Understanding Ethereum’s Transition to Proof-of-Stake (PoS)

Sunflower Corporation· 7 min read

The Merge entails switching the consensus algorithm from Proof-of-Work to Proof-of-Stake (PoS). The upgraded blockchain platform will be more scalable, secure, and decentralized. How will it work? Is it really necessary? Let’s figure it out together!

The update was carried out in two stages. The successful Bellatrix update on September 6, 2022 was followed by the final launch on September 15, 2022.

Validators will replace miners in the Ethereum network after the switch to PoS. They will perform the task of confirming new transactions using steaks and will be compensated in ether coins (ETH). The current ETH staking yield is 4–4.5%.

Following PoS, the next major Ethereum updates will be sharding and the transition to a new virtual machine with support for multiple languages for smart contracts.

When will it be possible to withdraw ETH from staking?

Starting in 2020, the condition for sending ETH to the Beacon Chain staking contract was to block funds in it until The Merge was activated. Withdrawing coins from the stack will be unavailable for 6–12 months after the update concludes. Simultaneously, validators will begin receiving liquid ETH coins as rewards as soon as the upgrade is activated in September 2022.

Why does Ethereum change the consensus algorithm?

In Ethereum, the Proof-of-Work algorithm was used to generate blocks. This resulted in significant energy costs and a decrease in network scalability. Furthermore, mining in PoW required equipment, which reduced the availability of this activity. The update should solve these problems and bring Ethereum closer to solving the blockchain trilemma.

As of June 2022, the volume of energy consumption of the Ethereum blockchain is 112 HFC per year. As a result of replacing mining with stacking, this indicator will fall by 99.95%. According to the developers, after the PoS, one node will require no more electricity than a conventional PC.

  The annual energy consumption of various industries for June 2022 (in HFC). Source: Ethereum Foundation

Another significant benefit of the upgrade will be increased security: Ethereum will be able to repel intruder attacks more effectively. Because the new consensus algorithm necessitates the blocking of a significant amount of funds, the chances of accumulating the minimum required amount of funds are nearly nil.

Another reason for implementing PoS is technical necessity. Future updates aimed at increasing Ethereum’s scalability are impossible without changing the algorithm.

How does PoS work in Ethereum?

The Proof-of-Stake algorithm assumes that the “weight” of the validator’s vote is determined by the number of coins staked. The node’s reward is determined by the amount of blocked funds. You must deposit at least 32 ETH into a deposit contract to become an Ethereum validator. Any holder may assign a smaller number of coins to the validator.

To optimize calculations, the staking participants are divided into separate groups — committees whose composition is determined at random. The latter include validators ranging from 128 to 2048. Committees can be combined to form blocks.

The consensus-building procedure in the updated Ethereum will be divided into epochs, each lasting approximately 6.4 minutes. These intervals are divided into 32 12-second time slots. One block is formed during the specified time period. Committee groups are distributed among

The selected validator proposes a block, and the others vote in favor of it. If the latter receives the most votes, it is added to the blockchain. The committee members are shuffled after each epoch. The maximum number of groups and participants is determined by the maximum amount of Ethereum issued, which is 134.2 million ETH.

What profit will ETH staking make?

In the Ethereum network, the commission is made up of two parts: premium and basic, which is burned. There will be no fixed reward for the block after the switch to Proof-of-Stake (PoS). The income of the validators will be determined by the additional ETH issue, which changes dynamically every epoch. The annual coin issue will be calculated based on the amount of funds blocked in the stacking.

  Dependence of the volume of annual ETH emission (Y-axis) on the number of active validators (X-axis). Данные: Vantica Trading

According to Betting Rewards, as of the end of August 2022, Beacon Chain validators receive annual awards of 4.5%, and holders delegating their funds to them receive annual awards of about 4%. According to Nansen analysts, over 60% of all Ethereum coins in staking are controlled by only 4 platforms:

According to Messari analyst Tom Dunleavy, the yield of ETH stacking will increase immediately after the merger and will be in the range of 7% to 13% per annum, but it will eventually adjust to the lower side.

  Source: Twitter

How can the price of ETH change?

Traders are skeptical about the continuation of the ETH cryptocurrency’s upward trend as the price approaches the $ 2000 resistance level. Ethereum reached this milestone on August 14. According to Anthony Scaramucci, CEO of SkyBridge Capital, further growth in the value of ETH is possible, but only in the long term.

The majority of experts agree that The Merge will have a significant impact on the cryptocurrency market.

Ethereum-based derivatives traders, according to Glassnode, are “extremely optimistic” about the price of ETH in September 2022. Investors place bets on the price of cryptocurrencies above $ 2,200 — up to $ 5,000 based on the ratios of call and put contracts, as well as OI indicators. Arthur Hayes, the former CEO of the Bitmix platform, predicts that ETH will reach $3,000 in value.

According to Chainalysys researchers, following The Merge, the Ethereum price may exhibit dynamics distinct from the rest of the cryptocurrency market.

After switching to PoS, Ethereum will retain a deflationary burning mechanism, which should contribute to the growth of ETH. Another factor could be the growing acceptance of the Ethereum cryptocurrency among institutional investors. Bank of America announced this possibility. According to a Chainalysys study, the number of ETH holders among the “whales” has already increased.

The total amount of Ethereum coins blocked in stacking (in blue), and the number of addresses where ETH is stored in the amount of $ 1 million or more (in orange). Chainalysis data from January 2021 to August 2022.

What will happen to ETH miners and should we wait for the appearance of the Ethereum PoW fork?

The Merge will render Ethereum mining impossible due to the so-called complexity bomb. As a result, at least some miners may switch to another project — Ethereum Classic (ETC). It is a long-standing fork of Ethereum that is architecturally very similar to its “parent” but with much lower hashrate and overall activity.

Ravencoin (RVN) is another candidate for Ethereum miners, with its price increasing by more than 100% in the first two weeks of September.

A small portion of the Ethereum community plans to launch a fork in order to preserve the PoW algorithm. Its founders are miners and manufacturers of specialized equipment. The project can be called Ethereum PoW, according to Chandler Guo’s proposal (THE).

On September 13, the ETHW developers presented the details. The Ethereum mainnet fork should go live within 24 hours of The Merge being activated. The exact time will be announced one hour before the main ETHW network goes live.

Meanwhile, investors are not optimistic about the project. As a result, the ETHW futures price had already dropped to $30 by mid-September 2022. A number of large projects have already stated that they will not support the Ethereum PoW fork. Uniswap, Chainlink, Ethermine, and OpenSea are among them.

There is a good chance that ETH owners will get an airdrop of the ETW fork cryptocurrency. Binance and Bybit have already stated that they are willing to distribute free coins. A similar case occurred in 2017 following the appearance of Bitcoin Cash, which split from bitcoin following the hard fork.

Further upgrades after The Merge

The Ethereum roadmap includes the implementation of sharding technology, which is required to increase the scaling of the blockchain. Sharding is the process of dividing a common database into fragments and distributing information storage among nodes. Despite a significant increase in the size of the registry, this update will allow the Ethereum network to grow in accordance with the load.

Beacon Chain allows you to coordinate validator work and distribute it across shards. The algorithm implements segment synchronization so that segments are aware of the current state of the network. The nodes of the updated mainnet will store a portion of the blockchain, and special algorithms will be used to validate the data’s reliability.

Sharding will reduce hardware requirements and allow you to run the node on laptops and smartphones. The update is scheduled to be integrated in 2023, but the exact date depends on the success of the transition to Postgresql.

Following sharding, the deployment of a new Ethereum WebAssembly (eWASM) virtual machine is the next step. It will allow you to write smart contracts in a variety of programming languages. eWASM is designed to make Ethereum more efficient and should eventually replace Ethereum Virtual Machine (EVM).

All Comments