Last week, crypto giant Ethereum achieved a long-awaited milestone and shifted its technological infrastructure to a more environmentally sustainable software. The move to the new infrastructure, called the Merge, reduced Ethereum’s energy consumption by 99%. Despite this being a highly anticipated change in the crypto market, it has its risks.
What did Ethereum change?
Before we talk about the Merge, let’s go over what changed in Ethereum’s mainnet.
A mainnet is the blockchain technology that is responsible for transmitting cryptocurrency from sender to receiver. Since Ethereum’s beginning, it used proof-of-work mechanisms to validate transactions and mine new coins.
However, to mine new coins, proof-of-work transactions needed computers to compete with one another to solve complicated math problems. Bitcoin also uses proof-of-work systems to validate new coins.
This process consumes terawatts of energy and emits megatons of carbon dioxide into the environment. It’s estimated that Bitcoin mining requires the same amount of energy to power a small country, about 130 terawatt-hours, according to Digitconomist’s Bitcoin Energy Consumption Index.
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Proof-of-stake mechanisms secure block transactions by requiring crypto holders to use their Ether coins as collateral to validate new coins. So, for Ethereum, gone are the days of crypto miners and in come crypto validators.
Validators add newly validated transactions to a shared block, and a group of validators will vote and agree the transaction is legit. Once that happens, the block is closed and validators will receive more coins in exchange.
The major difference between mining and validating is that crypto holders are rewarded for their stake in a proof-of-stake network, compared with being rewarded for computer power in a proof-of-work network.
What is the Merge?
The Merge refers to the merging of Ethereum’s original mainnet with a separate, more energy-efficient, environmentally friendly blockchain to create one chain. Ethereum’s blockchain powers much of the crypto market, including NFTs.
Ethereum’s founder, Vitalik Buterin, had visions of altering Ethereum’s consensus layer to a proof-of-stake system as early as 2014, a year after he created Ethereum. The new infrastructure delivers significant decreases in Ethereum’s energy consumption, amid increasing concerns and criticism by US officials and environmental advocates of crypto mining’s effect on the environment.
The Merge is good news for prospective crypto investors who had cold feet because of crypto’s effect on the environment. It’s good news for current investors, too, since the Merge has no effect on current assets.
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Right before the Merge happened, Ethereum saw an increase in price as investors and crypto enthusiasts were sure the new infrastructure would provide Ethereum the upper hand to outpace Bitcoin. The hype surrounding the Merge gave investors hope that all crypto coins would increase in price and boost the struggling market.
But that didn’t happen. Ethereum took a plunge and so did the rest of the crypto market.
What does the Merge mean for the crypto market?
The Merge was an impressive technological feat and a victory for people who care about the environment. However, slight changes in verbiage and major changes in Ethereum’s infrastructure alter the meaning of investing in crypto.
Contrary to blockchain’s dogma, proof-of-stake networks and crypto investors may have to share the sidewalk with a third wheel — the US government. Following the Merge, the US Securities and Exchange Commission introduced a new wrinkle in the plan to embrace proof-of-stake infrastructure.
Blockchain is all about decentralization, which means the government should be involved as little as possible, or not at all. But SEC chair Gary Gensler concluded that proof-of-stake transactions mean tokens could be considered securities and not currencies.
Gensler spoke before a Senate Banking, Housing and Urban Affairs committee last week and told reporters, “From the coin’s perspective… that’s another indicia that under the Howey test, the investing public is anticipating profits based on the efforts of others,” according to the Wall Street Journal.
Gensler hinted that any cryptocurrency, not just Ethereum, that uses a proof-of-stake infrastructure could qualify as a security and could pass the Howey test. The Howey test is a US Supreme Court decision that determines if a transaction is an “investment contract,” and subsequently requires government regulation, something crypto investors avoid like the plague.
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This assertion means staking coins in a proof-of-stake system should include investor protections that aren’t suitable for blockchain transactions. As a result, Ethereum decreased by 11% and Bitcoin by 8%.
Overall, the crypto market dropped far below its all-time high of $2.9 trillion in 2021 to right under $1 trillion in the first half of 2022. Crypto market experts assert the dip is a consequence of changes in US economic conditions, rising inflation, and now, the SEC raising concerns about the legality of crypto trading after the Merge.
Crypto trading might not be the one-way ticket to millionaire status it once was poised to be — at least for now.