The drop in supply may be attributable to the upcoming upgrade. The upgrade involves shifting from Proof of Work(PoW) consensus mechanism to Proof of Stake(PoS) mechanism, which will improve network scalability and security. Shanghai-Capella upgrade is the latest development on Ethereum which is supposed to be released on 12th April 2023.
What is Token Burning and Why Does Ethereum Burn Tokens?
Token burning is the process of permanently destroying a certain number of tokens from the supply by sending them to an address that can only be accessed by developers. The tokens are sent to a dead address, where they are irretrievable by the general public. Ethereum is a deflationary currency, which means it burns a small amount of gas fees while customers make transactions to maintain supply.
By reducing the amount of tokens in circulation – by burning tokens – inflation is countered and maintains the value of the remaining tokens. Ethereum uses a fee mechanism (Gwei-gas fee of Ethereum) to pay for processing transactions. Burning helps reduce the overall supply, which in turn reduces the transaction fee.
Information regarding the supply drop was shared by IntoTheBlock on March 18. The growth of NFTs and DeFi on the Ethereum network has also contributed to the decrease in supply. Ethereum requires users to stake Eth by implementing the PoS consensus mechanism in order to participate and earn rewards. Around $1.9 billion is expected to be burnt every year.
Why is Ethereum Deflating?
Ethereum currently charges 32Eth from users to join the Ethereum network to approve and and add new blocks by becoming a validated note in the blockchain. The shift from PoW to PoS will reduce energy consumption in the network as part of the upgrade.
Ethereum blockchain demand has increased since it has a range of purposes including decentralized applications, NFTs and smart contracts. Investors have played a big role in deflating the Ethereum supply. They can profit from their Eth holdings by dumping them back in supply.
The fixed supply of Ethereum will benefit by creating a sense of scarcity, which will drive up the demand. As the demand will increase, it will have an effect on the price of Ethereum. This fixed supply also helps increase network security by protecting it from ‘51% attacks.’ With a fixed supply, investors can remain confident that the value of their portfolio will not be diluted over time.
Ethereum had launched London Hard Fork, an update that aimed at increasing the mining speed in the network by incentivizing it back in August 2021. This proposal was termed EIP-1559 which induced the burning of gas fees from transactions made on the network, thereby reducing the overall supply of tokens in circulation.
In conclusion, the finite supply of Eth will benefit in liquidity by creating a sense of scarcity, reducing inflation, increased network security and becoming an alternative stream of revenue. However, investors should study about markets and be cautious while making investments.
Nancy J. Allen is a crypto enthusiast and believes that cryptocurrencies inspire people to be their own banks and step aside from traditional monetary exchange systems. She is also intrigued by blockchain technology and its functioning.
Source: https://www.thecoinrepublic.com/2023/03/19/ethereum-supply-drops-by-66k-eth-in-2023-enters-deflation-phase/