The network that powers the second most popular cryptocurrency is intentionally destroying a portion of its own supply.
Since August, Ethereum has cut down on 65% of the new issuance of its currency, Ether. That’s more than the equivalent of $5.8 billion burned, destroyed, and removed from circulation, according to Watch the Burn, an Ether data dashboard.
But why destroy all that crypto? Ethereum isn’t just setting a pile of cash on fire and walking away. Cutting down on the amount of available currency is part of a multipronged approach to upgrade the blockchain and cut down on the amount of money that crypto miners can earn off each transaction.
Last year, the network began implementing the Ethereum Improvement Proposal (EIP) 1559. That created a new system under which transaction fees that were formerly all paid to miners were split into a base fee and a tip to the miner. Now the miner gets the tip, but the base fee is burned, or destroyed.
The new system prevents miners from being able to “game the system” with spam transactions, according to Tim Beiko, an Ethereum developer. Those spam transactions can raise the minimum fee for everyone else.
“The main reason why the burn is needed is to prevent miners from gaming the system under EIP 1559,” Beiko told Fortune. “If we did not burn part of the transaction fees, they could fill blocks with spam transactions, raising the minimum fee for everyone but themselves because they would get back all the fees.”
This can also keep transaction fees on the network more consistent, Beiko explains. Such fees can sometimes add hundreds of dollars to the cost of processing Ether transactions, depending on how congested the network is. This is supposed to improve the user experience of Ethereum.
Additionally, the burn ensures that transaction fees are paid in Ether, which “cements Ether’s role as the currency of the Ethereum network,” Beiko said. Miners can offer services in other currencies or be offered payment for their users’ transaction fees in other currencies, but on Ethereum, “it has to pay the fee in Ether.”
Burning its currency can also make Ether deflationary in the long term, limiting its supply, and making it more valuable. But deflation “isn’t the goal and isn’t guaranteed” by the burn, Beiko said.
Even though Ether has already burned a significant amount of its currency, it could destroy even more when the network completes the “merge,” a highly anticipated, major upgrade to Ethereum that will shift the blockchain from a proof-of-work model to proof-of-stake.
With proof-of-work, miners must complete complex puzzles to validate transactions. This process requires a lot of computer power and is often criticized due to its environmental impact. Proof-of-stake, on the other hand, lets users validate transactions according to how many coins they hold.
The “merge” planned for this summer is projected to reduce Ether supply.
“Following the ‘merge’ the amount of ETH issued is projected to drop by 90%, which would lead similar levels of fees to reduce Ether’s supply by as much as 5% a year,” said blockchain analytics firm IntoTheBlock in its recent newsletter.
Supporters of the “merge” have a super bullish outlook on the upgrade: Over $31 billion is already deposited on the proof-of-stake chain.
But in the meantime, trading of NFTs has been the “largest burner of ether since the introduction of EIP 1559,” IntoTheBlock said, as Ethereum supports over 80% of NFT volume.
Clarification March 21, 2022: This story has been updated to reflect the type of currency that Ethereum has burned.
