For this reason, some newer cryptocurrencies have opted to go another route — proof-of-stake. Ethereum’s upgrade to version 2.0 will have it transition to PoS to allow for far faster transactions and lower fees.
With PoS, consensus is reached by using an algorithm that chooses a node to win a block of transactions, rather than the nodes competing to win the block by using large amounts of power. When a node is chosen it forges the next block of transactions in the chain. With PoS, these nodes are generally referred to as “stake pools.”
Nodes, or stake pools, are chosen based on the size of the “stake” it holds. In other words, the more coins a stake pool holds the more likely it is to be chosen to forge a block and get rewards. To ensure that the wealthiest pools do not always win, other criteria like the amount of time coins have been staked, can factor into the selection process.
Some PoS blockchains have added a degree of randomization into the process so that older and larger stakes do not always win. So, in PoS, miners are replaced with people who stake their coins. Individuals can “stake,” or place their coins with various stake pools, just the same as miners joining a mining pool to earn more rewards.
How It Scales
Ethereum 2.0 plans to scale its capacity by using a method called sharding. This is a common technique among a number of newer PoS cryptocurrencies as it allows them to scale without major sacrifices to security and decentralization.
Sharding is a way to partition a database into smaller pieces that are more manageable. With a PoW blockchain, each node, or computer in the network, has an entire copy of the history of transactions. This entire history can take up a lot of space, especially for older cryptocurrencies with a long history of transactions.
With sharding, the blockchain is cut up into parallel sections, and nodes are assigned to one section instead of having to hold the entirety of the chain’s data. This allows more transactions to be processed simultaneously, greatly increasing throughput and transaction speed.
What Does This Mean For DeFi?
Should ETH 2.0 prove successful, it will have a drastic effect on the current bottlenecks that slow it down now. Ethereum has a massive decentralized financial ecosystem, but most of it is nearly unusable as it is too slow and congested. This congestion can cause transaction fees to be larger than the amount of money the user is trying to move in the first place.
In Ethereum’s current state, only those with larger holdings can make use of the benefits of its ecosystem. At the time of writing, swapping cryptos on Uniswap, a decentralized exchange and liquidity provider on Ethereum’s network, costs around $84. This makes sending a few dollars or trading small amounts of money impossible.
The fees to make transactions are so high because they are controlled by miners, creating a rather large conflict of interest. With PoS, these issues will essentially no longer exist.
Right now, Ethereum can only handle around 30 transactions per second. Vitalik Buterin, one of the founders of Ethereum, has alleged that 2.0 may eventually scale to as many as 100,000 transactions per second using sharding and other tactics.
“ETH2 scaling for data will be available *before* ETH2 scaling for general computation. This implies that rollups will be the dominant scaling paradigm for at least a couple of years: first ~2-3k TPS with eth1 as data layer, then ~100k TPS with eth2 (phase 1). Adjust accordingly,” Buterin said in a 2020 tweet.
When Will Ethereum 2.0 Be Released?
The upgrade to Ethereum has been happening in phases. The first phase, “phase 0,” is already live. Phase 0 introduces the beacon chain .
The beacon chain is essentially a new PoS blockchain that Ethereum’s current chain will eventually merge with. The beacon chain introduces PoS and sets Ethereum up for staking and shard chains and is sort of a testnet for the future PoS version of the ethereum.
The second phase, or “phase 1,” is called the merge . The merge represents the official switch to the PoS consensus model where the existing Ethereum network will merge with the beacon chain.
Ethereum developers also refer to the merge as “the docking” and expect this to take place sometime in late 2021 or 2022. After the merge, Ethereum will be a PoS blockchain that allows Ethereum holders to stake their ether and earn rewards.
It’s important to note that Ethereum holders do not need to do anything while Ethereum goes through this merge phase. This process will be automatic.
The third phase, “phase 2,” actually implements sharding so that Ethereum can scale and allow for a higher transaction capacity. Shard chains are expected to be enabled sometime in 2022 after the merge.
Will This Effect Ethereum’s Price?
Many have speculated that Ethereum’s upgrade could be followed by an increase in its price. This is mainly due to the fact that Ethereum and its DeFi network will become far more practical to the average person that may not have a lot of money.
Fees to make transactions on Ethereum will likely drop to a point that allows users to move smaller amounts of value. Right now, only those with more money can take the immense transaction fees.
Those who stand to benefit the most from Ethereum’s upgrade are those who do not have access to the modern banking system that exists today.
These people include third-world citizens, refugees and the nearly 2 billion individuals that do not have access to modern financial products like bank or investment accounts.
Many people live in nations without the infrastructure to provide identification to their citizens, without which you cannot get a bank account or use any modern payment apps. Ethereum’s decentralized financial ecosystem allows these types of people to access financial accounts, loans, investment opportunities and more.
With low fees and a lowered barrier to entry, DeFi has the potential to grow significantly, and Ethereum’s price along with it. That, of course, all depends on the success of Ethereum 2.0.
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