Hello crypto savants, the time has come…
The Merge is upon us.
Possibly the most significant moment in crypto history, Ethereum’s shift to Proof-of-Stake (PoS) holds implications far greater than anyone can fathom.
So what does it mean for blockchain technology and how will it shape the way we use digital assets in the future?
Well, the safe answer is, “only time will tell,” but we intend to explore this unprecedented moment in detail with the hopes of uncovering a few of its most exciting implications, and a few shortcomings as well.
In today’s newsletter, we’ll explore:
🧬 What is The Merge?
💎 How will it affect the digital economy?
☠️ Some potential risks involved with Ethereum 2.0
💰 Is Ethereum 2.0 worth it?
What is The Merge?
The Ethereum Merge is one of the most anticipated upgrades in the crypto sphere to date.
But before we dive into The Merge’s implications, we must first understand why it is taking place, and how it will improve (or hinder) the Ethereum blockchain.
Within blockchain technology, there are two standard decentralized mechanisms for validating the legitimacy of a digital transaction, Proof-of-Work (PoW) and Proof-of-Stake (PoS).
On a PoW system, “miners”, using sophisticated computer hardware, solve complex mathematical puzzles to validate transactions on the blockchain.
Whoever is first to find the solution and validates the “block”, receives a reward for their efforts, which often comes in the form of whatever crypto token the network primarily uses (i.e. Bitcoin).
Fun Fact: In 2009, when mining first began on the Bitcoin blockchain, miners received 50 BTC per puzzle.
Over time, the rewards paid to miners diminish as the network grows and the blockchain draws nearer to its absolute capacity of tokens; for Bitcoin, this is 21 million BTCs.
As such, it becomes increasingly difficult for miners to earn rewards because there is greater competition, meaning that superior computing power is required to solve a cryptographic puzzle.
But with greater computing power, comes the need for more energy consumption, and that is where we begin running into some major problems.
Blockchain technology, specifically PoW networks, is not good for the environment.
So with increased pressure due to global warming, most networks found themselves scrambling to find a solution, or face intense social and governmental scrutiny all across the world.
Not-So Fun Fact: “Bitcoin accounts for 60% to 77% of crypto asset electricity, while Ethereum accounted for 20% to 39%” ~ the White House
And that is where the PoS system comes into play.
Rather than needing a warehouse full of computers, working 24/7, why not allow network participants to validate transactions based on the portion of cryptocurrency they own on that blockchain?
By this method, validators simply need one computer and a Wi-Fi connection to confirm the legitimacy of a transaction because their credibility is based on the “stake” in the blockchain, rather than their computational power.
With nearly all of the energy capacity no longer needed, 99.95% in fact, the proof-of-stake system is both environmentally sustainable and more accessible since almost anyone can afford a personal computer.
However, the PoS mechanism does not come without a few flaws of its own, but we will touch on that later.
For now, let’s focus on The Merge and why it is happening on the Ethereum blockchain.
As the second largest blockchain by market cap ($192.56 billion), second only to Bitcoin, Ethereum was one of the main PoW networks being scrutinized by government agencies due to its size.
To avoid intense regulation, developers on the blockchain needed to shift course before Uncle Sam and others brought their fists down on the system.
But this decision didn’t happen overnight.
For over 1.5 years now, Ethereum developers have been running multiple tests to guarantee a successful “merge” from PoW to PoS.
To do so without interrupting the existing network, they built the Beacon Chain in December 2020 which allowed them to run a parallel PoS chain that could be tested without affecting the main network.
In addition, having the Beacon Chain available allowed stakers to acquire billions of dollars prior to The Merge, which was necessary in order for it to operate properly when the time came.
To date, the Chain has over 400 thousand validators and 13 million ETH actively staked, according to Finematics.
Fast forward to today and the time has finally come for The Merge to commence.
As you are reading this, the update is underway and the network is soon to be reborn.
Continue reading to discover the risks and advantages of investing in Ethereum 2.0.
🚨 Not interested in investing in crypto? Check out our article on “How to Make Money with Penny Stocks”
Why switch to PoS?
As mentioned earlier, the main reason for switching over to a PoS system is due to the environmental impact caused by the network, which reduces energy consumption by 99.95%.
But there are other advantages to switching as well.
By merging the network, the supply of Ethereum (ETH) tokens is expected to decrease significantly (known as the Triple Halving), thus reducing its annual inflation rate by 3X, and ultimately becoming a deflationary asset.
Prior to The Merge, Eth’s inflation rate was 4.13%, producing 4.93 million tokens per annum.
After The Merge, Eth’s inflation rate will be 0.49%, producing 584 thousand tokens per annum.
With the number of entrants and application developers expected to grow due to greater accessibility, it is believed that with less supply, the price of ETH will climb as demand for the cryptocurrency increases exponentially.
Another reason for switching is greater economic security due to a fragmented network of clients.
Currently, most blockchains, including Bitcoin, rely on a single client platform, meaning everyone is bundled together, thus making it quite vulnerable to attackers looking to bring down the system or steal digital assets.
Instead, Ethereum’s blockchain will be segmented by clients, where developers will easily be able to turn off a piece of the network; think of it like a breaker switch in your home.
This is valuable because it improves the network’s security tenfold and reduces the risk of you losing all of your hard-earned assets.
Currently, the largest client is PRISM which owns 40% of the network, but this is a significant reduction from its earlier network share of 70%.
Lastly, The Merge will stabilize transaction times to 12 to 13 seconds, thus making it more consistent, but not necessarily faster.
While these are all promising improvements, there are a few risks associated with the PoS system as well.
We will dive into these now.
Where could Ethereum 2.0 go wrong?
Probably the most pressing issue with the PoS system is exploitation and censorship, leading to a more centralized network.
With participants now acquiring stakes in order to gain influence on the network, large players like Coinbase or Lido may use their powers to censor certain transactions or disapprove of them altogether.
If so, this would have an adverse effect on Ethereum given that the whole purpose of blockchain technology is to create a decentralized network, removing all power from any particular entity’s hands.
Not to mention, that governments may become involved, and they are the main driver for decentralization in the first place.
Although it may be hard to believe, we are seeing this already from the United States Treasury Department’s Office of Foreign Asset Control (OFAC) which recently blacklisted the Tornado Cash app on grounds of money laundering schemes by some of its users.
Whether morally acceptable or not, this demonstrates the government’s ability to influence more centralized networks like Ethereum on the PoS system.
Another, and more technical risk, is that attackers on the network may be able to prevent validators from proposing the next block through something known as Denial-of-Service attacks.
What this essentially means is that an attacker is able to cut in line on high-value transactions, thus intercepting the transaction fee rewarded to the original validator.
To mitigate this, developers are suggesting a “secret leader” who may prevent attackers from knowing who the next validator is.
All in all the system is expected to be much more secure than it once was and a better bet on decentralization than traditional financial practices.
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So is Ethereum 2.0 worth it?
Well, it certainly seems to be an improvement from the previous network but this doesn’t necessarily guarantee that any forecasted price action will come to fruition.
That is exactly why crypto investors like billionaire Mark Cuban recommend investing in assets you believe have value beyond the possibility of their price rising on a speculative basis.
In a recent interview, Cuban explained that,
“There has to be utility. Don’t get sucked in based on the value of tokens and what direction they go up or down.”
What he means is that rather than trying to bet on how Eth will perform following The Merge, consider the long-term consequences of this transition, and evaluate the utility of the blockchain itself.
When stewing on these arguments and more, if Ethereum still feels valuable after your analysis, then the time to buy and hold is now.
While it definitely seems that Ethereum creates more value than Bitcoin because it enables developers to create applications on its blockchain, rather than acting solely as a store of value, ETH’s success largely depends on its ability to maintain its integrity as a decentralized network.
If it happens to do so, then it is quite possible that ETH has the potential to surpass BTC as the number one cryptocurrency in the world.
Only time will tell.