As always, this article is made for educational purposes. This does not constitute financial advice nor trading advice. Past performance does not indicate future results.
Do not invest more than you can afford to lose. This is not financial advice; always do you own research :)
Yesterday, I talked about how Ethereum and its native currency Ether are the most useful platform and currency in the entire crypto industry — with Ethereum having the ability to be the world’s supercomputer.
I laid out how Ether is more than just a currency.
It has value as a commodity that fuels the blockchain network, and as a store of value similar to that of Bitcoin and other cryptocurrencies.
It is a fundamental building block for decentralized finance — as a base pair for decentralized exchanges for users to gain access to new coins and as a form of collateral to borrow against or to use as a yield bearing asset.
With that said, there is a tremendous amount of improvement that’s needed in order for Ethereum to realize its full potential as the world’s supercomputer.
The biggest and most obvious blocker to its vision is the congestion it’s currently experiencing on the network.
Because the amount of gas allowed in a block is capped, there are only so many transactions that can be allowed in a single mined block.
Since the number of transactions are — in essence — capped, users will bid for the limited space, and thus increase the price of the gas fee that they’re willing to pay — in order for miners to prioritize specific transactions into the soonest block.
As a result, average gas fees, during certain points of this bull run, were prohibitively expensive — ranging from 200 to 300 gwei at its peak space.
Note: Wei is the smallest denomination of Ether — with ‘gwei’ being a giga-wei. For reference 200–300 gwei would mean paying $30–40 for a simple ETH transaction at ETH’s current price.
The Future of Ethereum is Bright
Despite the high gas fees, Ethereum is still breaking records in terms of usage — from number of active developers and number of applications that are built on Ethereum to daily transactions, total value locked, price of Ether, unique addresses, etc.
That’s the silver lining to the network congestion. That despite the high costs, Ethereum is still the definitive most active and most used blockchain platform.
Really showcases the product-market fit that a smart contract platform has in the world, and how much people want it.
Luckily, the Ethereum community has a slew of amazing upgrades, products, and initiatives over the next year that will alleviate the congestion issue — cementing it as the best currency technology in the space.
I mentioned earlier this week in my Reflections of 4 Years in Crypto that community is king, and this is precisely why.
At this very moment, ten of thousands of insanely smart developers are working on making Ethereum more usable. And this firepower will beat out any other blockchain’s innovations.
Despite the high costs, Ethereum is still the definitive most active and most used blockchain platform.
I’m going to split up the initiatives into 2 buckets: demand acceleration and supply modification.
It’s fairly intuitive to see that high gas fees on Ethereum are suppressing the demand for Ethereum — thus depressing the potential transaction volume on dapps and the absolute number of users who want to use the platform.
So it stands with reason that fixing the throughput/congestion issue of Ethereum will enable another wave of adoption and usage on the platform.
Current Ongoing Solutions
One quick fix to the congestion issue came from the Berlin upgrade last week — an upgrade to Ethereum that contained four Ethereum improvement proposals (EIPs) that increased the efficiency of the network.
As a result, miners felt comfortable to increase the gas limit to 15M — allowing for more transaction to fit into each newly mined block, and in theory increasing the network throughput and thus decreasing gas fees.
Another ongoing initiative is Flashbots, an organization that released an obfuscated communication line to miners for users to discreetly pay for specific transactions.
This in theory should help gas fees because a large portion of the high gas fees was due to arbitrageurs seeing other arbitrageurs’ transactions before they’re minted on the block and trying to outbid one another for the arbitrage opportunity.
Layer 2 Scaling
There’s a lot to be said about Layer 2 scaling… so much that it deserves a dedicated post in the future.
Layer 2s (also called L2s) are secondary blockchains that lay on top of another core blockchain (Layer 1 or L2)—in which dapps can process transactions and state changes with only the occasional data reconciliation to L1 (Ethereum in this case).
Think of it like sending the most important information back to Ethereum — versus the current state of processing everything on L1.
Layer 2 scaling can dramatically increase the number of transactions. Depending on the solution, the throughout increases to 2K-4K TPS — drastically reducing the gas fees for transactions on Layer 2.
There are a slew of different Layer 2 solutions right now trying to scale Ethereum.
Many of the leading contenders — like Optimism — plan on releasing to mainnet in the summer/fall of this year.
Ethereum 2.0 (called ETH2) introduces two important concepts — Proof of Stake and sharding — that will dramatically increase the transaction throughput for the network.
With that said, I won’t really focus on the demand generation implication of ETH2 because even with sharding, Ethereum will still need Layer 2 scaling to be able to compete with Visa on the 2–4K TPS throughput.
However, with PoS, Ethereum will shift to a less energy-intensive consensus mechanism — which may qualm the criticism from environmentalists and enable another wave of adopters to join.
Not only will demand be augmented through future Ethereum upgrades, but its supply will be materially modified and constrained as well.
From Econ 101, we know that a capped/shrinking supply — combined with new demand — will cause the price of an asset to rise.
Three concepts to mull over: a supply sink due ETH2’s transition to Proof of Stake, an additional sink from the continued growth of DeFi, and the proposal to change ETH into a decreasing supply schedule (EIP-1559).
Proof-of-Stake achieves consensus of the state of the Ethereum Virtual Machine through validators that have staked (i.e., locked / deposited and cannot remove) ETH.
For each block, validators are rewarded based on the proportion of their staked ETH compared to the entire staked pool of ETH.
Currently, 3.4% of all ETH is locked in the Beacon chain to help secure the Ethereum blockchain through Proof of Stake (called PoS) — with more ETH likely being staked as the launch of ETH2 (the ‘Merge’) is slated for winter this year.
The implications for this is that over 3% of the entire ETH supply is essentially taken out of circulation in order to secure the network. These validators cannot sell their ETH if they want to earn rewards.
Continued DeFi Staking
In addition to the ETH locked for PoS, ETH is also locked in DeFi applications — in order to earn yield or receive liquidity rewards, etc.
Currently, 9.6% of all ETH is locked in DeFi.
And while this ETH is more liquid and more likely to be unlocked from the DeFi apps, there’s still a significant barrier to accessing this ETH — thus decreasing the effective circulating supply of the asset.
Like Bitcoin, Ether is sent to miners who mine each block, as a reward for validating transactions and securing the network.
However unlike Bitcoin, Ether does not have a fixed supply schedule — instead opting for a target inflation schedule, similar to that of central banks.
Whereas there will only ever be 21 million BTC mined, we don’t know how much ETH there will be in an end state.
EIP-1559 is an Ethereum proposal (EIP stands for Ethereum Improvement Proposal) that completely changes the supply schedule of ETH.
Each block will have a baseFee that gets burned (i.e., taken out of circulation) every time the block is minted.
As a result, the more the network is being used, the more ETH is being burned — thus ultimately turning ETH into a deflationary asset.
So now you see why I’m so bullish on Ethereum and ETH!
In hindsight, I glanced over some super dense and complex topics, so I’ll take inventory and flesh out those topics in future posts :)
If you thought this blog post was worth the ~5 minutes of your time to read it, please help me by clapping below (up to 50 times) or sharing with a friend who would benefit from this content. Thanks so much!
Join Coinmonks Telegram group and learn about crypto trading and investing
- What is Margin Trading | Dollar-Cost Averaging
- The Best Crypto Trading Bot | Grid Trading Bot
- 3Commas Review | Pionex Review | Coinrule review
- AAX Exchange Review | Deribit Review |FTX Exchange Review
- NGRAVE ZERO review | Phemex Review | PrimeXBT Review
- Bybit Exchange Review | Bityard Review | CoinSpot Review
- 3Commas vs Cryptohopper | Earn crypto interest
- The Best Bitcoin Hardware wallet | BitBox02 Review
- Ledger vs Ngrave | Ledger nano s vs x | Binance Review
- Crypto Copy Trading Platforms | Coinmama Review
- CoinLoan Review | YouHodler Review | BlockFi Review
- The Best Crypto Tax Software | CoinTracking Review
- Best Crypto Lending Platforms | Leveraged Token
- BlockFi vs Celsius | Hodlnaut Review | KuCoin Review
- Bitsgap review | Quadency Review | Bitbns Review
- Ellipal Titan Review | SecuX Stone Review
- LocalBitcoins Review | Cryptocurrency Savings Accounts
- Best Blockchain Analysis Tools | Earn Bitcoin
- Crypto arbitrage Guide | How to Short Bitcoin
- Best Crypto Charting Tool | Best Crypto Exchange
- How to buy Bitcoin in India? | WazirX Review
- Bitcoin exchange in India | Bitcoin Savings Account
- CoinDCX Review | Crypto Margin Trading Exchanges