Algorand (ALGO): A Blockchain Breakthrough in Speed and Efficiency
1,000 transactions per second, and five-second finality — how does Algorand do it?
Updated November 16, 2023 • 5 min read
Algorand is an open-source, decentralized blockchain network that leverages a two-tiered structure and a unique variation of the Proof-of-Stake (PoS) consensus mechanism to increase transaction speeds and achieve finality. Algorand’s block rewards are distributed to all ALGO coin holders, offering all ALGO holders an opportunity to earn rewards instead of just block producers.
What Is Algorand?
Algorand is a decentralized network built to solve the Blockchain Trilemma of achieving speed, security, and decentralization simultaneously. Launched in June 2019 by computer scientist and MIT professor Silvio Micali, Algorand is a permissionless, open-source blockchain network upon which anyone can build. Algorand is designed to be a payments-focused network with rapid transactions and a strong focus on achieving near-instant finality — that means processing over 1,000 transactions per second (TPS) and achieving transaction finality in less than five seconds.
Algorand uses a Proof-of-Stake (PoS) consensus mechanism, and distributes validator rewards to all holders of its native ALGO cryptocurrency. Through strong throughput capacity and equitable community incentivization, Algorand is capable of managing the high-throughput requirements of widespread global usage and a variety of use cases.
As a public smart contract blockchain that relies on staking, Algorand is currently capable of hosting decentralized application (dApp) development and providing scalability. Rising gas fees on Ethereum have led many dApp developers and decentralized finance (DeFi) traders to look for alternative blockchain solutions. Some have turned to Algorand as an Ethereum-alternative for dApp development and DeFi applications.
Algorand also allows developers to use the Algorand Standard Asset (ASA) protocol to create new tokens or to transfer existing tokens to the Algorand ecosystem. For example, stablecoins like USDT and USDC also exist as ASAs on the Algorand blockchain and enjoy much higher throughput and much lower transaction fees than what is typical on Ethereum. Further, as central banks continue to research networks to host their central bank digital currencies (CBDCs), Algorand has become a viable option and has been chosen to host the Marshall Islands CBDC.
Algorand Protocol Structure
Algorand has a unique two-tiered blockchain structure. The base layer supports smart contracts, asset creation, and atomic swaps between assets. All of these processes take place on Layer 1 of the Algorand blockchain, which helps ensure security and compatibility.
On this first layer of the Algorand network, platforms and users can create ASAs that represent new or existing tokens on the Algorand blockchain. This is similar to how ERC-20 tokens function on the Ethereum network. With regard to security, simple smart contracts on the Algorand platform execute as Layer-1 Algorand Smart Contracts (ASC1s), which means they maintain the same level of security as the consensus protocol itself.
The second layer of Algorand is reserved for more complex smart contracts and dApp development. It’s this bifurcation of the network, between Layer 1 and Layer 2, that allows Algorand to process transactions so efficiently. With more complex smart contracts taking place off-chain, simple transactions can be processed more quickly on Layer 1 without being bogged down by larger, more complex smart contracts.
Algorand Staking Mechanism: Pure Proof of Stake
Algorand uses a unique variation of Proof of Stake called Pure Proof of Stake (PPoS). PPoS is a highly democratized PoS consensus mechanism with a low minimum staking requirement for participating in and securing the network — only one ALGO coin is needed to participate. By contrast, Ethereum 2.0 requires a minimum stake of 32 ether (ETH), an amount which establishes a much higher barrier to entry for users. Conversely, a low minimum staking requirement may adversely affect network security, as network participants may be less incentivized to behave optimally when they don’t have substantial value staked on the network.
Algorand Block Production Under PPoS
On Proof-of-Stake networks, validator nodes are selected at random to confirm the transaction data in a block. Algorand’s PPoS consensus mechanism utilizes a two-phase block production process consisting of proposing and voting. Any member of the Algorand network can participate in the proposing and voting procedure by staking ALGO and generating a valid participation key to become a Participation Node. Participation Nodes are coordinated by another type of Algorand network node — Relay Nodes — which facilitate communication among Participation Nodes and do not directly participate in proposing or voting.
In the proposal phase, a block leader is selected to propose the current block. Block leaders are selected via Algorand’s verifiable random function (VRF) — a provably random mechanism that selects nodes randomly, but weighted by the relative size of their respective stakes. The block leader is secretly assigned by means of their private participation key, which means that only the block leader knows that they have been assigned to propose a block. The VRF supplies a cryptographic proof that allows the block leader to easily and verifiably prove their status as the current block leader. This methodology provides additional network security because malicious actors have no way of knowing who the randomly designated block leader is before the block is actually proposed. This reduces the opportunity to target the block leader in an attempt to compromise the network.
Following the block proposal, we arrive at the voting stage where Participation Nodes are randomly elected to a committee responsible for ensuring that no double-spend, overspend, or other problem has occurred in the current block. If a quorum agrees that all is well, the block is added to the blockchain. If malicious activity is detected, the network goes into recovery mode whereby the block is discarded and a new block leader is elected.
Algorand, somewhat controversially, does not make use of slashing. This means that a node cannot have its staked balance reduced for proposing a bad block. Instead, the network enters recovery mode and continues on. While this promotes speed and efficiency by quickly moving on from errors, some have criticized this facet of Algorand’s block production system as it lacks any mechanism to punish dishonest behavior on the network.
With this method of block production, two blocks cannot be proposed simultaneously for the same slot, which means that there should never be a fork of the blockchain. Once a block appears, it has already achieved consensus and users can rely on it immediately, eliminating a good deal of network latency.
Algorand’s Native Cryptocurrency: ALGO
ALGO is the native Algorand cryptocurrency, and is a cornerstone of its network structure. As part of Algorand’s unique protocol design, the rewards paid to validators for producing blocks are split and distributed among all ALGO coin holders, rather than being awarded only to block producers. This means that all ALGO coin holders can earn about 7.5% annual percentage yield (APY), as of February 2021. Reward distribution takes place about every 10 minutes and is intended to encourage users to join the Algorand staking platform and accelerate the path to decentralization.
To make this process even easier, users don’t need to actually stake the coin themselves as part of the block production and validation process. They can simply hold ALGO in a non-custodial wallet or on an exchange to access earned rewards. In this sense, Algorand has achieved near automation, as stakers can passively hold ALGO while also supporting the network.
There is a hard supply cap of 10 billion ALGO coins, which is allocated as follows:
3 billion ALGO to be released into circulation over the first five years (including the initial auction of 25 million ALGO coins)
1.75 billion ALGO (estimated) to be distributed over time as rewards for Participation Nodes
2.5 billion ALGO to be distributed over time to Relay Nodes
2.5 billion ALGO reserved for the Algorand Foundation and Algorand Inc.
0.25 billion ALGO to be distributed for end user grants
Like many blockchain-based projects working toward an optimally equitable coin distribution process, Algorand’s decentralization of its ALGO coins is an iterative process. The Algorand Foundation currently holds a large amount of ALGO, which critics claim makes the protocol centralized in the short term. However, Algorand’s democratized reward distribution mechanism is built to mitigate network centralization over a longer time frame.
The Algorand Foundation
Launched in 2019, Algorand is a relatively young protocol. A non-profit organization called the Algorand Foundation oversees the funding and development of Algorand Inc. and the Algorand protocol itself. The Algorand Foundation supports developer education in universities and educational settings. Its Global University Program includes prestigious universities like MIT, UC Berkeley, and other leading institutions around the world. The Algorand Foundation also sponsors blockchain events, hackathons, educational classes, and certifications.
The Algorand Foundation launched two accelerator programs in 2020 — Algorand Asia Accelerator and Algorand Europe Accelerator — which focus on assisting ongoing projects and developers interested in building on Algorand. These programs provide promising projects with end-to-end support — from strategy formulation all the way to launch — in an effort to help the Algorand ecosystem grow and thrive.
A relative newcomer in the blockchain space, Algorand has already proven to be a powerful platform with strong tech innovation, developer support, and real-world use cases. Algorand’s highly equitable coin rewards structure and consensus mechanism is pioneering a new standard in blockchain, and expectations for the Algorand endeavor are growing fast.
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