Ethereum

What Is Ethereum?

At its core, Ethereum is a decentralized global software platform powered by blockchain technology. It is most commonly known for its native cryptocurrency, ether, or ETH. Ethereum can be used by anyone to create any secured digital technology they can think of. It has a token designed for use in the blockchain network, but it can also be used by participats as a method to pay for work done on the blockchain.

Ethereum is designed to be scalable, programmable, secure, and decentralized. It is the blockchain of choice for developers and enterprises, who are creating technology based upon it to change the way many industries operate and the way we go about our daily lives.

It natively supports smart contracts, which are the essential tool behind decentralized applications. Many decentralized finance (DeFi) and other applications use smart contracts in conjunction with blockchain technology.

Learn more about Ethereum, its token ETH, and how they are an integral part of non-fungible tokens, decentralized finance, decentralized autonomous organizations, and the Metaverse.

Key Takeaways

  • Ethereum is a blockchain-based platform best known for its cryptocurrency, ETH.
  • The blockchain technology that powers Ethereum enables secure digital ledgers to be publicly created and maintained.
  • Bitcoin and Ethereum have many similarities but different long-term visions and limitations.
  • Ethereum is transitioning to an operational protocol that offers incentives to process transactions to those who stake their ETH.
  • Ethereum is the foundation for many emerging technological advances.
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Ethereum Founder Joe Lubin Explains What It Is & Why It Matters

Understanding Ethereum

Vitalik Buterin, credited with conceiving Ethereum, published a white paper to introduce Ethereum in 2014. The Ethereum platform was launched in 2015 by Buterin and Joe Lubin, founder of the blockchain software company ConsenSys. The founders of Ethereum were among the first to consider the full potential of blockchain technology beyond just enabling the secure virtual payment method.

One notable event in Ethereum’s history is the hard fork, or split, of Ethereum and Ethereum Classic. In 2016, a group of network participants gained majority control of the Ethereum blockchain to steal more than $50 million worth of ether, which had been raised for a project called The DAO.

The raid's success was attributed to the involvement of a third-party developer for the new project. While most of the Ethereum community opted to reverse the theft by invalidating the existing Ethereum blockchain and approving a blockchain with a revised history, a fraction of the community chose to maintain the original version of the Ethereum blockchain. That unaltered version of Ethereum permanently split to become the cryptocurrency Ethereum Classic (ETC).

Since the launch of Ethereum, ether as a cryptocurrency has risen to become the second-largest cryptocurrency by market value. It is outranked only by Bitcoin.

How Does Ethereum Work?

Ethereum, like other cryptocurrencies, is blockchain technology. Imagine a very long chain of blocks—all of the information contained in each block is added to every newly-created block along with the new data. Throughout the network is a distributed and identical copy of the blockchain. This blockchain is validated by a network of automated programs that reach a consensus on the validity of transaction information. No changes can be made to the blockchain unless the network reaches a consensus, which makes it very secure.

Consensus is reached using a protocol referred to as a consensus mechanism. Ethereum uses the proof-of-work protocol, where a network of participants runs software that attempts to prove that an encrypted number is valid. This is called mining, and the first miner to prove the number is rewarded in ether. A new block is opened on the blockchain, information from the previous block is encrypted and placed into the new block along with new data, and the mining process begins again.

The proof-of-work protocol and competitive reward system are two factors that have led to the development of massive mining complexes called mining farms, funded by enterprises and wealthier entities to dominate the mining process.

At some point, Ethereum will be moving to another consensus protocol called proof-of-stake, where ETH owners "stake" their ether. Staking ether keeps it from being used in transactions and works as an incentive—it is used as collateral for the privilege of mining. Mining will work differently under this protocol because it won't require everyone on the network to compete for the rewards. Instead, the protocol will randomly choose users with staked ether to verify the transactions. These validators are then rewarded in ether for their work.

Ethereum owners use wallets to "store" their ether. Essentially, a wallet is a digital interface that lets you access your ether stored on the blockchain. Your wallet has an address, which is similar to an email address in that it is where users send ether, much like they would an email.

Ether is not actually stored in your wallet. Your wallet holds private keys you use like you would use a password when you initiate a transaction. You receive a private key for each ether you own. This key is essential for accessing your ether, which is why you may hear so much about securing them using different storage methods.

Ethereum vs. Bitcoin

Ethereum is often compared to Bitcoin. While the two cryptocurrencies have many similarities, you should pay attention to some important distinctions.

Ethereum is described as “the world’s programmable blockchain,” positioning itself as an electronic, programmable network with many applications. The Bitcoin blockchain, by contrast, was created only to support the bitcoin cryptocurrency.

The Ethereum platform was founded with broad ambitions to leverage blockchain technology for many diverse applications. Bitcoin was designed strictly as a payment method.

The maximum number of bitcoins that can enter circulation is 21 million. The amount of ETH that can be created is unlimited, although the time it takes to process a block of ETH limits how much ether can be minted each year. The number of Ethereum coins in circulation is more than 120 million.

One significant difference is how the Ethereum and Bitcoin networks treat transaction processing fees. These fees, known as “gas” on the Ethereum network, are paid by the participants in Ethereum transactions. The fees associated with Bitcoin transactions are absorbed by the broader Bitcoin network.

A significant way that Ethereum and Bitcoin are similar is that both blockchain networks consume vast amounts of energy. This is because each of these blockchains operates using the proof-of-work protocol. Proof-of-stake uses much less energy.

The Future of Ethereum

Ethereum’s transition to the proof-of-stake protocol, which enables users to validate transactions and mint new ETH based on their ether holdings, is part of a significant upgrade to the Ethereum platform known as Eth2. The upgrade also adds capacity to the Ethereum network to support its growth, which helps to address chronic network congestion problems that have driven up gas fees.

Ethereum adoption is continuing, including by high-profile enterprises. In 2020, chipmaker Advanced Micro Devices (AMD) announced a joint venture with ConsenSys to create a network of data centers built on the Ethereum platform. Since 2015, Microsoft has had a partnership with ConsenSys to develop Ethereum Blockchain as a Service (EBaaS) technology on Microsoft’s Azure cloud platform.

Web3 is still a concept, but it is generally theorized that it will be powered by Ethereum because many of the applications being developed use it.

Ethereum is also being implemented into gaming and virtual reality. Decentraland is a virtual world that uses the Ethereum blockchain to secure items contained within the world. Land, avatars, wearables, buildings, and environments are all tokenized through the blockchain to create ownership. Axie Infinity is another game that uses blockchain technology and has its own cryptocurrency called Smooth Love Potion (SLP), used for rewards and transactions within the game.

Non-fungible tokens (NFTs) gained popularity in 2021. NFTs are tokenized digital items created using Ethereum. Generally speaking, tokenization gives one digital asset a specific digital token that identifies it and stores it on the blockchain. This establishes ownership because the encrypted data stores the owner's wallet address. The NFT can be traded or sold, which is viewed as a transaction on the blockchain. The transaction is verified by the network, and ownership is transferred.

NFTs are being developed for all sorts of assets. For example, sports fans can buy a sports token—also called fan tokens—of their favorite athletes, which can be treated like trading cards. Some of these NFTs are pictures that resemble a trading card, and some of them are videos of a memorable or historic moment in the athlete's career.

The applications you may use in the metaverse are likely to be built on Ethereum, like your wallet, a dApp, or the virtual world and buidlings you visit.

Decentralized Autonomous Organizations (DAOs) are being developed. DAOs are a collaborative method for making decisions across a distributed network. For example, imagine you created a venture capital fund and raised money through fund-raising, but you want decision-making to be decentralized and distributions to be automatic and transparent.

A DAO could use smart contracts and applications to gather the votes from the fund members and buy into ventures based on the majority of the group's votes, then automatically distribute any returns. The transactions could be viewed by all parties, and there would be no third-party involvement in handling any funds.

The part cryptocurrency will play in the future is still vague, but Ethereum appears to have a significant part to play in personal and corporate finance and the many aspects of our modern lives.

How Can I Buy Ethereum?

Investors can use one of many cryptocurrency exchange platforms to buy and sell ether. Ethereum is supported by dedicated crypto exchanges, including Coinbase, Kraken, Gemini, Binance, and brokerages like Robinhood.

How Does Ethereum Make Money?

Ethereum is not a centralized organization that makes money. Miners and validators who participate in operating the Ethereum network, usually by mining, earn ETH rewards for their contributions.

Is Ethereum a Cryptocurrency?

The Ethereum platform has a native cryptocurrency, known as ether or ETH. Ethereum itself is a blockchain technology platform that supports a wide range of decentralized applications (dApps), including cryptocurrencies. The ETH coin is commonly called Ethereum, although the distinction remains that Ethereum is a blockchain-powered platform, and ether is its cryptocurrency.

Investing in cryptocurrencies and initial coin offerings (ICOs) is highly risky and speculative, and this article is not a recommendation by Investopedia or the writer to invest in cryptocurrencies or ICOs. Since each individual’s situation is unique, a qualified professional should always be consulted before making any financial decisions. Investopedia makes no representations or warranties as to the accuracy or timeliness of the information contained herein. As of the date when this article was written, the author owns Bitcoin and Ripple.

Article Sources

Investopedia requires writers to use primary sources to support their work. These include white papers, government data, original reporting, and interviews with industry experts. We also reference original research from other reputable publishers where appropriate. You can learn more about the standards we follow in producing accurate, unbiased content in our editorial policy.
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