In the crypto world, “staking” a cryptocurrency is a simple concept to grasp, but not a trivial one to understand.
Many tokens offer the possibility of being staked, which is to say, locked for a certain period in exchange for a return paid in the same token.
For many people, this is enough, but to really understand how staking works, it is necessary to know a little more.
It all stems from the so-called Proof-of-Stake (PoS), which is an alternative consensus algorithm to the Proof-of-Work (PoW).
PoW is the consensus algorithm used by Bitcoin, the first cryptocurrency ever created, but it is also used by Ethereum. It has two limitations: it is slow and expensive.
Transactions on blockchains using PoW take several seconds, if not minutes, to be confirmed, and they also often require high commission costs.
PoW relies on the work of miners, which reduces its execution speed and increases its cost.
PoS was born as an alternative consensus algorithm that allows fast and cheap transactions, so much so that Ethereum 2.0 is based on PoS and no longer on PoW.
Proof-of-Stake is based on staking, i.e. the locking of a certain amount of cryptocurrency, repaid with other identical tokens of the same cryptocurrency, to participate in the validation of transactions.
In English, the verb “to stake” means either “to risk a sum of money”, or “to support something by fixing it to poles”, and basically what those who stake their cryptocurrencies do is precisely to support the PoS by depositing funds.
The fact that the protocol can provide that, in case of misbehaviour, the validator who has locked his tokens can have some of them taken away as a “punishment” for not having done the validation properly, means that validators tend to be fair.
Investment modes and P2P lending
This validation activity is carried out by nodes, but it is also possible to participate in staking by locking one’s tokens in pools with other users so that one does not have to take on the task of running and managing a node: often many of those who invest in staking on PoS do so.
Over time the term staking has also come to be used to refer to a very similar way of investing and earning money, but which has nothing to do with transaction validation.
Since for the average user staking can also mean just locking up their tokens in exchange for a return, the term has started to be used to refer to investments of this type, but based on different activities than the validation of PoS transactions.
The classic case is P2P lending, because although the technical term to use would be “lending”, often those who provide the service of repaying the capital locked to be lent prefer to call it “staking”, for commercial reasons, as it is often much easier for users to understand.
Thus, pseudo “staking” services are also offered on BTC, although it is not possible to participate in validating Bitcoin transactions with PoS at all, as they are only based on PoW. These are actually lending services, called “staking” for purely commercial reasons. In these cases it would be technically incorrect to use the word “staking”, but it is still used with the literal meaning of the English verb “to stake” to “risk a sum of money” by lending it for interest.
While the average user is often only interested in receiving returns in exchange for the locking up of their tokens, in reality staking hides a relatively complex activity that is worth knowing about if one wants to take advantage of it.