The Rise of a New Era of Ethereum: Great Engineering

This week the blockchain industry witnessed a historic engineering feat: the Ethereum merger.

The transition of consensus mechanisms from Proof of Work (PoW) to Proof of Stake (PoS) has been on Ethereum’s strategic map and has been actively planned since its inception, and is a remarkable milestone for the project.

As of September 15th 06:46:46 UTC, at the Ethereum block height of 15,537,393, the last PoW Minng block was produced, and the PoS beacon link managed the consensus on the chain. The Ethereum merger was successful.

Arguably, there is no better metric to demonstrate this dramatic shift than by looking at the average and median block times in Ethereum. In the figure, we can clearly see that the block time is 12 seconds at the end of the random PoW Mining and during the project period of converting to PoS.

The Rise of a New Era of Ethereum: Great Engineering

Ethereum: Average and Median Range

In this article, we will explore this historic event from both the trading market and on-chain blockchain metrics. We will analyze the merger from the following perspectives:

  • Positioning of leveraged traders in the futures and options markets.
  • The effect of the merge transition on consensus parameters.
  • The total amount of ETH currently staked and the distribution of staking providers.
  • Simulated versus actual impact on ETH supply.

Combined options futures market

The market positioning of the futures and options markets appears to be a good hedge against the occurrence of the Selling The News event. In fact, however, a sell-off has occurred in ETH, with ETH prices falling from a weekly high of $1,777 to around $1,650 at the time of the consolidation, before falling to a low of $1,288 on Sunday.

In fact, the market has lost all of its gains since mid-July. This sell-off was the result of a combination of factors, notably traders taking profits after ETH’s recent underperformance. As one of the few assets that has performed well under current macroeconomic conditions in recent months, it’s not surprising to see a pullback in profit.

The Rise of a New Era of Ethereum: Great Engineering

Ethereum: Price in Week 38

Before the merger, traders in the perpetual futures market paid an eye-watering 1,200% annualized funding rate to maintain their short ETH positions. This is an all-time low negative funding rate, surpassing the peak of 998% set during the March 2020 sell-off.

Funding rates have since returned to full neutrality, suggesting that much of the short-term speculative premium has dissipated.

The Rise of a New Era of Ethereum: Great Engineering

Ethereum: Perpetual Futures Funding Rate – All Exchanges

After the merger, total open interest fell 15% from $8 billion to $6.8 billion, both extremes that are fairly typical in the 2021-22 market context. However, in order to maintain this change, we must account for the impact of changes in the price of ETH, which affects the dollar value of futures positions denominated in ETH.

The Rise of a New Era of Ethereum: Great Engineering

Ethereum: Futures Open Interest [USD] – All Trading Platforms

Looking at ETH-denominated open interest, we can see that futures open interest is actually at an all-time high, increasing by nearly 80% since the beginning of May. Futures leverage appears to have increased rather than decreased over the past week, suggesting that many risk-hedging positions remain open.

The Rise of a New Era of Ethereum: Great Engineering

Ethereum: Futures Open Interest [ETH] – All Trading Platforms

Recently, there has been a lot of ETH speculation in the options market. Total call option open interest declined by $600 million (10%) post-consolidation. But there are still open call options positions valued at $5.2 billion, well above that amount in 2021. The put options market experienced a more significant decline, down 19%, but was much smaller, with a net position value of $294 million.

In many ways, despite the 22% drop in ETH price, the ETH market still appears to be fairly active, with increased leverage and speculation set to increase further.

The Rise of a New Era of Ethereum: Great Engineering

Ethereum: Put and Call Option Open Interest

On-chain merge

After the merger, the end of the Ethereum PoW era marked an immediate drop in Mining difficulty to zero. The process is instantaneous, with no buffer period and no difficulty adjustments. PoW Miner revenue has evaporated, leaving only a slew of GPU and ASIC Mining machines looking for new uses.

The Rise of a New Era of Ethereum: Great Engineering

Ethereum: Mining Difficulty

PoS uses validators instead of Miners. These validators set up committees programmatically to generate a slot every 12 seconds. Each epoch contains 32 slots, that is, a cycle is generated every 6.4 minutes. Only one valid block can be created per slot, and a validator in each slot is randomly selected as the block proposer, who is responsible for creating a new shard block and sending it to other nodes on the network. However, if for some reason the validator is offline or inaccessible at the time, it will result in a Missed Block.

The Rise of a New Era of Ethereum: Great Engineering

Ethereum: Missed Blocks

We can measure the uptime of the validator network using the “participation rate” metric, which is the ratio between the number of blocks that were successfully generated (i.e. not missed) and the total number of slots available. As shown in the graph below, the participation rate to date has been well over 99%, which has been the norm for the beacon chain. As on-chain load increases and more validators join, the “participation rate” will be a performance metric to watch.

In the weeks leading up to the merger, we saw a slight drop in participation, down from the previous level of 99% to around 97.5%. After the merger, the participation rate returned to over 99%, indicating that the merger caused only a brief disruption to a small number of validators.

The Rise of a New Era of Ethereum: Great Engineering

Ethereum: Participation Rate Indicator

The number of verification votes on the chain tip also dropped briefly before the merger, but again returned to the expected range of 32,000 to 38,000 verifications per hour. This could be a node issue for a large staking operator, or a software client bug where many validators were affected for a short period of time.

The Rise of a New Era of Ethereum: Great Engineering

Ethereum: Number of Verifications

There are currently over 429,600 active validators on the Ethereum network. The graph below shows the number of active validators over the past 6 months, and you can see that the gradient of new validators has increased significantly before and after the merge. More than 11,360 validators were active online in September alone, a sign that investor confidence is growing as concerns over technical issues with the merger fade.

The Rise of a New Era of Ethereum: Great Engineering

Ethereum: Active Validators

When validators choose to join or leave the staking pool, they are limited by the protocol’s total churn of Epoch validators. The graph below shows this cap (blue trace) along with a barcode-style graph that shows the daily change in active validators. We can see that there have been a few epochs in the past where the influx of validators was capped.

The explosion of new validators in September was significant, but still relatively minor compared to the influx of 2021.

The Rise of a New Era of Ethereum: Great Engineering

Ethereum: PoS changes among active validators

There are 429,600 active validators in total, and there are now over 14.586 million ETH staked, accounting for 12.2% of the total ETH supply. The total amount of staked ETH will change over time for the following reasons:

  • New deposits, final withdrawals (after the Shanghai upgrade)
  • Issuance and fee income (balance increase)
  • If validators frequently miss blocks or proofs (balance reduction), trigger a state of emergency: inactivity leak
  • Reduction penalty for malicious nodes (balance reduction)

The total staked balance is distinct from a new metric called effective balance, which is the part of ETH that actively participates in consensus. Effective staking is capped at 32 ETH per validator, reduced to the nearest 1 ETH increment in the event of an inactivity leak or slash.

The current total effective balance is 13.801 million ETH, so the effective pledge rate is 94.6%.

The Rise of a New Era of Ethereum: Great Engineering

Ethereum: PoS Total Stake and Effective Balance

Most of the pledged ETH is hosted by various pledge service providers we monitor, with 10.071 million ETH (69.04% of the total). The top 4 service providers are Lido, Coinbase, Kraken, and Binance, which manage 8.18 million ETH staked, or 56.08% of the total staked volume.

We monitored Rocketpool, one of the newest growing staking pools. Rocketpool is a distributed validator node operator that competes with market leader Lido. Rocketpool is small but growing, hosting 228,200 ETH, or 1.56% of the total pledged to date.

The Rise of a New Era of Ethereum: Great Engineering

Ethereum: Total value of ETH2.0 pledged by service providers

Ethereum Supply Growth Declines

One of the most talked-about elements of the merger is the sharp drop in supply, which, combined with the destruction of EIP1559, is expected to result in some degree of ETH deflation.

Since the creation of the Beacon Chain on December 1, 2020, Ethereum has actually had two sources of supply, the PoW chain and the PoS chain. In August 2021, EIP1559 was implemented, creating a fee burning feature on PoW chains, which has now moved to PoS chains.

The graph below shows the daily net issuance of ETH under various simulated and real conditions. This chart attempts to model and visualize the daily net change in ETH supply since the implementation of EIP1559.

  • The area chart shows the issuance of PoW and PoS under actual conditions, the destruction of EIP1559, and illustrates the depreciation of PoW. Positive values ​​(green) indicate periods of net inflation (the typical case), and negative values ​​(red) indicate net supply contraction (ETH deflation).
  • Simulation of the continuation of the PoW blockchain (yellow), assuming that the PoS merger never happens, and assuming 2 ETH is issued per block (ignoring uncle block rewards for simplicity).
  • Only the PoS chain (blue) is simulated, assuming the merge happens at the same time as the EIP1559 release in August 2021, thus ignoring all PoW block rewards after this date. This trace is now aligned with the merged area chart.

It can be seen that the issuance rate of the PoS model (blue) is significantly reduced, about 772 ETH/day, while the issuance rate of the PoW model (yellow) is about 12,500 ETH/day. However, it is worth noting that the current net issuance of ETH is still inflationary. This is mainly due to extremely low blockchain congestion and current low network utilization.

The Rise of a New Era of Ethereum: Great Engineering

Ethereum: POS Net Supply Change

By zooming in on the 1-hour chart from the consolidation event, we can calculate the net supply reduction that has occurred. Between the merger and the writing of this article (about 4 days after the fact):

  • The PoW Ethereum chain will issue about 48,400 ETH.
  • The PoS chain has issued 3,893 ETH online, a 92.8% reduction compared to the deprecated system.

After the merger, the surge in block space demand did push up average gas fees, which caused a 12-hour net ETH net supply deflation. However, as the congestion cleared and gas fees returned to lower levels, the total ETH supply continued to increase, albeit at a much slower pace compared to the previous PoW.

The Rise of a New Era of Ethereum: Great Engineering

Ethereum: Consolidated Supply Dynamics

Ethereum merger is a historic success

The Ethereum merger was a historic success. Years of dedicated research, development and strategy have now come together to achieve an extraordinary feat of engineering.

Currently, there are a plethora of new metrics for on-chain analytics to explore and characterize the new consensus mechanisms and performance of this second-largest cryptoasset. Of these, new supply dynamics are of particular interest due to tensions and market forces between the constant emergence of new validators (increased issuance) and the burning inflation or deflation of ETH supply via EIP1559’s network congestion fee.

Posted by:CoinYuppie,Reprinted with attribution to:
Coinyuppie is an open information publishing platform, all information provided is not related to the views and positions of coinyuppie, and does not constitute any investment and financial advice. Users are expected to carefully screen and prevent risks.

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