Why EIP-1559 is important
EIP-1559 went live on August 5, 2021, as part of the London hardfork amidst fanfare, and none of the presumed fears happened; a chain split, a price crash (ETH actually increased 4%), or the end of the world's computers due to miners not forking Ethereum and integrating EIP-1559 as part of the fork (lol). EIP-1559 changes how the fee market works on the Ethereum network; it introduces a new baseFee that is burned rather than paid out to miners, and users can now specify a maximum fee and priority fee for transactions, rather than a gas price.
Formulaically, under EIP-1559, a transaction fee is calculated using the following equation:
transaction fee = baseFee + min(maxFee — baseFee, priorityFee)
- baseFee: A fee that floats based on the network congestion and the most recent value (for blockspace) can be fetched via a new JSON RPC call eth_feeHistory
- priorityFee (also called a tip, miner’s tip): A fee to entice a block producer to include the transaction
- maxFee: The highest network fee the user is willing to pay.
EIP-1559 didn’t just come to be, it was designed and implemented to solve some major issues within the Ethereum network. But before then, let us go to the beginning: What is EIP-1559?
EIP-1559 (Ethereum Improvement Proposals 1559) put forward by Vitalik Buterin in 2019, describes changes to the Ethereum fee model. It is defined as a transaction pricing mechanism that includes a fixed-per-block network fee that is burned and dynamically expands/contracts block sizes to deal with transient congestion.
To fully understand the above, we must first look at what the Ethereum fee model was pre-EIP-1559; a simple auction mechanism also known as a first-price auction. In this first-price auction model, users who want to have their transactions picked up by a miner have to bid for their transactions to be included in a block. This is done by submitting a gas price they are willing to pay for a particular transaction. The miners are incentivized to pick up transactions to include in a block by sorting them by the highest gas price, and including the most profitable ones first. Users with lower gas prices will have to wait a long time for their transactions to be included in a block. This usually results in users overpaying for their transactions to be included in a block. This is inefficient and not ideal for user experience.
Here come EIP-1559 to the rescue with the following goals:
- Make transaction fees more predictable: Before EIP-1559, Ethereum transaction fees were market-driven i.e gas price/fee dictated how quickly a miner would include a transaction in a block. In the past, during ICOs, network upgrades, or NFT craze where there is high network activity, it became very hard for network users and wallets to predict gasFees. This either results in overpaying so as to be included in a block, or underpaying and waiting a long time for the transaction to be included in the block, either way is not ideal. EIP-1559 replaces the gas fees with a fixed-price sale. Now, people submitting transactions won’t have to guess as much about how much gas is required, as there will be an explicitly ‘baseFee’ to get to be included in the next block and a tip to pay the miner. For users or applications that want to prioritize their transaction, they can add more tip to incentivize a miner to prioritize their transaction. The base fee will be “burned”, meaning destroyed, while the tip goes to the miner. Wallets like MetaMask also take advantage of this to have better estimates, and won’t have to rely so much on external oracles since the baseFee is managed by the protocol itself.
However, in cases where there are spikes in demand due to high network activity (e.g NFT drops), the system also reverts back to a first price auction on the tip, but, because, it’s clear when the spike is over and prices are quicker to back down, which could be in the next handful of blocks (can be a matter of minutes). The idea is to make fees based on block demand more transparent for the user.
- Reducing delays in transaction confirmation: Pre-EIP-1559, delays in transactions are caused because blocks are always full; filled with the highest paying transactions since the last block. For a transaction to be included in the block, it has to pay a higher gas fee. If it does not pay a higher gas fee and thereby not immediately included in the block, it is hard to estimate when it will be included. Post-EIP-1559, blocks can be 200% full i.e whatever the set gasLimit for the block is, blocks with twice the gasLimit will be valid. For example, if the block’s gasLimit is set to 10m gas, blocks up to 20m gas will be valid. This implies that most of the time, blocks will have an extra 100% of their capacity that can still be filled with transactions. So, as long as a transaction is sent with a fee higher than the baseFee and includes a miner tip (priorityFee), it will be included in the next handful of blocks. The difference between the maxFee and the baseFee + tip will be returned to the transaction sender (unlike pre-EIP-1559).
- Creating a positive feedback loop between network activity and network supply : EIP-1559 allows for increase in the network capacity achieved by changing the maxGas limit per block from 12.5million to 25million gas, which is a double of the block size. With the baseFee and increased network capacity, EIP-1559 can be of the following logic, when the network is more than 50% utilization, the base fee is incremented, when the network is lower than 50% utilization, the baseFee is decremented. This means that the network aims at achieving equilibrium at 50% capacity by adjusting fees accordingly to the network utilization.
- Creating deflationary pressure: Under EIP-1559, baseFee is burnt as part of every transaction. The baseFee rises and falls with the demand for block space. During periods of sustained high demand for block space, baseFee rises and creates deflationary pressure on the supply of ETH. Burning the baseFee creates an interesting feedback loop between the network users and ETH supply. More network activity equals more ETH burn, equals less ETH available to be sold on the market by the miners, making the already existing ETH more valuable. Burning the baseFee basically rewards the users of the network, by making their ETH more scarce thereby valuable, instead of overpaying miners.
Contrary to popular misconceptions about EIP-1559 lowering gas fees, what EIP-1559 really does is make gas prices more transparent rather than lower the prices, optimize the fee model by smoothing fee spikes, and limiting the number of overpaid transactions. The main ways of lowering gas fees are still in ETH 2.0 and Layer 2 scaling solutions which I’m sure we all can’t wait for.
For a more in-depth read, check out this resource by Tim Beiko, every good article points to it. *winks*.
Also, a big thanks to Tim Beiko, for a timely input and edit on this post.
https://eips.ethereum.org/EIPS/eip-1559
https://www.youtube.com/watch?v=MGemhK9t44Q
https://consensys.net/blog/quorum/what-is-eip-1559-how-will-it-change-ethereum/
https://hackmd.io/@timbeiko/1559-resources
https://blog.infura.io/london-fork/#ourinfrastructureisready
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