Thinking | EIP-1559 and the Road to Ethereum

(A pair of leather shoes, Van Gogh)

For Ethereum in the coming year, there are several very important key points in its history:

*EIP-1559

*PoS

*Layer2

All three are very important. If we have to say that the most fundamental impact on Ethereum is PoS, it will directly change the nature of ETH and make ETH a truly productive asset. The impact of the above three on ETH is very far-reaching, and people can only truly feel it when they are truly implemented.

Today we will briefly talk about EIP-1559 which is coming soon (expected in early August), which is suitable for beginners to read.

EIP-1559

Discussions about EIP-1559 are now basically everywhere, and people are becoming more and more familiar with it. In short, EIP-1559 changes the way users pay for transactions on the Ethereum chain. Before EIP-1559, Ethereum adopted the first-prise auction model, where people submitted bids on Ethereum, and miners filled the transactions into blocks based on the user's bids and received the handling fees paid by the user. This bidding model makes it difficult for participants to bid correctly, either too high or too low, because it is difficult for bidders to have a clear basis for bidding, more like a blind man touching an elephant. This bidding model is similar to the second-hand housing bidding model in some countries.

EIP-1559 adopts a fixed-price sale model. It is no longer the users who bid, but the protocol. Of course, if the user feels that the protocol quotation is too expensive, he can cancel the transaction. This is similar to the experience of users buying fixed-price goods online in reality. Of course, in order to speed up transactions during congestion, users can also tip miners through rewards. The advantage of the protocol quotation is that it has a more comprehensive basis and makes more appropriate quotations based on supply and demand.

In addition to the basic fee + tip, EIP1559 also proposes a flexible block space. It will be adjusted by the market according to the balance of supply and demand. The block space can be doubled at most. That is, if the target is 10 million gas, the block limit can be 20 million gas. If the target is 12.5 million gas, the block limit can be 25 million gas. The basic fee is not always fixed, it will be adjusted according to supply and demand.

The most concerned point of EIP-1559 is the destruction of its base fee. Miners will no longer receive the base fee for transactions. Transaction fees are essentially a security fee. Today, when Ethereum is congested, the fees people need to pay are extremely expensive, which also causes users to flow to chains with less security. When congested, people pay more fees, but the demand for chain security does not increase accordingly. EIP-1559 destroys the base fee, which to some extent also means that traders do not need to pay extra for their security when congestion is severe.

EIP-1559 and ETH

From the current perspective, EIP-1559 will at least have the following impacts on ETH:

*The destruction of the basic fee reduces the circulation of ETH. This is equivalent to giving a certain degree of subsidy to all ETH holders. ETH becomes a productive asset that can indirectly generate income.

*It also affects the new issuance rate of ETH. If the amount of ETH destroyed is large enough in the future, it may even happen that the amount of destruction is higher than the amount of new issuance. Of course, this is only possible when the Ethereum ecosystem is prosperous. In this case, ETH will become a deflationary asset. Even if the amount of destruction is lower than the amount of new issuance, it can reduce its inflation rate to a certain extent. This is also an important basis for some people in the community to start viewing ETH as a value storage asset, which was previously the BTC narrative.

*The mechanism of EIP-1559 is more user-friendly for the experience of using Ethereum, which may lead to greater acceptance. You can simply imagine that if a user goes to an e-commerce platform to buy a product, is it more convenient to buy it by bidding or by fixed price?

From the above, we can see why the Ethereum community, especially ETH holders, attach so much importance to EIP-1559.

EIP-1559 and Miners

Some say that miners’ earnings will be drastically reduced due to the destruction of base fees. What do you think?

The current income of miners includes: block reward + transaction fee. If the transaction fee is further subdivided, MEV can also be divided. Many arbitrageurs or liquidators initiate a large number of transactions. In order to realize profits, they must complete transactions quickly, so they will continue to compete at high prices.

After EIP-1559, the block rewards for miners will remain the same, while the proportion of the MEV portion of the revenue is likely to increase, and the proportion of the basic fee will decrease. EIP-1559 will definitely have an impact on the miners' income, but it may not be as big as imagined. Miners still have the opportunity to get good returns.

Overall, EIP-1559 does not change the Ethereum block space (it is only a temporary elastic space). When there is congestion, traders will still have to compete for Ethereum's block space. This means that as long as the Ethereum ecosystem is developing, arbitrageurs and traders will still compete fiercely for block space, and miners will have the opportunity to earn considerable profits by selling transaction priority.

Judging from the data below, from January 2020 to now, the cumulative MEV is close to US$800 million, which is not a small scale.

(Cumulative MEV, Flashbot)

In addition, if EIP-1559 itself will bring a value-added effect to ETH, then the value of the block subsidies obtained by miners will also increase, which is also beneficial to the miners themselves.

In general, EIP-1559 will inevitably affect miners’ income, but not necessarily as much as imagined. If Ethereum block space is tight, miners still have the opportunity to make considerable profits.

EIP-1559 is not a fundamental mechanism to solve high fees

EIP-1559 itself cannot solve the problem of high fees on Ethereum, but it may reduce the average transaction fee. When there is congestion, the problem of high fees will still exist. In other words, EIP-1559 is not the fundamental mechanism to solve the problem of high fees. The fundamental way to solve the problem of high fees is to achieve the scalability of Ethereum. For example, Layer2 or sharding.

EIP-1559 also faces potential problems

EIP-1559 is not perfect. It also faces potential problems. For example, variable blocks may introduce new attack vectors, such as flooding the network with a series of maximum blocks; or the potential manipulation of base fees by miners, but since it is difficult for miners to collude, manipulation itself is also difficult; in addition, it is unclear how to determine whether the base fee is the best design. The potential problems of EIP-1559 will become more prominent as it is implemented in practice.

Ethereum's changes in the next year are unprecedented

With the advancement of EIP-1559, Layer2 and PoS integration, Ethereum has undergone great changes in ETH's value capture, scalability and ETH's properties. It cannot be said that it is definitely good now, and there are some hidden crises.

However, if everything can be successfully implemented, it will open a new era for Ethereum, which will be another level of competition. When all three are implemented and stabilized, Ethereum will have the opportunity to highlight its unprecedented energy and have a significant impact on the entire crypto landscape.

If we say that when Ethereum was first born in 2014, it also referred to many ideas of Bitcoin, but now Ethereum is increasingly moving towards its own development path, which is a completely different path and may usher in a new era of encryption.