One of the biggest events in the 2022 cryptocurrency calendar is coming. Later this year, Ethereum will (or should, at least) transition to a proof-of-stake consensus mechanism. The ETH 2.0 merge is a make or break moment for Ethereum.
ETH 2.0 or Serenity Explained
If you’re reading this, I imagine you already know a bit about Ethereum. In short, Ethereum is layer 1 blockchain capable of executing smart contracts. On paper it’s easy to see that Ethereum is the future of a decentralized economy. The current reality is quite different.
Scalability issues and high gas fees plague the Ethereum network. This makes it almost unusable for the average person. Transitioning the Ethereum network to a proof-of-stake consensus mechanism may address these issues.
In fact, the Ethereum Foundation scrapped the name ETH 2.0. The team worried that this might cause confusion around the possibility of 2 separate networks and tokens. To streamline the merge and remove any doubt the final product was renamed ‘Serenity’.
Okay, that sounds great! But what does this actually mean? How will the ETH 2.0 merge fix Ethereum? Will ETH gas fees finally reduce to a reasonable amount? What will this mean for the price of ETH long term?
Buterin’s Blockchain Trillema
The Blockchain Trilemma is a phenomenon termed by Vitalik Buterin, the creator of Ethereum. It dictates that the perfect blockchain is a network that balances 3 key features. These are: Scalability, Security, and Decentralization. Like modern humanity’s Work, Sleep, Social life trilemma, it’s not as easy as it sounds.
What is Scalability?
Scalability refers to the potential a blockchain has to grow. A network that aims to onboard millions of users needs to have the infrastructure to provide their basic needs. Imagine the public transport system of a capital city. To gauge a network’s scalability, we can look at certain key aspects. Network speeds, gas fees and transaction throughput provide a good basis for analysis.
What is Security?
Blockchain transactions are secure by nature. It’s one of the fundamental principles of blockchain tech. Blockchains themselves are not immune to hacks and exploits. Many blockchain networks like Ethereum have open source code. This means security is an issue of paramount importance.
What is Decentralization?
Decentralization deals with the distribution of governance and power across a blockchain. It’s the idea that no one owns the blockchain, or any platforms built on top of it. Any decisions about further development are voted on by governance holders. Governance is generally reserved for those who are staking their tokens. These stakers operate validator nodes that power the network.
As mentioned earlier, balancing these principles is no simple task. Focussing too much on one front means compromising on others.
Take Solana for example. Solana is fast and secure. Solana can process 65,000 transactions per second. Transaction fees cost less than a cent. Solana is scalable and secure. This is only achievable because the Solana Foundation is very selective about who can run validator nodes. Solana sacrifices decentralization for increased scalability and security.
Ethereum is decentralized and secure. Node operators are well distributed across the network. The open source code is water tight. The security risks of a 51% attack are almost non-existent. Unfortunately, gas fees are astronomical. The network can only process around 30 transactions a second. Ethereum sacrifices scalability for decentralization and security.
Remember when Yuga Labs’ Otherdeed mint went live? The hype for this NFT drop destroyed the network. (Find out what NFTs are in our in depth article) Gas fees spiked to over thousands of dollars. Some peoples transactions still failed, leaving them with nothing. You don’t need to be an expert to see that this is a problem.
just watched someone pay a $3500 transaction fee for a $500 NFT pic.twitter.com/AFuQwBVqxf— Molly White (@molly0xFFF) May 1, 2022
Ethereum is broken. I just spent $1,000 for a transaction. What happened!?— twan (@dantwany) May 1, 2022
ETH 2.0 aims to increase Ethereum’s scalability and balance the trilemma. Notably, the merge will achieve this without diminishing its security and decentralization. But how will Ethereum manage this? What’s the great improvement from ETH to ETH 2.0?
What’s the Difference between ETH and ETH 2.0
The biggest difference between Ethereum and ETH 2.0 is its consensus mechanism. This is a different method of processing transactions on the blockchain. During the ETH 2.0 merge, the network will transition from a proof-of-work consensus to a proof-of-stake consensus.
Now, the concepts behind Proof-of-work and proof-of-stake are complex and, well, tedious. To avoid boring you to tears, I’ve broken it down and simplified it:
What is Proof-of-Work (P-o-W)
Proof-of-work is a consensus mechanism used to process transactions on the blockchain. Miners compete against each other to secure the network and process new blocks.
Miners solve complex mathematical problems using computational power. They’re rewarded for solving problems and securing the network. They’re paid with gas fees collected from users. Due to the competitive nature of this mechanism, greater power = greater rewards.
This is a large part of why cryptocurrency gets such a tough time in the media for being unsustainable. Proof-of-Work chains like Bitcoin and Ethereum need enormous amounts of energy to function. This results in high gas fees and energy consumption.
What is Proof of Stake (P-o-S)
In a proof-of-stake blockchain, transactions are processed by staked validator nodes. Instead of miners competing over blocks, stakers are randomly selected to process transactions. Those who have staked larger volumes of tokens to the network are more likely to be chosen.
Stakers also receive rewards for completing transactions. Because they aren’t competing with other stakers, the mechanism uses less power. This results in reduced gas fees and energy consumption. This makes P-o-S chains like Cardano more sustainable than P-o-W chains like Ethereum.
Migrating to a proof-of-stake mechanism will make Ethereum more sustainable. The blockchain will no longer need immense computational power to function. This will reduce the impact of network congestion on gas fees.
Personally, I can’t wait for this merge to come into effect. I remember choosing to not buy certain NFTs on Ethereum. The gas fees were higher than the price of the actual NFT. Addressing these issues will bring more users to Ethereum. It’s a great step towards crypto mass adoption.
A Brief History of the Merge
Unfortunately, migrating to proof-of-stake isn’t as easy as flipping a lightswitch. Most of the attention on ETH 2.0 is focussed on the coming merge. However, the upgrade has actually been in development since 2016. Even after the merge is complete, Ethereum will continue improving in its quest to be the perfect blockchain.
The Ethereum team launched the Beacon Chain on December 1st, 2020. The Beacon Chain is a parallel side chain running a proof-of-stake mechanism. It has no impact on any activity or platforms on the Ethereum main chain. Yet, the Beacon Chain is keeping records of transactions in anticipation of the ETH 2.0 merge.
Imagine a relay race, the Beacon Chain is watching the main chain run and learning how it operated. It’s preparing itself to take the baton when it’s ready and continue running. Currently, the Beacon Chain operates a one-way bridge. Users can stake ETH in preparation for the merge. At the time of writing, over 12 million ETH is already staked.
The Berlin Hardfork was completed in April 2021 without much fanfare. This upgrade was a smaller one. It focussed on several implementations to increase network security and optimize gas fees.
London Hardfork (EIP 1559)
Shortly after the Berlin Hardfork, the Ethereum team successfully launched the London Hardfork. The London upgrade was a significant moment in Ethereum history. It introduced a burn mechanism to the network. This removes a percentage of ETH transaction fees from the circulating supply forever.
This made Ethereum a deflationary cryptocurrency with a constantly reducing supply. Since the update went live, over 2 million ETH has been burnt. That’s a current market value of over 2.7 billion USD.
The most recent upgrade in ETH 2.0 development was completed in October 2021. The Altair upgrade was implemented on the Beacon Chain. It brought further security to the network. This upgrade increased the penalties faced by inactive validators and bad actors.
What’s next for Ethereum?
The ETH 2.0 merge is the next big event on the horizon. The current roadmap indicates that Ethereum will migrate to this September. The Ethereum team has delayed the merge before, so take this timeline with a grain of salt.
Following this merge, ETH 2.0 will be completed in 2023-24. This final stage will introduce sharding to the Ethereum network. Sharding is splitting the blockchain into a series of smaller, interconnected networks (Shards). This will increase the transaction throughput of ETH 2.0.
According to Vitalik himself, ETH 2.0 will be able to operate 64 different Shards. Vitalik is aiming for Ethereum to handle 100,000 transactions per second.
ETH2 scaling for data will be available before ETH2 scaling for general computation. This implies that rollups will be the dominant scaling paradigm for at least a couple of years: first ~2-3k TPS with eth1 as data layer, then ~100k TPS with eth2 (phase 1). Adjust accordingly.— vitalik.eth (@VitalikButerin) June 30, 2020
What does the ETH 2.0 Merge mean for Investors
So many competitors are looking to siphon market share away from Ethereum. The Merge is a crucial event for Ethereum investors. Other layer one blockchains like Solana and Near are already far more scalable and user friendly than Ethereum.
I’m going to speak from personal experience. Using Ethereum and paying $50 in gas fees for a swap is painful after trading on Solana. Watching my Ethereum transactions fail while NEAR executes every demand seamlessly is frustrating. Ethereum needs to catch up.
The upcoming merge isn’t a complete solution for Ethereum’s scalability issues. Gas fees won’t evaporate overnight. The Eth 2.0 merge is laying a foundation that will allow it operate more efficiently. This will reduce gas spikes and hopefully see the end of 1+ ETH gas fees during hyped NFT mints.
Fortunately, the Merge is likely to bring some renewed demand to the ETH token. Miners will need to pivot from powerful mining rigs to purchasing ETH. You need 32 ETH to operate a validator node.
Some commentators anticipate a 90% drop in ETH issuance. This is the same emission drop of 3 Bitcoin halvings. We all know what happens after a Bitcoin halving…
The project’s frequent delays have not helped its perception. It’s even rebranded from ETH 2.0 to ‘Serenity’. Despite the attempts of the team to formalize the name change, the crypto community still calls it ETH 2.0.
Is the upcoming ETH 2.0 merge the ultimate solution to Ethereum’s scalability issues? Honestly, it’s hard to say with absolute certainty. The Merge won’t fix Ethereum’s problems short-term. It lays an excellent foundation for continued development. We might not magically wake up to penniless transactions on Ethereum. Yet, this update does bring us closer than before.
I would love to be proved wrong. If you have a counter-argument that suggests the Merge is the magic solution that will fix Ethereum’s problems, please tell me! Let me know in the comments below. Then we can dissolve Vitalik’s blockchain trilemma theory forever.