Blockchain technology, the distributed ledger system that underpins the digital currency Bitcoin, is getting a lot of attention from Wall Street lately. With uses ranging from cross-border payments to settlements and clearing of over-the-counter derivatives to streamlining back-office processes, the potential for disruption in the financial industry and elsewhere is growing more real each day. While bitcoin is the most widely used and well-known use case of blockchain, Ethereum may be the killer app that allows for this disruption to finally take place.
The token native to the Ethereum blockchain, Ether (ETH), currently trades around $230, and the market capitalization of all ether is around $25 billion, making it the second most valuable blockchain behind Bitcoin (which represents approximately $185 billion of value). What is Ethereum and why is it interesting?
- Ethereum is a blockchain that was developed to support scripting and the creation of decentralized applications and 'smart contracts' through its virtual machine (EVM).
- Ethereum's native token, Ether (ETH) is a cryptocurrency used to pay for the processing power of the EVM in order to run smart contracts or other Dapps, in what is called 'gas'.
- Smart contracts have been used on Ethereum for a variety of purposes, from issuing ICO tokens to creating entire decentralized autonomous organizations (DAOs).
A Brief Overview of Ethereum
Ethereum was developed to augment and improve on bitcoin, expanding its capabilities. Importantly, it was developed to feature prominently “smart contracts:” decentralized, self-executing agreements coded into the blockchain itself. Ethereum was first proposed by Vitalik Buterin in 2013 and went live with its first beta version in 2015. Its blockchain is built with a turing-complete scripting language that can simultaneously run such smart contracts across all nodes and achieve verifiable consensus without the need for a trusted third party such as a court, judge or legal system. According to its website, Ethereum can be used to “codify, decentralize, secure and trade just about anything.” In late 2014, Ethereum raised almost $18 million in bitcoin by way of a crowd sale to fund its development.
The ‘Ethereum Virtual Machine’ (EVM) is capable of running smart contracts that can represent financial agreements such as options contracts, swaps or coupon-paying bonds. It can also be used to execute bets and wagers, to fulfill employment contracts, to act as a trusted escrow for the purchase of high-value items, and to maintain a legitimate decentralized gambling facility. These are just a few examples of what is possible with smart contracts, and the potential to replace all sorts of legal, financial and social agreements is exciting.
Currently, the EVM is in its infancy, and running smart contracts is both “expensive” in terms of ether consumed, as well as limited in its processing power. According to its developers, the system is currently about as powerful as a late 1990s-era mobile phone. This, however, is likely to change as the protocol is developed further. To put this into perspective, the computer on the Apollo 11 lander had less power than an iPhone; it is certainly plausible that in a few short years, the EVM (or something like it) will be able to handle sophisticated smart contracts in real time.
Within the Ethereum ecosystem, ether exists as the internal cryptocurrency which is used to settle the outcomes of smart contracts executed within the protocol. Ether can be mined for and traded on cryptocurrency exchanges with bitcoin or fiat currencies such as US Dollars, and is also used to pay for computational effort employed by nodes on its blockchain.
Ethereum and Decentralized Autonomous Organizations
Smart contracts could be the building blocks for entire decentralized autonomous organizations (DAO's) that function like corporations, engaging in economic transactions—buying and selling things, hiring labor, negotiating deals, balancing budgets and maximizing profits—without any human or institutional intervention. If one takes the view that corporations are just a complex web of contracts and obligations of varying size and scope, then such DAO's could be coded into Ethereum.
This opens the door for all sorts of new and interesting possibilities such as emancipated machines that literally own themselves and people being employed directly by pieces of software.
Ethereum and Decentralized Applications
While DAO's may be a concept to be realized in the future, decentralized applications (Dapps) are currently being developed for Ethereum today. These standalone applications utilize smart contracts and run on the EVM. Some examples include micro-payments platforms, reputation functions, online gambling apps, schedulers and P2P marketplaces.
The key feature to Dapps is that they run across a decentralized network and are enforced without the need for a central authority or overseer. Any sort of multi-party application that today relies on a central server can be disintermediated via the Ethereum blockchain. This can eventually include chat, gaming, shopping and banking.
The Bottom Line
What Bitcoin did for money and payments by harnessing blockchain technology, Ethereum may do for applications of all shapes and sizes. With a built-in scripting language and distributed virtual machine, smart contracts can be built to carry out all sorts of functions without the need for a trusted third party or central authority. Using its internal cryptocurrency, ether, nodes can be paid for their processing power in running these decentralized apps, and eventually, entire decentralized autonomous organizations may exist in an ether economy.