What Are Staking Pools?
In order to participate in the ETH Proof-of-Stake network, a validator must stake at least 32 ETH, which, at the time of writing this article, is roughly $30,000. That is a non-trivial amount to say the least. In come staking pools.
This is part 3 of our Basics of Staking series.
- Part 1 explains the basics of what is Staking.
- Part 2 talks about the advantages of staking compared to the method by which Bitcoin is mined (Proof-of-Work).
Here we will talk about the most common way to participate in a Proof-of-Stake network, Staking pools.
In order to participate in the ETH Proof-of-Stake network, a validator must stake at least 32 ETH, which, at the time of writing this article, is roughly $30,000. That is a non-trivial amount to say the least.
In order to allow more people to participate in staking, a few companies have set up a staking pool service. These are services that allow anyone to stake as little or as much ETH as they'd like, everyone's funds are pooled together and one or many validators are set up using those staked funds. When the validator is rewarded with ETH, each participant receives a reward relative to the amount they staked (minus some administrative fee to the service running the pool and validator).
These services lower the entry bar for earning passive income on your ETH, as well as the confidence that the validator is being observed and maintained 24/7 to ensure its successful operation.
You may have heard that staking your ETH locks you out from being able to use it. Well, the short answer is yes, but the real answer is slightly more complicated.
The Ethereum network is going through some upgrades, to migrate from a Proof-of-Work system to a Proof-of-Stake system. Part of this process is to "kick start" the blockchain that will be powered by Proof-of-Stake, the coin that will be used on this network is still ETH, except it's commonly referred to as ETH2.
When staking your ETH, it is locked until the new Ethereum blockchain is migrated to, however quite a few services that provide staking pools and services are providing users with a token that represents their deposited ETH. These tokens can be traded, and once ETH2 unlocks, these tokens can be traded back to ETH at a 1:1 ratio + the interest that the deposit earned. Here's an example: Say I own a flower shop (ETH2), but the flowers have not grown yet (ETH2 is still locked). I need seed money, so you give me $1 and I give you back a note (deposit token) saying "This note is worth one flower and the seeds that one flower generates". I can't give you a flower until it has grown. Now some time went by, the flower has not grown yet, and you have decided you no longer want the flower when it will have grown, then you can go and sell the note to someone else.
Remember though, that the deposit token is not just worth 1 ETH, but actually includes the interest earned by the pool that issued the token.
Participating in a Proof-of-Stake blockchain as a validator allows one to earn interest on their staked cryptocurrency.
A validator is a node (computer) in the network that contains a "full" copy (until the network is sharded, see full ETH 2.0 roadmap for additional details) of the blockchain and takes part in the Proof-of-Stake consensus protocol. The role of a validator in the consensus protocol is to ensure that everyone has an up-to-date record by downloading the latest version of the blockchain and ensuring that their copy is the same as everyone else's. Validation of transactions and blocks is performed by separate nodes, called "minting nodes''. The validation is very light-weight in terms of processing power, so a regular computer can easily run it, unlike mining.
When a validator is chosen to mint the next block, once their work is done, the network validates the accuracy of the validator's work and if it is approved then they're rewarded the ETH fees from all of the transactions in the block.
In Ethereum 2.0, the interest rate awarded to validators will vary depending on how much ETH is staked on the network. The most up to date data is available here.
For an individual to earn interest on their money these days there are two main options; Investments based on value growth such as in the stock market and real estate, or by lending their money to borrowers who will later return their money with interest.
Banks however, have another way to generate income which is by incurring fees on financial transactions that they provide. As we know there is no central bank that owns all transactions on Ethereum (and most other cryptocurrencies), as these are governed by distributed consensus algorithms. But, people are still paying fees on their cryptocurrency transactions, and in Proof-of-Stake, these fees go to the validators who have staked their eth.
Being a validator in a Proof-of-Stake networks introduces a new way for individuals to generate passive income on their money by giving them access to awarded transaction fees, a privilege that was previously only available to large financial institutions.
As these use cases grow, we strongly believe that this will be a game-changer and a new market for generating a consistent APY on your wealth, and the number of companies that will provide the service to pool funds in order to stake them is only going to grow.
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