Ethereum 101

What is Ethereum?

Simply put, if Bitcoin is the currency of the future, Ethereum was designed to be the internet of the future. It’s a decentralized network that enables the use of smart contracts — i.e. programs that are stored on a blockchain that are executed when a set of conditions are met. Because of this smart contract feature, Ethereum is a blockchain on top of which decentralized applications, or dapps (not dabs), can be built (think of Ethereum in its current state almost as the Apple app store). These dapps can range from lending (AAVE), to video streaming (Livepeer), to art creation (most NFTs are on Ethereum). Because of the smart contract functionality, most of these dapps aren’t reliant on individuals to run their daily processes. They just follow a set of programmable rules, and generally operate independently of a third party intermediary. Interacting with these dapps though can often require the use of Ethereum’s native cryptocurrency, Ether. Ethereum, like Bitcoin, is currently a Proof of Work network. However, future upgrades should see this blockchain shift towards a Proof of Stake network (to be discussed in more depth later).

How does the Ethereum blockchain work today?

Similar to Bitcoin, Ethereum is a decentralized network. Unlike Bitcoin, which is usually just thought of as a ledger, Ethereum can be thought of more as a cloud based computer. The name of this computer is called the Ethereum Virtual Machine. Again, similar to Bitcoin, this machine is run on nodes (a participant on the blockchain which keeps track of all the transactions since inception of the blockchain) all around the world, thereby insuring its decentralized nature and its security. Also like Bitcoin, all of the transactions on Ethereum are public as well. Developers generally build dapps on Ethereum through the EVM using the programming language known as Solidity. Execution of a smart contract within a dapp requires a transactional payment known as gas. This is ultimately paid to the miner who validates the transaction.

What are the role of miners?

Given that Ethereum, like Bitcoin, currently follows a Proof of Work mechanism, miners within the Ethereum ecosystem play a very similar role to those within Bitcoin’s. As with almost all cryptocurrencies, transactions that occur on the chain get stored into blocks. Miners essentially have to validate these blocks through solving a similar math problem (you can think of these blocks as having a lock. Miners have to guess the right 64 digit code, or the key, to unlock, and thereby verify, these blocks). Once the block is verified, it gets added to everyone’s ledger across the entire network.
The main problem with this current model is that because miners get paid in gas, miners are incentivized to validate the transactions with the highest gas fees first. This means that users who want to get their transactions done first will bid up the gas fees, resulting in rather expensive transactions. Ethereum 2.0 will be looking to solve this problem.

Problems with Ethereum today

Because Ethereum is built on a Proof of Work algorithm, it’s inherently slower and more expensive to run. Ethereum can currently run only 20 transactions per second (tps). This is compared to Visa, which currently runs 1,700 tps. Therefore, it’s impossible for large groups of people to use Ethereum in its current state.
In addition, because of the miner reward mechanism (another byproduct of Proof of Work), it’s also expensive to use. This should also be resolved with the switch to Proof of Stake.

Future of Ethereum

The next step for Ethereum is to upgrade to version 2.0, a process which has been painfully slow. This will convert Ethereum from Proof of Work to Proof of Stake as well as fully implement sharding. Sharing essentially splits the transactions across multiple different blockchains. Once this is done, instead of every node running the entire network, different nodes can run different sections of the network based on processing power of the node. This results in a significantly less congested network. The combination of these two updates will result in a cheaper and faster network.