All you need to know after the Ethereum Merge
My intention with the article was to list the major bugs and problems that happened after the Ethereum merge and share them in a timeline. However, the implementation problems that followed this big change didn’t seem to have such magnitude. This is something that we could expect from something that the core developers have planned for more than a year.
Instead, I spent the last month reading as much content as I could about what happened after the Merge so I could summarize and share the highlights with you 😉
The Merge
If you didn’t hear about the biggest change in the Web3 world this year, you must be told that Ethereum has been planning a huge merge for more than a year, which finally happened on September 15th.
The Beacon chain, launched in December 2020, was merged into the Ethereum main net, moving the network from proof-of-work (PoW) to a proof-of-stake (PoS) consensus mechanism. As a result, big things happened to the blockchain, and we will look into them.
What is staking?
In an interview with CoinDesk, Ethereum’s Foundation developer Tim Beiko explains the difference between PoW and PoS:
“Proof-of-work is a mechanism by which you take physical resources and you convert them into security for the network. If you want your network to be more secure, you need more of those physical resources”
and concludes
“On proof-of-stake, what we do is we use financial resources to convert to security.”
https://www.coindesk.com/tech/2022/09/15/the-ethereum-merge-is-done-did-it-work/
Staking is when someone locks their own tokens for a period of time to help the network operate. Stakes in Ethereum are chunks of 32 ETH that cannot be sold or bought.
By staking resources, you may be chosen to validate blocks and write them to the blockchain, being rewarded for it. The more stakes owned, the higher the chances of being selected to write blocks. Therefore the more rewards earned.
No more miners
In proof-of-stake, miners are replaced by validators. Miners lost their function in Ethereum. Some miners migrated to other chains like Ethereum Classic. Others sold (or tried to sell) the hardware they used to mine Ethereum.
Energy consumption reduced to virtually zero
“The Merge reduced Ethereum’s energy consumption by ~99.95%.”
https://ethereum.org/en/upgrades/merge
According to The Merge’s official site, the energy consumption of Ethereum with proof-of-stake is approximately 0.05% of Ethereum with proof-of-work consensus. Estimations describe that it’s equivalent to Finland shutting down its power grid.
Mining softwares are meant to handle complex computations non-stop. 24/7, they calculate hashes that represent addresses in the blockchain. If they’re lucky enough, the hash represents a valid and undiscovered address. Most of the time, this is not true. So they aim to calculate as many addresses as possible.
If the goal is to make as many calculations as possible, your physical resources will always be at full capacity, therefore, consuming as much energy as possible. In proof-of-work, he who has more computational power will earn more money, in contrast, in proof-of-stake, he who has more money will earn more money (and yes, this can be problematic).
On the other hand, the validation software is much more lightweight. They’re just like another software running on your computer. It doesn’t consume enough energy to become an outlier from everything else running in your machine.
GPU prices plunge
As described in South China Morning Post’s report GPUs
“have seen their prices fall to the “lowest level ever””
after the Merge, according to merchants in China.
GPU prices have been slowly declining since the start of 2022. Many Ethereum miners decided to anticipate the Merge selling their GPUs before the switch to proof-of-stake. Others decided to “wait and see” and might regret it if they don’t find other profitable cryptocurrencies.
In an interview with The Block, Mark D’Aria — CEO of Bitpro Consulting — declared that
“Anyone who’s been holding on to GPU has made a mistake. They should have sold January 1.”
Signs of centralization
To profit from Ethereum staking, you need to stake chunks of 32 ETH, which is currently worth US$ 42,725. This is impossible for most people, making staking networks such that the rich get richer. As a result, it’s expected that the control of the network stays in the hand of a few.
To make staking more accessible, some platforms offer the possibility to stake any amount of Ether. They provide “wrapper” (or “layer-2”) tokens that run on top of Ethereum. The advantage is: less capital is needed to start staking.
However, in this approach, all the tokens that are present in those platforms belong to the platform, meaning that the control is in the hands of the institution behind the solutions and not in the hands of those who staked using them. In rough words, when someone uses Coinbase, for example, to profit from ETH staking, they’re contributing to the network’s centralization.
A report by Nansen estimates that 64% of Staked Ether was controlled by only five entities a few days before the Merge. Lido had the lead with almost half of those tokens: 31%.
In the first week of October (2 or 3 weeks after the Merge), this number would go even higher, having Lido around 5.5 million tokens staked in its platform (~US$7.4 billion), according to their site. Cointelegraph explains that this was around 40% of the total of staked ETH by the time.
The good news is that this seems to be decreasing as, on October 18th, the number of tokens staked in Lido’s platform dropped 20% to around 4.4 million.
Proof-of-stake networks tend to be more susceptible to centralization when compared to proof-of-work ones. This is why Ethereum waited until it had a big user base before moving toward staking. But they must not let their guard down. It’s something that both Ethereum and the platforms that rely on it should keep on fighting. The market trust in a public blockchain is highly coupled with its ability to stay decentralized.
Ethereum classic’s hash rate hits all-time high
Hashrate is the number of hashes the network calculates in a specific period of time. Usually, it’s measured as H/s (Hashes per second). The hash rate of a network is the sum of the hash rate of all its nodes.
The rise in Ethereum classic’s hash rate is something that has been anticipated since its launch. As proof-of-stake was always in the roadmap of Ethereum, the Classic chain has always known this moment would come. Now, after 6 years of existence, the protocol managed to raise its hash rate almost 4x in a period of 24 hours, going from approximately 60 TH/s on September 15th to 226 TH/s on September 16th.
The rise in hash rate was happening gradually over the last months, with its first big change on September 29th, when it went up by 27%, and on August 19th, when it grew 31% in 2 days.
Issuance drops to virtually zero
Blockchains have mechanisms to control the supply of their tokens: issuance and burn. Issuance is the creation of new tokens that are added to the chain. Burn is the opposite: the destruction of tokens. They vary depending on the network activity and are vital to maintaining the cryptocurrency stable.
Pre-merge issuance happened in both execution (as a reward of mining) and consensus layer (as a reward of staking). According to Ethereum’s site, the issuance was of approximately:
- 13,000 ETH/day pre-merge as mining rewards
- 1,600 ETH/day pre-merge as staking rewards
On average, Ethereum’s network burns around 1,600 ETH/day. If there were no mining, Ethereum’s issuance would drop 90%, and its inflation would be virtually zero (maybe less than 0%).
And it did happen! According to ultra sound money, in the first hours after the merge, ETH was burning more tokens than it issued. By October 13th, the ETH inflation was at 0.08%/year. The supply grew ~7K in the 28 days following the Merge.
The estimation for that same period (if the merge didn’t happen) is that ETH supply would have gone up ~345K (inflation of 3.67%/year).
Ethereum turns deflationary
As a result of the issuance drop, Ethereum became deflationary and maintained this behavior for around a week between October 8th to 14th.
If this is going to be kept for long, we can’t know, but after more than a month since the Merge, Ethereum was able to keep its issuance close to zero.
Ethereum could become a security
In simple terms,
“A security offers the possibility of profit in exchange for the risk of loss”
while
“A currency is a medium of exchange, store of value, and unit of account”
https://medium.com/luno/cryptocurrency-is-it-a-security-currency-or-asset-1785acb1e60f
It’s just a matter of regulation. Regulators separate goods into different categories to clarify which rules apply to what. Ethereum and most cryptocurrencies are considered currencies. However, according to SEC’s Chairman Gary Gensler, this may change for Ethereum with its recent change to PoS.
SEC (U.S. Securities and Exchange Commission) has the mission to “protect investors”, and in their understanding. This could mean starting regulating Ethereum, since it now possibly passes the Howey Test because:
- It involves an investment of money
- In a common enterprise
- With a reasonable expectation of profit
- Result of the efforts of others
No decision has been made around this so far, but if SEC interprets that Ethereum is a security, this could massively impact the decentralized nature of the cryptocurrency.
The next big challenge
Ethereum has a vision for the future that includes continuous updates and improvements to the network. To respond to high energy consumption and network complexity, Ethereum introduced proof-of-stake and replaced proof-of-work with it. The Merge ended a cycle, but others are to come.
The current state of the network allows it to focus on solving some problems that have been around for quite some time: capacity and scalability. This will be done by adding the concept of Sharding to the network in the upcoming years.
For now, Ethereum can rest and be away from the spotlight for some time. It has earned it!
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[A lot of] References
https://ethereum.org/en/upgrades/merge/
https://ethereum.org/en/upgrades/merge/issuance/
https://threadreaderapp.com/thread/1570087471022747648.html
https://decrypt.co/110331/ethereum-token-issuance-plummets-95-following-merge
https://thedefiant.io/ethpow-rough-start-after-merge?utm_source=tldrnewsletter
https://thedefiant.io/etc-hashrate-surges
https://medium.com/luno/cryptocurrency-is-it-a-security-currency-or-asset-1785acb1e60f
https://cointelegraph.com/news/federal-regulators-are-preparing-to-pass-judgment-on-ethereum
https://decrypt.co/110426/was-ethereum-merge-mistake
https://u.today/ethereum-became-profitable-again-price-reacts-immediately
https://decrypt.co/111605/ethereum-supply-turns-deflationary-but-price-still-struggles
