While we expected to see bitcoin (BTC) begin to grow towards the $30,000 mark, the curve of ethereum (ETH) seems to be reaching a ceiling. Since the September 2022 Merge, the circulating supply of ETH has seen a sharp drop which highlights the deflationary nature of the second most powerful cryptocurrency in the market. How does the deflation of this altcoin manifest itself and what are the consequences of this deflation on users and on the network?
How did ethereum become a deflationary asset?
In April 2018, Vitalik Buterin, co-founder of Ethereum, indicated in what looked like it was taken for a joke that the supply of ETH would reach a ceiling at a certain point, with important consequences for the network, its users and for the market in general.
As a result of the EIP 1559 improvement proposal, a regular ETH burn mechanism was implemented, which caused a reduction in the overall supply of the token.
Before the network moved to proof of stake, miners received a daily reward of nearly 13,000 ETH. The staking reward was then between 1,600 and 1,700 EHT. Just after the Merge, the issue rate fell sharply.
Since the network moved from the proof of work model to the proof of stake model, the update caused an abrupt reduction in the rate of creation of new ETH tokens.
Unlike PoW, PoS allows miners to be rewarded by staking their cryptocurrencies and not by mining. Thus, as the number of ETH created decreased, the number of ETH staked increased considerably.
This reform of the network’s governance model therefore has a direct impact on the supply of ETH in circulation, which has naturally started to fall. In this context, the steady increase in demand for the asset has pushed the price of the asset higher. ETH has thus become deflationarynegating Buterin’s indications that there was necessarily a necessary minimum emission.
The impacts of deflation on the ETH market
ETH has incorporated some deflationary characteristics, reminiscent of the business model of BTC, whose maximum supply is set at 21 million units. Once this cap is reached, no new BTC will be mined, theoretically causing the value of BTC to increase in the long run.
ETH seems to be heading for a similar deflationary dynamic, compared not only to BTC, but also to timeless assets such as gold, the supply of which is understandably limited. This sparks discussion about the potential for ETH to become a store of value.
The deflationary aspect of ETH could appeal to new investors, attracted by the prospect of a rise in the price of the asset in the long term. This, combined with Ethereum’s dominant position in the cryptocurrency market and its ability to host DeFi applications, could also have a positive impact on the DeFi ecosystem.
It should be noted that a significant proportion of the ETH in circulation is currently invested in the network’s decentralized economy. Adoption of DeFi is expected to continue to grow.
A rise in the value of ETH could undoubtedly benefit DeFi, dapps, and other blockchain projects. Some analysts even speculate that Ethereum’s market capitalization could eventually surpass that of Bitcoin.
However, it should be pointed out that a rise in the price of ETH could lead to an increase in transaction fees. Although it is difficult to accurately predict the evolution of these fees, it is plausible that high costs could deter some users. Despite this, Ethereum continues to deliver undeniable value through its contributions to DeFi, NFTs, GameFi, among others.
Deflation still little felt for the moment
While it is true that the deflationary dynamics of Ethereum are already set in motion, it is also true that currently, the reduction in supply by the deflationary mechanism is not yet that significant.
When compared to the total supply of ETH in circulation, this is only a drop of -0.51%. This is too low a figure to have a noticeable impact on ETH prices.
Furthermore, since more than 50% of ETH in circulation is staked or used in smart contracts, the amount of ETH available for purchases and exchanges is approximately 56 million ETH, or nearly 46, 9% of total supply.
These 46.9% are the tokens that are kept on crypto exchanges and which are not necessarily intended for a specific purpose. Obviously, it is to be considered that the quantity of ETH immobilized in the smart contracts does not know a strong variation due to a certain particular event.
How is Ethereum doing right now?
For the past few days, the crypto market has not been in its best shape. With a wave of liquidations estimated at more than $1 billion, investors experienced hours of intense market panic.
Like BTC, ethereum suffered a sharp drop in its price after massive liquidations of positions by investors. The price of ETH threatened to break below the $1,600 mark, which would create a catastrophe in the market.
Fortunately, the trend has changed slightly. We expect to see the token gain more value from next week. It will however be necessary for the token to exceed the bar of 1,800 dollars in a definitive way for the confidence to be restored.
What is certain is that this is only a short-term movement. Even if we do not really explain the violent correction that affected the price of ETH, we can say with certainty that in the long term, the cryptocurrency is deflationary. Its price will therefore certainly increase in the coming weeks. The breakthrough of L2 solutions clearly demonstrates this. Now may be the time to invest.
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