Here's What the Ethereum Merge Means for Investors(Emma Newbery)
Everything you need to know about the merge -- the next step on Ethereum's journey.
The Ethereum merge will see the blockchain transition from a proof-of-work validation model to a proof-of-stake one.
The merge will reduce Ethereum's energy consumption by around 99.5%.
Ethereum's price is already up over 30% in two weeks as speculation about the merge grows.
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According to Google trends, search traffic for the term "Ethereum merge" has never been so high. Crypto investors around the world want to know about the next step in Ethereum's (ETH) upgrade, dubbed "the merge" by developers. Read on to find out what the merge is, why it is important, and what it means for investors.
What is the Ethereum merge?
Ethereum is one of the older cryptocurrencies on the block. It was the first crypto to introduce smart contracts -- the tech that makes blockchains programmable -- and it still hosts the lion's share of applications and projects. But its network struggles with heavy congestion, high gas fees, and it consumes as much energy as a whole country.
The solution? Hive Ethereum a whole new engine. It needs to switch from the proof-of-work model used by Bitcoin (BTC) and a couple of other older cryptos to the more environmentally friendly and scalable proof-of-stake model. But just as it isn't easy to work on a car's engine while it's racing down the freeway, it isn't easy to upgrade Ethereum's system while it's still powering a large portion of the decentralized finance (DeFi) industry.
Right now there are two systems running in parallel. The Ethereum merge is the point where its team essentially switches off the old system and lets the new one run. It recently completed the merge on its final testnet, which is the final stage before it can make the move. The man behind Ethereum, Vitalik Buterin, recently told a conference in Denver this would happen in the coming months.
What the merge means for Ethereum
The big change for Ethereum is that proof-of-stake consumes a fraction of the energy of proof-of-work. Right now, the energy researchers at Digiconomist estimate that Ethereum uses as much energy each year as The Netherlands. The merge will reduce Ethereum's energy consumption by an estimated 99.5% -- a dramatic reduction.
However, the merge won't solve all of Ethereum's problems. For example, as Ethereum developer Tim Beiko told Fortune, it won't dramatically reduce gas fees. That won't happen until the final stage in Ethereum's massive technical upgrade, which is due at some point next year. The "Shard Chains" upgrade will make the network more scalable, solving some of its congestion issues and thereby cutting transaction fees.
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One thing it will do is reduce the supply of Ethereum. Combined with last year's London fork upgrade that began to burn ETH with each transaction, some predict Ethereum will become deflationary -- more ETH will be destroyed than will be minted. This scarcity could have significant implications for Ethereum's price.
Finally, the merge will create more opportunities for investors to stake their ETH and earn rewards. The proof-of-stake validation model needs Ethereum holders to tie up their coins to contribute to the security of the network. Some investors are already doing this on the parallel system. But after the merge, analysts estimate staking rewards could double, offering better yields for investors.
What the merge means for investors
The Ethereum merge is a big deal, and many analysts believe it could push Ethereum's price to new highs. Indeed, Ethereum is already up over 30% in the past two weeks -- spurred in part by the successful completion of its testnet merge. Ethereum is already a solid cryptocurrency project that forms a large part of many long-term investors' portfolios. A successful upgrade will allow it to compete with the newer, faster, lower-cost Ethereum alternatives that have taken significant market share in the past year.
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However, there are also reasons to be cautious. Cryptocurrencies don't have the same fundamentals you can use to value them as, for example, stocks. That challenge in valuation makes the crypto market more susceptible to a phenomenon called "Buy the rumor, sell the news." Prices soar on speculation about a particular event, and then fall when it actually happens.
Remember Cardano's (ADA) move to smart contracts last year? Speculation around the all-important launch pushed the price to a high it's never been able to recover of over $3 -- more than double its current price. High levels of hype can push prices to unsustainable levels. We're already seeing media reports that suggest the merge will be the solution to all Ethereum's woes, which is not correct. The merge will solve some of Ethereum's problems, but not all of them. There's a chance the reality of the merge will disappoint, just as Cardano's smart contracts did.
However, there are also reasons to be optimistic. A reduction in the amount of Ethereum in circulation would almost certainly be positive for its price. As would the increased staking opportunities. And several industry observers believe the merge will mean more institutional investors buy Ethereum, which will be positive for the crypto in the long term.
The long-awaited merge is a pivotal step for Ethereum. Indeed, given that DeFi Llama shows over half the money that's locked up in DeFi applications is on the Ethereum network, a successful Ethereum merge is crucial for the whole industry. But remember, this has been in the pipeline for years and the merge is still only one step in a longer process.
As an investor, try to keep a long-term perspective rather than buying into the short-term hype. It's difficult to predict whether Ethereum's price will reach highs it can't sustain in the coming months. But if you try to see the current developments for Ethereum through a five- to 10-year window, you're less likely to get burned by any developing price frenzy.
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