, burnt coins are permanently removed from the project. However, they are not physically destroyed.
Instead, they are sent to eater addresses. Eater addresses are available to all network participants, which enhances privacy. The coins stored in the eater address are inaccessible. Continuous crypto burning leaves limited coins in the system, creating an artificial scarcity.
In PoB, a miner invests part of assets in buying tokens or cryptocurrencies to burn. That proves trustworthiness and commitment to the network. The more coins a miner destroys cumulatively, the higher the chances of being picked to validate a blockchain block. That means the risks you take as an investor get rewarded first.
At a glance, you can say the chances of making losses through PoB are high, but that is not the case. The system takes care of every miner and ensures no losses by offering a reward for each block. That offsets the initial investment, but only in the long run.
Also, the PoB-based systems have a mechanism that promotes periodic crypto burning to maintain the mining power. The power of any burnt coins undergoes natural decays every time a new block is added and may eventually turn to zero. This approach prevents early adopters from gaining unfair advantages and encourages regular crypto burning by all participants instead of a one-time investment.
Miners can only gain a competitive advantage by investing in more advanced technology and equipment.
Current applications of Proof of Burn
Many cryptocurrencies are currently using this consensus-generating algorithm, with many more expected to join. They include Slimcoin (SLM), Counterparty (XCP), and Factom (FCT).
- Slimcoin (SLM): This is an open-source cryptocurrency using Proof of Burn, Proof of Stake, and Proof of Work for the creation, mining, and burning of tokens.
- Counterparty (XCP): This cryptocurrency only uses PoB for token creation. Participants transfer their bitcoins to an eater address and get a counterparty token in exchange.
- Factom (FCT): This cryptocurrency uses a complex process in burning and minting tokens, unlike SLM and XCP, which are very direct. The creation of tokens is continuous and follows a project’s monetary policy. They are also burnt as more get to the system.
Pros and cons of Proof of Burn
The invention of PoB was to solve the problems of PoW and PoS. However, it also has drawbacks that still slow down its implementation by different cryptocurrencies. Let’s briefly highlight the advantages and disadvantages of Proof of Burn:
Advantages of PoB
PoB does not require high computing power. It may not be using 100% renewable energy, but its energy efficiency compared with other consensus-generating protocols stands out. It is more sustainable and eco-friendlier.
Does not require mining equipment
You don’t need to invest in expensive mining equipment or hardware in case of Proof of Burn. Both burning of tokens and cryptocurrencies are completed virtually. It requires much less capital and space to set up since there are no centralized companies that do not form part of the system.
Promotes stability and network security
Proof of Burn encourages all participants to continuously invest by burning coins to improve their mining power. After making the first commitment, miners feel motivated to work more, not to lose their money.
Enhances investor’s commitment
Unlike other consensus algorithms used in blockchain, Proof of Burn encourages long-term investment and commitment. That ensures price stability.
Can add value to new tokens
PoB is the best method for improving the value of new tokens and those in development or burning unsold cryptos in Initial Coin Offerings (ICOs).
Enhance fair coin distributions
There is no other consensus algorithm that compares to Proof of Burn regarding the fairness of coin distribution.
Disadvantages of PoB
Dependent on other processes
The tokens the participants burn to enhance their mining power may originate from other cryptocurrencies or consensus algorithms. Depending on the platform, cryptocurrency or PoW may be deployed. That reduces the power efficiency and eco-friendliness of PoB.
No guarantee of recovering the initial investment
Users risk losing their investments, just like in other consensus algorithms. The values of burnt coins may never be recovered.
Work done verification process is slower
Compared to Proof of Work, Proof of Burn is much slower in verifying the work done by miners.
Proof of Burn Vs. Proof of Stake, What’s the Difference
PoS and PoB have one thing in common, they both require an initial investment by participants. In the Proof of Stake, forgers stake their coins by locking them up. However, they have a private key. So, if they wish to leave the network, they can unlock and sell those coins. That is not the case with Proof of Burn.
In the Proof of Burn, burnt coins can never be recovered. They are sent to the eater address on the network with no private key. So, if you wish to leave the cryptocurrency network, you just forget about them.
Since coins are taken out of circulation in Proof of Stake for a limited period, there is no scarcity and resource wastage. On the other hand, PoB miners permanently destroy their coins. That creates a supply crisis.
History of coin burning
Coin burning started way before cryptocurrency gained its momentum. The inspiration behind the idea is the stock buybacks. This simply means the company buys back its stocks from the market. This analogy shares many concepts in common with crypto burning.
Crypto burning popularity started in 2017 and 2018 when many crypto coins burned tokens to cut out supplies and increase value. Binance Coin (CRYPTO: BNB), Bitcoin Cash (CRYPTO: BCH), and Stellar (CRYPTO: XLM) burned massive amounts of tokens.
All cryptocurrencies can be burnt or sent to eater addresses. The following are a few notable cryptos that went through the process:
Binance began a procedure in 2017 to burn its coins quarterly until only 50% remain in circulation.
Stellar Development Foundation burned about 55 billion XLM coins in 2019
Developers of Shiba Inu gave 50% of their supply to Vitalik Buterin in 2021. 90% of those tokens were burned, and the rest were donated.
Proof of Burn is a consensus-generating algorithm used in a Blockchain network that uses the burning of coins to create value. Participants burn their coins by sending them to permanently inaccessible eater addresses. That leads to the rise in demand for PoB because of token scarcity.
PoB eliminates the use of power-hungry computing equipment that other consensus algorithms use. As a result, they are more energy-efficient and environmentally friendly.