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Ethereum Explained

Ethereum Explained

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Ethereum is the subject of a lot of hype lately. Many praised it as the new internet or the next Facebook while others criticised it as a platform for widespread scams and Ponzi schemes. There are badly informed articles about Ethereum, smart contracts and tokens so it is time to take a closer look at what Ethereum is and what role it could play in the future.

 

What is Ethereum?

Ethereum is basically the app store for the blockchain. It allows creators build and design apps. These apps are called Dapps (or decentralized apps) which are open-source software that leverage on the blockchain technology.

The Ethereum coin is called Ether. Ether is the fuel for operating the distributed application platform Ethereum. When someone uses a Dapp, they pay a small amount of Ethereum for the computing power they use.

 

What are smart contracts?

Ethereum is a platform that’s built specially for smart contracts. Smart contracts provide a trustless system for us to conduct our transactions without the need of a third party such as a bank.

Smart contracts are a series of instructions written using the programming language “Solidity” which works on the IF This Then That (IFTTT) logic. Smart contracts not only define the rules but also automatically enforces these obligations – a contract is only executed after the requirements are met.

The best way to describe this technology is to compare it with a vending machine. Normally, when you require a traditional contract, you would go to a lawyer, pay them and wait while you get the document. However, with smart contracts, you simply drop an Ethereum into the vending machine (i.e. ledger) and the contract drops into your account.

 

Some use cases for Ethereum

ICOs

ICO (Initial Coin Offering) is a form of crowdfunding by the company distributing tokens to their investors in exchange for Ethereum. Each company that has their ICO gives their tokens different perks

ICO has made it easier for companies from developing nations like Indonesia (EagleCoin) and India (WandX) where it is extremely hard to raise significant funding to raise capital for their ideas.

 

Payments

Currently, crypto-currencies are difficult to spend. There are crypto credit card companies built on the Ethereum network like TenX, Monaco and Tokencard which are stepping in to fill this gap.

As more people get into cryptocurrency and more crypto-card companies like Monaco get official approval from VISA or Mastercard, there is likely to be an increase in cryptocurrency spending and adoption in the future.

 

Lending

There has been a rise in Ethereum-based lending solutions such as ETHLend and SALT.

SALT aims to simplify the loan application process by focusing on the value of the borrower’s blockchain assets instead of their credit score while ETHLend aims to democratize lending with its decentralized platform.

Interest rates are likely lower than getting loan from a bank and a lot of the ‘unbanked’ can get access to finance much more easily.

 

Gaming

There are many gaming companies such as CryptoKitties and Enjin which have started to include tokens in their games to fund their ecosystem.

Enjin introduced Enjin Coin to give its communities, content creators and game publishers an easy solution to implement virtual goods and real value into gaming and the community. CryptoKitties is one of the first games to be built on blockchain technology and allow users to buy, sell or trade their CryptoKitties like it was a traditional collectible.

 

These are just some examples of how early enthusiasts and entrepreneurs are disrupting various industries with the blockchain technology. In fact, the most disruptive use cases haven’t probably been dreamt up yet.

 

However, there is a big missing piece that prevents us from seeing many of these applications to come to fruition – scalability. Ethereum, like other public blockchains, is limited in its ability to scale.

 

Main Limitation for Ethereum – Scalability

Currently, blockchain consensus protocols like Ethereum and Bitcoin have a challenging limitation: every single node on the network processes every transaction. This means that the number of transactions that blockchain can process can never exceed that of a single node that is participating in the network. For the network to get faster, we need to add more compute to every node for the network.

Unlike a traditional database system in which the solution to scalability is to add more servers, the blockchain becomes weaker as more nodes are added to its network due to the inter-node latency that logarithmically increases with every additional node.

For Ethereum to compete with more mainstream systems like Visa or Paypal, they will need to address the problems in scalability. Just to pay things into perspective: Paypal manages around 200 transactions per second and Visa manages around 2000 transactions per second while Ethereum had an estimated speed limit of around 20 transactions per second.

 

Why is Ethereum’s speed limit so low?

Theoretically, an Ethereum node’s maximum theoretical transaction processing capacity is over 1000 transactions per second. However, due to Ethereum’s gas limit (6.7 million gas on average for each block), the actual speed limit is only 20 transactions per second.

 

The gas limit for each block determines how many transactions will fit in a block based on the gas limit specified by each transaction in the block. This limit imposes a cap on the network’s computational power per block. At the current gas limit of 6.7 million and average gas used per standard transaction of 21K, we get around 300 standard transactions every block. Since the average block time is 20 seconds, this equates to around 15 transactions per second. The rate gets much lower as the transactions become more complex. For example, a smart contract uses 50K gas, which means the network can only process only 7 transactions that involves a smart contract every second.

 

Why is this a problem?

The number of daily transactions has increased from approximately 40K to 240K from Q2 2016 TO Q2 2017,which represents a 500% annual growth. In fact, the highest number of transactions, 1103523, was recorded just last week on 22 December 2017. That’s an average of 12 transactions per second!

As the number of transactions on the Ethereum network continue to grow at such a significant pace, the average transactions per second could overtake Ethereum’s speed limit by next year.

 

Conclusion

The Ethereum network allow us to conduct transactions at a cheaper cost while replacing the middleman with an automated system that allows you to trust the other party when conducting a transaction.

In fact, the technology that is underpinning Ethereum has a lot of real world usage that is yet to be unlocked. However, until we figure out how to scale the blockchain, we are limited to how fast and wide the use cases can actually grow.

Keen to find out more about the solutions to scaling blockchains like Bitcoin and Ethereum? Check out our next blog post tomorrow!

 

 

 

 

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