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Myth of Money: The Ethereum Merge is Almost Here
Welcome to this week’s edition of Myth of Money, a weekly newsletter on the digital asset markets read by 12,000+ investors.
Disclaimer: The following is not intended as investment advice. Do your research.
Since April 2022, Ethereum has been running two parallel blockchains, one that operates using proof of work, and a test chain that operates via proof of stake. The merge will combine the legacy Ethereum Main net blockchain (ETH 1) and the new Beacon Chain (ETH 2) into one unified blockchain. Ethereum developers recently ditched the ETH 1 and ETH 2 terminology over concerns that it would confuse users ahead of the merge.
The Ethereum blockchain’s first dress rehearsal for its upcoming Merge was successfully completed Wednesday, 8th June, 2022. The Ropsten test network (testnet) successfully merged its proof-of-work execution layer with the Beacon Chain proof-of-stake consensus chain – a process identical to the one that the main Ethereum network will undergo in just a few months (if all goes well).
On Thursday, Ethereum devs announced the Goerli merger for Aug 6-12, the last test before Ethereum transitions to PoS.
What is Ethereum?
Ethereum is a decentralized, open-source blockchain with smart contract functionality. Ether is the native token/cryptocurrency of the platform second in popularity, capital, and volume to bitcoin.
What does Ethereum do?
Ethereum aims to provide a system that gives users more control over their data and also allows for applications to be built and run on the blockchain.
Ethereum has a wide range of benefits such as;
1. Large, existing network
2. Wide range of functions
3. Constant innovation
4. Avoids intermediaries
Ethereum, like Bitcoin, uses Proof-of-work (PoW) as part of its consensus protocol. This allows the nodes of the Ethereum network to agree on the state of all information recorded in the Ethereum blockchain and prevents certain kinds of economic attacks
What is Proof-of-Work?
In proof of work, one party (the prover) proves to others (the verifier) that a certain amount of a specific computation effort has been expended. The key feature in the proof-of-work system is their asymmetry. The computation must be moderately hard on the prover but easy to check for the verifier or service provider. Another common feature is built-in incentive structures that reward allocating computational capacity to the network with the value in form of tokens. The Bitcoin Network was the first Proof of Work network.
The main purpose of the proof-of-work algorithm is to deter the manipulation of data by establishing large energy and hardware-control requirements to be able to do so.
Downsides of Proof-of-Work
Proof-of-work (PoW) requires a significant amount of energy to verify transactions. Since the computers on the network must spend a lot of energy to operate, a PoW blockchain is considered less environmentally friendly than other systems. Another problem is centralization, as top miners are always competing for rewards. As cryptocurrencies have grown in popularity, a small group of miners has majority control over the blockchain.
PoW makes it extremely difficult to alter any aspect of a blockchain since such an alteration would require re-mining all subsequent blocks. PoW is also inefficient with slow transaction speeds and expensive fees, requires high energy usage and requires expensive mining equipment.
What is the Proof-of-Stake?
The proof-of-stake (PoS) is a consensus mechanism for blockchains that works by selecting validators in proportion to the value or quantity of holdings in the associated cryptocurrency. This is done to avoid the computing cost of the proof-of-work schemes. With proof-of-work, miners prove they have capital at risk by expending energy while in the proof of stake, validators explicitly stake capital in form of ether into the smart contract on Ethereum.
Why is Ethereum switching to the proof-of-stake?
The proof of stake comes with a number of improvements to the proof of work system;
Better energy efficiency
Lower barriers to entry reduced hardware requirements
Reduced centralization risk
As a result of the slow energy requirement, less ETH issuance is required to incentivize participation
Economic penalties for misbehavior makes a 51% style attack exponentially more costly for an attacker compared to the proof-of-work
The community can resort to the social recovery of an honest chain if 51% attack were to overcome the crypto-economic defenses
Pros of Proof-of-Stake
Staking makes it easier for individuals to participate in securing and promoting the network, or promoting decentralization. Validator nodes can run on a normal laptop, but do require you to have at least 32 ETH to get started.
With PoS, staking is more decentralized. Economies of scale do not apply in the same way that they do for the proof of work mining; it offers greater crypto-economic security than the proof of work and less issuance of new ether is required to incentivize network participants.
Downsides of Proof-of-Stake
The main issue with proof-of-stake is that it requires a substantial initial investment. You must purchase enough of the native token of the network to qualify to be a validator, which is dependent on the size of the network. As networks become more expensive, this could lead to exclusivity and elitism on the network.
Ethereum 2.0, the switch to the Proof-of-Stake
At the ETH Shanghai Web 3.0 Developer Summit last week, Ethereum co-founder Vitalik Buterin said “the merge” will be completed this summer. This transformative update will switch Ethereum to a proof-of-stake consensus mechanism from a proof-of-work model.
“If there are no problems, then the merge will happen in August,” said Buterin.
The transition has been dubbed “The Merge, The Surge, The Verge, The Purge and The Splurge.”
What Is The Impact of This Change?
Ethereum has often been referred to as the next global supercomputer. Using its smart contract capabilities, we will be able to store and execute complex value-related transactions such as real estate, IP, banking, and more.
This new transition is aimed to make the blockchain easier, cheaper, and faster to run so that it can be integrated into more real-world use-cases (rather than just trading NFTs.)
This Week By the Numbers 📈
Top Stories 🗞️
zkEVM Rollups, a new scaling solution for Ethereum, will allow the smart contract protocol to outpace Visa in terms of transaction throughput, said Polygon co-founder Mihailo Bjelic in a recent interview with Cointelegraph. Polygon recently claimed to be the first to implement a zkEVM scaling solution, which aims at reducing Ethereum’s transaction costs and improving its throughput. This layer-2 protocol can bundle together several transactions and then relay them to the Ethereum network as a single transaction.
The second biggest stablecoin by market cap, USDC, is expected to overtake USDT, according to analysts at Arcane Research. Despite converging market caps, USDT trading volume still far exceeds that of USDC. In the last 24 hours, USDT had a trading volume of $67.6 billion, making it the most traded token — during peaks, the trading volume is more than doubles that of second-placed Bitcoin. On the other hand, USDC’s trading volume over the last 24 hours came in at $8.8 billion, or 13% of USDT. Nonetheless, USDC is often considered a “safer” stablecoin offering due to more significant efforts to comply with audits, regulations, and higher transparency standards, especially regarding details of its reserves. Recent criticisms of USDC prompted Jeremy Allaire, the CEO of issuing company Circle, to increase transparency by issuing regular monthly reserve reports starting from July 14. The most recent report showed reserve assets totaling $55,703,500,691, composed of 24% cash held at “regulated financial institutions” and 76% U.S.Treasury Securities. On June 30, the total reserve assets exceeded the circulating supply by just under $134 million. In response to claims that USDC is struggling amid challenging market conditions, Allaire said the company is in its strongest financial position.
Venture capital firm Adreessen Horowitz (a16z) said it’s leading a whopping $50 million seed round for Gary Vaynerchuk’s NFT project, VeeFriends — marking a bright spot in a challenging funding landscape for digital asset-focused startups. Celebrity influencer and VaynerMedia CEO Gary Vaynerchuk, or Gary Vee, launched VeeFriends in May 2021. VeeFriends intends to use the seed capital to expand its intellectual property (IP) across physical and digital platforms of the 283 VeeFriends characters, according to a Medium post. The platform also plans to make new hires.
Schwab Asset Management, the asset management arm of financial giant Charles Schwab, has launched an exchange-traded fund (ETF) with exposure to firms linked to cryptocurrencies. In a Friday announcement, Schwab said its Crypto Thematic ETF was expected to be available for trading on the New York Stock Exchange’s Arca under the ticker STCE on Aug. 4. The fund tracks Schwab’s Crypto Thematic Index, providing an investment vehicle with exposure to companies “that may benefit from the development or utilization of cryptocurrencies and other digital assets.” Likely because the United States Securities and Exchange Commission, or SEC, has not given the green light to ETFs providing direct exposure to Bitcoin (BTC), the Schwab fund will indirectly invest in crypto through companies.
Argentina’s economic restrictions have reached the sports industry, with the first signing of a local football player with cryptocurrencies hitting national headlines. The transfer of midfielder Giuliano Galoppo from Banfield's Athletic Club to Sao Paulo Futebol Clube was made in USD Coin (USDC), exceeding $6 million and up to $8 million depending on the volatile exchange rate of the Argentine peso, according to local sources. The transfer was made possible through a collaboration with the Mexican crypto exchange Bitso. The transfer happened amid a difficult economic situation for Argentinian sports clubs. The reported exchange gap between pesos and dollars keeps escalating, affecting the possibility for football players to get signed by international teams and inducing them to renegotiate their contracts to adjust their salaries to the volatile dollar price.
Thank you for reading this week’s edition of the Myth of Money.🚀
Until next week,
By Tatiana Koffman
Hi there and thanks for reading. If you stumble upon my newsletter, you will notice that I write about money, economics, and technology. I hold a JD/MBA and spent my career in Capital Markets working across Mergers & Acquisitions, Derivatives, Venture Capital, and Cryptocurrencies. I believe in empowerment closing the financial education gap and creating equal opportunity for the next generation. I have invested in 20+ companies and funds. Check out my portfolio here.
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