Dencun Upgrade Effects in the Gas Market and Hedgehog
Brief Dencun overview
On March 13th, 2024, at precisely 13:55:00 UTC, the Ethereum Dencun Upgrade was successfully launched. This significant upgrade incorporated nine Ethereum Improvement Proposals (EIPs), with EIP-4844 — Shard Blob Transactions — emerging as the standout feature, eagerly anticipated by the community.
EIP-4844 was primarily introduced to alleviate the substantial cost burdens faced by rollups in publishing their transaction data to the Ethereum mainnet. Prior to this implementation, costs for L2 solutions to achieve finality on the mainnet were exorbitant, soaring to thousands of dollars per megabyte and collectively exceeding $3 million in expenses in a single day.
The core innovation of EIP-4844 lies in its provision for rollups to shift from posting calldata (type-2 data) to blobdata (type-3 data). This transition is vital as it significantly reduces the data posting costs on the mainnet.
Immediate impact on Rollups on the Ethereum mainnet
The impact of this upgrade is illustrated in Chart 1, which shows a marked decrease in the gas fees incurred by a basket of various L2s immediately following the Dencun upgrade.
To contextualize the financial implications pre-upgrade: eight days before the implementation of EIP-4844, Arbitrum, Optimism, and Base spent $1 million, $839,000, and $426,000, respectively, on data posting in a single day. The introduction of blobdata radically transformed this expenditure landscape, as depicted by the red dots in Chart 2, which tracks the number of blobs posted on the mainnet.
Post-upgrade, the reduction in gas costs for rollups on the Ethereum mainnet was dramatic. From a daily average of over $2 million just before the Dencun Upgrade, expenditures plummeted to approximately $30,000/day a month later.
Of course, this sharp decrease in costs reflects the efficiency of blobdata but also, there could be external effects revolving around market activity. As a first exercise to abstract away market sentiment, on Chart 3 we normalize all the consumption to percentage as a way to understand L2s gas consumption on L1 as a share of the daily market activity. The basket of rollups studied saw their share of total daily gas fees on Ethereum L1 drop from around 10% to 0.6%.
The drop is significant, but is it all explained by blobs? Let’s explore this further.
How much of that is because of blobs and how much is because of market activity?
To understand if the impact of the reduction of gas fees can be entirely explained by blobs during the period studied, we decided to focus our analysis on Base, Arbitrum, Optimism, and zkSync and convert current blobdata consumption by L2s into their calldata equivalent.
Chart 4, placed above, paints the current scenario and a conversion of current blobs consumption, as described in the previous paragraph. It helps us understand that even though blobs reduced L1 gas expenditure by over 90% on L1, there is still a significant component of market cooling explaining the overall drop in gas consumption. The converted median gas consumption went to Feb 2024 levels.
When we abstract away market activity or overall market consumption, we can see that the L2s basket consumption, when converted to calldata, would represent around 4% of the L2 share, going down from 5.8% right before Dencun. So at a rough level, 30% of the reduction could be attributed to overall market activity not directly attributed to blobs.
Effects on Rollups
Following the adoption of blobs by zkSync, Optimism, Base, and Arbitrum between March 13th and 14th, a dramatic reduction in network fee costs was observed. Fees decreased from approximately $0.40 to $0.04 almost overnight, as shown in Chart 6.
The dramatic cost reduction following the Dencun upgrade triggered an immediate surge in daily transactions across all Layer 2 solutions (L2s). This not only showcased the upgrade’s ability to scale effectively but also highlighted the inverse relationship between transaction volumes and gas prices.
The case of Base, illustrated in Chart 7, is particularly striking. Since the implementation of the Dencun upgrade, daily transactions on Base have increased more than fivefold — the most significant growth observed among the L2s analyzed. Meanwhile, both Arbitrum and Optimism saw their daily transactions nearly double, and zkSync experienced a modest increase.
However, the impact on the average gas prices, on the other hand, has mixed results. The average gas prices for Optimism and Arbitrum decreased by 7.3% and 30% respectively. These reductions are notably less dramatic than the changes in median gas prices showcased on Chart 6. Conversely, Base witnessed a 170% increase in average gas prices during the same period presenting us with a puzzling contrast.
How is this possible?
- Gas Price Volatility.
This apparent contradiction is primarily due to gas price volatility, which significantly influences the average gas price. Volatility tends to skew the average due to the presence of outlier values — extremely high or low prices that do not represent the typical experience but disproportionately affect the average.
In the vast majority of scaling solutions, this volatility remains a latent issue, illustrating the complex dynamics of gas markets. To address this persistent challenge, Hedgehog is building an infrastructure — the modular synthetic blockspace — with a gas fees derivatives market built on top of it that will allow everyone to hedge against extreme gas price volatility, mitigating the impact of gas price fluctuations.
Persisting Challenges: Gas Price Volatility
Despite these advancements, gas price volatility remains a significant issue. This unpredictability can complicate financial planning for projects transitioning to L2, where expectations of lower costs are critical to business models. Frequent fluctuations in gas prices can undermine the sustainability of these models, emphasizing the need for effective risk management strategies.
To make it clear, this is not an exclusive problem of Ethereum Mainnet or L2s, but extends to all EVMs. To illustrate how volatility can be a problem for projects designed to operate in environments with low gas fees, let’s dive into a story about how they affected Picnic, an interesting project built on Polygon that is cracking consumer crypto.
The Little Story of Picnic and the Big Problem with Volatility
Picnic’s solution revolves around solving the UX of DeFi and for that they use ERC-4337, subsidizing gas fees for their users, making transactions smoother, they do that by using Pimlico as their paymasters infra, facilitating over 1,000 transactions every single day. Typically, their expenses fluctuate within a predictable range.
However, on April 13th, the entire market experienced severe volatility, with gas prices on Polygon surging by 500 times within a single hour. This spike forced them to spend an amount equivalent to half a month’s typical gas expenses in just one day, accounting for 5.5% of all gas fees on the Polygon network that day.
This incident brings to light a broader problem: projects native to L2s or other EVMs that traditionally have lower costs are particularly sensitive to fluctuations in gas prices. Their business models — and sometimes their entire operational frameworks — are based on the assumption of consistently low gas fees. Thus, when volatility hits, it can disrupt operations severely, a problem that is not unique to Picnic but affects many projects across various blockchains, especially those that rely on paymasters or AA solutions.
As Web3 projects evolve to improve UX to attract the next billion users, the use of such subsidies and infrastructure will necessarily become more widespread. Leading L2 networks are at the vanguard of this shift, recognizing the critical importance of the adoption of these cost subsidies. Hedgehog’s solution is not only pioneering a way to mitigate the effects of gas price volatility, but its results enhance the longevity and effectiveness of these subsidies and support the broader adoption of Web3 technologies.
Excess Volatility
To gauge the magnitude of gas price volatility and its financial implications, we introduce the concept of “excess volatility.” For simplicity, this is defined as the sum of gas expenditures that exceed the median fees — providing a baseline for calculating ‘hedgeable’ costs. This metric is illustrated on Chart 9 : red columns represent high expenditures driven by gas price spikes, where the average gas fees were above the median gas fee, and black bars indicate expenditures at or below the gas prices median level.
Over the past year, the total excess expenditure on the Ethereum mainnet reached a staggering $1.13 billion, Arbitrum, Optimism, Base and zkSync by themselves reached $250M, highlighting the significant financial impact of gas price volatility and the potential market for hedging solutions.
This analysis highlights the significant benefits of the Dencun Upgrade and the implementation of EIP-4844 across Ethereum’s ecosystem, particularly for Layer 2 scaling solutions. These developments have achieved incredible reductions in operational costs and have noticeably increased transaction throughput.
Nevertheless, the ongoing issue of gas price volatility presents a huge obstacle, hindering the widespread adoption and sustainability of web3 as a whole. Tackling this volatility is essential for maintaining stability and fostering the growth of the entire ecosystem.
New Opportunities
Yes.
Our modular infrastructure is versatile enough to be applied to virtually any on-chain asset or volatile metric. That’s the beauty of Hedgehog.
Just as Hedgehog has created the modular synthetic blockspace, abstracting away its complexities and allowing for the creation of a gas derivatives market, Dencun has created a new opportunity: the creation of a synthetic blobspace. It could be specifically designed to meet the needs of Layer 2 networks by providing tailored solutions to hedge against volatility.
Testnet is coming soon.
The Testnet for the Hedgehog Protocol is launching soon. It’s a great opportunity to familiarize yourself with the protocol’s operations, from speculating on gas prices to participating in liquidity pools and the stability pool.
The introduction of the Testnet is also an important step for the protocol’s development, offering users the chance to give us feedback based on your interactions in this test environment. This feedback is invaluable for identifying areas of improvement and ensuring the platform is user-friendly and fully optimized for launch. It’s a chance for the community to engage with the protocol’s features in-depth and help shape its future direction.
About Hedgehog Protocol
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