Over the years there has been no small amount of chatter, infighting and discussion about the second largest cryptocurrency in the world: Ethereum. This is my attempt at demystifying the abstraction while making the case for Ethereum’s success.
- Ethereum is a decentralised blockchain protocol with three use -cases: financial markets, mid-tier financial applications and non-financial applications.
- The bull case is simply that Ethereum continues to power the decentralised financial business and ecosystem.
- The bear case is a failure to scale or protocol-breaking bugs manifesting in the Ethereum 2.0 rollout.
Contrary to popular opinion, the cryptocurrency ecosystem is not a zero-sum game whereby one winner takes it all. In reality, only a fraction of cryptocurrencies aim to be a store of value and medium of exchange, most of which have lost to bitcoin. The term ‘cryptocurrency’ is actually misleading and it would be more appropriate if it were called an ‘open protocol ecosystem’ or something to that effect.
In any case, Ethereum is the second largest crypto in market capitalisation valued at $240 billion at the time of publishing. It is not ‘silver to bitcoin’s gold’ and neither are even competitors despite what you might have read.
On the one hand, Bitcoin’s value proposition is as a store of value – seamless, tamper-proof and absolute. It is blockchain technology (hate the term as I do) applied to money. On the other hand, Ethereum is a platform for building decentralised applications on the web. In essence, it is an industry application layer and has more in common with a low resolution operating system than with Bitcoin. Using solidity, developers can program anything on the Ethereum blockchain and send it live into the aether at the click of a button, pun intended.
An Ethereum smart-contract is an automated process that executes a function once a pre-defined condition(s) is met. It is the basis of decentralised exchanges like Uniswap, lending and insurance protocols, financial derivatives, supply chain management, decentralised file storage, non-fungible tokens and other organisational structures that are better off functioning on the Ethereum protocol.
In a way, Ethereum is a platform which ensures that promises will be kept.
The Three Applications
As briefly mentioned, Ethereum has three broad applications: financial markets, mid-tier financial applications and non-financial applications.
Decentralised finance exists because of Ethereum. The platform disintermediates banks and financial service organisations using stablecoins, financial derivatives, coin offerings, lending protocols and other financial instruments. Collateralised stablecoins give anyone on earth access to dollars and asset ownership such as property. Individuals are able to take out a loan using a lending protocol like Compound or conduct a coin offering to fundraise a project without a bank or access to traditional venture capital avenues. They’re also able to trade financial derivatives on an exchange that never shuts down and at a low cost. Contrary to traditional centralised services which are inundated with fees, commissions, fund management costs and counterpart risk, Uniswap fees are far lower (when the Ethereum network isn’t clogged). Admittedly, fees are still a work in progress. The trade-off is that an individual must take ownership of his/her financial situation. Uniswap is the top peer-to-peer exchange that currently moves $1 billion in daily volumes.
To my mind, this is by far the strongest fundamental bull-case for Ethereum.
Mid-tier financial applications
Insurance protocols such as Etherisc will automatically release funds to an insured individual once the data feed shows that conditions are met. Other processes which are time-sensitive such as premiums for delayed or cancelled flights can be completely automated. Recently, the Non-fungible-token craze (NFT) showed that musicians and artists can tokenise their art and offer them directly to fans, raising profit margins and disintermediating management companies. While there is no shortage of frothiness and fluff, the use-cases can be applied to both money and non-financial things like art or travel insurance.
Two examples of non-financial applications include Decentralised Autonomous Organisations (DAOs) and decentralised file storage. With a DAO, voting rights are determined by the percentage of tokens owned to a native blockchain. Company decisions are made using a voting smart-contract system that is on the blockchain, removing any legal uncertainties and possibly any need for a board of directors depending on the business model. Additionally, file storage systems can rent out their disc space and receive tokens of that blockchain as compensation, similar to what torrents did to the internet (but with an incentive mechanism). Filecoin is one such storage protocol.
The Bull Case
The bull case for Ethereum is simple: global & borderless disintermediation of web applications. One does not need a bank to get a loan with proof of collateral on the blockchain. An entrepreneur doesn’t need to organise a fund-raising event to get a project up and running. A would-be property investor doesn’t need a bank to own a piece of commercial property. Using Ethereum, one does not need to use a centralised broker to buy and sell securities. Artists do not need to rely on management firms when they can tokenise art and sell it directly to fans.
Since disintermediation is a base-layer for all sorts of trades on the web, the list is practically endless. Every centralised solution charges fees for operational costs and has a single point of failure. Ethereum remedies this and companies can utilise the public service to varying degrees.
The bull case for Ethereum requires that the trend of digital decentralisation popularised by the early days of web 2.0 continues. Today, Ethereum runs a robust parallel decentralised financial system that cannot be shut down and which everyone with an internet connection can access.
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The Bear Case
The two main threats to Ethereum are simple: a protocol-breaking bug in the code as Ethereum 2.0 rolls out and scalability.
Unlike bitcoin, Ethereum has not yet reached critical mass and must continue to develop apace with its competition without resting on its laurels. Still ,it is the most active smart-contract platform on the market and developers continue to favour it over other platforms like Cardano, Binance Chain, EOS and Tron. In all likelihood, Ethereum will stay ahead for the foreseeable future because of its developed ecosystem, network effects and first-mover advantage.
However, bitcoin smart contracts could potentially pose a threat to Ethereum’s continuity, though this is far less of a threat than the issue of scalability in my view (due to the dominant dApp ecosystem being on ETH). If scaling solutions like EIP-1559 and Optimism are a flop, then capital could flow out from Ethereum to centralised options (Binance Chain) which offer low fees.
These scenarios seem unlikely.
Putting it all together
The prevailing narrative is that artificial intelligence will make everyone redundant as big tech, banks and financial conglomerates incorporate more algorithms into their all-encompassing services. Many people think that these monopolies are absolute and will simply expand their margins forever.
Instead, the opposite is true.
Bitcoin and Ethereum are decentralising money, financial markets and businesses as we speak. Their success stands in direct contradiction to the prevailing narrative and this is happening, as demonstrated above. Anyone with an internet connection and fleeting attachments to old ideas of money can pack up and leave the traditional system immediately.
As such, my take is simple: Bitcoin is immutable sound money and Ethereum is the world’s biggest decentralised application layer. If someone were to ask me if I could own a piece of TCP/IP before the internet became popular I’d be quite interested.
Of course, it goes without saying that Ethereum is not a panacea. The platform is constantly developing and it has not reached critical mass yet as bitcoin arguably has. Ethereum will most likely have to go through more scrutiny over the years similar to bitcoin’s 2017 scalability debate and hard-forks. Indeed, this moment is fast approaching and will weigh in on a fundamental question: is the future a world in which bitcoin is both sound money and a smart contract platform or will there be a select number of interoperable protocols which optimise for different use-cases? I think the latter is probable.
In conclusion, it’s clear that bitcoin is the dominant monetary network and Ethereum is the dominant application network. Those investors still asking about the ‘next bitcoin’ should stop immediately and should instead turn their attention to industries primed for disruption, whether it’s gambling, insurance or something totally different.
This is not financial advice.
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