This upgrade was one of the most eagerly anticipated events in crypto’s history. After all the news and attention the Merge got, a lot of people were expecting there to be a huge pump or dump in the price of Ether (ETH) and other cryptocurrencies. But the markets were largely unaffected by the event. This begs the question, was it all just hype? The “Merge” seems to have worked. What you need to know about crypto’s biggest story of 2022 and how it is affecting users and our world.
What is Ethereum?
Ethereum is a blockchain, the world’s second-most valuable digital currency by market capitalization, a publicly-viewable, distributed ledger that verifies and records all transactions on the network. The platform was conceived by Russian-born Canadian programmer, Vitalik Buterin, in 2013. What sets apart Ethereum’s blockchain from Bitcoin’s is that it allows users to run “smart contracts.” These are computer programs stored on the blockchain that automatically perform a chain of actions when certain conditions are met. This functionality has allowed many people to build a large network of financial institutions, such as decentralized exchanges and lenders, and even other digital tokens on the Ethereum blockchain.
What is ‘The Merge’?
The Merge was the joining of the original execution layer of Ethereum (the Mainnet that has existed since genesis) with its new proof-of-stake consensus layer, the Beacon Chain. It eliminated the need for energy-intensive mining and instead enabled the network to be secured using staked ETH. It was a truly exciting step in realizing the Ethereum vision—more scalability, security, and sustainability. https://ethereum.org/en/upgrades/merge/#misconceptions
The years-long effort has changed how transactions are verified on the Ethereum blockchain. In December 2020, Ethereum began running on two parallel blockchains, one using the legacy system to validate transactions and another blockchain using proof-of-stake for developers to test and improve. This merge combines the two blockchains into a single one using a proof-of-stake system for validations.
Ethereum, like Bitcoin and other lesser-known cryptocurrencies, previously relied on network participants (so-called miners) solving complex mathematical problems to validate transactions, a process known as proof of work. For their effort, miners receive newly minted digital tokens. Ethereum’s new process will rely instead on what’s called proof of stake and it will eliminate the need for miners. Proof-of-work systems have recently come under fire for using tremendous amounts of electricity. By contrast, proof-of-stake systems consume very little electricity.
Julian Hosp, CEO and co-founder of Cake DeFi, recently appeared on Cointelegraph’s YouTube page, to discuss the Merge with Tim Warren, co-host of Coffee N Crypto.
What is Proof of Stake?
Ethereum’s switch to proof of stake has been planned since 2014, before the blockchain was officially deployed. Because of its technical complexity, and the increasingly large amount of money at risk, it’s been delayed multiple times. The Merge is part of what was previously called “ether 2.0,” a series of upgrades that reshape the blockchain’s foundations.
“This is the first step in ethereum’s big journey toward being a very mature system, and there’s still steps to go,” ethereum creator Vitalik Buterin said on a YouTube livestream following the completion of the Merge.
“We still have to scale, we still have to fix privacy, we still have to make the thing secure for regular users, we all need to work hard and do our part.”
Buterin called the Merge “the difference between early stage ethereum and the ethereum we’ve always wanted.”
In a proof-of-stake system, individuals or companies act as validators (instead of miners), staking their own Ethereum tokens (known as ether or ETH) as collateral to validate transactions and secure the network. Validators are incentivized to do so by the chance to earn rewards, namely additional ETH tokens.
What Does the Merge Mean for Users and Holders?
The Merge did not change anything for holders/users.
This bears repeating: As a user or holder of ETH or any other digital asset on Ethereum, as well as non-node-operating stakers, you do not need to do anything with your funds or wallet to account for The Merge. ETH is just ETH. There is no such thing as “old ETH”/”new ETH” or “ETH1″/”ETH2” and wallets work exactly the same after The Merge as they did before—people telling you otherwise are likely scammers.
Despite swapping out proof-of-work, the entire history of Ethereum since genesis remained intact and unaltered by the transition to proof-of-stake. Any funds held in your wallet before The Merge are still accessible after The Merge. No action is required to upgrade on your part. https://ethereum.org/en/upgrades/merge/#misconceptions
How will Proof of Stake Make Ethereum More Secure?
The proof-of-stake system makes decisions about updating the Ethereum blockchain by a vote among the holders of the cryptocurrency. Voting power depends on how much ETH has been staked. Large holders, known as validators, must invest 32 ETH, and are required to perform certain duties to maintain the blockchain’s integrity, such as confirming the transactions of other validators. Their “staked” tokens can be destroyed if the validators misbehave, such as putting through invalid transactions.
The promise of financial punishment for validators misbehaving also makes it harder for the Ethereum blockchain to fall under a “51% attack” in which bad actors take control of more than half of the network, allowing them to write parts of the blockchain as they wish.
What Does the Transition Mean for Ethereum’s Energy Consumption?
The Merge marked the end of proof-of-work for Ethereum and start the era of a more sustainable, eco-friendly Ethereum. Ethereum’s energy consumption dropped by an estimated 99.95%, making Ethereum a green blockchain Learn more about Ethereum energy consumption.
It is no secret that proof-of-work crypto mining uses a jaw-dropping amount of electricity. Bitcoin and Ethereum were using more electricity than Sweden or Argentina before the merge. In Bitcoin-friendly Texas, for example, crypto mining gobbles up about 3% of local demand for electricity during times of peak usage, and may account for a third of new electricity demand in Texas over the next decade. Since much of that electricity is not generated by renewable sources like wind and solar, crypto is responsible for large amounts of carbon dioxide and other emissions that contribute to climate change.
All that new demand for electricity is difficult to meet. In some states, crypto mining has led to restarting of retired plants that burn fossil fuels for electricity, increasing mining’s climate change impact.
Much of that energy comes from renewable sources. About 57% of the energy used to mine bitcoin comes from renewable sources, according to the Bitcoin Mining Council. (BMC relies on self reporting among its members.) This is motivated not by climate conscientiousness but self interest: Renewable energy is cheap, so mining operations are often set up near wind, solar or hydro farms. Still, the carbon footprint is extensive. Ethereum is estimated to emit carbon dioxide at a similar scale to Denmark or Chile.
Crypto mining also uses and burns quickly through large amounts of computer hardware, resulting in almost 38 kilotons of electronic waste (or “e-waste”) per year. E-waste is typically contaminated with harmful substances like mercury, lead, or arsenic, which can cause neurological problems or cancer. Ethereum’s proof-of-stake system should reduce its e-waste output dramatically, according to Alex DeVries of Digiconomist.
How will the Merge help?
The Merge will see ethereum completely shed proof of work, the energy-intensive system it currently uses, in favor of proof of stake.
In crypto land, “staking” refers to depositing cryptocurrency to a protocol. Sometimes this can be to yield interest. For instance, the creators of the terraUSD stablecoin offered customers 19.5% interest on staked TerraUSD: You could put in $10,000 and take out $11,900 after a year (until it imploded).
Other times, as in the case of a proof-of-stake blockchain, staked cryptocurrency helps secure a protocol. As we’ll see shortly, the more ether is staked, the more secure the blockchain will be after the Merge.
Now that proof of stake has been adopted, miners will no longer have to solve energy-intensive cryptographic puzzles to verify new blocks. Instead, they’ll deposit ether tokens into a pool. Imagine each of these tokens is a lottery ticket: If your token number is called, you win the right to verify the next block and earn the rewards that entails.
It’s still an expensive enterprise. Prospective block verifiers — who will be known as “validators” instead of miners — need to stake a minimum of 32 ether ($52,000) to be eligible. This system sees punters put up raw capital, rather than power, to validate blocks. Whereas a bad actor needs 51% of a network’s electricity to overrun a proof-of-work system, they’d need 51% of the total staked ether to overrun the proof-of-stake system. The more total ether is staked, the safer the network becomes as the cost of reaching 51% of it’s capital increases.
Since cryptographic puzzles will no longer be part of the system, electricity expenditure will go down an estimated 99.65%, according to the Ethereum Foundation.
What effect Does the Merge Have on Scaling?
The Merge also set the stage for further scalability upgrades not possible under proof-of-work, bringing Ethereum one step closer to achieving the full scale, security and sustainability outlined in its Ethereum vision.
Are there any risks?
Absolutely. Critics of ethereum — typically bitcoin enthusiasts — compare the merge to changing the engine of an airplane in the middle of a passenger flight. At stake is not just the airplane, but the $188 billion worth of ether in circulation.
On a technical level, there could be many unforeseen bugs with the new blockchain. Critics also wonder whether proof of stake will be as secure as proof of work. Charbonneau reckons it could be safer because of a function called “slashing” — in essence, validators can have their staked ether burned, and their network access revoked, if they’re found to have acted maliciously. That’s different from proof of work where, if someone somehow manages to control 51% of the power, that power can’t be taken away from them.
“Say someone 51% attacks bitcoin today, you can’t really do anything,” Charbonneau said. “They have all the miners and they could just keep attacking you. With proof of stake, it’s really simple. If you attack the network, it’s provable and we just slash you, and then your money’s gone.”
“You get one bullet, and then that’s it. Then you can’t do it again.”
What Are the Investment Implications of the Transition?
The merge could help push crypto further into the mainstream not only because of proof-of-stake’s more energy-efficient process but also because of the financial incentives that users will now have to stake their ETH and earn a yield on it.
The transition to a proof-of-stake model should lower inflation and increase staking yields, which should make it more appealing for institutional investors. Needham & Co. estimates that the annual new issuance of ETH will decline from around 4.9 million annually before the merge to roughly 970,000 annually post-merge.
Right now, the yield for staking ETH sits at 4.1% for validators, but it could rise to as much as 7% after(opens in new tab) the merge. This means more revenue for companies that are allowing investors to pool their ETH holdings (there is a 32 ETH minimum at the moment) for staking, such as crypto exchanges Coinbase and Kraken, as well as institutional and individual validators.