The world's second-largest cryptocurrency and one of its most talked-about networks, Ethereum, is due for the next step in its most significant upgrade to date: 'The Merge'.
Post merge, the Ethereum blockchain will be easier to use, more environmentally friendly and expected to reward users who support the network 8% - 12% per annum! Experts estimate there will be between 30 to 50 million ETH tokens locked up on the network, indicating the incredible market demand for Ethereum post-upgrade.
Previously known as ETH 2.0, the merge is the final step in a long-running transition to a new blockchain and involves merging Ethereum's current proof-of-work (PoW) blockchain with a concurrent proof-of-stake (PoS) blockchain. To understand why this upgrade is necessary, we first need to examine the differences between PoW and PoS consensus methods.
PoW vs PoS
Proof-of-work (PoW) is the oldest form of blockchain consensus and is the method still used by Bitcoin, Litecoin, and several other early chains. It involves a decentralised network of computers known as miners that secure the network by competing against each to verify transactions and earn tokens as a reward. Although this consensus method is highly secure, it uses too much electricity to be viable in an increasingly environmentally conscious world.
Proof-of-Stake (PoS) secures the network in a slightly different manner. Rather than using computing power to validate transactions, users are given a portion of a vote depending on how many tokens they 'stake'. The larger your stake in the network, the more incentivized you are to secure it adequately, removing the need for rewarding miners.
The actual technical operation behind both methods is far more complex than explained here, but in short, PoS is 99% more energy efficient but is yet to be proven as a reliable consensus method on a major crypto network. Ethereum will be the largest blockchain network to adopt PoS, and as such will be the greatest test of its reliability.
The Merge
Over the past two years, Ethereum has struggled with a never-ending stream of scaling issues facing the long-anticipated upgrade to its second phase of life. As the busiest blockchain network in existence (yes, busier than Bitcoin), Ethereum is often criticised for its excessively high transaction fees, known as 'gas'. When the network is overcrowded, gas fees alone are often multiple times higher than the cost of the transaction. In many cases, this makes it unprofitable for developers to run small applications on the network and drives them away to competing networks like Solana.
The recent explosion in popularity of NFTs - most of which operate on the Ethereum blockchain - pushed the network to breaking point and catapulted transaction fees into the stratosphere. Now, the Merge upgrade aims to increase Ethereum's scalability by converting Ethereum from a PoW consensus model to a PoS model. Currently, Ethereum is still running on its original PoW blockchain but has already launched a beta testing phase of its PoS network, the Beacon Chain.
One would like to imagine that with no need for mining, the Ethereum network will cost far less to run and therefore, gas fees would drop. Gas fees have already reduced considerably to around $5 after an average high of $69 in May last year. However, Ethereum developer Tim Beiko recently told Fortune magazine that the merge won't necessarily reduce gas fees any further.
Currently, Ethereum can only process 15 transactions per second, a grossly insufficient amount for a global financial network. After the Merge, this number should increase to over 100,000 transactions per second, in line with most major payment networks.
After the merge, Ethereum should become a deflationary asset because base fees are burnt rather than paid out to miners. This means the supply will steadily decrease, effectively increasing scarcity and, subsequently, value.
Since proof-of-stake uses considerably less energy to run, Ethereum's environmental impact will drop to negligible levels. This model lends itself to more favourable regulatory measures and should increase the likelihood of institutional investment.
Users can now 'stake' their Ethereum, which involves storing it long term on the network in return for interest, like a savings account. The more Ethereum staked, the more stable and secure the network becomes.
Post-merge cleanup
Once Ethereum has completed the Merge upgrade, several features, such as the withdrawal of staked ETH, will be disabled until support has been initiated on the new chain. Once the Merge is complete, a post-merge cleanup operation will be implemented and support for new and existing features will be added.
Validators assigned
Anyone can become an Ethereum validator and earn rewards by staking 32 ETH tokens on the blockchain or joining a validator pool. The more tokens staked, the higher chance of being assigned a block to produce and the higher interest earned. Failure to accurately validate a block or engaging in intentional false validation will result in users losing a portion or all of their ETH tokens.
Shard chains
Shard chains are small chains that run concurrently to an existing blockchain, adding scalability and capacity to the main chain. They will make it cheaper for users to create and operate applications on the Ethereum network. Developers were originally going to add sharding first but had to prioritize the Merge due to the sudden popularity of layer 2 scaling solutions.
The exact timescale for the Merge upgrade is not yet finalized but developers have previously said it will occur in Q2 of this year. However, Ethereum is notorious for pushing back dates and delaying upgrades due to bugs or other unexpected issues, so I wouldn't hold my breath. However, Ethereum developer Tim Beiko told Bloomberg “it would take a catastrophic event for it not to happen this year.”
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