While most blockchain systems use Proof of Work (PoW) or Proof of Stake (PoS) algorithms to reach consensus, Proof of Burn (PoB) algorithms are being tested as an alternative.
In general, consensus algorithms are responsible for maintaining network security and verifying transactions and their validity.
In Proof of Work blockchains such as Bitcoin, a scenario is created where miners compete to find a valid solution to a complex cryptographic problem. The first miner who can reach the correct solution for a particular block broadcasts its proof of work (Block Hash) to the rest of the network. The distributed network of nodes then checks whether this solution is correct or not. If it is correct, the miner gains the right to add this block to the blockchain permanently and is also rewarded with the newly created Bitcoin.
For Proof of Stake blockchains, the consensus algorithm works differently.
Instead of using a hash function, the PoS algorithm uses digital signatures that prove ownership of coins. New blocks are validated by so-called minters who are chosen in a deterministic (non-random) way. The more coins a forger has at stake, the higher the chances of being chosen as a block validator. Unlike PoW systems, however, most PoS systems do not offer block rewards and all you get for validating a block are transaction fees.
Although the Proof of Burn algorithm has similarities to PoW and PoS, it has its own way of reaching consensus and verifying blocks.
Proof of Burn - PoB
There are several versions of PoB, but the Proof of Burn concept idealized by Iain Stewart is probably the most widely accepted in the cryptocurrency world. It has been proposed as a more sustainable alternative to the PoW consensus algorithm.
Basically, the Proof of Burn algorithm looks like the Proof of Work algorithm but with lower energy consumption. The process of verifying a block on PoB-based networks does not require the use of powerful computing resources and does not rely on powerful mining hardware such as ASICs. Instead, cryptocurrencies are intentionally burned as a way to invest resources into the blockchain, so candidate miners are not required to invest financial resources in PoB-based systems, instead miners invest virtual mining rigs or virtual mining power.
In other words, users can demonstrate their commitment to the network by burning coins and earning the right to mine and validate transactions. Since burning coins represents virtual mining power, the more coins a user burns for the benefit of the system, the more mining power they have and thus the higher their chances of being chosen as a block validator.
How does Proof of Burn work?
In short, the process of burning coins is to send them to a verifiable public address that is inaccessible and useless, and therefore cannot be returned. These addresses (known as eater addresses) are usually generated randomly without any private key. Naturally, the process of burning coins reduces the availability of the coin in the market and creates economic scarcity, which causes a potential increase in its value. Also, burning coins is another way to invest in the security of the network.
One of the reasons why Proof of Work blockchains work is because miners need to invest a lot of resources in order to eventually make a profit. This means that miners in Proof of Work systems have every incentive to work honestly and help the network in order to prevent wasting their initial investment.
The idea is similar to the Proof of Burn algorithm but instead of investing electricity, manual labor, and computing power, the PoB blockchain is secured by the investment made through burning coins and nothing else.
Similar to Proof-of-Work (PoW) blockchains, PoB systems offer block rewards to miners over a certain period of time and the rewards are expected to cover the initial investment of the burned cryptocurrencies.
As mentioned earlier, there are different ways to implement the Proof of Burn algorithm, while most projects mine PoB by burning Bitcoins, others gain consensus by burning their own coins.
Proof of Burn vs Proof of Stake
One thing that Proof of Burn (PoB) and Proof of Stake (PoS) have in common is the fact that block validators have to stake their coins in order to participate in the consensus mechanism. However, a PoS blockchain requires forgers to lock up their coins to use as stake. However, if they decide to leave the network, they can take those coins back and sell them in the market. Therefore, there is no demand/shortage in the market for such coins because they are only taken out of circulation for a certain period of time. On the other hand, in a PoB blockchain, block validators have to destroy their coins forever, creating a permanent economic scarcity.
Advantages and disadvantages of Proof of Burn
The pros and cons listed here are based on general arguments from proponents of the Proof of Burn method and should not be considered as proven facts. There is controversy surrounding these arguments that requires further testing to confirm them as true or false.
Advantages
More sustainable. Low energy consumption.
No mining hardware required. Burning coins is a virtual mining rig.
Coin burns reduce the available supply (create scarcity in the market).
Encourages long-term commitment from miners.
Coin distribution/mining tends to be less centralized.
Disadvantages
Some believe that PoB is not environmentally friendly because the bitcoins that are burned are created by PoW miners which require a lot of resources.
It has not been proven to work at large levels. More testing is still needed to confirm its effectiveness and safety.
Verification of the work done by miners tends to be delayed, as it is not fast enough as in a Proof of Work (PoW) blockchain.
The process of burning coins is not always transparent or easily verifiable by the average user.