6 April 2022: Put simply, “The Merge” is Ethereum’s switch from its native Proof-of-Work (PoW) to Proof-of-Stake (PoS). The change is expected to come with some major changes to how Ethereum functions, how the economics will operate, and what impact the Ethereum network will have externally (including the environment).
Ethereum is expected to integrate The Merge within the present quarter (Q2 2022).
Top Things to Know:
- Ethereum is set to merge with the Beacon Chain and introduce PoS
- ETH is projecting to go fully deflationary
- The network will improve its efficiency by up to 99.95%
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The Breakdown
Specifically, The Merge will bring together mainnet Ethereum with the Beacon Chain, a blockchain that has run separately from mainnet using a PoS consensus layer. This transition will preserve the full ledger of the original Ethereum blockchain.
The Merge can be broken down into these three outcomes:
- Changes to Ethereum functionality
- Updates to Ethereum economics
- Improvements in network efficiency
The Move to PoS
The most obvious major change is the removal of the original miners in favor of a staking model. This switch to a PoS consensus algorithm will come with certain features delayed, including the withdrawal of ETH that has been staked.
PoS networks come with a different security approach. Validators secure the Ethereum network, and for Ethereum V2 post-merge, validators are required to deposit 32 ETH. The approval of a block will require ⅔ of all validators to execute.
The last topic of note here is this community-built term of “The Triple Halvening”. This is the name given for the large drop in ETH issuance once “The Merge'' officially occurs. During this event, an estimated 90% of ETH issuance will disappear.
Future Economics
A key, interesting economic effect is the expected flip of ETH from an inflationary asset to a deflationary asset. This is a direct result of the adjustment to the ETH issuance rate combined with the base fee burn mechanism introduced in EIP-1559 back in August 2021.
Under the PoW model, ~13,500 ETH are issued per day (a rate of about 4.3%). For PoS, the issuance model changes depending on the amount of ETH staked on the network, with projections predicting reductions in issuance of between 0.3% and 0.4%.
This is where the potential switch to Ethereum becoming deflationary occurs, as the burn rate will exceed the issuance rate. With staking becoming such a vital part of Ethereum operations, it is important to note the specifics.
Phase 0 requires 16,384 validators to begin, with phase 1+ requiring a minimum validator per committee count of 128. This equates to an eventual requirement of 262,144 validators staking a total of 8,388,608 ETH.
See Chart Here - Consensys (Beck, Asher)
See Chart Here - Consensys (Beck, Asher)
Improvements in Efficiency
One of the better advances for Ethereum in terms of public relations are the vast improvements in efficiency. The blockchain under PoW is highly inefficient as it takes computational power to secure the ledger. Under PoS, this is not the case.
The annual energy consumption of the Ethereum blockchain has reached 44.5 TWh per year, an amount comparable to destinations such as Hong Kong. The switch to PoS is going to drastically improve upon this, with projected energy usage reductions of up to a staggering 99.95%.
With a reduction in necessary computing power, the network will already be far more efficient. Once Etheruem integrates sharding to help boost overall scalability and throughput, the scalable processing power of Ethereum will increase by orders of magnitude. The final step in this process is the eventual migration of dApps to these new ETH shard chains.
As far as gas fees go, post-merge when sharding becomes introduced is when gas fees should drop substantially. This is because the network will be highly scalable to account for the massive increase in user traffic while supporting a growing ecosystem of literally thousands of other networks, protocols, and applications.
Closing
The coming Ethereum merge to Proof-of-Stake is arguably one of the most highly anticipated events in the history of the cryptoeconomy. Ethereum is the original smart contract platform, hosting thousands of dApps, including many of the top DeFi applications.
While The Merge will not immediately play a role in lowering notorious gas fees on Ethereum, it does establish the future in which Ethereum can introduce sharding and other scaling practices to improve network usability.
As ETH is set to become deflationary, price pressure should be expected to increase massively deeper into Q2 2022. All eyes should remain on Ethereum and its ecosystem.
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