Forget about financial performance and forget about the fire hose of metrics routinely pumped out by the cryptocurrency industry. Ever since cryptocurrencies captured the imagination of investors a few years ago, the market has been driven by stories, not data.
First came the narrative that Bitcoin was destined to become a new form of currency in a digital global economy. Then there was the argument that decentralized finance, or DeFi, would sideline banks and the rest of the old guard and give consumers better ways to manage their assets.
Now comes the last story. It’s called merge, and while it may sound like the title of Netflix’s latest sci-fi series, it’s actually a radical overhaul of the blockchain network that underpins Ethereum, the most valuable cryptocurrency after bitcoin. Like most things in crypto, merging is obscure and technical. And yet, he asks institutional investors a simple question: will this development finally demonstrate the utility of cryptocurrency – or is it just another dose of hype?
There is a lot at stake. The cryptocurrency market has lost more than half of its value this year and has been rocked by the failures of some big companies, including Celsius and Terra, which have vaporized more than $60 billion. of market capitalization in a few days in May. Meanwhile, US authorities are sanctioning popular platforms for alleged money laundering in a sweeping crackdown. The bad news sent the industry into its worst crisis of confidence since the crash of 2018, leaving even seasoned crypto numbers in deep funk.
“The window of opportunity for DeFi to prove that it is worthy of … being seen as a public and neutral financial utility rather than regulated as the banks are now closed,” said Rune Christensen, founder of MakerDAO, one of the leading crypto lenders, in a recent blog post. Publish. “DeFi hasn’t delivered anything of real value, and the massive crashes of Terra, Celsius, etc. have ruined its mainstream image.”
The merger can change all that. At least, that’s the hope.
In the run-up to its September 14 launch at 9:30 p.m. EST, crypto social media channels have been brimming with anticipation that the upgrade will kick off another glorious period of mass market adoption. More intriguingly, the change is supposed to erase Ethereum’s carbon footprint and make it a green, ESG-worthy digital asset, unlike Bitcoin, which consumes as much energy annually as the country of Pakistan. Even as interest rate hikes from the Federal Reserve prompted investors to take risk, Ethereum’s token, Ether, soared 39% in the third quarter, against a 7% decline in the price of Bitcoin.
“This is the most significant catalyst in crypto history in terms of magnitude,” said Travis Kling, founder and chief investment officer of Ikigai Asset Management, a crypto investment firm, during from a recent podcast. “But this merger has a lot of risk in terms of price, technical design risk, technical implementation risk, hacking risk, illiquidity risk. . . . There are a lot of risks.
Now is the time for Ethereum proponents to bolster the value of their network and cryptocurrencies as a whole. But what exactly is fusion?
In a nutshell, the upgrade changes the way Ethereum processes transactions and adds data to its online ledger, or blockchain. For the past seven years, Ethereum has used the same approach as Bitcoin. Called proof-of-work, the process involves cryptocurrency miners competing to solve complex mathematical problems. Winners can add blocks of data to the chain and collect Ether as a reward. Because this is a race, miners harness as much computing power as possible. This is why these companies operate vast server farms in China, Kazakhstan, and the United States, the countries that dominate crypto mining. More than three-quarters of China’s electricity comes from burning fossil fuels, according to the Center for Strategic and International Studies.
Now, Ethereum is about to switch to another way of maintaining its blockchain, called proof-of-stake. Instead of mining, the approach relies on so-called validators to stake their Ether tokens in pools and work together to evaluate and add new blocks of data to the network. The upgrade is called the merge because it will merge the Ethereum mainnet with the Beacon Chain, a proof-of-stake system the developers used to test the technology.
Big upgrades are meant to fix big problems, and Ethereum has faced many problems as it has grown in popularity. For starters, Ethereum struggled to keep up with the demand for processing financial transactions as a host of other crypto platforms piggybacked onto its network. Ethereum can only handle 15 transactions per second, compared to over 2,300 at Solana, one of many potential Ethereum killers that have sprung up over the past two years. Meanwhile, Visa, the global credit card and payments giant, claims to be able to process 65,000 transactions per second, although in practice it handles around 1,700.
Ethereum is also expensive to use. The average transaction cost on the network has been between $2 and $5 since early August, and the level hit more than $30 earlier this year, according to Messari, a crypto data provider. It’s just too expensive to win over mainstream users. In comparison, Solana transactions cost only 25 thousandths of a penny. Since DeFi is supposed to provide consumers with a cheaper and more efficient way to manage their money, Ethereum’s limits are a deal breaker. And this is one of the main reasons why investors continue to view Ether as a speculative asset instead of one that reflects real commercial value. Its long-term outlook is super hazy.
No wonder, then, that the merger got cryptocurrency proponents so excited. The idea is that moving to proof-of-stake will solve Ethereum’s problems in one fell swoop. After all, Solana uses a variation of the proof-of-stake approach to boost its high speeds and low transaction costs. And the same goes for a bunch of other blockchain networks, including Cardano and Polkadot, both of which were set up by the co-founders of Ethereum.
Yet here’s the catch: the merger won’t make Ethereum more efficient, at least not yet. This is a misconception, says the Ethereum Foundation, the Swiss-based organization that governs the network. The merger is not designed to expand network capacity, so transaction fees and speed will remain roughly the same. The big change will be a 99.95% reduction in power consumption of the Ethereum blockchain, according to the foundation.
This is not an easy task. By ditching crypto mining, Ethereum could become a prime ESG candidate for responsible investors looking for green crypto assets.
“The reduction in consumption is a huge improvement,” says Timo Lehes, co-founder of Swarm, a Berlin-based crypto exchange. “Whether institutions now classify Ether as an ESG asset depends on criteria. If energy efficiency is part of a company’s ESG criteria, Ethereum 2.0 would probably do the trick.
Even so, the merger is bound to differentiate the cryptocurrency from its carbon-spitting older sibling Bitcoin.
Make no mistake, decoupling Bitcoin has been the dream of Ethereum proponents for the better part of a decade. It drives them crazy that Ethereum continues to be joined at the hip with Bitcoin. Designed to be a global currency without interference from central banks, Bitcoin proved anything but. Over the past year, the token has completely failed to be a hedge against inflation and interest rate policy – a fundamental value proposition. Bitcoin moves at the same pace as the stock market, which begs the question: what is the point of investing in it?
Ethereum developers, on the other hand, are still striving to produce software that supports all kinds of applications and smart contracts, programs that automate transactions and agreements. Think of it as an operating system for cryptography. While mass market acceptance still seems like a pipe dream, the Ethereum community is committed to developing technology that can be valued and judged like a business.
This is just the first step in the Ethereum narrative, as 28-year-old Ethereum co-founder and lead architect Vitalik Buterin pointed out at a conference in Paris last month. He told his audience that Ethereum was only about 40% full. Buterin also said the merger would be followed by at least four more upgrade and expansion phases, called Surge, Verge, Purge and Splurge.
Idiot? Yes maybe. Still, Buterin assured the room that Ethereum would come to a point where it could process 100,000 transactions per second. “At the end of this roadmap, Ethereum will be a much more scalable system,” he said.
There’s no doubt that the merger will be disappointing when it goes live on September 14. Traders are likely driving up the price of Ether to take advantage of the anticipation. When you compare Ethereum’s story arc to those of other technological breakthroughs – the internet browser, broadband, streaming, fintech – it’s clear that the first act of this story is still ongoing. The Merge will be a test, but in no way the outcome.