What is Ethereum?

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By: Zeneca

Ethereum is a digital platform that uses blockchain technology, similar to Bitcoin. It was created by a Canadian programmer named Vitalik Buterin in 2015. While Bitcoin is mainly focused on digital money transactions, Ethereum has a broader purpose. It allows people to create and use decentralized applications (called “dapps”), and smart contracts, which automatically enforce agreements between parties. (Ethereum Whitepaper)

How does Ethereum work?

Invented in Canada, Ethereum is the world’s second most popular cryptocurrency. Like Bitcoin, it’s built on blockchain technology and is decentralized, immutable, and open.

Unlike Bitcoin, Ethereum’s goal is to become the world’s decentralized computer. To understand what that means, let’s define a few terms:

  1. Ether is the name of Ethereum’s cryptocurrency. Technically, “Ethereum” is the name of the blockchain and protocol, and “Ether” is the name of the cryptocurrency. Ether is used to transact on the ethereum blockchain.

  2. Gas is the amount of Ether paid to process a transaction on the network.

  3. Smart contracts are code that run on the Ethereum blockchain. This code is decentralized (stored across all nodes/computers in the network), immutable (can’t be arbitrarily changed once committed to the blockchain), and open (anyone can view the code and use it).

  4. Decentralized apps (dapp) combine a backend smart contract with frontend user interface.

What is an example of a decentralized app?

Ethereum has the largest web3 developer ecosystem, thanks in part to its composability (like legos, composability means anyone can build on an existing smart contract to create something new). This has led to the creation of thousands of dapps that power web3. The two most popular and well-known use cases are DeFi (Decentralised Finance) and NFTs (Non-Fungible Tokens) which we’ll cover in more detail later in the course.

An example of a DeFi dapp that has been built on Ethereum is Uniswap. Uniswap is a currency/token trading platform that is decentralized. What this means is that, unlike a traditional trading platform (such as the ones mentioned in Day 3), there is no central authority holding custody of assets. You can trade digital currencies directly from your wallet/account to someone else’s. 

Because no central authority is involved, the fees are significantly lower (you don’t have to employ humans to process transactions), and, more importantly, you don’t have to “trust” the trading platform to hold your funds. We’ve seen countless cryptocurrency trading platorms “go under” over the last decade due to mismanagement of user funds (or straight up fraud). This is not possible due to Uniswap, because a user never loses custody of their assets. 

Proof of Work vs Proof of Stake (a 99.99% reduction in energy)

You might have heard these terms before. Basically what they refer to, is the method in which a blockchain verifies which transactions are authentic and which are not. Or in other words, how all the computers/nodes decide, collectively, what the single source of truth is.

Proof of Work (PoW) requires nodes to solve complex math problems in order to verify transactions. This uses a lot of energy, but it works well.

Proof of Stake (PoS) requires nodes to “lock up” a certain amount of cryptocurrency which, using advanced math and game theory, creates an additional way to verify transactions. This uses almost no energy.

Ethereum famously migrated from a PoW system to a PoS system in September 2022.

This has resulted in reducing the energy consumption of the network by over 99.99%. 

Bitcoin still uses a PoW system.

Source: Crypto fundamentals deck (Patrick Riveria)

The critical difference between the two is the method in which the blockchain uses to verify transactions. Proof of Work relies on computers solving complex math problems, which uses a huge amount of energy. 

Proof of Stake relies on staking or “locking up” a relatively large amount of Ether and using that as a way to verify transactions. If they verify the “wrong” transactions, they lose their stake. When enough people agree to these rules – an effective system is in place where you can keep the blockchain secure without having to use so much energy.

To sum up, you can think of Ethereum like a giant, decentralized computer where people can build all sorts of applications. Many think financial services are all that crypto is used for, but in reality, there is no limit to the type of dapps that can be built, from games to social networks and voting systems and beyond.

In our next email, we’ll cover: “How to set up a crypto wallet”

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