Ethereum, invented and incubated in Canada, the second-largest cryptocurrency by market cap and the foundation of the most innovative development happening in the industry, just completed a software upgrade referred to as The Merge.
Around the world, computer programmers, blockchain enthusiasts and even a few skeptics held virtual streaming parties to witness the event in real time. It was one of the biggest events in cryptocurrency history, but many people outside the industry likely didn’t notice, perhaps thinking it was just more crypto kids shilling more technical nonsense.
Yet it’s important to understand what this software upgrade was all about. Blockchains at their core are all about recording information. Bitcoin secured and ordered these transactions through a process called proof-of-work (PoW), more commonly referred to as mining, when it came into existence in 2009.
The dream of Satoshi Nakamoto, the anonymous inventor of Bitcoin, was for everyday people using their home computers to assist in securing a ledger and receiving the native token, bitcoin, as a reward for their efforts. Within a few years, application-specific integrated chips (ASICs) came on the scene, making the participation of home computer mining no longer viable. The original hardware was replaced by data centers and specialized computers that consumed inordinate amounts of energy.
Ethereum entered the arena a few years later with its novel smart-contract platform (and the ability to program assets) and followed in bitcoin’s footsteps by also using PoW.
But at inception, there was another idea put forth called staking that one day could theoretically replace the energy-intensive PoW mining process while maintaining network integrity. This new solution would not only significantly cut back energy usage, but would democratize the validation process by giving token holders the ability to approve transactions with fewer hardware requirements.
In Ethereum proof-of-stake (PoS), users can become validators and lock up (stake) their ether, akin to entering a bond with the protocol. They then take turns approving transactions and receive newly created ether (staking rewards) in exchange for helping secure the network. Under this new system design, access to specialized computing chips or electricity would no longer be needed, meaning more participation from everyday users and less strain on the environment.
Since its launch, Ethereum has grown from a novel toy into a US$200 billion-dollar platform, with an additional US$300 billion of assets and applications relying on its uptime and functionality. Over the past seven years, researchers and developers have tried to follow through on this early promise.
Various proposals for the right technical implementation have been proposed, but developers found themselves back at the drawing board, continually delaying the upgrade. Investors and members in the community even began doubting it would ever come to fruition.
In 2020, consensus began to form around the technical standards that would make it appropriate to launch this new and improved version of Ethereum. Given the high stakes of how big the project had become, the new platform launched in pseudo incognito mode with limited functionality.
A year and a half later, it was time to marry the two networks together and transition the combined US$500 billion in value over to this new implementation. Everything leading up to this moment would occur within 12 seconds and without any visible changes to the end user. No pause in regular activity, down time or broken interfaces.
Some have described the event as driving a car at 100km/h and having the combustion engine swapped out for an electric battery without ever slowing down or the driver noticing anything had changed.
Fortunately, the Merge went off without a hitch. Just before 3 am eastern time on Sept. 15, we waved goodbye to mining on Ethereum and embraced a new era, one without specialized computing hardware and electricity requirements like those of small countries.
The Merge marks one of the most important inflection points for Ethereum and the web, setting the stage for the next iteration of the internet. If we are to believe in a future where trillions of dollars’ worth of assets and activities will exist on a blockchain, it will require a system such as proof-of-stake to remain stable and secure.
This new system gives rise to new opportunities as well. There’s now an incentive for retail and institutional investors to lean into an asset that aligns with environmental, social and corporate governance (ESG) mandates.
To top it off, staked capital of any size can generate the same yield, and economies of scale have been made irrelevant. This could be the catalyst our pension funds need to wade into the sector and have confidence this innovation is built to last.
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New business lines have also begun to emerge. Local digital asset exchanges will have new product lines to offer their customers, and to support this, specialized staking infrastructure companies will form. Figment Networks Inc., a Toronto-based company, has emerged as one of the biggest and most globally recognized staking providers for both institutional clients as well as retail-facing platforms. Businesses such as Figment were not possible just a few years ago.
But Ethereum’s upgrade is not complete. In the coming years, various technical upgrades will roll out, significantly reducing transaction fees that have historically reached as high as US$50 per transaction, pricing out users and lowering value activity. This activity has felt stranded, without another blockchain to move to without serious trade-offs in security.
In addition, the network will be able to process 1,000 times more transactions per second. A successful blockchain of the future will need to handle various spectrums of activity in terms of value and throughput to truly become a global settlement layer.
The proof-of-stake launch is one of the most impressive feats in computer science to date, and it was all developed by a decentralized group of participants. This is the beginning of the next frontier for blockchains and the right decision for a technology group that is aware of the ongoing climate crisis and can envision a world where people have transparency and autonomy over their finances.
Brian Mosoff is CEO of Ether Capital.