What is the Ethereum EIP 1559 update?

¿Qué es la actualización EIP 1559 de Ethereum?

Let’s imagine that your first anniversary with your partner is coming up, the most important anniversary of all. For that, you decide it’s a good idea to go to a fancy restaurant where they have all kinds of food that you both enjoy. 

However, at present, the restaurant only works through reservations and, in order to pay for your reservation, you must pay based on the last price that someone bid for a table first (10 euros). 

Consequently, you must pay above €10 to get that service. This is the current mechanism of Ethereum.

In view of this, the restaurant observes that its customers are dissatisfied, so they propose to open the restaurant so that they can go without reservations. However, if you want to secure your table and be served much faster, you have the option of making a reservation through an official of the restaurant. 

More or less, this is how EIP 1559 is intended, the proposed Ethereum upgrade that, on the eve of Ethereum 2.0, will mark a before and after in its history.

Join us for a brief review of what this proposal has in store for us. Let’s go!

What is EIP 1559?

Conceptually, EIP stands for “Ethereum Improvement Proposal”. Therefore, its objective is to generate solutions or proposals to the problems that are occurring in their platforms.

In other words, it provides an answer to what Ethereum needs. Each EIP can come in the form of a hard fork or simply a soft fork.

In this case, EIP-1559 arose as a result of difficult periods, facilitated by high GAS prices.

The upgrade is intended to improve the way transactions are processed on the network and speed up the user experience by reducing transaction fees. 

Consequently, it could benefit both new users and people who already own ETH within their digital assets.

For this year, a hard fork, known as “London”, is scheduled, in which, according to Tim Beiko, Ethereum programmer, the EIP 1559 update will be included, since it plans to be activated in July 2021.

Qué es la actualización EIP 1559 de Ethereum Bitnovo

How does it differ from the previous commission method? Let’s talk about how it works and its advantages

At present, the Ethereum blockchain uses an auction system to decide which transactions are included in a block. Transaction costs are paid in Ether (ETH) and are known as GAS

Through the GAS price, you help to feed the network and prevent spamming. The more you bid, the more likely it is that a miner will include your transaction in an upcoming block.

The difficulty lies in estimating the right rate to increase the odds. In the end, this is unsustainable.

Therefore, if the price of ETH were to rise, it would be even more complicated, due to the value of the commission to be paid plus the cryptos we want to acquire.  For this reason, EIP 1559 arrives. 

In this proposal, there are determined prices or bases, but let’s expand the information a little.

Base fee

The base rate, or base fee, is a mandatory gas rate determined algorithmically for each transaction.

In other words, it is the calculation of the fee that must be paid for a transaction to be validated by a miner and ready to be added to a block. 

Now, its value will depend solely on network congestion. However, the proposal focuses on maintaining a 50% usage rate of the blockchain network, meaning that each block that is confirmed is 50% full. 

In the restaurant example, it would be based on the fact that, of the total number of tables, half are occupied, either by people who book or by people who do not. If network usage exceeds 50% of capacity, the rate increases, and if usage is below 50%, the rate decreases. 

Consequently, the cost of what is offered in a restaurant depends on whether it is fuller or emptier. However, it is in these times of higher demand that the miner tip comes in.

Miner tip

If you require your transaction to be processed at the speed of light, EIP-1559 will allow you to add a tip that will basically get your transactions processed first. These tips go directly to the miners.

Clearly, if we give additional money to the restaurant or miners, they are motivated and prioritize our requests. Those transactions that are not so urgent are carried out as the rate decreases. 

Through this, the Ethereum network ensures that each transaction is valid in less than a minute, as lock times for its smart contracts average between 13 and 14 seconds.

Ether burning

Unlike before, EIP 1559 avoids continuing with an auction method that starts from the last high bid, eliminating the previous values paid for each transaction.

For this reason, it implements the destruction of tokens that were used to pay commissions in the network. Of course, it occurs after the collection of base rates and miner tip, since the subtraction of both values determines the amount of burning. 

Through this token burning, we have no knowledge of transaction costs and, in turn, it manages to reduce the amount of ether circulating, which can increase the value of the currency by increasing the scarcity of ETH over time.

Basically, when there are luxury products that have a limited quantity, is when more people are encouraged to buy because it is highly exclusive, hence its possible increase.

In the face of this, two things can occur:

  • Inflation: When there is less demand, commissions are low, so the sum of all base fees will be lower than the block reward. Consequently, the amount of ether will be higher.
  • Deflation: If there is network congestion and commissions increase, the base fee will be higher than the block reward. Consequently, the amount of ETH will be reduced, resulting in higher token prices.

Block size

The size of the block determines how much information or transactions are included.

Having a large block size will result in more transactions, but may overload the system, while having a smaller block size is easier to manage, but may limit the speed of transactions. 

In response, EIP-1559 creates block sizes that are flexible and expand or contract according to demand.

Qué es la actualización EIP 1559 de Ethereum

Interesting, but what are the disadvantages?

The disadvantages are mainly seen in the miners, who estimate losses of 50% of their income, as they depend on the tips given.

In addition, in EIP-1559, there is a condition in which the base fee is zero. If the block is below 10 million gas. When the base fee is zero, the tip will go directly to the miner. 

In this case, if the block reward plus tip is not greater than the base fee, miners will be underpaid.

We hope you found this brief tour useful! To be honest, in the world of cryptos we still have a lot to say.

Therefore, to keep you up to date with the latest news in the cryptocurrency ecosystem, we invite you to check out our blog where you will find all the information you are looking for and more. 

On the other hand, if you think that these Ethereum updates will mean improvements and possibly an increase in its price, remember that at Bitnovo you can get the best price to buy Ethereum by card, cash or bank transfer.

See you next time!