The 4 stages of Ethereum’s upgrade plan were initially mapped out in 2015, providing insight into the direction that the blockchain would take in the years following its launch. The version of Ethereum we experience today is in the middle of stage 3 (Metropolis), which was broken down into two smaller upgrades, Byzantium (merged in 2017) and Constantinople (expected January 2019). These upgrades have paved the way for Ethereum’s transition from a scrappy and sluggish blockchain to a permissionless and trustless virtual machine that can process tens of thousands of transactions per second.
While the previous upgrades have implemented meaningful improvements (EIPs), the more dramatic changes to the Ethereum protocol have been scheduled for the next and final phase: Serenity. Serenity, also referred to as Ethereum 2.0, is a major network upgrade that will fundamentally change the economics of Ethereum for users, developers and investors alike.
What Can Investors Expect From Serenity?
Serenity implements a number of major changes which have been discussed and researched for the past several years. These changes have only recently been specified and as such we can draw some conclusions about their various impacts on the ecosystem at large.
Proof of Stake & Ethereum Monetary Policy
Proof of Stake (PoS) has been on the Ethereum roadmap for several years with launch schedules regularly being pushed back as further testing is completed. Ethereum’s implementation of Proof of Stake, which focuses heavily on decentralization, has become one of the most anticipated network upgrades in the blockchain ecosystem and brings with it some major changes that investors should note:
- Reduced ETH Issuance
- Sharding and eWASM
Unlike Proof of Work, PoS does not require mining and the high electricity costs that come with it. Instead, users stake their Ether (more detail below) at little to no cost, meaning that the block reward can be reduced heavily whilst still providing an incentive for validators to secure the chain. With a full PoS implementation, the supply inflation rate of Ethereum is expected to drop to ~0.5% per annum, a base level which could quickly become deflationary when considering lost coins, burnt coins and slashing.
However, Proof of Stake will not replace Proof of Work anytime soon. Instead, the network will first implement a specialized validation chain known as a “beacon chain“. This chain will serve purely for validators to vote on the next block on the chain (and for each shard), with the Ethereum Virtual Machine still operating on the current mainnet chain and secured under Proof of Work. The expectation is that PoS will eventually replace PoW entirely, however the timeline for this is likely to exceed beyond 2022.
Those staking ETH on the Ethereum beacon chain must act honestly or face having their stake destroyed (slashed). The purpose of slashing is to provide economic incentives to honestly come to consensus on the next block. From a monetary perspective however, a slashed account will have their stake burnt (removed from the ecosystem) and thus will decrease the circulating supply of Ether. If the economic incentives work as intended, the amount of slashing may well be minimal, however there will no doubt be some level of deflationary pressure on circulating ETH.
PoS has been discussed for many years but the finer details have only recently been specified. The most notable aspects of staking is that unlike the original PoS design proposal which required a 1,500 ETH stake, the final version will require just 32 ETH (about $3,500 at today’s price). The number of staking validators is also vastly greater than previously specified, having changed from 250 to as many as 300,000. While it is unlikely that 300,000 validators will exist (block reward is inversely related to the number of validators), an adoption rate of even 10,000 validating nodes will lead to an unprecedented level of decentralization. A far cry from the 21 validating nodes currently deployed to EOS.
The final piece of Serenity is the implementation of blockchain shards and eWASM (Ethereum WebAssembly). These two upgrades will have the impact of significantly increasing network throughput and finally solving the Ethereum Trilemma – the existing paradigm in which a trade-off must be made when optimizing a blockchain for speed, decentralization and security.
Sharding will allow transactions to occur on Ethereum in parallel, allowing for much greater throughput than the synchronous block validation used today. The roadmap for Serenity has outlined a network capable of 1024 shards which would cater for up to 15,000 transactions per second (a dramatic rise from the 15 transactions per second limit today).
What Can Investors Expect?
Investing in blockchain protocols like Ethereum should be considered a long-term prospect, and it is this author’s opinion that Ethereum has, by some distance, the most clearly defined long-term value proposition in the space. Over the coming years, investors can expect Ethereum’s monetary policy to significantly tighten with a massive upsurge in the level of demand for Ethereum-based applications once onchain throughput issues are resolved with sharding.
Ethereum’s move to Proof of Stake may also have some less obvious impacts on its demand. Other than the potential for validators to receive a regular “interest” payment on their staked ETH, a move to PoS will reduce the electricity consumption of the blockchain from a small country down to a medium sized village. The level of criticism faced by Bitcoin this year for its massive energy consumption should go some way to demonstrating just how well the mainstream media might receive this migration.
Staking will also have the impact of locking up a significant level of ETH; with anywhere between 0.5M tokens and – assuming 100% adoption – 9.6M tokens being (effectively) permanently locked. Under current expectations, Ethereum is likely to never have anymore than 120M tokens in circulation; so as much as 8% of the circulating supply could be removed in the years ahead.
A Changing Narrative
The narrative surrounding Ethereum is absolutely out of kilter with reality. This narrative centers around three main criticisms which can be boiled down to:
- Ethereum is slow.
- Ethereum is centralized.
- Ethereum has no supply cap.
Those who can look past these simple criticisms will find a project that has the backing of thousands of developers who are all working to resolve a vast array of different problems that not only tackle these over-stated criticisms but turn them on their head.
A more pertinent criticism of Ethereum that is rarely discussed but has the most potential downside is the risk that these low-level protocol changes might – silently – expose vulnerabilities. Ethereum is implementing modern cryptographic research that has never been deployed to a production environment before. The risk that an upgrade like Serenity might introduce a currently undiscovered exploit is non-zero. There is a real possibility that such a major change to the protocol brings about a catastrophic network disruption that may leave Ethereum’s reputation in tatters.
Serenity marks a moment in Ethereum’s history where the network will likely enter two possible outcomes: a surge in value that exceeds all expectations or a monumental crash that brings this experiment to a dramatic end. My bet is on the former.