Although cryptocurrencies represent one of the most groundbreaking innovations in the business and financial sector, no technology is immune to the competitive pressures of progress. Even Bitcoin, which pioneered the very concept of virtual currencies and the blockchain, suffered from technical inefficiencies that were ripe for improvement. Thus arrived Ethereum and a host of other alternative crypto coins.
While Bitcoin focused on the viability of a decentralized and frictionless global payments network, Ethereum’s developers saw a much grander application for the underlying blockchain technology. Rather than merely transmitting digital assets from one location to another via an intermediary-less channel, the blockchain architecture could host several categories of business transactions and contractual duties. In other words, any middlemen entity — from attorneys to brokers to accountants — could face obsolescence.
Still, both Ethereum and Bitcoin were tied at the hip to a cumbersome and inefficient transactional validation process. To remedy this, Ethereum’s developing team intends to shift to a new protocol, one that holds much promise for community-based equity and mitigating environmental impact. Nevertheless, the best intentions may still lead to unintended consequences.
A Quick Rundown on Decentralization
Fundamentally, the very core of cryptocurrency projects is to replace the standard trust model in business interactions; that is, how does one party to a contract ensure that the other party fulfills the terms of the deal?
Under normal frameworks, those entering into contractual obligations can take recourse through third-party intermediaries, such as an agreed-upon arbitrator. But arbitration is vulnerable to various flaws such as bias or misinterpretation. Not only that, the process is expensive.
Fortunately, the blockchain does away with this age-old paradigm by replacing the standard trust model with a trust-less system driven by an immutable, perfect database. Further, to ensure the proper running of this system, the administration and validation process is distributed across a network of public contributors. This way, no one person or entity has centralized control over the inputs of the blockchain.
But to prevent defective or deliberately faulty transactional verification, there must be a cost attached to the contribution process. This is where the proof-of-work (PoW) protocol comes into play. To validate a transaction in a blockchain, one must perform an energy-intensive calculation. The first to solve this algorithmic problem receives cryptocurrency as a reward.
Though this process functioned reasonably well in the early phases of the crypto rollout, the validation process — called mining — became much more difficult, costly, and energy-intensive. To remedy the burgeoning environmental impact, blockchain advocates proposed a radical new solution — proof of stake (PoS).
Under a PoS protocol, the mining emphasis shifted from those who levered the most computing power to those who were willing to stake their holdings of the underlying cryptocurrency. Those who have more to stake will receive a greater portion of the rewards associated with transactional validation. While intriguing, Ethereum’s proposed transition to PoS will encounter many challenges.
The Trials and Tribulations of Ethereum 2.0
Primarily, the logistics of transitioning to PoS is likely unprecedented for a decentralized or open-source enterprise. We’re not just talking about a blockchain network that has a few hundred contributors. According to information provided by International Business Times, the number of active Ethereum users was projected to have doubled to over 1 million in the second quarter of 2020.
With so much interest in cryptos following the remarkable rally in the sector that sparked late last year, it’s safe to assume that this figure is much higher today. While that’s impressive for establishing the mainstream credibility of blockchain enterprises, it’s also a double-edged sword when you’re trying to migrate those users to a completely different protocol.
That hasn’t stopped ETH developers, which created a PoS workflow on a chain called Beacon for testing purposes. Of course, the ultimate test is to transfer the entire Ethereum ecosystem to Beacon, which is where the term Ethereum 2.0 originates.
Though simple in principle, in practice, it’s anything but. Unlike say an upgrade to your computer, multiple enterprises are operating via the ETH network. Therefore, the migration must occur concurrently with present operations, a gargantuan task that some experts have likened to fixing an airplane while it’s in flight.
Because of the extraordinary task at hand, many analysts are unwilling to give a firm date on when the Ethereum 2.0 transition will be finalized. According to Erol User, President, and CEO of USER Corporation,
“it will become possibly [complete] after consolidating eth2.0 protocols and standards; Maybe the next year but not for sure.”
True, the ambiguity is not what ETH advocates want to hear. However, the process must be done correctly to mitigate the impact of unintended consequences.
Lingering Questions for the New Age of ETH
As mentioned earlier, one of the pivotal reasons to shift to PoS is the environmental incentive. While the debate about this topic rages across social media, CNET.com reports that the “Digiconomist’s Bitcoin Energy Consumption Index estimated that one Bitcoin transaction takes 1,544 kWh to complete, or the equivalent of approximately 53 days of power for the average US household.”
Multiply that over several transactions and you can understand why both individuals and government agencies are concerned about excessive power consumption. Theoretically, PoS protocols will put an end to this profligacy.
Moreover, a side benefit of increased efficiency is the potential restoration of community-wide equity. Under a PoW network, entities that have the greatest computing power own the greatest influence. That doesn’t seem fair, which is where PoS hopes to change the narrative. Instead of computing power, the emphasis centers on the staking of assets.
Nevertheless, cryptocurrencies remain the most inequitable sector, possibly in human history. No matter what crypto you’re talking about, the top 1% own the lion’s share of the market, with everyone else fighting for scraps. Even the U.S., for all its widening wealth gap would blush at how inequitable cryptos are.
It’s not out of the question, then, that Ethereum 2.0 can worsen wealth distribution. After all, staking requires money and that’s a resource available largely to the rich. While the new version of ETH will undoubtedly be more efficient, it might miss the mark on its ultimate social directive.
Disclosure: The author held a long position in ETH and BTC.