How to understand the economic incentives of Ethereum 2.0?
Preface: Ethereum 2.0 adopts the pos consensus mechanism, how does it motivate people to pledge tokens, and how to ensure the security of the network? What is an appropriate issuance rate? The author of this article is Eric Conner, translated by "Wang Zelong" of the "Blue Fox Notes" community.
At the heart of every blockchain system is the creation of blocks and the resulting tokens. This is important for the survival of any blockchain because by producing new tokens and giving them to miners or stakers, the network can incentivize people to increase the hash rate or stake tokens to keep the network secure. Given that both Ethereum and Bitcoin networks store tens of billions of dollars in value, it is vital that miners or stakers are properly rewarded in order to protect the network from attack.
Currently in Ethereum, the rewards mentioned above are implemented by block rewards and transaction fees. In the PoW mechanism, these rewards are paid to the miners who find the next block. Over the next few years, Ethereum switched this reward system to a PoS mechanism, which pays the validators who create the next block. This transition entails many changes, but the biggest of which is the fundamental economics surrounding Ethereum as a protocol. I want to describe these changes at a high level, but first we have to understand how the system works now.
In a PoW mechanism, miners earn block rewards, which in turn help cover their operating costs and, ideally, help them make a profit. This part of the profit is largely dependent on the price of the underlying asset, which is why we usually see the hash rate fluctuate with the price. With the rapid increase in the price of Ethereum during 2016-2018, in order to better combine sound economic principles with appropriate security payments, the network decided to cut its reward from 5 ETH to 2 ETH. This is similar to Bitcoin, whose block reward halving occurs every four years.
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Ethereum past, present and future issuance rates
This explains everything on the chart up to the Serenity Phase 0 event, which will kick off in early 2020, when Ethereum 2.0 will be up and running. I don't want to go into too much detail about the stages themselves, but focus on how it affects what we're talking about so far.
On the new chain, the concept of miners will be replaced by stakers. This means that there will be no need to use graphics cards for mining, and Ethereum users only need to send 32 ETH and pledge them. Each staker will complete a series of tasks from proposing to proving a block, and will be rewarded for it. A very important factor of the PoS mechanism is that it makes it easier for us to secure the network while keeping the minimum token issuance, which in turn makes Ethereum a stronger SoV.
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According to the latest Phase 0 specifications, the expected pledge income and network issuance rate
First, I would like to stress that these numbers are still in dispute as the spec is still in live development, and I expect them to go up a bit (something like 25%) before Phase 0 is released. As we can see in the table, based on the economic incentives given to stakers, the market determines how many stake tokens will be staked. I expect the pledged ETH to be at the level of 10 million, which will make the new issuance rate of the Ethereum network at 0.24% per year, which is 95% lower than the current level.
Like mining, staking also has costs, which is why these values are important. We want to make sure validators are not running at a loss, otherwise almost no tokens will be staked on the network. Each validator wants to run a beacon node, and then run as many validating clients as they have ether.
After digging through the specs and talking to people working on ethereum 2.0, my latest estimate for the annual cost of running an ethereum validator is $120 per beacon node, plus $60 for each additional validator. Let's take the cost above as a premise, assuming the price of ether is $165 and the network transaction fee is 500 ether per day, which will pay out the validators:
Obviously if the price of Ethereum outperforms, these returns will rise as well, but to their credit, even in a bear market, validators are still motivated to run nodes with a total stake of 10 million ETH.
This is a quick look at the economic incentives of Ethereum 2.0. I hope it encourages people to dig deeper into relevant content and helps research appropriate incentives, estimated costs, and more.
UPDATE: Since I'm offline as a validator, I have some questions about inactivity leaks, here are the relevant scenarios and how they affect validator earnings:
Blocks are being finalized while you are offline. Within one year of x=current_interest (current interest), your storage will likely lose x%.
The block has not been finalized yet (greater than 33% of validators are offline, unlikely), and you are offline. This could cost you 60% in 18 days.
Let's give a simple example to the first scenario: you deposit 32 ETH at an interest rate of 2.5%, and you can get 0.00219 ETH every day online. Every day you go offline you lose 0.00219 ETH. Now calculate your annualized net profit.
Blue Fox Notes Appendix:
The following is the latest issuance rate suggested by V God: (Blue Fox Note: The latest annualized return has been greatly improved compared with the previous version. It also takes into account the eth loan income in the market. Currently, some loans have an annualized return of more than 6.2%.)
