Realigning the Ether & Ethereum market debate
Sam Cassatt & Everett Muzzy, ConsenSys
Continued conversation around blockchain technology, the Ethereum network, and crypto-assets is crucial for the development and improvement of this nascent space. We encourage people to discuss their thoughts, concerns, and solutions about platforms, assets, and technology. With so much global discussion, however, misunderstandings can gain traction in the community.
We are writing this piece to address some of the more common misconceptions in the ecosystem that incorrectly describe, understand, or position Ether and Ethereum. In the interest of ensuring conversation about blockchain technology is as truthful as possible and ensuring groups place technical objectivity ahead of financial interest, we have identified and addressed some recurring arguments against Ether and Ethereum. For distinct technical arguments, we have responded as specifically and objectively as possible. For larger theoretical arguments about the direction of Ether and the Ethereum network, we provide our educated thoughts and best judgement.
Sections:
[1] Regulation Misconception[2] Store of Value Misconception[3] Scalability Misconception[4] Block Size Misconception[5] Security Misconception[6] Centralization Misconception[7] Price Instability Misconception [8] Conclusion
[1] Misconception: Pending regulation of token launches will decrease developer activity on the Ethereum blockchain, thus impacting interest and reducing the value of Ether. Ethereum will not be a good platform on which to raise capital due to increased regulation.
Globally, token launches, exchange activity, and crypto-investments have decreased in frequency in the wake of regulatory measures or bans on crypto markets, crypto exchanges, and crypto capital. We readily acknowledge that pending regulation _might_ generally decrease the number of token launches that continue to occur (and by extension, occur on Ethereum), but we disagree with the persistent conclusion that such regulation will _negatively_ impact the strength of Ether or Ethereum.
The fact is, it is the **lack of regulation and compliance clarity that would negatively impact the crypto market down the road**. Without regulatory standards, investors and innovators are reasonably wary about launching, trading, or using tokens. Risk-averse individuals will not invest in a platform or asset without certainty about tax implications, asset classification, and legality. Should the number of tokens on the Ethereum platform decrease in the short term (we still believe Ethereum will remain the most used decentralized application platform and support a greater number of tokens), it will be because regulation has identified and eliminated fraudulent or exploitative tokens and platforms. Regulation not only provides investor confidence through legal clarity, but also by ensuring that future tokens on the Ethereum platform adhere to principles that protect veteran and novice users alike.
With clear regulation concerning the crypto market and the resulting increased engagement of developers and investors, we will quickly witness the token liquidity potential of Ethereum. As the most versatile platform in existence, Ethereum will facilitate the tokenization of many of the world’s assets (imagine what Meridio is doing with real estate, but applied to an increasing number of assets globally), creating deep liquid markets and revolutionary economic interoperability. This means the cost and latency of economic transactions will be insignificant, the types of assets available to trade will be theoretically limitless, and the access to capital will be democratized as barriers to entry are reduced. There is currently no other public blockchain platform with appropriate governance, security, and flexibility to be the substrate of these assets.
With regulation comes clarity. With clarity comes developer engagement and investor confidence. With developer engagement and investor confidence comes capital. Ethereum will, therefore, continue to serve as an excellent (in fact, quantifiably the best) blockchain-based platform on which to raise capital. Data illustrating this point further is demonstrated in [2].
[2] Misconception: The next bull market in crypto will be dominated by Store of Value (SOV) assets. Ether cannot function as a SOV, therefore other assets such as Bitcoin will lead the next bull run and ETH will suffer.
Critics argue that Ether cannot function as a SOV because Ethereum cannot behave successfully as a decentralized application platform or as a capital raising platform. We believe both assumptions to be untrue:
Decentralized Application Platform: Ethereum is, without remote consideration, the most robust decentralized application platform in existence. To date, more than 1500 dapps have launched on the platform. Platforms such as FunFair, Augur, Ujo, and Loom Network — to name a few — all have functioning, scalable platforms with a robust user base. Technical issues (i.e. scalability) that some argue can detract from application building are addressed in point [3] of this piece. The “architectural issues” (i.e. centralization) some argue can hurt dapp development are addressed in point [6].
Capital Raising Platform: Ethereum is, additionally, without doubt the most successful blockchain-based capital raising platform in existence. Of the top 100 tokens by market cap, 94% are built on top of Ethereum. That’s $13 billion in collective capital that has been raised on top of Ethereum to date. Of the top 700 tokens by market cap, 87% are built on top of Ethereum. That’s $15 billion out of $19 billion raised among those tokens. We believe the numbers speak for themselves to prove Ethereum’s superiority as a capital raising platform. Related arguments that pending regulation will staunch the flow of capital to the network were addressed in point [1].
We, in fact, believe Ether proves itself a strong SOV. For an asset to serve as a robust SOV, it must provide: security, decentralization, network effect, age, liquidity, and utility. In essence, Ether has every quality of security and decentralization that Bitcoin has. Age, liquidity, network effect, and utility are where the platforms differ — and where Ether(eum) comes out as comparable or on top.
Security & Decentralization: Bitcoin and Ethereum were developed with the same commitment to security and decentralization. Both blockchain platforms ensured that, as a founding tenet, participants could use the platforms without fear of losing funds (from flaws in the fundamental technology) or centralized manipulation. Arguments that Ether has been hacked whereas Bitcoin has not are addressed in point [5].
Network Effect: The strength of a SOV partially lies in its ubiquitous adoption as a SOV. If only a small group of individuals believes something holds value, the loss or change in values of that group will impact the asset’s status as a SOV. We believe Ether has reached a similar level of disparate network effect as Bitcoin to be considered an undeniable SOV from the perspective of ubiquitous adoption and recognition as a valuable asset. In fact, Ether has reached such a degree of decentralization and widespread adoption that SEC official William Hinman asserted his belief that it is not a security. Ether and Ethereum, however, have an edge on the crypto market when it comes to the notion of complementary or indirect network effect. Complementary or indirect network effect is the phenomenon whereby the increase in usage of one product increases the value of another, resulting in the increase in value and usage of the original, and so on. As Ethereum-based platforms increase in usage, Ether will experience higher demand, likely leading to an increase in value and drawing more successful projects to the blockchain.
Age: We openly acknowledge that Bitcoin’s seniority in the blockchain industry endows it with a strong identity as an SOV, but believe Ether’s comparable age (2014) also places it solidly in a position as a SOV.
Liquidity: Liquidity is paramount to an asset’s identity as a SOV. Individuals would not be incentivized to hold an asset they could not easily, quickly, or cheaply trade for money or another asset. Compared to Bitcoin, Ether’s transaction speeds are faster and costs lower. More importantly, we see the future of Ether as vastly more liquid than today — likely elevating its position as a SOV. In a future where hundreds or thousands of tokens are built off Ethereum (remember, 94% of the top 100 are already built on the platform), we envision deep liquid markets where transactions between Ether and tokens and between tokens and tokens can occur instantaneously, minutely, and cheaply. Ether will become more and more liquid with each additional token built on the platform.
Utility: The need of a SOV asset to have practical utility is debated — particularly in the crypto community. The opposing view holds that the amount of innovation, change, and uncertainty that a “useful” platform undergoes is in direct contradiction to the stability and predictability that people want to see in a SOV. A true SOV, however, must provide some sort of underlying utility to people — it cannot achieve stability through network effects alone, or so the argument goes. Let’s not forget that gold — the longest standing, most prevalent SOV in history — at its core is a _highly useful_ e lement. That said, its market value far outstrips its utility, and its SOV characteristics seem to derive from a combination of utility and market behavior.
Ether’s behavior is subject to market pressures like buyers moving fiat into ETH in order to buy tokens, and simultaneously has the utility of providing developers and users with a practical use as gas to fuel the network and engage with dapps. A token economic theory known as the “velocity thesis” could suggest that tokens developed for a specific use are not likely to gain value as a SOV because their “velocity” is too high — i.e. users are unwilling to hold on to them for very long. When Ethereum switches to PoS, however, additional underlying utility will come from staking Ether against pending blocks for financial reward. One likely result is that users will have an incentive to hold Ether more than they previously have in order to reap rewards from staking.
In conclusion, two persistent arguments against Ether not serving as a SOV are weak in the face of numbers and network health. Dapp development is strong, scalability issues are being addressed and are live (see [3]), and users are coming to new platforms as they are released. Ethereum is the largest blockchain-based capital raising platform in existence, demonstrated by the billions that have already been raised on the network. The platform will continue to attract capital, and will likely even be helped by regulation that deters weak or predatory token launches and empowers strong ones (see [1]). When we analyze Ether alongside key characteristics of a SOV asset, we find that Ether is more than well-suited to continue serving as a SOV into the future.
[3] Misconception: The current scaling shortcomings of Ethereum will drive developers, entrepreneurs, and investors away from the platform. Ether will consequently decrease in value.
Scaling is a much-discussed concern in the blockchain ecosystem at large. As a decentralized application hosting a number of consumer-facing products, Ethereum in particular has received attention in the wake of popularly-reported events like CryptoKitties. This concern has long been top of mind for Ethereum developers, and many scaling solutions are already in development or live and in production.
Skeptics claim that layer 1 and layer 2 scaling solutions will not be available for a matter of years, or suggest any major developments in scaling will be too late compared to competitors. In reality, we find platforms are already effectively using layer 2 scaling solutions in products that are live today. Loom Network’s SDK allows developers to create highly-scalable gaming and social blockchains. They also offer ZombieChain, a layer 2 side chain that uses DPoS as a consensus algorithm while still relying on layer 1 Ethereum as a base security layer. FunFair Technologies has successfully implemented state channel technology to create highly-scalable, instantaneous, cheap, and user-friendly gaming experiences online. Plasma is in development, and is being applied by projects such as OmiseGO. Other scaling solutions in development — including Casper/PoS, sharding, and Raiden — are projected for 2018 or early 2019.
We would also urge readers to research the reasons why the Ethereum community has chosen to rely on core Ethereum as a base security layer, while only applying DPoS and other other consensus methods at Layer 2. In fact, we would go so far as to say that it is irresponsible and dangerous to apply these technologies at the base layer. As always, we encourage the community to do its own research. Starting with the Loom and Funfair pieces in the preceding paragraph, however, hopefully the justification for this perspective will come into view. We imagine the wisdom of the market will eventually agree.
[4] Misconception: The only scaling solution Ethereum has available to it is increasing block size, which isn’t a viable long-term solution and will lead to worrisome centralization.
We do not believe this argument requires a particularly detailed response. **Simply put, increasing block size has never been a sincerely proposed scaling solution by the Ethereum community at large.** Ethereum was created with decentralization and security top of mind, and the centralization implications of increasing block size are antithetical to those core tenets. Rather, the Ethereum community is investing in layer 1 and layer 2 scaling solutions that do not implicate decentralization or security. More detail about scaling solutions is illustrated in [3]. A response to centralization concerns on the Ethereum blockchain is outlined in [6]. Further, the notion that block size would be directly increased (rather than by gas limits) represents a fundamental misunderstanding of how Ethereum transactions are included in blocks.
[5] Misconception: Investors will prefer to invest money in Bitcoin, which has never been hacked, instead of Ether, which has been hacked numerous times.
Those who doubt the short and long term market value of Ether maintain that investors will be more willing to store funds on the Bitcoin blockchain rather than the Ethereum blockchain, arguing that Bitcoin has withstood numerous attacks whereas Ether has historically succumbed.
Neither Ether nor Ethereum have ever been hacked. We have to assume these arguments refer to events such as multisig parity hack and the DAO hack. Both of those events were security issues with _platforms_ built on top of Ethereum, **akin to a website on the Internet being hacked, not the Internet being hacked.** Neither Ether nor Ethereum themselves were hacked. The weakness in platforms servicing blockchains or built on top of them is not restricted to Ethereum. Bitcoin has had many — the Mt. Gox exchange was hacked twice. The Bitcoin currency itself has, however, been hacked — unlike Ether. In 2010, someone hacked the Bitcoin blockchain and created 184 million Bitcoins essentially out of thin air. The blockchain underwent a hard fork to patch the bug that had allowed for the exploit. In summary, the security argument is wrong (or, at best, poorly worded). Both blockchains have had security issues with related exchanges and projects, and both have withstood many attempted attacks on the core technology, but only Bitcoin has revealed a vulnerability in its core code.
[6] Misconception: The Ethereum ecosystem is already quite centralized with projects like Infura. Infura — because it is subsidized and offered for free — is also artificially keeping transaction costs low.
Infura is a ConsenSys formation providing node access to developers and technologists who cannot or do not want to run a full node themselves. Infura allows these users to “outsource” the computing power of running a node — essentially acting as a devops provider for the network. Infura is currently serving an estimated 35,000 developers and dapps and is processing 10 billion requests every day. Infura provides the scalability needed to process “read” transactions, which greatly exceed “write” requests.
There is, however, nothing inherently centralizing about the existence of Infura on the infrastructure layer. There is nothing stopping other devops providers from entering the market — there just doesn’t exist the market pressure for those competitors to enter the market yet. The concept of forming a devops service to provide more nodes to handle scale is not a novel concept — Infura just happens to be the most prominent player in the market. If Infura does eventually pose a centralization risk, that would serve as sufficient market pressure to allow more players into the industry.
Concerns have also emerged that Infura — as it is subsidized by ConsenSys — is artificially suppressing the real cost of transacting on the Ethereum blockchain. We have seen an (un-sourced) estimation that Infura takes >$10 million a year to operate. While we will elect not to divulge specifics of Infura’s business at present, let’s investigate what it would look like _if we took_ this $10 million/year estimate at face value. That is about $830,000/month to operate. Spread out among 35,000 customers (cited above), that is a monthly fee of $23.80 per customer — hardly a significant cost for a B2B service and insignificant as far as its impact on gas cost.
Given this analysis, and the fact that even subtle market demand for Ethereum applications could support a $23.80/month per company burn rate, we believe this to be a non-argument.
[7] Misconception: The volatility of Ether’s price demonstrates it is an unstable asset to invest in compared Bitcoin.
The blockchain ecosystem has compared Ether’s ~1,700x return in its first four years (July 2014 crowdsale — July 2018) to Bitcoin’s 10x return in the same time frame. This argument follows that 1,700x compared to 10x demonstrates Ether’s instability, making it a dangerous investment and prime to deflate in value. However, if we compare _relative time frames,_ we find Ether’s 1,700x return rate in its first four years of existence barely approaches Bitcoin’s. Between one of Bitcoin’s earliest reported valuations on July 17, 2010 (Yahoo Finance, ~$0.05/BTC) and July 17, 2014 (~623/BTC), it had a return rate of 12,500x. **In fact, if we analyze the return rate from the earliest monetary exchange of Bitcoin on May 22, 2010 (**$25 worth of pizza for 10,000 BTC **= $0.0025/BTC) to the value on May 22, 2014 (~$526/BTC), the return rate is over 210,000x.** The argument that Ether’s 1,700x return rate in its first four years indicates a crypto asset that is too volatile to invest in long-term does not quite hold water when compared to Bitcoin’s extreme return rate in its first four years.
[8] Conclusion
We hope this publication has helped clarify arguments in the blockchain ecosystem that incorrectly depict the utility, strength, and future of Ether and Ethereum. Broadly speaking, many misconceptions seem to stem from the belief that room for success in the market is limited; that one blockchain or asset must come out on top and another must consequently suffer. Instead, we maintain the “pie is big enough” and will keep growing, allowing legacy blockchains and crypto markets such as Bitcoin and Ethereum to continue to grow while providing room for other platforms and assets to enter the market. We have, we do, and we will always acknowledge the growth and improvement the Ethereum network needs. We have, we do, and will, however, always remain confident in the countless members of the Ethereum community working on developing and integrating the platform. We are unabashedly bullish on the future of Ether and Ethereum.