Opinion & Expert Analysis on Ethereum (ETH), a week after the merger

Last week, Ethereum made a historic shift from proof-of-work to proof-of-stake, officially ditching the energy-intensive miner-based system it previously used to process updates to its large decentralized book.

In crypto circles, the occasion of the merger has been observed as a holiday — celebrated virtually and in person at watch parties with music, speeches, and even a few special guests.

This article originally appeared in Valid Points, CoinDesk’s weekly newsletter that analyzes the evolution of Ethereum and its impact on the crypto markets. Sign up to receive it in your inbox every Wednesday.

Merge’s Biggest Watch Party was sponsored by the Ethereum Foundation and featured talks from Ethereum co-founder Vitalik Buterin and other community leaders. It had 41,000 concurrent YouTube viewers at its peak.

The fact that the merger took place overnight in much of the world only added to the excitement for many viewers. Staying up until 3 a.m. and waiting for Ethereum to finalize its first proof-of-stake blocks felt like waiting for the ball to drop in Times Square on New Year’s Eve. In either case, the excitement built up until the critical moment when, in an instant, the world flipped from one reality to another.

But in the same way that watching a crystal-encrusted disco ball slowly descend down a pole feels a little contrived, one can’t help but feel a little disappointed when, after years of waiting, a successful merger is marked with block text, difficult to decipher, on a black and white computer terminal. At least there were fireworks for New Year’s Eve.

However, the network is already showing signs of change.

The immediate impact of the merger, the first and most obvious, was that it had on the energy consumption of the network. Going from mining to staking meant removing precisely the component of blockchain technology that gives it a bad environmental reputation.

The proof-of-stake lottery-based block proposal system is much more energy-efficient than its power-hungry predecessor, proof-of-work.

Justin Drake, a researcher at the Ethereum Foundation, told CoinDesk that he expects the merger – by upgrading the second-largest blockchain network to a more efficient mechanism – would reduce global energy consumption by 0.2%.

This statistic has been disputed. In the short term, many Ethereum miners have found refuge on other networks, such as Ethereum Classic, which continues to operate using proof of work. Moving spot miners from Ethereum to these other chains has slightly mitigated the impact the merger will have on decreasing overall cryptocurrency issuance.

But in the long term, mining on proof-of-work blockchains is unlikely to become profitable enough for most Ethereum mining businesses to continue operating.

Chandler Guo, the miner behind a controversial Ethereum proof-of-work (ETHW) fork, admitted this himself in an interview with CoinDesk’s “First Mover”: “Some people [mineurs] have free electricity and can [continuer] to work on the [chaîne ETHW] Guo said. “The remaining 90%, bankrupt”.

Switching to bitcoin isn’t really an option either, as the computer chips best suited for mining Ethereum (GPUs) tend to be poor for mining Bitcoin, which miners typically use specialized computer chips called ASICs. .

So while the immediate environmental impact of the merger has been somewhat mitigated by the existence of other proof-of-work chains, its net positive impact on emissions continues to be positive.

Ethereum’s new validation system has spawned a new cast of characters tasked with keeping the chain running. With these new characters came new concerns about network centralization.

Shortly after the merger, Martin Köppelman, founder of Gnosis Chain, drew attention to a tweet observing that 420 of Ethereum’s first 1,000 proof-of-stake blocks had been offered by just two entities: Lido, the collective of community validators we have already discussed in this newsletter, and Coinbase, the US-based cryptocurrency exchange.

Ethereum developers are promoting proof-of-stake as a more decentralized and secure alternative to mining, allowing anyone with 32 ETH to play a role in supporting the network, without fancy equipment.

As Time Beiko of the Ethereum Foundation explained to CoinDesk before the merger last week, “proof of work is a mechanism by which you take physical resources and convert them into security for the network. If you want your network to be more secure, you need more of these physical resources. In the case of proof of stake, we use financial resources to convert them into security. »

But a few entities like Lido, Coinbase, Kraken, and Binance have amassed over 50% of the resources needed to secure the network. They achieved this by allowing people with less than 32 ETH to pool their resources and become validators – almost like a crypto equivalent of split shares.

Lido, Coinbase, Kraken, and Binance control over 50% of the stake on Ethereum’s proof-of-stake network. (Beaconcha.in)

Centralization is not just a proof-of-stake problem. Köppelman followed up his original tweet by noting that Bitcoin, which continues to use proof of work, also has centralization issues: “No dear Bitcoin fans, it’s not better in Bitcoin. In fact, you only need 4 entities to get to >72%”

But it’s hard to make a 1:1 comparison between Bitcoin mining pools, which include computers owned and operated by individual miners, and Ethereum staking pools, which include ETH staked by a set of holders. One of the key differences: While Bitcoin miners can withdraw their gear from a pool, Ethereum token holders will not be able to withdraw their stake until Ethereum’s Shanghai update, which will take place in six to twelve months.

This means that Etheruem pool operators can, at least for now, operate without fear that their users will get angry and cut ties. (To be fair, Lido splits its stake among several different validation services – which means it should be more difficult for one party to act unilaterally against the network’s best interest).

Whether or not things got worse under proof of stake, why might centralization be a problem? Well, we have seen recently that centralization makes it easier for regulators to exert influence over the operations of a blockchain.

Recent US sanctions against Tornado Cash – Ethereum’s minting program used to obfuscate transactions – are forcing validators and their legal teams to consider whether they should stop Tornado-related transactions to come into compliance. If enough validators refuse to offer or attest blocks containing Tornado-related transactions, it will become difficult for those transactions to end up on the Ethereum ledger.

With a lawsuit earlier this week suggesting that the US Securities and Exchange Commission considers all of Ethereum to be within its jurisdiction, one imagines centralization concerns will continue to take center stage in the months ahead. coming.

The most visible impact of the merger on the chain was the rate of issuance of ETH, the native currency of the network.

With Ethereum’s update to proof of stake, the network has significantly reduced the amount of new ETH issued with each block. In the long term, due to a burning mechanism introduced with the EIP-1559 network upgrade, it is possible that this could make Ethereum deflationary – meaning its token supply could decrease over time.

Ethereum is not yet deflationary: About 4,000 new ETH have been issued since the merger. But that’s still about 95% less ETH than would likely have been issued as part of proof-of-work (about 70,000 new ETH, according to ultrasound.money).

Issuance of new ETH has fallen by around 95% since the merger. (ultrasound.money)

The price of ETH has dropped significantly since the merger. But for ETH holders, the reduction in emissions was heralded as a reason to remain hopeful: Less ETH in circulation means that each individual token is theoretically more valuable.

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Thomas E.
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Opinion & Expert Analysis on Ethereum (ETH), a week after the merger

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