Case Study: Ether (ETH)

Background

Since emerging in 2009, Bitcoin and its core operating technology, blockchain, have laid the foundation for a new era of digital peer-to-peer transactions. But it would be years after the advent of Bitcoin that the true power of blockchain technology would be realized.

In late 2013, Vitalik Buterin, an unknown Russian-Canadian programmer involved with Bitcoin and the crypto community released a white paper that changed the game: Ethereum: A Next-Generation Smart Contract and Decentralized Application Platform. According to Vitalik, the Bitcoin community was approaching blockchain technology in the wrong way. He believed that blockchain applications were being designed to do an extremely limited set of operations.

I thought [those in the Bitcoin community] weren’t approaching the problem in the right way. I thought they were going after individual applications; they were trying to kind of explicitly support each [use case] in a sort of Swiss Army knife protocol.

Bitcoin, for example, was developed solely to operate as a peer-to-peer digital currency. Developers were either required to expand the set of functions offered in existing applications (a time-consuming and challenging process) or develop an entirely new platform altogether. An equally time consuming and expensive endeavor.

To overcome the technological limitations which were ultimately holding back the development of new blockchain-based applications, Vitalik and a small core team developed Ethereum - A NextGeneration Smart Contract and Decentralized Application Platform.

From humble beginnings, Ethereum has grown into a well known and widely used platform. Ether, the native Ethereum currency and Bitcoin’s chief rival has dramatically increased in value. The platform has also been responsible for launching hundreds of other cryptocurrencies and decentralized projects in recent years through a new fundraising mechanism called an Initial Coin Offering (ICO).

Like Bitcoin, Ethereum is a public blockchain network. They both rely on a blockchain to operate. Think about the Internet. You can build lots of different applications on top of it like email, online shopping sites, and Facebook.

The major difference between Bitcoin and Ethereum, however, is their purpose. Whereas Bitcoin provides one specific function, peer-to-peer electronic Bitcoin payments, Ethereum offers a platform that enables developers to build and deploy other decentralized applications. You could, for example, build another Bitcoin type currency on Ethereum.

In a nutshell, Ethereum is an open software platform based on blockchain technology that enables developers to build and deploy decentralized applications. As Vitalik states,

Rather than being a closed-ended, singlepurpose protocol intended for a specific array of applications in data storage, gambling or finance, Ethereum is openended by design, and we believe that it is extremely well-suited to serving as a foundational layer for a very large number of both financial and non-financial protocols in the years to come.

The blockchain technology is a new type of Internet where you can build lots of different applications. Bitcoin and Ethereum are just two examples. A decentralized application or Dapp for short, in this context, refers to an application that is built on top of blockchain technology. Bitcoin is a decentralized cryptocurrency application for payments, for example.

Decentralized applications run on a blockchain and benefit from all of its properties like immutability, security, tamper resistance, and zero downtime. Essentially any service could be turned into a decentralized application. The possibilities are endless.

Bitcoin is dedicated to being built to resolve the payment problem, whereas Ethereum is being built to resolve a software engineering problem.

As a blockchain Ethereum evolves for the sake of software engineering; cryptocurrency is just a byproduct

Ethereum helped propel the decentralized application movement forward beyond Bitcoin and first-generation decentralized applications. The white paper written focuses on the movement toward next-generation decentralized applications or as Vitalik calls it, ‘Bitcoin 2.0’. The paper also describes the Bitcoin protocol, its shortcomings, and briefly introduces how Ethereum addresses these shortcomings.

In the immediate years following Bitcoin’s emergence, new platforms were developed like colored coins, Mastercoin, Bitshares, and Counterparty in an attempt to offer a more advanced set of functions for users. The problem according to Vitalik was that these platforms were still very narrow in focus.

Up until this point all of the protocols that have been invented have been specialized, attempting to offer detailed feature sets targeted toward specific industries or applications usually financial in nature.

While Bitcoin offered one specific application of blockchain technology, a peer-to-peer electronic cash system that enables online Bitcoin payments, and other Dapps like colored coins, Mastercoin, Bitshares, and Counterparty all offered a set of slightly more extensive features, Vitalik believed this was not enough.

Although he believed that Bitcoin was indeed revolutionary and capable of its intended task, he thought it was not a particularly good foundation to build any other applications. Vitalik noted that developers were using three limited approaches to building applications. They were either:

• building a new blockchain, or

• using scripting on top of Bitcoin, or

• building a meta-protocol on top of Bitcoin

These approaches all came with limitations. Building a new blockchain allows for unlimited freedom in building a feature set, but at the cost of development time and bootstrapping effort. Using scripting is easy to implement and standardize, but is very limited in its capabilities, and metaprotocols, while easy, suffer from faults in scalability. With Ethereum, we intend to build a generalized framework that can provide the advantages of all three paradigms at the same time.

So, herein lies the intent of Ethereum. To merge and improve upon the approaches outlined above thus enabling developers to build consensus-based decentralized applications with greater ease.

Ether (as a cryptocurrency) is just a part of the mechanics to resolve a software engineering problem

Ethereum enables developers to build whatever decentralized applications they want. According to Vitalik Buterin,

Ethereum does this by building what is essentially the ultimate abstract foundational layer: a blockchain with a built-in Turing-complete programming language, allowing anyone to write smart contracts and decentralized applications where they can create their own arbitrary rules for ownership, transaction formats and state transition functions.

There are five main elements that enable Ethereum to do what it does. They include:

• Smart Contracts

• The Ethereum Virtual Machine

• Solidity

• Ether

• Proof of Work

A smart contract is just a bunch of code that manages the exchange of anything of value from property and shares to information and money between parties. Smart contracts run on top of the Ethereum blockchain precisely as programmed and become like autonomous agents that execute when previously specified conditions are met.

In Bitcoin, for example, users can only make a simple demand like - send one bitcoin from Alice to Bob. In Ethereum, however, it’s possible to create a contract that says send one ether to bob if the date is 25th October 2017 and Bob’s current balance is more than 20 ether. The cool thing about smart contracts is that they self-execute exactly as designed by their creators once certain conditions are met. And this is just a simple example. Creating a smart contract with infinitely more complicated conditions is possible as well.

Smart contracts are powered by the Ethereum Virtual Machine (EVM) and by Ether. The EVM includes a Turing complete scripting language which means that it can solve any computation problem.

The EVM turns Ethereum into a programmable blockchain, keeping all the smart contracts running on time and coordinating them with the rest of the network. In doing so, the EVM enables the development of potentially thousands of different applications all on the Ethereum platform.

Ethereum has its own programmable language called Solidity which is similar to JavaScript. It enables developers to write programs (smart contracts) on Ethereum and is designed to enhance the Ethereum Virtual Machine (EVM).

In the Ethereum blockchain, instead of mining for bitcoins, miners work for Ether. Ether is a necessary element for operating the Ethereum network. It’s like a fuel that provides an incentive to ensure developers write quality applications and the network runs smoothly. Beyond a fuel that enables decentralized applications to run, Ether is also a tradeable cryptocurrency.

In Ethereum, Ether is used by developers to pay for transaction fees for services and storage on the network. Every computation on the platform as a result of a transaction has a fee, and the more you need to store the more is paid.

This is because computations and file storage place a strain on the network. So, fees are there to discourage developers from excessively using the network. Without fees to drive user’s actions, the Ethereum network simply couldn’t function.

So, think of Ether like the crypto-fuel that powers the Ethereum network.

Ether gets issued at a constant rate through the block mining process. This rate along with the total supply of Ether was decided during the 2014 presale.

• 60 million Ethers were purchased by in the 2014 crowdfunding campaign

• Another 12 million went to the Ethereum Foundation

• Supply is not infinite

• A maximum of 18 million Ether are mined per year

• Every 12 seconds, 5 Ethers (ETH) are given to the miners that verify transactions on the network

Reaching consensus on Ethereum, from Proof-of-Work to Proof-of-Stake

For a decentralized system like Ethereum to operate without any central intermediary, there needs to be a way for the network to agree about which transaction records are valid to deter any abuse of service attacks like spamming.

Like the Bitcoin network, Ethereum relies on Proof-of-Work protocol to reach consensus about which transaction records are the real deal. This is set to change to a Proof of Stake (PoS) protocol in 2022.

Proof of stake does away with miners and replaces them with “validators.” Instead of investing in energy-intensive computer farms, you invest in the native coins of the system. To become a validator and to win the block rewards, you lock up—or stake—your tokens in a smart contract, a bit of computer code that runs on the blockchain. When you send cryptocurrency to the smart contract’s wallet address, the contract holds that currency, sort of like depositing money in a vault.

Ethereum’s proponents claim that a key advantage Proof-of-Stake offers over Proof-of-Work is an economic incentive to play by the rules. If a node validates bad transactions or blocks, the validators face “slashing,” which means all their ether are “burned.” (When coins are burned, they are sent to an unusable wallet address where nobody has access to the key, rendering them effectively useless forever.)

Proponents also claim that Proof-of-Stake is more secure than Proof-of-Work. To attack a Proof-of-Work chain, you must have more than half the computing power in the network. In contrast, with Proof-of-stake, you must control more than half the coins in the system. As with Proof-of-Work, this is difficult but not impossible to achieve.

A versatile blockchain, after all

Until the advent of Ethereum, it was challenging to develop new Dapps. But thanks to Ethereum, developers can build and deploy all sorts of decentralized services. There are potentially thousands of other applications that could disrupt hundreds of industries like finance, academia, real estate, insurance, healthcare, and the public sector . Essentially, any intermediary type service in the real world today could be redesigned using Ethereum.

The white paper splits use cases into three main categories.

• Financial applications - “This includes subcurrencies, financial derivatives, hedging contracts, savings wallets, wills, and ultimately even some classes of full-scale employment contracts.”

• Semi-financial applications - “where money is involved but there is also a heavy non-monetary side to what is being done; a perfect example is self-enforcing bounties for solutions to computational problems.”

• Non-financial applications - “applications such as online voting and decentralized governance that are not financial at all.”