As a fan of cryptocurrency, you’ve probably heard the terms “Proof of Work,” “Proof of Stake,” and maybe even “Proof of Burn” before, but what do they really mean, and what is a “proof,” anyway? Without getting into too much technical detail, we will explain each concept one at a time, so you can have a better understanding of what they refer to the next time you see it in a potential investment. This week we explore an interesting take on the Proof of Stake consensus algorithm, developed to discourage coin hoarding and increase network participation, known as Proof of Importance.

Proof of Importance

Proof of Importance (PoI) is a blockchain consensus algorithm that was first introduced by NEM (XEM). It works similar to Proof of Stake (PoS) in that nodes, or addresses actively connected to the network, need to stake (or hold) a certain (often substantial) amount of coins continuously in order to be eligible for a block reward. This reward is sometimes proportional to the number of coins held at the staking address, and blocks created by the node occur roughly proportional to a score that includes the number of coins being staked and some random factor. In PoS, coin generation can be seen as purely dependent on one’s total staked amount, but in PoI, this process includes other non-random variables. The calculations made to generate PoI score include network clustering and page ranking, meaning how much is the node used in comparison to others; how much activity does it perform and how many other nodes connect to it.

The three primary variables used in PoI’s calculations are:

  1. Net value of transactions: how many coins have been sent from the node in the last 30 days, more recent transactions being weighed more heavily than older transactions.
  2. Number of staked coins: Vested (staked) amount of coins meant for the purpose of creating new blocks.
  3. Cluster nodes: addresses that are part of “interlinked clusters of activity,” meaning nodes connecting to them also perform a relatively high number of transactions, are weighed more heavily than outlying or “hub” nodes (addresses which just connect to clusters through a single point but aren’t part of the larger ecosystem).

The use of node “importance” was developed to solve two problems encountered by coins using PoS as a consensus algorithm, which basically allowed the rich to get richer and did little to promote network activity, real-life usage of the coin, or an interest in the welfare of the coin’s network.

  1. Coin hoarding: Nodes may simply hoard as many coins as they can in an attempt to win rewards from block creation. This has the effect of concentrating wealth while discouraging network participation and send transactions. By assigning an importance score to each node, coin hoarding will ultimately result in a lower score, even if a node possesses a significant amount of coins at its address. Conversely, spreading coins around has the effect of increasing an importance score, meaning that nodes that choose to play an active role in the network (perhaps acting as a merchant) are more likely to generate new blocks and receive their associated coin rewards. In addition, coin spreading has the benefit of helping to keep the network less centralized as more coins are dispersed among a wider degree of network participants.
  2. “Nothing-at-Stake” problem: If a fork is caused in the network, traditional PoS systems will continue to reward nodes with large amount of coins being staked equally on both forks. This is due to the fact that block creation in traditional PoS systems costs no resources (after the staking coins are received). Therefore, large staking addresses can easily create blocks on both forks with no motivation to adhere to one fork or the other, which has the adverse side effect of keeping a fork going without resolution. PoI protects networks against this because it would demand that nodes on both forks continue to be equally active in order to maintain their importance score and chances for collecting block generation rewards.

As a testament to the success of PoI, all one needs to do is look at the list of the top coins by market cap, where one can find NEM sitting in a position leaps and bounds ahead of the preceding coin whose problems it was attempting to solve (NXT). In mid October 2018, NEM held the #17 position of biggest coins, with a total market cap of $838.8 million, whereas NXT was at #94 with a $60 million market cap. Although NEM is outranked by up-and-comer Cardano (ADA, #9 on the list), which employs a sophisticated new form of PoS known as Ouroborous, and China’s answer to Ethereum, NEO (NEO, #15), it sits above all of the original PoS coins, such as Peercoin (PPC), BlackCoin (BLK) and Qtum (QTUM).

History of NEM

The idea for NEM was developed by an anonymous Bitcointalk forum user who went by the name of UtopianFuture in late 2013 and early 2014. For the better part of a year, NXT, the world’s first PoS coin, had already been enjoying a great degree of popularity, but it was seen as having a few shortfalls; among them being a lack of proper initial distribution and a consensus algorithm that favored the hoarding of coins and network inactivity. By introducing a new staking method that was a bit more complicated than just holding coins in an account, UtopianFuture sought to solve the problems of PoS while retaining the best features of NXT: a built-in trading platform, the ability for asset creation, and quite importantly, the lack of consumption of resources in order to maintain its network.

“NEM is the New Economy Movement. A groundbreaking crypto-currency that gives control of their economy back to the people and establishes them as sovereigns over their own destiny.  A currency is an expression of a political ideology and social attitude.  Do not mistake us as just another cryptocurrency.  We are more than a cryptocurrency, we are a New Economy Movement.” – UtopianFuture

The public announcement for NEM was made on January 19th, 2014. NEM, which stands for “New Economy Movement,” was originally based on the code of NXT but sought a more ideal distribution that encompassed a much larger portion of the crypto population. The project was originally based in ideals of fairness and re-empowerment, hoping to create a system where all parties were treated as equals and that was harder to manipulate by a few well-funded sources. Prior to its launch, the distribution model that NEM followed was as such:

  • For the first approximately 100 users, anybody could register to receive 1 million XEM coins for free by simply leaving a comment in the project’s announcement thread on the Bitcointalk forum.
  • For the next approximately 400 users, million-coin “stakes” were sold for tiny contribution amount of BTC, ranging from .001 BTC (approx. $4.00 in early/mid 2014) to .0025BTC (approx. $15 by mid 2014). By the end of the registration period, 3,000 people in all had registered to participate in the project – a drastic improvement on NXT – which had less than 60 original participants.
  • By August 2014, NEM stake “asset shares,” with each token representing 1 million XEM, were trading on the NXT asset exchange for as much as $1500 a token. Tokens were divisible down to increments of 0.1, so if somebody wanted to by only 1/10th of a stake (or 100,000 coins when the NEM network was launched), they could do so for $150.
  • By the time the NEM network was launched, in March 2015, the contents of each stake had been upped to 5 million coins, meaning 1 stake was worth $2,000. A year later, this number had increased to $7,500, and a year after that, the same stake would be worth $75,000.
  • At its peak, in early January 2017, 5 million XEM were was worth $9.5 million, rendering NEM one of the biggest success stories of all-time for an initial investment that cost either next to nothing or nothing itself.

Even though the price of XEM has fallen tremendously since its peak, NEM as a cryptocurrency network has since enjoyed tremendously popularity, forming partnerships with financial institutions, acting as a platform for several ICOs, and retains a respectable place in the top 20 biggest coins by market capitalization. NEM’s success can be largely thanked due to its novel consensus algorithm, PoI, as well as its unique method of distribution. Since its release, no other coin of note has enjoyed similar success with the implementation of PoI, and with a greater degree of adoption and real-world usage than many coins bigger in market cap size, NEM’s future as a cryptocurrency looks bright.

 

Do you have questions about Proof of Importance? Maybe feel like we missed something you feel is worth explaining? Feel free to let us know in the comment box below and we’ll be sure to get back to you as soon as we can.