The Ethereum Improvement Proposal -1559 and Its Effects

A change in fee structure in the Ethereum blockchain is scheduled for incorporation into the upcoming network upgrade or hard fork dubbed the “London fork”.

The network upgrade was initially proposed in 2018 by the programmer and Ethereum Co-Founder Vitalik Buterin. It is set to be implemented as part of the July hard fork as discussed during an All Core Developer’s call on March 5, 2021. The upgrade will alter the way transaction fees are handled in the network and is set to be one of the most major upgrades to the network since it was established in 2015.

The Ethereum Improvement Proposal (EIP-1559) will facilitate “burning” — a process in which the ‘gas fee’ typically sent to miners will now be permanently taken out of circulation. This will result in a reduced amount of Ether in circulation. This scarcity, coupled with increased demand, could lead to rising prices.

EIP-1559 Benefits

Faster transactions

The addition of EIP-1559 to the Ethereum codebase will result in faster transactions. Under the current fee structure, transactions are sometimes delayed. This is because for a transaction to fill a block it has to be the highest-paying on the list of pending transactions. It becomes a challenge for transactions with relatively lower gas prices to determine how long it will take before they are added to a new block.

Under the new fee structure, block capacity will increase a hundred-fold. For a transaction to be included in a block, therefore, it will have to be sent with a fee exceeding the base fee and a tip to be paid to the miner. Because of the possibility that the base fee could increase between the time the transaction is sent, and it is included in a block, a fee cap is used. A fee cap is a maximum amount a user is prepared to pay for their transaction to be included in a block. The user is then refunded the difference between the fee cap and the base fee. The tip, which is optional, is sent to the miner.

Easier Transaction Fee Estimation

This upgrade will make it possible for users to more accurately estimate the cost of transactions. In instances where blocks are filled to “double-capacity”, the network will go back to the current auction-based system.

Tim Beiko of ConsenSys, who is heading the protocol team executing the network alteration outlines two economic and benefits of EIP-1559.

Transaction Fees Will Be Paid In Ethereum

In describing what he calls ‘preventing economic abstraction of Ethereum’, Beiko reveals that with the implementation of EIP-1559, transactions will be required to pay an in-protocol base fee. According to Beiko, “miners would obviously be free to receive payments for transactions otherwise, but they would then need to acquire ethereum to pay the base fee for the transactions paid in another fashion, which is economically equivalent to users paying their transaction fees in ethereum directly.”

The Potential Deflationary Effect of EIP-1559

The “burning” of the base fee would result in a reduction in the circulatory supply of ethereum. This scarcity, coupled with increased demand spells deflationary tendencies and an upswing in Ether prices.

Backlash From Ethereum Miners

Despite the favourable response from Ethereum network users like app creators, the announcement has been met with widespread backlash from Ethereum miners.

Ethereum enthusiast and developer Hudson Jameson commented that a sizable portion of the Ethereum community does not approve of the pending network upgrade.

“I don’t see any opposition except miners and that was able to be viewed by everyone from a call that we had recently… where we had participants from different mining pools and then different stakeholders in the ecosystem giving their opinion. What came of that was… it seemed like the miners were in the minority of people who did not want this in, primarily because it would be cutting into their transaction fee income.”

Meanwhile, Ether prices continue to soar. It reached a new all-time high of over $4000 on May 10, a time of over 2000% in a period of 12 months. This gives it a total market value of $483.4 billion, almost half that of Bitcoin. All this just a week after reaching $3000. This exponential growth can mostly be attributed to the eagerness surrounding the pending release of Ether 2.0 and recent news that the European Bank had issued $120 million worth of bonds via the Ethereum network. Another reason could be the mainstream adoption of cryptocurrencies in recent months.

“This is probably one of the biggest milestones we’ve seen recently,” Eric Turner, Director of Research at Messari says, commenting on the potential deflationary effect of EIP-1559. Unlike Bitcoin, Ether was created with an infinite supply. This resulted in skepticism from those who saw this to mean that the coin was inflationary and had a shaky monetary policy. “Now, they’re actually controlling inflation on Ethereum” and “in some cases, you’re looking at negative inflation so it’s definitely important”.

It remains to be seen how EIP-1559 will affect Ether prices.

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