Enterprises that are building on Ethereum have a reason to celebrate, as the new-and-improved Ethereum 2.0 is moving forward. Just a couple of weeks ago, the largest Ethereum development event, DevCon 5, was held in Tokyo and more details about the upcoming protocol upgrade were announced. The changes are significant and will improve important properties like transaction speed, scalability, and finality. However, they also present some risks related to building on open-source technology developed by multiple teams.
What exactly is Ethereum 2.0, why is it necessary, and can this risk of breaking existing applications and wiping out the current $19B market cap be avoided?
The current Ethereum protocol, while considered successful so far, has been prone to several major issues. Specifically, its increasing storage requirements and performance degradation are raising red flags on CIOs’ decision charts.
The newly proposed Ethereum 2.0 upgrade will eliminate many of the existing shortcomings. For example, once fully deployed, Ethereum 2.0 will have 64 shards (sets of partitions) that will function simultaneously and have an independent transaction history and state. New execution environments can be created as a separate segregation mechanism on top of it, providing enhanced utility and features through WebAssembly (WASM). Moreover, with the introduction of proof of stake as a consensus protocol in the new Ethereum 2.0, the transactions will be considered final and will not be subject to the same 51% attack reversal tactic as in proof of work.
However, despite the obvious positives and the financial and technological opportunities that will become available, the new protocol maintains several key risk areas that must be addressed soon.
- The necessary work is extremely technical and not many people are qualified to turn a complex research paper into a practical solution.
- Currently, all the work is being done by several teams located in different parts of the world, with different agendas and different timelines. Everyone is working towards the same goal but the inherited friction of having distributed teams is present.
- The transition to Ethereum 2.0 is so complex that it involves wrapping up the current network and placing it inside the new chain so that they will run together for a period of time.
- There is a significant chance that certain existing functionality and smart contracts will break.
- There is the potential for a hard-fork split, as Ethereum 1.0 and Ethereum 2.0 will co-exist and the transition might not be successful, with some node operators choosing to run the old chain.
So, what does this mean for enterprises that build on Ethereum?
There are numerous enterprises that engage in the production usage of Ethereum 1.0. For example, Banco Santander and Société Générale have issued bonds, while many financial institutions are using stablecoins for lending and hedging. Even the accounting giant Ernst & Young has released blockchain solutions that target public finance management and governments. All of them are threatened by the risk of having their bonds existing twice on parallel chains or simply ending up with non-functioning smart contracts. They must team up with smart and capable developers so that they can change their source code and keep it updated until the final software is released. There will be a few stages of overall Ethereum 2.0 upgrades, so these companies will need to follow up on every public update from phase 0 to phase 2, projected for 2022.
On the upside, once Ethereum 2.0 is fully operational, it will enable a whole new set of financial models that currently don’t exist. It took three years, from the launch of the current platform to the time of the ERC-20 token standard, which resulted in a new set of crowdfunding and ICOs in 2017, eventually raising a total of $22 billion. The current Ethereum favorite toy Decentralized Finance (DeFi), might be the overall winner from this upgrade as it can spark new and interesting financial models for borrowing and lending, new staking mechanisms and incentives due to the simple fact that a faster network will allow for higher scalability and transaction speed.
Only time will tell how fast the Ethereum 2.0 upgrade will be, and whether it will succeed. It might be better to completely abandon the project if it will take too long or if it is too risky. Perhaps other blockchain protocols will find the perfect market fit faster, thereby causing developers and VC funders to refocus their interest. However, one thing is certain: If successful, Ethereum 2.0 just might reimagine the current systems and technical infrastructure as we know them.