PYMNTS Blockchain Series: What Is Ethereum?

Over the course of this series of articles, we are going to look at the top blockchains in cryptocurrency, with a goal of helping you understand what they are, how they work, what they do, and what their pros and cons are.

You’ll come out of this series not only with a better sense of what cryptocurrency is all about; You’ll understand why the way a token works — the way its blockchain processes transactions — is key to its success or failure as a digital asset.

See also: PYMNTS Blockchain Series: What is Cosmos?

So, what is Ethereum?

Ethereum is where cryptocurrency ends and blockchain begins.

That may be a little overdramatic, but the reality is that before Ethereum, blockchains were something of a one-trick pony. They were decentralized digital ledgers that were very, very good at creating an unalterable, time-stamped record of transactions that allow two parties to transact without trusting either a third party or each other, and without risking double-spending.

In other words, starting with Bitcoin’s “genesis block” launch on Jan. 3, 2009, crypto was all about currency — making peer-to-peer payments.

That changed on July 30, 2015, when Ethereum’s mainnet went live with its own block zero, transforming blockchain technology from a digital ledger into what Ethereum’s lead creator, Vitalik Buterin, likes to call a “world computer.”

See also: PYMNTS Crypto Basics Series: What’s a Blockchain and How Does It Work?

That is because Ethereum is vastly more than a store of value or record of events.

Ethereum is a smart contract platform, meaning that it can be used to create self-executing agreements that are written onto an immutable blockchain. When the conditions specified in a smart contract are met, it automatically executes, fulfilling the terms without any outside human control or oversight.

See also: PYMNTS DeFi Series: What Is a Smart Contract?

Practically, that means Ethereum can be used to trade options and futures, sell a video or a car, track shipping containers around the world or heads of lettuce from farm to table, bet on football games, create crop insurance plans that automatically pay out when the temperature dips below freezing — essentially any form of commerce or anything that involves managing a supply chain can be done cheaper, faster and more accurately.

The If/Then World

Smart contracts are written in what computer coders call “if/then” statements, which are the heart of pretty much any commercial transaction or contract: “If John pays Mary $5,000, then Mary will give John a car” or “If the National Weather Service reports that the temperature fell below freezing on Steve’s farm for three days running, Acme Crop Insurance will pay him the value of the damaged produce.”

The thing is, pretty much every computer programming language is made up of if/then statements. That means Ethereum’s if/then statements — if made complex enough — can be used to create whole decentralized applications, known as DApps. So a cryptocurrency exchange, a video game, even a whole metaverse virtual world can be built in Ethereum’s Solidity smart contract programming language.

This is why decentralized finance, or DeFi, is built on Ethereum or blockchains trying to be a better, faster or more scalable version of Ethereum. The smart contract programming is sophisticated enough that DApps can be built complex enough to run without any centralized human input of any kind — no owners, no managers, no governance personnel at all.

Also read: PYMNTS DeFi Series: What Is DeFi?

That’s where Buterin’s “world computer” idea comes from — Ethereum can be used as a decentralized computer.

One twist on this is that smart contracts don’t exactly run on the Ethereum blockchain. Ethereum has something called the Ethereum Virtual Machine, or EVM. This is a virtual environment separate from the core transaction record part of the blockchain where smart contracts live and can interact — where they execute.

Ether Tokens

Ethereum’s native token, ether, makes it the No. 2 blockchain by market capitalization. Which obviously means a lot of people have invested in ETH, as ether is known on crypto exchanges.

That said, ether is one of only two cryptocurrency tokens the US Securities and Exchange Commission agrees are not securities, but “utility tokens” that serve a specific purpose within a crypto ecosystem. That is, they give the holder the right or ability to use a service or product on a blockchain.

In ether’s case, this purpose is to create smart contracts.

To be self-executing, a contract has to pay out automatically when the specified conditions are met. The way this works is that when a smart contract is agreed to, the buyer “locks” a certain amount of ether into the contract.

As smart contracts, like everything else on blockchains, are immutable — meaning unchangeable — the parties can trust that payment will be made because it already has been: If well written, the contract only executes when the conditions are met or when it expires (if it does), returning the locked ether to the person who deposited it.

Wide Open

One of Ethereum’s biggest strengths is that you can build a DApp or protocol on it without having to use ether tokens. Instead, developers can create their own tokens using a tech specification called ERC-20, and those tokens will work just as effectively — but only for that DApp or protocol.

And in fact, there are many other tech specs that are Ethereum compatible, although ERC-20 tokens are by far the most common. Another one that is gaining a lot of traction is ERC-721 — the standard for nonfungible tokens (NFTs).

Read also: PYMNTS NFT Series: What Are NFTs and Why Are They Crypto’s Newest ‘Next Big Thing?’

It’s worth mentioning that most of the top “Ethereum-killer” blockchains that are trying to be improved versions of Ethereum — which has several Achilles’ heels — use Ethereum token standards and are also EVM compatible.

The latter because it allows them to be written in the same Solidity programming language. That in turn makes it easier to woo DApp developers to port a project over to their blockchain.

See also: PYMNTS DeFi Series: What Are the Top DeFi Blockchains?

The Achilles’ Heels

Ethereum has two big problems: Scalability and power consumption.

Scalability is why Ethereum-killer blockchains like Polkadot, Solana, Cardano and Polygon are eating at least a little of Ethereum’s lunch.

Read here: PYMNTS Blockchain Basics Series: What is Polygon? An Ethereum Killer Hedges Its Bets

Simply put, Ethereum isn’t fast enough. It can only handle 12-15 transactions per second, far too little to ever be a threat to the likes of Visa’s top speed of 65,000 TPS.

And as it is by far the most popular blockchain platform, it is being crushed under the weight of its own success, with delayed transactions at peak times and transaction fees soaring — at this writing they average nearly $11 and have spiked as high as $70.

Read more: PYMNTS Crypto Basics Series: What’s a Consensus Mechanism and Why Is It Destroying the Planet?

Then there’s power and pollution — while not as bad as Bitcoin, Ethereum uses a proof-of-work consensus mechanism (see the link above) to mine new ETH and write new transactions onto the blockchain — which requires an enormous amount of power. Again, at this writing, about as much as the Netherlands.

There is a solution however: Ethereum 2.0. But that’s another story.

Another story: Can Proof-of-Stake Solve Crypto’s ESG Problem?

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