What are the advantages of storing value on Ethereum compared to Bitcoin?

Original Source: Unitimes Unicorn Era

Original Author: Michael McGuiness

Original Compilation: Nanfeng

Original Title: "Thousands of Words Explain ETH Will Win the Battle of Value Storage"

Thanks to __Justin Drake__ for inspiring many of the ideas in this article and for reading drafts of this article.

For years, I have argued that Bitcoin has the most asymmetric risk-reward risk of our lifetimes. Its unique properties make it the best store of value in the world. Its hard-to-replicate network effects make it unlikely that another cryptocurrency will replace it.

As of September 2020, Bitcoin is the only cryptocurrency I hold. Its TAM (Total Available Market) as a store of value was once so huge that it didn't make much sense to allocate capital anywhere else. The broad store of value market could be as high as $400 trillion, and it once struck me that Bitcoin is extremely likely to gain a large percentage of the "money premium" from:

• Gold ($10 trillion)
• Bonds ($100 trillion)
• Stocks ($30 trillion)
• Real estate ($200 trillion)
• Broad money ($100 trillion)
• Art, wine, collectibles ($20 trillion)

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I used to think, what could compete with this advantage? Also, most other cryptocurrencies are scams, and the few legitimate projects don't seem to have found product-market fit yet.

Then, at the urging of a friend, I reluctantly started buying some ETH. Don't get me wrong, smart contracts and decentralized applications (Dapps) are cool. But at the time it seemed to me that Bitcoin would win the store of value use case, which was the expected outcome, the ultimate reward. I was also not sure how Ethereum's native asset (ETH) would grow in value.

A few months ago, this view of mine started to change. As nearly anyone in the crypto space can attest, once you own something, you pay more attention to it. (Ethereum) Two developments caught my attention: 1) Ethereum's move to proof-of-stake (PoS); and 2) a change in the protocol's monetary policy. I quickly realized that these changes would have a huge impact on the monetary properties of ETH, possibly even making it a better store of value than BTC.

Of course, I was skeptical at first. After all, Bitcoin already has such a huge lead. It’s a household name, it’s the safest in terms of network computing power, and large institutions like Tesla, MicroStrategy, and MassMutual have started adopting it as a reserve asset. Can Ethereum Really Catch Up?

But the more I read and think about it, the more I think the more likely ETH is as a store of value. I quickly converted most of my BTC to ETH and decided to write this post to clarify my thinking.

In my opinion, Ethereum will win the store of value battle for four main reasons:

1. More scarce

2. Safer

3. Organic demand

4. Actual benefits

I realize that such a suggestion might be considered blasphemy against Bitcoin maximalists. I support these maximalists in many ways, such as the need for an entirely new asset that allows people to preserve their wealth over time. However, I'm not that dogmatic about how to achieve this. I end up backing the asset I think is the most likely. To paraphrase Paul Tudor Jones, Ethereum looks like the fastest horse right now.

01. More scarce

1. Value store

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In my previous article "Why Bitcoin Makes Sense" (Why Bitcoin Makes Sense) 1 I wrote a lot about what makes a good store of value so I won't spend too much here Time to discuss definitions.

The basic premise is that money is simply a technology that allows our wealth today to be spent tomorrow. Thus, over time, the "best" currency gives holders the most purchasing power. Several factors affect the suitability of a monetary commodity as a store of value, but the most important factor is supply growth or scarcity.

Have you ever wondered why gold is the primary store of value in human history? Why not silver, copper, or one of the other 118 elements? The main reason is scarcity. The annual growth rate of gold supply has historically hovered around 2%. Only silver has been able to grow at 5-10% per annum and it is currently around 20%. The extremely low growth rate of supply allows gold to retain its purchasing power over time better than anything else, and the world finally recognizes gold as a store of value.

For millennia, gold was the best we had at our disposal (store of value) because it was a monetary commodity with limited supply that could Holds its value over time. However, the invention of Bitcoin created the first ever truly scarce form of money. Bitcoin has a precise supply of 21 million bitcoins, which can be audited by anyone with their home computer. Bitcoin takes away what gold has that it does better than anything else, and builds on it with an order of magnitude improvement. However, Ethereum may do the same to Bitcoin, by moving to Proof of Stake (PoS), and its upcoming changes to its gas management.

2. Monetary Policy of Ethereum & EIP-1559

Current Ethereum Annual The network issuance (i.e. inflation rate) is about 4.5%, each block is 2 ETH, and each uncle block (plus fees) rewards miners with an additional 1.75 ETH. Ethereum does not have a fixed supply, because a fixed supply also implies a fixed network security budget. Rather than arbitrarily fixing Ethereum’s security, Ethereum’s monetary policy is best described as “minimum issuance to ensure network security”.

Bitcoiners (Bitcoin supporters) hate this ambiguity, because they believe that the bottom layer of the financial system should be stable. The development of Bitcoin is deliberately cautious and slow, and the total number of Bitcoin issued will not exceed 21 million.

But the Ethereum community believes in this sacrifice of short-term (issuance) stability for long-term network security, and the fact is that Ethereum does have the ability to reduce issuance to the lowest estimated level of history. Additionally, moving to PoS will drastically reduce the issuance of ETH while maintaining the same level of network security. I'll elaborate on this later, but Vitalik has a great article on his blog 2, explains how PoS can provide more security at the same cost.

According to the current Eth 2.0 specification, as part of PoS, the issuance rate of Ethereum will be greatly reduced. New ETH issuance will be issued by validators who have pledged ETH by processing transactions and reaching a consensus on the state of the network, rather than handing it over to miners, and there will be a floating ratio between the total amount of ETH pledged and the annual interest rate of the pledger. The current specification will generate the following annual interest rate and inflation rate based on the total amount of network ETH pledged:

Basically, we can expect that after the PoS transition, the annual network issuance (i.e. inflation rate) will go from ~4.5 today % down to less than 1%. The graph below highlights this huge drop:

But this is still higher than bitcoin, which is capped at 21 million bitcoins and has a long-term inflation rate of 0%. So, how exactly will Ethereum become more scarce? Well, there's more. Ethereum has begun to address many of the concerns surrounding its monetary policy with the release of Ethereum Improvement Proposal EIP-1559, dubbed “Ethereum’s Scarcity Engine” or “ETH’s Burn Mechanism.”

EIP-1559 will be implemented this July as part of Ethereum's upcoming London hard fork. Digging into the details of this proposal is beyond the scope of this article, but the key aspect to note is that, in addition to improving the user experience with Ethereum gas fees, EIP-1559 will burn (destroy) a portion of ETH transaction fees. This permanently removes a portion of the ETH supply from circulation and reduces the daily net issuance of ETH.

An analysis of network transactions last year showed that EIP-1559 will burn nearly 1 million ETH in 365 days, which is almost equivalent to 1 of the entire network circulation %. Many expect this number to increase over time as demand for Ethereum transactions grows. So when this is combined with the lower issuance rate (less than 1%) that PoS brings, Ethereum will actually have a deflationary monetary policy.

This has led to the recent emergence of the new meme (meme) "ultrasound money" (ultrasound money) in the Ethereum community, which was created by Ethereum researcher Justin Drake. The term is a bit silly, but Drake's point is that if bitcoin is "sound money" because its capped supply of 21 million makes it "sound money", then cryptocurrencies with a decreasing total supply should be even better, hence the "ultrasound money "This word.

Ethereum will be a more scarce asset in the long run. However, I may be more bullish on the short term. With the removal of PoW, the issuance of ETH will drop by about 90%. This has been estimated to have the equivalent of three Bitcoin "halvings" in terms of (Ethereum) miner selling pressure.

3. Stock-to-Flow Ratio & Migration to PoS

To quantify the value of Bitcoin Scarcity and use it to model the value of Bitcoin, the best attempt comes from PlanB's stock-to-flow model (stock-to-flow ratio model) 3. Essentially, PlanB argues that scarcity (defined as supply growth rate) directly drives value, and that the scarcer an asset (i.e., the lower the supply growth rate), the more valuable it is. Here's a chart he created to prove his point (where "SF" stands for "stock-to-flow" and is calculated inversely to supply growth rate):

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Note: SF = Stock (stock) / Flow ( Flow); Supply Growth (supply growth rate) = Flow (flow) / Stock (stock). The inventory (stock) of an asset refers to the total amount of the asset currently circulating in the market; the flow (flow) refers to the amount of the asset that is newly circulated each year.

Shockingly, this SF model has held up remarkably well in the two years since his publication. In the chart below, the white line is the BTC forecast price, while the multi-colored dots represent Bitcoin’s price performance as of May 2021.

As we can see, based on the model, there are big jumps in the value of Bitcoin every four years. This is because the block rewards paid to Bitcoin miners are halved every 210,000 blocks (which happens approximately every 4 years. Since block rewards are the only way to mint new Bitcoins, the supply of Bitcoins grows It is halved every four years.

As PlanB articulates (and quantifies) in his article, the decline in Bitcoin supply growth (i.e. halving) is highly correlated with the surge in the price of Bitcoin. This may be because the halving directly reduces the selling pressure of miners in half. Because Bitcoin uses a resource-intensive PoW consensus mechanism, miners must sell Bitcoin to pay for their hardware and electricity costs. Therefore, when Bitcoin’s block reward was halved from 12.5 BTC to 6.25 BTC per block in May 2020, miners’ selling pressure dropped from **1800 BTC per day to 900 BTC per day. This means , the minimum BTC sold by miners per year is equivalent to about 1.6% of Bitcoin's market cap (about $18 billion in today's prices). Under such a large supply shock (drop), we will naturally see BTC Prices skyrocket until a new equilibrium level is achieved based on this reduced inflation rate.

Ethereum is also currently using a PoW consensus mechanism. But when it fully transitions to When PoS is adopted, the current annual issuance of about 4.5% of ETH will drop to less than 1%. This is equivalent to reducing the annual sales of Ethereum miners by about 3.5% of the market value of ETH (over $15 billion at today’s prices) .Furthermore, I expect less selling pressure as block rewards will be distributed to stakers (validators) who are not forced to sell (ETH) due to very low hardware and electricity costs. However, to be fair, Most stakers will still have to sell some ETH to pay income tax on rewards, so the market supply of new ETH will not go to zero.

Of course, There are many other factors besides scarcity that drive the value of an asset. The degree of acceptance by others is one of them. However, scarcity (at least for now) seems to be the most important factor affecting the value of commodity currencies , as it affects the sale of goods over time. On the other hand, security is also a critical factor. Just as gold does not rot, corrode, or undergo other types of deterioration, cryptocurrencies must pass proper Incentives are designed to last. After all, an asset that no longer exists in a few decades cannot be a store of value.

02. Safer

With gold, you don't have to worry about security. From unforgeability to non-double spend, the laws of physics apply to it. However, in the case of cryptocurrencies, you have to constantly incur costs (i.e. block rewards paid to miners/validators) to secure the network.

Take the bitcoin network as an example, a new block is created every 10 minutes. Each block contains newly minted BTC (the "block subsidy", currently 6.25 BTC per block) and transaction fees, which together form the "block reward". According to Bitcoin's hardcoded monetary policy, the amount of newly minted BTC per block decreases over time (halving every 4 years), eventually reaching 0% in 2140. When this happens, i.e. no new bitcoins are issued, the only compensation to miners will be transaction fees.

Many Bitcoiners (Bitcoin supporters) don't think this will be a problem, because when the block subsidy is exhausted, the dollar value of transaction fees will be high, so the security expenditure (of the Bitcoin network) will be sufficient Ensure network security. Bitcoin supporter Dan Held in his article Bitcoin's Security is Fine) 4 wrote:

"I guess, with In terms of the current value of US dollars, several hundred billion US dollars should be enough security budget, because it is difficult for a government to justify such a behavior by wasting so much money just to attack the Bitcoin blockchain. They Attacks like this must also be publicly responded to as their citizens (taxpayers), businesses and banks will invest in Bitcoin.”

He goes on to address some oft-raised concerns about relying solely on transaction fees for (Bitcoin) network security in the article. I agree with many of Held's points, and understand why Satoshi Nakamoto designed Bitcoin the way he did. Due to the PoW mechanism, there is always a tradeoff between inflation (block subsidy) and security. Bitcoin has made specific trade-offs that it will continue to pay less and less to its consensus engine (i.e. lowering the block subsidy) in order to maintain scarcity and limit the number of bitcoins to 21 million.

However, I disagree with Held that such dollar-denominated security spending matters, and support a recent reddit post by Vitalik Buterin5  Opinion written in:

“The security needs of a thing must be proportional to its size, because as a thing gets bigger, its enemies It will also become larger and more motivated. If BTC (market cap) is 100 times what it is today, then the value (cost) used to destroy it will increase by 100 times, and the attackers who want to destroy it will will be bigger and scarier. This is why all countries have a similar ratio of military size to their GDP. Therefore, in fact, the cost of attack divided by the market value is the correct number to measure. In the long run, (eventually) not issuing ( SGD) PoW does not look that good."

So let's see Held's most optimistic scenario is that Bitcoin "survives, thrives, and continues to grow exponentially in market share, as it has done for the past 10 years." In this hypothetical scenario, Bitcoin has a market capitalization of $100 trillion in 2140, and transaction demand for Bitcoin block space generates $365 billion in annual transaction fee revenue for miners (this is Security spending for the Bitcoin network at that time). See the picture below:

Is $365 Billion in Security Spending Really Enough to Protect the Bitcoin Network from Attack? Maybe. I'm really not sure and don't know what the world will look like in 2140. I'm pretty sure we can do better though. In the above hypothetical scenario, Bitcoin's PoW consensus mechanism would give Bitcoin a value-to-security ratio (i.e., the ratio of Bitcoin's market capitalization to annual security spending) of approximately 273 to 1. Under the Ethereum-based PoS consensus mechanism, we can get a value-to-security ratio of about 10 to 1. If Ethereum's market cap were to match Held's forecast for Bitcoin's market cap, the cost of a 51% attack on the Ethereum network would be equivalent to about $10 trillion, which is more than $365 billion in Held's forecast for Bitcoin. 27 times. And the only assumption in it is that about 10% of ETH is pledged, which seems reasonable; at the same time, Held's prediction assumes a 500% increase in Bitcoin block size, a 40% increase in efficiency, and users' interest in Bitcoin. Block space has a huge transaction demand.

In addition to the much lower value/safety ratio (note: the lower the value/safety ratio, the higher the attack cost), how is Ethereum doing? There is another major advantage in dealing with attacks. After suffering a 51% attack, the only option for the Bitcoin network was to move from the current Double SHA-256 ASICs to a new PoW system. This new system will have to be based on commodity mining hardware such as GPUs or CPUs as there is not enough time to manufacture hardware for another ASIC PoW system. Then the attacker can only perform the same 51% attack on normal hardware. Vitalik called this a "spawn camping attack," where a coalition of miners launching a 51% attack would attack continuously, rendering the chain useless. As far as PoW systems are concerned, there is no way to disrupt (or punish) an attacker's mining power.

Ethereum (and PoS more broadly) is less vulnerable to this attack. This is because the Ethereum network can "slash" or punish attackers. If the attacker does something bad, the network will punish the attacker by forfeiting their staked ETH. This is equivalent to letting Bitcoin destroy the attacker's mining equipment, which is obviously impossible for the protocol.

Ethereum actually has two slashing mechanisms. The first can be called "Layer 1" slashing, which is triggered if you (the validator) do something clearly wrong in the protocol (such as submitting two conflicting proofs), in this case , the Ethereum network will automatically forfeit at least one-third of your ETH pledge. This will deal with most potential attacks and redistribute ETH from dishonest nodes to honest nodes, making the system somewhat antifragile. If you look at it in terms of what is called an iterated game in game theory, every attack on the Ethereum system makes it stronger.

Assume the attacker wants to attack again. He has to get more ETH, attack again, and get slashed again. After each attack, the amount of ETH in circulation will decrease, so there is actually an upper limit to the number of times the system can be attacked. Let's say there are currently 100 million ETH in total, 10% of which is staked. For each attack, the attacker will have to purchase at least 10 million ETH, and each time he is slashed, he will have to go and reacquire another 10 million ETH. In the worst case, the attacker can only attack the system 9 times. Additionally, each attack will become increasingly expensive, as the price of ETH on the open market will likely increase as the supply decreases.

Similarly, this antifragility also exists at the level of a single game. If you want to attack the Ethereum network, you have to acquire 10 million ETH (using the simplified numbers from the example above). Due to a simple supply and demand situation, the more ETH you have to buy, the more expensive ETH becomes as there are fewer ETHs available for sale, creating diseconomies of scale, such as your second Buying 1% of the ETH supply for the first time costs more than your first purchase because there is less ETH available to sell after your first purchase of 1% of the ETH supply.

To allay the fear of a miner or pool getting 51% of the hashrate, a common argument (assumption) is that even if they get 51% of the hashrate , why did they attack? After all, attacking the network would destroy the "golden goose that lays eggs", which is not in their interest. But in reality, we can't assume this. This kind of argument not only assumes rationality, but also assumes that there are no external incentives. The whole point of having a high security level is to prevent attackers with external incentives from breaking the chain. This is why Vitalik's way of thinking about PoS security is "If they (the attacker) have X billion dollars, how many times can they break the chain before all their funds are forfeited?" This is not an assumption of rationality, It simply assumes that malicious actors have limited financial resources.

Perhaps the best argument I've heard in favor of PoW security is that its properties driven by physical hardware (mining rigs) give those well-capitalized Attackers increase resistance: you need to wait a year for these hardware to be manufactured, this process must involve many people, and you are in the process (note: that is, the process of gradually increasing your own computing power) The risk of detection is high. This is the real advantage of PoW. Having said that, physical hardware also has a key disadvantage: it is difficult to mine at scale without being detected, and PoS is more censorship resistant.

In terms of security, participating in Ethereum staking does not bring any "footprint", which is a huge advantage: to become an Ethereum validator, All you need is ETH, a Raspberry Pi, an SSD and internet connection. This is in stark contrast to Bitcoin, where being a miner comes with a massive "footprint": miners need to consume huge amounts of energy and use huge warehouses to store mining equipment. Such a “footprint” makes it relatively easy for governments to detect and shut down mining operations. Whereas in the case of Ethereum, you (the validator) can be anywhere in the world (maybe after passing through the Tor network, you can even hide your IP address). Even if a country were able to find and confiscate your physical Ethereum-verifying devices, those devices do not store your staked ETH: ETH exists only in the digital world and can only be confiscated by getting the owner to hand over their private keys.

People sometimes forget that when Satoshi Nakamoto created Bitcoin more than a decade ago, it was the world's first consensus system for PoW A successful attempt to create digital scarcity and incentive design. While the pseudonym "Satoshi Nakamoto" is clever, this person (or team) is actually human and it is impossible to reasonably anticipate all of the potential problems arising from Bitcoin's incentive design. Since then, more than 12 years of research and development in the field of blockchain have been conducted in terms of network security and scalability.

In my opinion, Ethereum seems to be a more secure network in the long run.

03. Organic Demand

1944, Bretton Woods Agreement Laying the groundwork for a near-global U.S. lock-in of the international monetary system. However, just a decade later, the Bretton Woods system began to unravel. The U.S. began running large fiscal deficits and modestly rising inflation, first with domestic programs in the late 1960s (the U.S. was building its own economy after World War II), and then with the Vietnam War. Soon, U.S. gold reserves began to dwindle as other countries began to doubt the backing of the dollar and exchanged dollars for gold. The continued dwindling of gold reserves eventually forced Richard Nixon to end the dollar's peg to gold in 1971.

After the collapse of the Bretton Woods system, every currency is legal tender. This is the first time in human history that all currencies in the world have been converted into paper money without any backing. These currencies have little value in themselves. They are valuable because governments declare them valuable and enforce their use as a medium of exchange and unit of account by making all taxes payable only in that currency, or by enacting other laws to Add barriers to use (or in some cases prohibit entirely) other mediums of exchange and units of account.

Outside of the United States, however, there is still little reason for foreign businesses and governments to accept (dollar) banknotes that can be printed endlessly and have no solid support. But it turns out that the United States, through the petrodollar system, has created a sustained international demand for dollars in countries, thus forcing the global adoption of dollars.

In 1974, the United States and Saudi Arabia reached an agreement. Saudi Arabia (and other OPEC members) will sell oil only in dollars in exchange for protection and cooperation from the United States. For example, even if Germany wants to buy oil from Saudi Arabia, they can only buy it in dollars. From then on, any country that wanted oil needed to pay for it in dollars. As a result, non-oil-producing countries began selling many of their exports in dollars so they could get the dollars they needed to buy oil from oil-producing countries. All of these countries hold excess dollars in foreign exchange reserves.

The system has been strengthened over time. As Lyn Alden writes in her excellent article The Fraying of The US Global Currency Reserve System 6:

" In the beginning, countries needed dollars to get oil. Decades later, with so much international financing done in dollars, countries now need dollars to service dollar-denominated debt. So the dollar is backed by oil and dollar-denominated debt Yes, this is a very powerful self-reinforcing network effect. Importantly, most of this debt is not owed to the United States (albeit denominated in dollars), but to other countries. For example, China provides many U.S. dollar-based loans, as are Europe and Japan."

Exactly this " A self-reinforcing network effect” that causes everyone in the world to accept scrap paper issued by the U.S. government in exchange for tangible goods and services. This is absolutely the fundamental reason why the dollar has become the global reserve asset. Why is this important? I think a similar system -- and a virtuous cycle -- is emerging around the Ethereum network.

Over the past decade, the demand side of most crypto networks has been dominated by speculation. This is understandable. Speculation funds the construction of the supply side (infrastructure, applications, etc.) of these networks. But that is changing. You need to use ETH to do things on the Ethereum network, and people are doing a lot of things on this network: they buy domains, trade tokens, borrow money, issue bonds, use prediction markets, make payments, buy insurance, buy art, games , buy virtual land in the Metaverse, race horses, and more. All of these things require the use of ETH to pay transaction fees.

As applications built on top of Ethereum become more complex and intuitive to users over time, the demand for Ethereum will increase. 94 of the top 100 crypto projects are built on Ethereum, and more than 3,000 Dapps and 200,000 ERC-20 tokens run on Ethereum. The total transaction volume on Ethereum is reaching new all-time highs every day, and the average transaction value on Ethereum is more than twice that of Bitcoin.

Some of these numbers are truly shocking. (At the time of writing) more than $80 billion in ETH is locked in DeFi applications, up from $16 billion in January. Decentralized exchanges (DEXs) like Uniswap and Sushiswap have traded $432 billion on Ethereum over the past 12 months as these automated market makers (AMMs) make token trading easier than ever easier. The stablecoin supply on Ethereum has grown from $19.5 billion in January to over $48 billion today.

Above: Growth in supply of various stablecoins on Ethereum.

Ethereum is not only the settlement layer of almost all leading Dapps, but also almost the entire digital dollar (that is, stable currency anchored to the dollar) ecosystem of the settlement layer. Even traditional financial services companies like Visa will allow USDC to be used for transaction settlement on Ethereum, showing that stablecoins are now far beyond the use cases of traditional cryptocurrencies. Just a few weeks ago, the European Union’s investment arm issued its first two-year digital note worth 100 million euros ($121 million) using ethereum.

In addition, the sales of NFTs (non-homogeneous tokens) on Ethereum have exceeded 600 million US dollars, of which 13 NFTs have sold for more than 100 Ten thousand U.S. dollars. Use cases for NFTs are exploding.

Again, if you want to interact with the Ethereum network in any of the above use cases, you have to pay the miners/validators who process your transactions. Ethereum is essentially a decentralized computer, and computing power costs money. These charges are called "Gas" and bear an uncanny resemblance to oil.

The more useful applications built on Ethereum, the greater the demand for ETH will be. Using cumulative revenue alone as an indicator, DeFi’s TAM (Total Available Market) is estimated to be $2.7 trillion per year (2%-3% of global GDP). Knowing this, it's easy to see how a petrodollar-like system could evolve around the Ethereum network. Let's quote Lyn Alden above, and modify it:

At first, everyone needed ETH, so They can use this global decentralized computer_. __Decades later, with so much international financing done in _ ETH, people now need ETH to pay off their ETH-denominated debt. Thus, ETH is backed by both computational demand and ETH-denominated debt, a very powerful self-reinforcing network effect.

Comparing the demand for ETH to the demand for oil may seem far-fetched, but if the world's financial infrastructure were all on Ethereum, Would that still be far-fetched? It seems increasingly likely to me that ETH will benefit from this self-reinforcing network effect similar to what makes the US dollar the global reserve currency.

In general, Ethereum mimics Bitcoin in many ways, but greatly expands the potential use cases by creating a virtual decentralized computer, provides a substantial improvement. These use cases provide an organic, sustainable and growing demand for Ethereum block space. As these use cases flourish and become more widely adopted, the demand will only grow.

Since the "best" currency brings the most purchasing power to holders, this organic demand further increases ETH's odds of winning the store of value war.

04. Actual income

Wall Street financial giant George Soros (George Soros) may Going to be the greatest forex trader of all time. In his book, The Alchemy of Finance, he reveals a lot about his decision-making process. The third chapter is "Reflexivity in the Currency Market" (Reflexivity in the Currency Market), which describes the vicious circle and the virtuous circle of the currency market. In that chapter, Soros argues that there are a number of complementary factors in traditional money markets that create cycles characterized by large swings in exchange rates, interest rates, inflation, and/or levels of economic activity. This chapter is pretty technical, but let's focus on the key drivers of speculative capital: rising exchange rates (exchange rates) and interest rates.

We focus on speculative capital because it is one of the three drivers (fundamentals) of exchange rate movements, the other two The drivers are trade and non-speculative capital flows, respectively. In fact, the "fundamentals" (the "more scarce" and "organic demand" we discussed in the previous chapters are also the fundamentals of ETH) are also affected by market participants' expectations of future exchange rate trends (Note: that is, the two interact with each other. Influence). This is just one example of Soros’ philosophy of “reflexivity,” which is easily seen in Ethereum: speculation drives many investors and developers to invest their time and money in building network infrastructure and applications on top of it. In fact, speculative capital is critical to fundamentals.

“Speculative capital seeks the highest total return. There are three factors that (affect) total return: interest rate differentials, exchange rate differentials, and local currency capital appreciation. Due to the The three factors vary from case to case, and we can come up with the following general rule: Speculative capital is attracted to rising exchange rates and interest rates. Of these two factors, the exchange rate is the most important. The exchange rate of a currency need not fall too much more, the total return will be negative. Similarly, when an appreciating currency also has an interest rate advantage, the total return exceeds any expectation of financial asset holders under normal circumstances."

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Let's break it down. The exchange rate (exchange rate) is the most important factor. This makes sense. If I stake ETH at 8.5% and the price goes down by 10%, I lose money. So we really shouldn't be looking at interest rates until we can be sure that the exchange rate is going to go up. This is why most altcoins with annual returns of over 1000% are bad bets, while bitcoin has been such a great bet over the past 12 years. This is why I will focus on the key factors driving the price of ETH in the first three sections of this article.

Let's assume Bitcoin and Ethereum share equally compelling monetary properties, and the market expects both assets to appreciate 100% in price this year. In this case, a rational investor should not have a strong preference for one of these two assets. However, if you ask the same investor to get 6% interest on Coinbase for staking ETH (or ask him to run a validator node himself and get 8%+ interest), things start to change. While a 100% expected return on (BTC) and a 106% return on (ETH) may not seem like much difference, it makes a huge difference in the long run. This is especially true as cryptocurrencies become less speculative and markets become more efficient, with expected asset appreciation dropping from 100% to more reasonable levels. Over time, this additional 6% staking yield could account for an increasing proportion of ETH's expected total return.

By staking ETH, you can get an additional risk-free staking return of more than 6%, which will motivate some investors to move funds from Bitcoin to Ethereum. This is how the market works. For example, since 2008, foreign investor inflows into the United States have amounted to approximately $8.5 trillion, with most of this increase beginning in 2011 as investors sought higher returns in the form of arbitrage (US Bond yields are higher than zero or negative yields in Europe and Japan). Speculative capital will naturally flow to assets with the highest expected real rate of return.

Ethereum’s virtuous circle will become Bitcoin’s vicious circle. As more and more speculative capital flows from Bitcoin to Ethereum in search of higher real yields, expectations for the exchange rate between the two currencies will also change. It won't happen overnight, but over time, I expect the market to appreciate more in Ethereum than Bitcoin. When that happens, Bitcoin could be in dire straits. As Soros wrote:

“The longer the virtuous circle lasts, the more attractive it becomes to hold financial assets in an appreciating currency, the exchange rate being a factor in calculating total return Those who tend to fight the trend are gradually eliminated, and only the trend followers survive as active participants. As speculation becomes more and more important, other factors lose their influence. Guide speculators What matters is the market itself, which is dominated by trend followers. These considerations explain how the dollar can continue to appreciate in the face of a widening trade deficit."

I love Bitcoin and everything it stands for, but this is looking more and more likely. I wonder what would happen if the market capitalization of Ethereum surpassed that of Bitcoin for a period of time. If Bitcoin isn't the most liquid asset in cryptocurrency, what is it?

Another aspect that I won't spend too much time discussing is that for most large ETH holders, (using ETH for) staking And yield farming (liquidity mining) in DeFi is enough to provide passive daily income. They no longer need or want to sell ETH, because they can passively earn 8%+ staking returns and higher yield mining returns. This will further enhance the scarcity of Ethereum and the expected price increase in the future.

05. Risks & Concerns

To sum up, these four factors ( Scarcity, more security, organic demand, real yield) are the main reasons I think Ethereum will ultimately win the store of value war. Of course, the conclusions I have drawn above are not definitive, and this article would not be complete without discussing some of the risks involved. Since this post is already quite long, I will briefly comment on each risk.

1. Scalability challenges

Currently, when the (Ethereum) network is busy, Transaction speed suffers, making certain types of Dapps a poor user experience. As the network gets busier, gas prices rise as transaction senders bid against each other. This makes using Ethereum very expensive. A few months ago, the price of Gas to complete a simple transaction was as high as $100-$200, but with the upgrade of Berlin, the price has dropped, which coincides with the price of ETH reaching a new all-time high.

This is probably the most critical risk for Ethereum as it opens up opportunities for competing projects like Solana which is doing some interesting things in this space . But ultimately, Ethereum has many options to improve the speed, efficiency, and scalability of the network. Layer 2 solutions and sharding are probably the most notable. But they're not without technical risk, and they're desperately needed.

2. Other Layer 1 Solutions

I can't help but wonder if Ethereum will eventually Will be replaced by a cryptocurrency that learns from Ethereum's experiments and improves upon it in some fundamental ways. There are many "Ethereum killers" trying to exploit Ethereum's weaknesses to become the boss, including Polkadot, Solana, Cosmos, Cardano, etc.

As Peter Thiel (billionaire venture capitalist) explained in his Stanford Entrepreneurship Lecture, "People often talk about 'first mover advantage.' But focus on This can be problematic; you can be one step ahead and then slowly disappear. More important than the first mover is the latecomer. You have to be persistent.”

Two years before Amazon, there was Book Stacks Unlimited (online bookstore). Four years before Google, Yahoo! created the original global search engine. Before Facebook, MySpace dominated social media. The list goes on. In the history of technology, there are countless examples: the first mover became interested in a concept or product, and then the latecomer took advantage of it and improved the existing product.

But Ethereum has strong protections against this risk of obsolescence. It has many of the same network effects as Bitcoin, and it's probably just as important that the Ethereum community and protocol are innovation-friendly. "Bitcoin will absorb all innovation" is a meme that never materializes. In fact, Ethereum has the opportunity to do this largely because they have "functional escape velocity" at the EVM level.

While I admit that one must constantly adapt to new developments and risks in this field. But Ethereum currently looks like the best option.

3. The stability of monetary policy

Bitcoin may be the most immutable ever encryption system. Bitcoiners believe that this is where Bitcoin's true value lies. It's a reliable neutral system based on code (not humans) that you can rely on for decades.

Ethereum's human-managed hard forks and relatively centralized development teams pose risks. How can we be confident that Ethereum’s monetary policy won’t change again? How can we ensure that one adverse (protocol) change doesn't happen? Even if the Ethereum community agrees that it will never change, and respects that, it will always be 12 years behind the trust established by Bitcoin.

This is an important question if ethereum is going to be a global store of value, but as mentioned above, I think ethereum is sacrificing the short term (of currency issuance) Stability in exchange for long-term security. Ethereum is already very decentralized, and its relatively centralized aspect allows them (the Ethereum development team) to innovate in terms of security, monetary policy, and effectiveness.

4. Increased complexity

As in (protocol) design domains almost always As will happen, there are trade-offs in moving from PoW to PoS. The first is complexity. Bitcoin's PoW system is so simple that you can write pseudocode for it in a dozen lines of code. But Ethereum's PoS is much more complicated. The beacon chain’s state transition mechanism was probably written in about 1000 lines of code, so we will see about a 100x increase in complexity. This is a very real trade-off - complexity leaves room for bugs and can cause scaling issues and other issues. But the good news is that Ethereum has dealt with this complexity very well, proving that it can be overcome with four production-grade (client-side) implementations that are securing the Beacon Chain.

5. Fair launch

Some believe that Bitcoin "has a monopoly on fairness status," because at the time it was launched, no one knew what it would become. This, they argue, is something that can no longer be replicated and gives Bitcoin some of its best attributes. Anything that has a pre-sale cannot be considered fair. Additionally, Bitcoin's PoW system is an excellent forcing function for the distribution of BTC, since miners must sell Bitcoin to cover their hardware and electricity costs. PoS does not have this property. Stakers on Ethereum will just accumulate more ETH and will not be forced to sell ETH because PoS is very efficient with very low hardware and electricity costs. Therefore, Bitcoiners believe that PoS will establish a permanent plutocracy system.

However, as stated in the above question, this is a misconception, as income tax (approximately 50% in many jurisdictions) will function as an economic coercive function. Additionally, Ethereum has been using a PoW system for almost 6 years, which many Ethereum supporters believe has resulted in a good distribution of ETH. Furthermore, do most amorous market participants really care if the network is fair? I would say that most of them are just acting out of self-interest and buying whatever asset they think will make them the most money. Also, who gets to decide what is a fair distribution and what is not?

Editor's note: This article only represents the original author's point of view, and the translation is slightly deleted.

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