Proof-of-Stake and EIP 1559 Make Ethereum a Bargain to Buy Now

Ethereum (CCC:ETH-USD) is now at $2,529 as of June 8, well off its peak back in May, giving it the look and feel of a bargain.

A coin with the Ethereum logo
Source: shutterstock

The cryptocurrency surged to $4,168.70 on May 10, after ending last year at $730.37. But now, despite its recent drop, Ethereum could be in buy territory for some enterprising investors.

That means that ETH-USD rose 471% as of its peak from the end of 2020, but then it fell precipitously by 39.4% to today’s price. But that still leaves Ethereum up 246% year-to-date, despite its precipitous fall. This attests to its strength as a long-term play on cryptocurrency and distributed digital assets.

Ethereum’s Standout Features

Despite its drop, Ethereum has a market capitalization of $294.9 billion. In other words, this is no fly-by-night cryptocurrency. Investors likely know that ETH-USD is now the second-largest cryptocurrency after Bitcoin (CCC:BTC-USD).

Bitcoin’s market value is still head and shoulders above any other crypto at $612.5 billion, according to Coinmarketcap.com. But the next closest digital currency is Tether (CCC:USDT-USD) at just $62 billion in market cap, which is known as a “stablecoin” since its price does not jump around as much.

Another standout feature is that ETH is planning on moving to a proof-of-stake system soon.  This will move it away from its present proof-of-work mining system to validate Ethereum transactions. The problem is this has been going on for a good number of years and Ethereum always seems to be close to changing over.

However on May 18, The Ethereum Foundation announced in a blog post that Ethereum will transition to a “proof-of-stake” system within months. Ethereum’s use of this recording and transaction method will reduce carbon emissions by 99.5%. Validators “stake” their Ethereum (i.e., use it as collateral in case of a mistake) and get rewarded with ETH tokens when they validate blockchain address transactions.

Moreover, some groups are already offering staking rewards on ETH 2.0 (as the new proof-of-stake system will be known). This can be seen in this article about Binance offering a staking reward that is dependent on when Ethereum 2.0 starts. In fact, Coinbase (NASDAQ:COIN) has also started a waiting list for people who want to be on the list to delegate their Ethereum tokens to validators of the ETH 2.0 system when it starts. So they must sense that the transition will occur fairly soon.

Ethereum Supply Cap Issues

As it stands, Ethereum has no supply cap. For example, Bitcoin has a limit of 21 million Bitcoin that can be mined. Since there are already 18.73 million Bitcoin tokens mined already, the “short squeeze” effect acts to naturally push the token price higher. But Ethereum has no such supply restraint.

That is, until recently. Sometime in July, EIP 1559 will go into effect. EIP stands for Ethereum Improvement Program. It is an upgrade to the blockchain promoted by the Ethereum Foundation that controls the implementation of Ethereum software. The net effect of EIP 1559 will be to reduce the supply of Ethereum over time.

It will do this by burning the transaction fees that would otherwise go to miners who validate Ethereum transactions, according to Decrypt.co. Right now transaction fees have been very high, as a result of the auction system that sets them. Miners bid on doing transactions and charge fees based on the auction bid. This system will be replaced by a standard fee, called a BASEFEE. It will be higher when the market is busy and fall when activity is lower.

Developers hope to quell the complaints many have about transaction costs, i.e., that they are too high. Here is what Decrypt.co says will happen now:

“The crucial difference is that the fee is set by the network and altered by burning ETH. EIP-1559 means that miners don’t set the rates; the network does. And the transaction fees don’t go to miners; they’re burned. “

This will reduce the supply of Ethereum, causing a squeeze effect. According to Lark Davis, a popular YouTube commentator on ETH, it could have a deflationary effect on the total supply. There will be less Ethereum each year as a result of the burning of the transaction fees.

What To Do With Ethereum

The deflationary effect of EIP 1559 is now starting to gain a lot of attention in the crypto market. As Ethereum becomes more popular, its currency supply will be more valuable. This change will effectively get rid of Ethereum mining as a proof-of-work system. Most miners sell the Ethereum they receive as rewards.

With this change, the ETH tokens charged as transaction fees by the validators will be “burned” or go away at a set period of time. It also reduces the incentive to mine older blocks or shorter blockchains. Often miners try to avoid validator longer blockchain transactions and addresses, causing congestion in the system and longer periods to getting a transaction completed. With this change, there are less reasons to focus on older blocks once newer ones have been created.

This will effectively increase ETH’s long-term value and appeal to content creators and developers in the long run. And that will increase the overall value of Ethereum as a cryptocurrency.

On the date of publication, Mark R. Hake held a long position in Bitcoin (BTC-USD) Ethereum (ETH-USD). The opinions expressed in this article are those of the writer, subject to the InvestorPlace.com Publishing Guidelines.

Mark Hake writes about personal finance on mrhake.medium.com and runs the Total Yield Value Guide which you can review here.


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