Undertaking Cryptocurrency transactions on blockchain with Proof of Work is notorious for high energy consumption, making cryptocurrency mining mostly profitable at an industrial scale.
According to the Cambridge Center for Alternative Finance (CCAF), Bitcoin transactions consumes around 110 Terawatt Hours per year. That is 0.55% of global electricity production, or roughly equivalent to the annual energy consumption of small countries like Malaysia or Sweden.
To put it simply, It takes approximately 1,449 kilowatt hours (kWh) of energy to mine a single bitcoin. This is approximately the same amount of energy an average U.S. household consumes in approximately 13 years.
While Digiconomist suggests that Ethereum consumes about 112 terawatt-hours of electricity per year, which is comparable to that of Netherlands and more than what Philippines or Pakistan use. A single transaction on Ethereum blockchain is equivalent to the power consumption of an average US household over 9 days.
To solve the energy consumption problem associated with blockchain transactions, Ethereum upgraded to the much anticipated Ethereum 2.0, or as some may know it, the Ethereum Merge.
Before we talk about what to expect from Ethereum 2.0, let's go through a jargon buster.
Jargon Buster
Proof of Stake (PoS) is a cryptocurrency consensus mechanism for processing transactions and creating new blocks in a blockchain. With PoS, cryptocurrency owners validate block transactions based on the number of coins a validator stakes. This consensus mechanism is different from the legacy Proof of Work system we define next.
Proof of Work is a consensus mechanism that requires miners to solve cryptographic puzzles, as a form of cryptographic proof, in which one party (the prover) proves to others (the verifiers) that a certain amount of a specific computational effort has been expended.
Ethereum Mainnet is the primary public Ethereum production blockchain, where actual-value transactions occur on the distributed ledger.
The Beacon Chain is the Ethereum proof-of-stake blockchain network that was launched in 2020. It became fully operational as the updated Ethereum blockchain after the merge was completed on the 15/09/22. The Beacon Chain acts as the controller of the Ethereum PoS network. It manages the entire process of the PoS protocol and coordinates parallel chains.
Blockchain is a database for recording information in a way that makes it difficult or impossible to change, hack, or cheat the system. A blockchain is essentially a digital ledger of transactions that is duplicated and distributed across the entire network of computer systems on the blockchain.
Mining is the process used by many cryptocurrencies such as Bitcoin, to generate new coins and verify new transactions. It is a connection of vast decentralized networks of computers around the world that verify and secure blockchains. In return for contributing their processing power, computers on the network are rewarded with new coins.
Why is the Ethereum Merge important?
The Ethereum Merge is the combination of Ethereum’s PoS Beacon Chain with the Ethereum Mainnet, to transition the Ethereum blockchains off the legacy Proof of Work system.
The transition to PoS eliminated the need for mining nodes to compete for block rewards, and instead requires node operators and investors, to stake 32 Ether (ETH) as collateral to become network validators, and to earn rewards.
According to Ethereum this upgrade gives a 99.95% reduction in their energy consumption, and increases the ability to further scale the Ethereum ecosystem. But this is not the only benefit of Ethereum moving from the PoW to the PoS consensus mechanism. Other benefits includes:
More decentralization by lowering the hardware requirements for node operators;
Ability to add more scaling solutions (such as sharding;
Faster transaction confirmations (though overall speed will be about the same);
Increased security through client diversity;
ETH becomes a more deflationary asset.
The issuance of Ethereum as block rewards will also be significantly reduced. Currently, there are about 13,000 Ether mined per day. With the Ethereum Merge upgrade, it is estimated that the number will drop to about 1,600 Ether rewarded per day. This is a 90% reduction in Ether issued, and it will slow the inflationary growth of Ether.
The diagram below outlines the difference in annual energy consumption, between ETH, Blockchain and YouTube.
Risks associated with the Ethereum Merge upgrade
There are several risks associated with the Ethereum Merge, but these are our top four :
Denial-of-Service (DoS) Attack: Network proposers will be known ahead of time, making them vulnerable to a DoS attack. For example, if a potential attacker is in line to propose one of the next blocks in the blockchain, they can attempt to DoS the current proposer's node, causing them to lose their slot, and the transactions in that slot can be picked up by the attacker.
ETH Price Drop: If there are setbacks with the upgrade, this could cause a drop in Ether price, as well as many of the top cryptocurrencies that have built their platforms on top of the Ethereum blockchain.
Centralization of Staked: ETH Staking pools have become very popular, as most investors and operators don’t have the required 32 ETH to stake. Instead they can join a group of other investors to raise the funds needed to become a validator. This could end up focusing the number of validator nodes under the influence of centralised entities. It also introduces the risk of censorship, governance takeovers, and could possibly undermine decentralisation.
Scams: Many crypto enthusiasts refer to the Ethereum Merge upgrade as “ETH 2.0". This has led to confusion about whether there will be a newly formed cryptocurrency called ETH 2.0, making ETH holders susceptible to scams. Scammers may try to take advantage of this confusion and try to get users to swap out their current ETH for “ETH 2,” but in reality they would be stealing the user’s Ether.
Conclusion
We look forward to seeing the opportunities that the Ethereum Merge will bring to the cryptocurrency industry. We are also mindful that the reduced number of Ether available to mine could cause scarcity of the cryptocurrency and lead to an increase in cost of the Ethereum coin.