Political storms and economic crises cannot stop the cryptocurrency community. One of the hottest topics is again the future of Etherium. The transition to PoS is getting closer: the first Ropsten test network has already been running on PoS since June, and in early July the merger was carried out in the second Sepolia test network. If the transition is successful and in Goerli’s third testnet, the main network will be next. Assuming testing does not reveal critical errors, the first phase of the core network transition will begin in September. After almost five years of waiting.
As part of the first phase, the Ethereum 2.0 signaling chain – the so-called “beacon chain” – will become the leading Ethereum blockchain. This means that it will create blocks of the main network and issue new coins through the already operating, but so far “mothballed” in the non-public chain of stacking. Familiar to us network Ethereum 1.x on consensus PoW as a result of the merger with beacon chain will be one of the components of a hybrid system, its further fate has not yet been finally decided. However, it will no longer create new coins, nor will it be responsible for creating blocks. Etherium mining will go down in history.
The size of the Etherium economy
Nearly seven years after launch, Etherium is not just the second most capitalized blockchain. It is also the most popular environment for decentralized applications. There are hundreds of big project tokens circulating on Etherium, and more than 20 of them are over $1 billion in capitalization, even during a bear market!
According to Coingecko, as of July 18, 2022, the entire Etherium ecosystem “weighs” over $430 billion. Considering that classic stabelcoins (USDT, USDC, BUSD) run on multiple blockchains, their capitalization on Etherium is actually significantly lower. But even minus the “extra” tokens, the current market value of the entire Etherium ecosystem is close to $400 billion. It is a global environment where millions of users, hundreds of companies, and decentralized platforms work and play. Making decisions at the underlying blockchain level that affect all users and projects requires tremendous responsibility.
Changing the consensus mechanism will bring more than just technical changes. It will affect both the structure of the community and the decision-making and implementation processes to develop not only the project itself, but the entire broader ecosystem of decentralized applications.
In this article we look at the main “pressure groups”, their interests and opportunities. The author will also try to predict what will change after the implementation of Proof-of-Stake consensus.
Which groups influence decision-making in the Ethereum ecosystem
Every open community is heterogeneous, with at least a few overlapping interests. Etherium is no exception.
One often hears online that the development of Etherium is entirely determined by Vitalik Buterin’s team. Of course, the authority of the founder of the project and the largest group of developers is very high, but they have to listen to those who develop projects with a billion-dollar capitalization, funds and stock exchanges, and even to public opinion. But, in the best traditions of “big politics,” lobbying for financial interests is rarely made public.
Developers: the key to the repository where the airwaves lie
The full-client Geth development team, led by Vitalik Buterin, maintains the project’s main repository on Github. It makes almost all the changes and updates to the underlying Ethereum protocol, on which the underlying blockchain is based, as well as the Solidity programming language for creating smart contracts. They also review, approve or reject suggestions for improvement (EIP). So no technical change that could affect the entire ecosystem can get past this group.
Vitalik Buterin, the creator of the idea of Etherium, is certainly one of the most famous figures in the cryptocurrency industry. Its credibility suffered little even after the collapse of TheDAO and the forced hardforcing of the blockchain split in 2017.
The same story showed that developers at first were easy enough to follow users and were willing to “roll back” changes in the blockchain to compensate for losses. But it must be admitted that she was the only one – such dangerous experiments were not repeated. Obviously, this is due to the maturation and increased capitalization of the entire ecosystem. Decisions that could cause billions in losses can no longer be passed unilaterally without the support of an absolute majority, even to compensate for other billions in losses. High-profile failures can lead not only to user churn and project abandonment, but also to serious lawsuits.
In addition to Vitalik’s core group, there are developers of other clients. As a rule, they accept changes to the underlying protocol without complaint and modify their applications accordingly.
Miners: Waiting for the end and the complexity bomb
Since 2015 and to this day, Etherium has been running on the PoW consensus, which is supported by a moderately decentralized community of miners. Among them there are users with 1-2 video cards, and large farmers with thousands of GPUs. The largest farms sometimes venture into solo-mining, while everyone else connects to pools.
Pools serve as a natural organizing factor for miners by partially centralizing the network. Unhappy with the pool policy, miners can always switch their equipment to another one, but a large pool can “make trouble” in the network before it happens. As of July 15, 16 pools have above 1% of the Etherium hash rate, with the largest, ethermine.org, serving more than 28% of the total hash rate.
Already from the first steps in the development of Ethereum 2.0, developers are “tightening the noose around miners’ necks” in favor of stackers. Unlike Bitcoin, Etherium does not have a gradual emission reduction algorithm. Initially each block generated 5 ETH, then the reward for the block was manually reduced to 3 ETH, and then to 2 ETH. Thus, the profitability of miners is gradually decreasing even without taking into account the increase in complexity. But this is not the first or last blow to their bottom line.
Since the rollout of the London hardforward last August, miners have lost a significant portion of their commissions. Despite common interests, the community of miners has been passive and difficult to organize into joint actions, even in the event of a direct financial threat. For example, the planned April 1, 2021 “strike” of miners against the implementation of EIP-1559 was not much different from an April Fool’s joke.
In addition, the sword of Damocles has been hanging over miners for years with a “complexity bomb” – an algorithm that increases the complexity of mining many times after reaching a certain block (epoch). Its purpose is that after the transition to PoS, miners will leave voluntarily due to the catastrophic drop in profitability, without having to confront a hardforward and another split into two blockchains. Because of delays in Ethereum 2.0 development, the activation of the “complexity bomb” has been repeatedly delayed and will likely never work on the main network.
Perhaps even after the successful merging of the 1.x and 2.0 branches, some miners will want to keep the old chain viable. To do this, they would need to make changes to the network protocol and client code to run a separate blockchain. Along the way, they will need to disable the “difficulty bomb” by removing it from the program code.
Technically, it’s not very hard to do: you create a copy of the main repository, make changes to the code, and switch to the modified version of the wallet in a consistent manner.. But will such a blockchain survive and how much will the “old-new” ETH1 be worth? The history of Ethereum Classic suggests that the “splits” can stay afloat for several years, but without the development of the project’s functionality, it will gradually fade away.
Steakers: whales and herrings
The new force that will change Etherium and subdue it is definitely the steakers, or rather the validators. Stakers in general can include those who have transferred their ETH to pools of stacking or to a corresponding account on an exchange. But their coin operation in the blockchain will be the responsibility of the pool/exchange operator, which runs and maintains the transaction-validator nodes themselves.
After the final transition to PoS, validators will not only take over the functions of miners to validate transactions and issue new coins. They will be virtually the only force controlling both the operation of the blockchain itself and the adoption of architectural changes and technical updates. Stackers are much more dependent on the exchange rate of ETH than miners, as they have to keep coins in their wallets at all times.
At the time of publication, the Ethereum 2.0 deposit contract
is about 13.1 million ETH, which is only 11% of the total amount of generated ETH. Thus, if the transition happens now, 11% of the coins will “rule all.”. But after the transition to PoS, the share of coins in stacking will increase as stacking becomes the only way to get new coins, and the controlling share of the current validators will be diluted by the new. At the same time, the withdrawal of coins from active circulation will be a long-term driver of ether’s growth.
But most importantly, the process of blockchain centralization on PoS will become uncontrollable and even untraceable. Each Etherium validator makes a deposit of 32 ETH. Thus, there are already more than 400 thousand active validators in the beacon chain. But to whom do they belong? That is unknown.. It is impossible to verify who owns a particular wallet unless the owner is willing to disclose it and takes sufficient measures to anonymize it.
Simply put, all >400,000 wallets can belong to the same number of users, with one validator node for each. This is the best option and maximum decentralization, in practice almost impossible. As frustrating as it may be for small, single-node validators, they will be like a giant pack of herrings plowing the world’s ocean.
But what if all the validators were owned by a few big holders, called “whales,” and they were in cahoots with each other? Such a network would be completely centralized.. How do you know who owns a hundred thousand validators? One whale or a pack of herrings? It is impossible without full control of the global network, and not even the U.S. intelligence agencies can boast of such control.
Ethereum 2.0 consensus protocol includes measures to combat rogue validators. Up to and including unplugging them and removing the deposit. This operation will be carried out by the “law-abiding majority”. But what if this majority is already under the control of a few whales? In that case, they could launch a preventive attack and kick anyone who tries to challenge their policies out of the network.. Most validators cannot be dealt with by any technical measures without the introduction of a “super administrator” directly managed by the developers.
Yes, the dictatorship of large holders will cause a “storm on the net” and lead to a mass exodus of users, a drop in the ETH exchange rate and a depreciation of “whale” deposits. It is probably the only effective measure of “killer whales” available to the general public.
Nothing personal, just business.
The cryptocurrency industry has already become a significant player in the global economy, although many old-school economists try to deny this by operating on the “unsecured” nature of cryptocurrencies. At the best of times, the capitalization of the leading companies in the industry was in the tens of billions of dollars, and the total value of all crypto-assets exceeded $2 trillion.
Many companies and banks hold cryptocurrencies and provide various services to work with them. So businesses are extremely interested in the stability and growth of major cryptocurrencies, and Etherium is the second of them. Direct or shadow lobbying of their interests by businesses is more than justified, and it is foolish to assume that it does not now. And most of the potential big stackers are just that: exchanges, pools, funds, and even companies from other industries that have bought ETH to diversify.
So it’s not surprising that for any centralized business, PoS-based consensus is more profitable than mining. It allows the active use of ETH, now just lying around in purses and at best used to issue credits to margin traders. And through validator wallets, the business automatically becomes a participant in the management of the network.
Of course, validator deposits are not legally the same as voting shares, but technically they are a lot like them. And, in case of force majeure, the exchange operator can use client deposits for its own purposes. As stock market brokers [sometimes] do.
“Simple users”: horde or legion
After all, we should not forget about the majority of us, i.e. ordinary users, who are the vast majority in any open source project. Of course, each of us is not able to influence developers or change the policies of major exchanges in any significant way.
However, united public opinion sometimes has a big impact on the people making decisions if it is expressed in a mass and consolidated way. For example, it was the public condemnation inspired by Bitcoin Core developers that forced big business to abandon the SegWit2X hardfork in the Bitcoin blockchain in 2017.
The hardest part about influencing the development of the project through most “ordinary users” is organizing quite a few groups aggressively advocating their opinions. For example, when it comes to switching to PoS, users are divided. A lot of small miners, who earn a modest but stable income from a few video cards, oppose the transition, while small steakers, who put some ETH they bought into steaking contracts on exchanges and into pools, on the contrary, want to speed up the transition to realize their income faster.
Dapps developers and users, especially DEX traders, will also benefit from consensus shifting and sharding implementation – it will reduce transaction fees many times over the long term. Thus, broad public opinion is also split-but by a clear margin in favor of the transition. If he passes safely.
In the apparent absence of attempts to organize influence groups, all the activity of “ordinary users” is mostly spent on sluggish bickering on social networks. Passivity effectively excludes the largest and most disparate force from the decision-making mechanism. Now it is nothing more than a huge but disorganized horde of. Will a leader emerge from the depths of the network, able to build it under his banners? And what will be written on them?
What will change after Etherium moves to PoS
With so many different pressure groups and an even more dispersed system of validators, consensus building will be a challenge. The simplest option really looks like “Vitalik’s dictatorship,” that is, the maximum push by the developers of their version of the solution. Of course, with the support of most active validators. And those behind this majority. It is likely that over time, Etherium will implement a direct voting scheme for validators.
The scheme of spheres of mutual influence of different parts of the community shown here may not be quite true. But we can say with certainty that it will change considerably.. So, what happens to the groups described above?
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The developers are not going anywhere and will continue to improve the protocol and wallet programs. Their role will probably even increase.. And they will definitely have more work to do.
Transitioning to new versions of wallets, especially those requiring a hardforward, will be very difficult. It is one thing when upgrading two dozen pools is enough to reach most of the upgraded wallets involved in block creation, and quite another when it will require upgrading hundreds of thousands of individual validators. We can only hope that the developers will improve the scheme of gradual updates and make do exclusively with softforks. But if a critical error is detected that requires most validators to apply the patch immediately, even the most ideal scheme can fail.
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Miners will leave the game entirely, but the current large pools will be able to use their reserves to create validators and stay in the game, either by themselves or by opening stacking pools. Similarly, small miners can join stacking pools, and those with 32 ETH can become validators.
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Steakers (validators) will become the most influential group. However, its composition will remain unclear, and the intentions of the active majority (in terms of the number of nodes involved, but not necessarily people) will rarely be discussed publicly.
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Businesses owning large amounts of ETH on their own or on behalf of customers will be able to use them to stake and participate in network management. But its impact will largely remain hidden.
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Most “ordinary users” will obviously remain a massive but passive market factor. They’ll accept the new rules of the game and be happy with low commissions and steaking that doesn’t bring super profits, but eliminates the hassle and risk of equipment breakage or theft.
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Inflation or deflation
In the aforementioned London hardforward a year ago, the possibility of a deflationary economy for ether was laid out. If the amount of ETH burned from commissions exceeds the amount mined by miners – the total amount of ETH will begin to decrease and the rate will increase. That’s the way it was meant to be.. However, deflation was never achieved – due to combustion the actual emission did decrease, but did not go into minus. According to Watchtheburn.com, just over 20% of emissions burned in the last month, although in the first months after the launch of EIP-1559, more than half were burned. This is due to a decline in user activity during the crisis in the market.
In addition, EIP-1559 only works in the PoW model for now and has no effect on steaming. This means that there is “deferred inflation” – all the ETH mined by stakers on the deposit contract is frozen for now and does not affect the price. But when the contract is unlocked, they will all go on the market. The expected unlocking of the staking contract for ether withdrawal will probably not happen until 2024, as. It is associated with the second stage of transition, and not even the first stage has yet. The approximate amount of income for the steakers by this time would be ETH 3-4 million.
Thus, now we are even dealing with double inflation – both at the expense of miners and at the expense of stackers. But the first is reduced by burning, and the second is frozen. How long will it last?
Reducing the amount of ether in circulation causes its price to rise. So the deflationary model is good for long-term holders of the asset, but not good for those who make many transactions. With the deflation of ETH, active users – traders, players, NFT collectors and others – will pay more commissions in fiat equivalent. Thus, there is a contradiction between steakers and active users. These groups will be forced to compromise.
Consent is a product
Ethereum’s move to PoS will bring with it not only faster transactions and lower fees, but also a host of new problems and a whole new governance model. Implicit [de]centralization will add ambiguity to both community life and business models. All interested parties will have to negotiate, and the counterparty may often be anonymous and its real capabilities unknown. No one will be bored in the coming years.