Blockchain 101: #4- Why is the Merge Causing Ethereum to Surge?
Cryptoland is close to adopting a new, more energy-efficient Ethereum platform, nicknamed “The Merge” because it involves the merging of the current proof-of-work Ethereum blockchain and the proof-of-stake “Beacon Chain” created by Ethereum developers.
Proof of work cryptocurrencies such as bitcoin are energy-intensive, involving fierce competition and powerful computing resources to verify transactions and keep the blockchain secure. Bitcoin pioneered the proof-of-work model which requires a global, decentralized network of computers to solve complex mathematical puzzles to process transactions and earn rewards in the form of newly created bitcoins. The people and companies who set up these computers are called miners and the process is energy-intensive because the network requires miners to run their powerful machines 24/7.
Proof of stake, by contrast, allows users to participate in securing the network by putting their own crypto holdings on the line or staking them. With proof of stake, the idea is that by locking up coins, stakeholders have a financial incentive to make sure transactions are valid.
The Ethereum Foundation says the change is expected to reduce Ethereum’s electricity usage by about 99.95%, but a lot is riding on this upgrade beyond energy savings. Ether, the cryptocurrency that powers Ethereum has significantly outpaced Bitcoin recently based on the “buzz” surrounding the merge. Since July 1st, Ethereum is up more than 60%, while Bitcoin is only up a modest 10%.
Ethereum co-founder Vitalik Buterin said on Twitter that the upgrade should take place on or around Sept. 15, although he said the exact date is not guaranteed. The merge has been in the works for years and has been delayed several times for technical reasons.
The upgrade is a major technological undertaking given there are already thousands of decentralized applications with billions of dollars deposited in them running on the Ethereum blockchain. Because there is so much value to be lost if there are any issues or flaws, this undertaking is not being taken lightly. It involves a massive change to a large, operational network. One crypto influencer, Swan Bitcoin’s Cory Klippsten, likes the merge to “trying to fix an airplane in midflight.”
The merge is probably the most complicated blockchain upgrade that has ever happened, so the amount of preparation work, testing, and security analysis is pretty significant.
The two largest stablecoin issuers, Tether and Circle, have both said they would support the proof-of-stake Ethereum blockchain. But for miners who have invested in hardware to mine ether, the upgrade will hurt. There are many ether miners and mining pools that will immediately lose millions and millions of dollars of revenue when the merge happens. Many proof-of-work miners are preparing to migrate to the new Ethereum blockchain post-merge become so-called validators. But there are “hold-out” miners that say they will continue to support the current Ethereum blockchain.
But most of the crypto world cannot wait for “The Merge” to happen to help it emerge from a long, cold Crypto Winter.
Blockchain 101: #3 – Is Avalanche an Ethereum Killer?
Decentralized finance (DeFi), is a term used to describe the financial technology applications like lending and borrowing on the blockchain. DeFi is a major use-case for the Ethereum, smart-contract focused blockchain. But the problem with Ethereum, according to its critics, its that the transaction speeds are slow and as mentioned previously in our article, “Blockchain 101: MEV – Blockchain’s Got a Gas Problem”, its associated fees have become too steep for average users. Some even call Ethereum, “the blockchain for bankers”.
As a result, a wave of new contenders has emerged on the blockchain hoping to eat Ethereum’s lunch. One such rival is Avalanche, which bills itself as being blindingly-fast, low cost, and eco-friendly.
Avalanche’s development is led by New York-based Ava Labs, and was co-founded by Emin Gün Sirer, a computer science professor at Cornell University, Kevin Sekniqi, a Ph.D. student, and Maofan “Ted” Yin, who wrote the protocol used in Facebook’s ill-fated digital currency project Libra. Basically, the Avalanche team is seasoned and pretty well credentialed.
What is Avalanche?
Avalanche is a blockchain that combines scaling capabilities and quick confirmation times using its Avalanche Consensus Protocol. It can process 4,500 TPS (transactions per second), as opposed to 14 TPS for Ethereum. That is quite a difference!
It is no wonder that Avalanche’s native token, AVAX, is the 10th-largest with a market cap of $22 billion as of this writing in April 2022, according to data from CoinMarketCap.
Avalanche came onto the scene in September 2020 and has risen to become one of the largest blockchains. It now has over $10.6 billion of total value locked in its protocol, according to DefiLlama, making it the fourth-largest DeFi blockchain after Terra and the Binance SmartChain. Avalanche’s DeFi ecosystem contains some of Ethereum’s protocols such as lending protocol Aave and decentralized exchange protocol SushiSwap. Avalanche’s main decentralized exchange is called Trader Joe, providing billions of dollars in liquidity pools. And Benqi, supports $1.3 billion in smart contracts, with its lending platform that is similar in functionality to Aave.
But Avalanche’s use is not limited to just DeFi. Indeed, Ava Labs also supports metaverse investments in the network where fast and cheap is well suited to blockchain gaming and virtual worlds.
How Does it Work?
The Avalanche Consensus Protocol combines the benefits of two other sets of consensus protocols known as Classical and Nakamoto.
Classical protocols: These are fast, green and low-maintenance, but aren’t typically decentralized or scalable. HotStuff, a Classical protocol, was famously used in Meta Platforms’ (formerly Facebook) stablecoin project, Diem (formerly Libra).
Nakamoto protocols: A breakthrough technology by Bitcoin’s pseudonymous inventor Satoshi Nakamoto, this kind of protocol offers decentralized, robust and scalable blockchains – as is the case with Bitcoin. But the network is costly to run, and transactions are not as swift.
Avalanche is built across three chains: the C Chain, X Chain, and P Chain, which stands for Contract, Exchange, and Platform.
The AVAX Token
AVAX, the native token for Avalanche, is known as “red coin” by its users. Its supply is capped at 720 million tokens. Similar to Ethereum, Avalanche users pay transaction fees on the network, based on Ethereum’s gas fee model. But whereas Ethereum’s gas fees are only partially burned and paid to miners, Avalanche’s fee is entirely burned.
AVAX is also used in staking, a process that involves pledging crypto to participate in the validation process and help secure the blockchain. Avalanche is a proof-of-stake network, the economic resource required to validate is not performed by running powerful computers, but locking up crypto assets. Users can run validator nodes and receive AVAX rewards for doing so.
In order to use the Avalanche network and its DeFi protocols, you will need to buy AVAX on a centralized crypto exchange like Binance, Kraken, or Coinbase.
Avalanche is just one of many potential “Ethereum” killers on a list that also includes: Solana, Cardano, Tezos and Polkadot. While among smart contract blockchains, Ethereum still remains at the heart of Web 3.0, Avalanche and these other protocols are giving it a run for its money as the infrastructure of the future!
Blockchain 101: Topic #2 – Fighting the World’s First Crypto War
This is the second in a series of articles we plan to write to educate and talk about all things “Blockchain”.
Years ago, when we started talking about Digital Assets and Blockchain, one of the early criticisms among sceptics was the lack of “real-life”, practical use-cases. Well, one is playing out in “real time” with regard to the Russian invasion of Ukraine, leading some to describe it as the “first crypto war”. Digital assets have taken on an unprecedented role in the war in Ukraine, helping the government raise hundreds of millions of dollars to fight against the Russian invasion.
At the early outset of the conflict, Ukrainian officials posted the addresses of crypto wallets on their Twitter accounts, giving donors a direct method of sending financial aid and contributions (see example below). Since then, more than $100m worth of crypto has been raised by the “Crypto Fund for Ukraine” run by Michael Chobanian, the founder of the Ukrainian crypt exchange Kuna.
For the Ukraine, crypto was supposed to be a launchpad into the future. Ukraine’s deputy minister for digital transformation Alexander Bornyakov hoped that digital assets and blockchain technology would help revitalize the Ukrainian economy and bring all government processes online. But now, it has become an important lifeline for defense in a country being ravaged by war.
Much of the crypto, spread across assets such as bitcoin, ether, polkadot, solana, dogecoin, tether and more, have gone to help fund humanitarian agencies distributing aid in the country. Other funds have helped supply soldiers with food, uniforms, and other military equipment and supplies. These funds are also being used to fight the cyber war, reportedly defaced Russian government websites, provided intelligence, and taken down military systems.
Using crypto in the middle of a crisis is not always easy, after all it requires an internet connection and a working device. Furthermore, not everyone is adept at transacting and transferring of crypto assets, making it ripe for fraud.
And blockchain does not pick sides. Crypto and blockchain have also likely helped Russia avoid some financial and economic sanctions. Crypto assets cannot be frozen, censored, and can be used without ID, making them both an important humanitarian tool AND a tool to subvert illegal actions. Iran, for example, has used bitcoin mining to bypass trade embargoes in the past, according to research from the blockchain analytics firm Elliptic. Indeed, the New York Times reports that the Russian government has been developing a digital ruble and other tools to help avoid sanctions.
So, while the current use cases that have emerged in this first “Crypto War” were not necessarily the ones first conceived by blockchain futurists, they are important nonetheless and have further legitimized and helped make the case for blockchain. Indeed President Biden just issued an executive order, “Ensuring Responsible Development of Digital Assets” giving further recognition to the fact that blockchain and crypto assets are investment themes that are here to stay!
The opinions expressed on this page are not intended to serve as investment advice. The information provided is as of particular time and subject to change at any time without notice. It is not possible to invest directly in an index. Exposure to an asset class represented by an index is available through investable instruments based on that index. EQM Indexes does not sponsor, endorse, sell, promote or manage any investment fund or other investment vehicle that is offered by third parties and that seeks to provide an EQM Indexes is not an investment advisor, and makes no representation regarding the advisability of investing in any such investment fund or other investment vehicle. A decision to invest in any such investment fund or other investment vehicle should not be made in reliance on any of the statements set forth in this article. Prospective investors are advised to make an investment in any such fund or other vehicle only after carefully considering the risks associated with investing in such funds, as detailed in an offering memorandum or similar document that is prepared by or on behalf of the issuer of the investment fund or other vehicle. Inclusion of a security within an index is not a recommendation by EQM Indexes to buy, sell, or hold such security, nor is it considered to be investment advice.
Blockchain 101: MEV – Blockchain’s Got a Gas Problem
The modern world is full of acronyms, but one acronym relevant to the Blockchain is MEV or miner extractable value. MEV is the measure of profit a blockchain miner can make through their ability to include, exclude or reorder transactions.
Crypto miners (and validators) process and validate transactions in order to receive compensation. Because they have full visibility of all transactions, one aspect of mining is the ability to reorganize or reprioritize transactions in order to front-run other users’ transactions and effectively arbitrage. In essence, miners can leverage their discretionary power to sequence transactions within blocks to maximize their profits.
MEV, also known as maximal extractable value, is the maximum or optimal value that can be extracted from block production in excess of the standard block reward and gas fees by including, excluding, or changing the order of transactions in a block. MEV is also relevant in a proof of work context, given that miners can also control the transaction inclusion, exclusion, and ordering.
If you are feeling lost, let’s review some transaction terms.
The standard block reward is the number of Bitcoin, Ethereum, or other crypto currency you receive for successfully mining a block of currency.
Gas is the unit of measure that pertains to the computational effort required to execute specific operations on the Blockchain. Since each transaction requires computational resources to execute, there is an associated fee.
Gas fees are paid for Ethereum are paid in ether, and so on. Everything on the network costs gas. The cost of gas is determined by demand for resources on the network. How much gas you need depends on how large and complex the contract or transaction and how fast you want it executed. Just like the fuel economy in your car, if you are willing to go slower, you can pay less gas. If you want the transaction or contract executed faster, you pay more gas! These decisions result in more efficient use of the Blockchain network.
While it might be difficult for individual miners to figure out the most profitable MEV opportunity, a large portion of MEV is extracted by independent network participants called “searchers”. Searchers can run complex algorithms on blockchain data to detect profitable MEV opportunities and use bots to automatically submit those profitable transactions to the network.
Miners also get a portion of the full MEV amount because searchers are willing to pay high gas fees (which go to the miner) in exchange for a higher likelihood of inclusion in profitable transactions in a block. Assuming searchers are economically rational, the gas fee that a searcher is willing to pay will be an amount up to 100% of the searcher’s MEV (because if the gas fee was higher, the searcher would lose money).
For some highly competitive MEV opportunities, searchers may have to pay up to 90% or even more of their total MEV revenue in gas fees to the miner because so many others want to participate in the profitable arbitrage trade.
This supply-demand dynamic means that those that are good at “gas golfing” – programming transactions that use the least amount of gas, have a competitive advantage, allowing searchers to set higher gas prices while keeping total gas fees constant.
There are many other methods used to “game” the decentralized system to extract maximum profits. These are the same methods that traders have been using to “game” the market for decades, since computing power became available.
In the financial markets, this system of arbitrage creates market efficiency and greater robustness. This is also the case on the Blockchain. Decentralized finance relies on economically rational actors to ensure the stability and utility of their protocols. Rational players are taking advantage of economic incentives and arbitrage opportunities.
That being said, there are downsides to MEV practices which can slow down the network with congestion and end up raising gas prices for all. MEV extraction ballooned in popularity in the first half of 2021, resulting in high gas prices the first few months of the year. According to Flashbots’ data, which only measures the lower bound of total extracted MEV and tracks only eight DeFi protocols, more than $689 million has been extracted from unsuspecting users of the Ethereum network since Jan. 1, 2021.
Because of limited bandwidth, MEV has the potential to undermine the usability, neutrality, transparency, decentralization, and security of the Ethereum and other blockchain networks. But DeFi, like most markets, can adapt and become more efficient particularly as new competitors and protocols emerge. So stay tune for the next wave of problem solvers and MEV 2.0!