In the world of crypto currencies, Bitcoin has taken the niche of hard money. Ethereum has been the undisputed number 2 crypto behind Bitcoin for over six years. What role does Ethereum play? It is a platform on which all kinds of applications can be built. From financial services to gaming. To run those applications, the "raw material" Ether (ETH) is needed. With high demand for applications running on Ethereum, the price of Ether will rise.
But why do we need such a software platform - for this is what it essentially is? We already have Windows, don't we? And PayPal, and Swift for international banking payments? The difference is that no one owns Ethereum, at least not in the traditional way in which individuals own companies. Ethereum is decentralized, which means that consensus on what constitutes valid transactions is the result of a broad group of users. There is no board of directors that can reverse transactions or throw applications they don't like out of the "app store" (or do they? We'll get to that below). In addition, Ethereum is open source: anyone can build on it, which ensures transparency and lightning-fast development of the ecosystem.
The most important applications
In the Ethereum white paper, founder Vitalik Buterin introduced his brainchild as a "smart contract and decentralized application platform.” A smart contract is an agreement between two or more parties that is recorded in programming code. And decentralized applications (dApps) can basically do everything that is now possible in financial services (and more) - without the user being running counterparty risk. Think borrowing, lending and insurance.
The main areas in which Ethereum is used are:
- Decentralized finance (defi): More than 500 defi applications run on Ethereum. These are mainly online marketplaces and lending platforms for crypto currencies. Well-known examples are Curve Finance, Aave and Uniswap.
- NFTs: in addition to defi, the trading of NFTs exploded in 2021. The largest marketplace for this, OpenSea, runs on Ethereum.
- Finally, the blockchain gaming industry is rapidly emerging. A large portion of popular games also run on Ethereum. For example Axie Infinity.
History of Ethereum
When Vitalik Buterin, the then very young co-founder of Bitcoin Magazine, realized that he couldn't program what he envisioned on Bitcoin, he decided to start working on a blockchain himself. The idea of Ethereum was born: a blockchain on which any conceivable functionality could be built. In 2015, Ethereum went live and has since grown to become the only blockchain that can compete with Bitcoin in terms of market value. Ethereum is a leader in terms of the number of developers working on it.
2016: The DAO Hack and Hard Fork
In 2016, the Ethereum Decentralized Autonomous Organization (DAO) was hacked: this application built on Ethereum can be thought of as a purely software-based crowdfunding platform. The DAO had raised $150 million. When a hacker managed to steal 50 million through a bug in the code, something had to be done to prevent the entire DAO from being drained. Buterin and co decided to roll back the transaction history on the blockchain, fix the bug and continue Ethereum as a split-off blockchain: a hard fork. Not everyone agreed: code is law after all! The Ethereum blockchain on which the bug was not reversed still exists and is called Ethereum Classic. Interesting for purists, but little has been built on Ethereum Classic and the coin (ETC) is now only worth a fraction of ETH.
Both the hack of the DAO and the subsequent hard fork are recurring themes in the crypto world. As a team, can and should you strictly follow "the law" (the code)? After all, that is the ideal of crypto: no interference by the leadership of a project. On the other hand, it doesn't feel fair when a bug causes people to lose their money – justifying top-down intervention.
2017: ICO boom
The price of Ethereum peaked in 2018 just after Bitcoin peaked. It was the height of the so-called ICO mania: the launch of all kinds of new crypto coins through Initial Coin Offerings. Anyone could launch their own so-called ERC20 token on Ethereum and raise capital. Among all those new coins, there was a lot of hot air. But that doesn't take away from the fact that this was one of the first killer apps for crypto: a funding model for startups where private investors could also jump in. Something which, in the traditional world, is only available to angel investors.
2020: Defi summer
As of the summer of 2020, defi marketplaces like Uniswap were mature enough to attract large numbers of users. The use and therefore the price of Ether started recovering. Initially lead by defi. The total value locked in defi applications on Ethereum was still less than a billion dollars on June 1, 2020. By the end of December 2020, it was already 18 billion.
2021: the year of the Ethereum killers
The high transaction costs that resulted from Ethereum's popularity paved the way for competitors. All have a slightly different solution to the so-called blockchain trilemma of scalability, security and decentralization. In 2021, the use and price of:
Especially BSC, Terra, Solana and Avalanche managed to snoop up quite a bit of market share from Ethereum. But Ethereum still has by far the largest market share in defi and nft applications. In defi, it is still 60% Ethereum.
Transition to Eth 2.0
Ethereum's luxury problem is that its popularity has led to blockchain congestion and high transaction fees. This has come into play especially from the late 2020s onward. This problem had been foreseen for a long time. On top of that, since the early days Ethereum's ambition has been to move from proof-of-work to proof-of-stake. Therefore, in a gigantic, multi-year operation, Ethereum 2.0 is being built. When Eth 2.0 will go live in 2023, the network capacity will be several orders of magnitude larger than that of current Ethereum.
The transition to Eth 2.0 consists of the following phases:
- Phase 0, the Beacon Chain: it was launched on December 1, 2020: the proof-of-stake blockchain that will be the future nerve center of Ethereum.
- Phase 1, The Merge, scheduled for the second quarter of 2022: the merging of the current Ethereum network with the Beacon chain, making Ethereum proof-of-stake.
- Phase 2, the Shard chains, expected in 2023: the 64 shards go live. These are "sidetracks" that allow the network to have much more capacity. The current Ethereum blockchain will then become one of these 64 shards.
In crypto, it's still Bitcoin, Ethereum and the rest. Bitcoin is the only game in town when it comes to hard money. Ethereum is something else: a platform to build applications on. Ethereum has more competition from other projects but its potential market is also larger than Bitcoin's. Namely, the entire market for financial services, online art and gaming (plus applications yet to be conceived). Even if Ethereum remains less dominant than it is now, the room for growth is huge. On a side note, the transition to Eth 2.0 comes with risks: there is no 100% guarantee of success. But if the merge will be a success, Ethereum with its option to stake will have bond-like properties. For investers it could serve as a 'bond of the internet' in their portfolio.