What is EIP 1559 and How Will it Increase Ethereum’s Value?

Currently, Ethereum is facing its greatest competition in its 6-year history from other smart contract and NFT platforms, such as Cardano, Binance Chain, and Flow by Dapper Labs. It plans to implement EIP 1559 in July 2021, which will help stabilize transaction fee prices, and also potentially make Ethereum a fixed-supply coin, instead of one with infinite inflation.

EIP 1559 is an improvement to Ethereum that helps to stabilize fees by moving to a base fee model and reduce the network's inflation. Right now, Ethereum fees are not only incredibly high, but also very volatile. One day, you may expect to pay $50 for Uniswap fees, then $100 the next day, or even the next hour. This has made Ethereum effectively unusable as a smart contract platform for everyone but the largest yield farmers and those who transaction millions of Ethereum daily. As a result, other smart contract platforms have been getting more attention, both in terms of network volume and token price appreciation. For example, Binance Coin and Cardano are both up 800% on the year, and Dapper Labs, the creator of Crypto Kitties, has seen their Flow smart contract and NFT platform rise 3300% since January. All of these platforms are technically superior to Etheruem, and in theory should be higher in market cap, however the first-mover advantage of Ethereum has kept it in first for now. If they don’t solve their scaling problem soon, this situation could quickly change. 

Fortunately, the team behind Ethereum has voted to implement EIP 1559, which will solve many of the fundamental problems of the platform.

Right now, Ethereum’s fees are based on an auction-style system. Whenever someone sends a transaction, their fee goes directly to the miners. Thus, if a user sends a higher fee, it incentivizes the miner to include their transaction in the next Etheruem block. This leads to a problem where users who can pay a high price can clog the network, and users who want to send cheap transactions are stuck either waiting hours, if not days, for their transaction to be included in a block.

EIP 1559 changes the fee market to fix this auction-based issue. Now, there will be a minimum fee for every transaction which will be burned and taken out of the total supply, instead of being sent to the miners. If the network gets more congested, the fee will be raised for everyone accordingly. Furthermore, if users really want their transactions to be prioritized, they can include a “tip” to the miners on top of the base fee, so they are incentivized to include the transaction in the next block, and they keep the tip as a reward.

This will not help significantly with the transaction fees, since the network will still be congested, but it will help with the volatility. Instead of users having to research the optimal ETH gas fee whenever they want to send a transaction, they can instead simply send it, without any worry that it will not go through. 

This fee burning mechanism will also have an impact on the long-term supply of Ethereum. As of now, Ethereum has no supply cap. This means that over time, Ethereum’s total supply will increase infinitely, which has led some to be skeptical about the long-term value proposition of an asset that has no capped supply. With the new fee-burning mechanism, a set amount of Ethereum will be burned each block. This will significantly reduce the inflation of Ethereum per year. It is even possible that Ethereum will become a deflationary asset, if the fees burned are greater than the rewards given to miners per block. According to the basic laws of supply and demand, a lower supply with the same demand means a higher price, which could help Ethereum continue to increase in price as the bull market dies down. 

One group who is not a fan of these Ethereum changes are the Ethereum miners who help secure the network. They will see a significant decrease in their revenue, and may leave the Ethereum network and use their mining power to secure other blockchains that offer a higher revenue. As a result, the security of the Ethereum network may decrease. 

Though this is a genuine concern, it will likely not matter much, as Ethereum will be transitioning to proof of stake within the next couple of years, and all the miners who believe in the future of Ethereum will continue mining.

By Lincoln Murr

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