What is Ethereum? Everything You Need to Know About Ethereum, Explained

At its most basic, Ethereum is an open-source software platform based on blockchain technology. This platform enables developers to build and deploy decentralized applications (dapps) like Status or Metamask on it. All of this is possible because of a breakthrough in blockchain technology (as popularized by Bitcoin), and then Ethereum came along with some new ideas.

As the two biggest crypto currencies (by market cap), Bitcoin and Ethereum often get mentioned in the same sentence. For the uninitiated, understanding what Ethereum is and how it differs from Bitcoin can be difficult.

On the official website under the tagline “build unstoppable applications”, you will find the following description of Ethereum:

A decentralized platform that runs smart contracts: applications that run exactly as programmed without any possibility of downtime, censorship, fraud or third-party interference.

Another common description of Ethereum is that it’s intended to become a “world computer”.

If none of the above makes complete sense to you, don’t worry, that’s the purpose of this article. Think of this as Ethereum 101, wherein we answer all the most important Ethereum-related questions, chart its history, provide some technical explanations, discuss pros & cons, and lay out what the future might look like.

If you’re completely new to crypto currency, it may be useful to get acquainted with some essential crypto currency terms first or check out the forums on Crypto-Cash Hub.

As a starting point, let’s think of Ethereum as Bitcoin’s multi-talented, more versatile younger sibling. Let’s go!

The History of Ethereum

Who is Vitalik Buterin?

Darryll DiPietro, Vitalik Buterin
Ethereum founder Vitalik Buterin

Ethereum started with one person, and that person is Vitalik Buterin. Unlike Bitcoin, Ethereum has a real name attached to it, a leader if you will. Buterin is a Russian-Canadian programmer and writer primarily known for his work with Ethereum and as a co-founder of Bitcoin Magazine. Involved in Bitcoin since 2011, he is also known as the developer of a fork of bitcoinjs-lib as well as one of the developers behind Egora, a crypto currency marketplace site.

But Ethereum is what truly propelled Buterin to fame. He came up with the idea for it at the ripe old age of 19. Instead of returning to university (he was studying computer science at the time), he began developing it full-time after receiving the Thiel Fellowship.

He now leads Ethereum’s research team, gives keynotes, and meets world leaders. He essentially lives on a plane, traveling to events and meetings all over the world, evangelizing and working to grow Ethereum.

Buterin is an influential voice in the crypto currency world. You can visit his official website where he sporadically posts articles or follow him on Twitter.

The Early Days of Ethereum

Coincierge Club, Darryll DiPietro, Ethereum

Now that you know a bit about Buterin, let’s look at what he did. In 2013, while working on Bitcoin, he noticed that it lacked its own scripting language for application development. He argued that this was a huge opportunity that needed some action; when he failed to receive broad support for this idea, he began writing his own whitepaper.

Released in late 2013, the Ethereum whitepaper outlines his vision to “provide a blockchain with a built-in fully fledged Turing-complete programming language that can be used to create “contracts”.

These contracts he was referring to are the “smart contracts” that Ethereum has become famous for. A smart contract is simply a self-executing contract written into code that is stored on the blockchain. They render transactions “traceable, transparent, and irreversible” (more on this later).

Buterin formally announced Ethereum at the North American Bitcoin Conference in Miami, January 2014. He’s said many times that he expected people to quickly point out all the ways in which he was wrong. But to his surprise, many people warmed to the idea and momentum started to gather behind his fledgling project.

How Ethereum Grew

As credence was given to Ethereum, a nonprofit foundation, the Ethereum Foundation (Stiftung Ethereum), was created to guide development. This development was funded by a crowdsale that kicked off in July 2014.

This was the first initial coin offering (ICO).

Ethereum also introduced its own native token called ether (ETH). ETH is the currency which runs everything in the Ethereum ecosystem. During the ICO, the Ethereum Foundation distributed the initial allocation of ETH via a public presale, making 31,591 bitcoins (worth $18,439,086 at that time) in exchange for about 60,102,216 ETH.

Late 2014 saw the buzz begin to build with more and more nodes (computers running the Ethereum protocol) coming online.

In the intervening years, developers flocked to Ethereum to work on the core technology and build their own applications on top of its blockchain. According to State of the DApps (a not-for-profit curated directory of Decentralized Applications on the Ethereum Blockchain), there are currently over 950 projects running on Ethereum. The main technology itself has already run through a few versions with Metropolis 3.5 on the horizon. The ETH token also went from being worth mere cents to well over US$1,000.

Coincierge Club, Ethereum, Darryll DiPietro

Countless ICOs (fundraisers) were held on the Ethereum blockchain and this trend looks set to continue for the foreseeable future. But there were, of course, some speed bumps too. One event, in particular, threatened to take the entire Ethereum project into the ditch.

The DAO Hack

Coincierge Club

To understand the history of Ethereum you need to know the story of The DAO. DAO stands for “decentralized autonomous organization”, an entity that runs on rules encoded into smart contracts on the blockchain.

Founded in 2016 by Christoph Jentzsch, one of these organizations (conveniently called The DAO) caused some serious waves. The DAO was a complicated smart contract whose aim was to create a decentralized venture fund that could seed venture capital into various dapp development projects.  

The code of The DAO was supposed to eliminate the need to trust humans in that it could function autonomously. But humans, as it turns out, were tough to remove from the equation.

To understand how The DAO worked is relatively straightforward. If you wanted to influence the direction of development, you had to buy DAO tokens with ETH. To get funding, someone would present a proposal which was then voted on. To move forward, it was required to get 20% of the vote from all of DAO holders. The more money you’d put into the DAO, the more weight you held at the voting table.

There was a lot of excitement around this idea and investors rushed to buy up tokens, investing over $150 million at the crowdsale (a record). However, no sooner had that happened than The DAO was attacked or otherwise hacked (what exactly happened is debated).

On June 17, 2016, someone exploited a known loophole in The DAO (a vulnerability in the default smart contract code) and drained one-third of the funds held in The DAO. At the time, this was around $50 million. How exactly this occurred is beyond the scope of this article but if you’re curious, there is an excellent piece detailing the full events on medium.

This was a dagger blow to a technology only a few years in existence. Ultimately, the Ethereum community decided on a solution that would, in effect, erase this attack.

Hard Fork and Ethereum Classic

In blockchain parlance, a “hard fork” is “a radical change to the protocol that makes previously invalid blocks/transactions valid (or vice-versa) and as such requires all nodes or users to upgrade to the latest version of the protocol software.” You may also sometimes hear mention of a “soft fork”, a change to the software protocol where only previously valid blocks/transactions are made invalid.

Here’s a short explanation of blockchain forks in a nutshell:

  • Hark fork: an upcoming software update will conflict with the current version of the network.
  • Soft fork: an upcoming software update will not conflict with the current version of the network.

The hack of The DAO resulted in a hard fork. The community voted to roll back history and make the record show that the attack never happened. This was a major change, and not everyone agreed.

This proposal was controversial and it created the division that has resulted in two branches of Ethereum which are essentially two versions of the same original network. The Ethereum that we know today includes the majority of users and heavy hitters (including Buterin) who wanted to adopt an altered transaction history. On the other hand, there is Ethereum Classic, the vocal minority who didn’t like the idea.

Ethereum Classic may not have gone on to the heights of Ethereum itself but it certainly hasn’t died either.

Regardless of what you think of all this, it proved that Ethereum as a whole was resilient. With the most important historical points outlined, let’s back up and cover a few basics. Getting these core concepts down allows us to understand exactly how Ethereum works.

How Ethereum Mining Works

Crypto Cash Hub

Every time someone wants to send ether to another person or execute a smart contract, this entire decentralized ledger must record and confirm the accuracy of the event. This critical task is not carried out by people or a company, but by thousands of computers all over the world that are connected to the Ethereum network. These computers are usually what people are referring to when they say “miners”.

The name itself is actually quite misleading; a more accurate term might be “transaction processors”. To make sure that transactions are securely and properly recorded requires computers to use a huge amount of computing power to solve complex algorithmic problems, and do so as quickly as possible to get a reward (paid in ETH). This is Proof-of-Work (PoW) and it ensures the integrity and vitality of the network as a whole.

But PoW has some drawbacks, most notably that it consumes an enormous amount of electricity and is highly competitive. This has made it cost prohibitive for most people and arguably driven the power into a select group of mining pools. In other words, it’s become somewhat centralized.

In August 2017, Buterin announced plans to move away from PoW.

In the proposal (sometimes referred to as Casper), he stated that Ethereum would transition from pure Proof-of-Work to hybrid PoW/Proof-of-Stake. As opposed to the PoW consensus protocol, the PoS protocol validates transactions through the efforts of “validators”, “stakers” or “forgers” (people call them many different things) who put up their coins by locking them down in specialized wallets. With PoS, these parties/computers commit money to the system with the understanding that they will lose their deposits if they don’t follow the rules.

Unlike Proof-of-Work, where the algorithm pays miners who solve mathematical problems with the goal of validating transactions and creating new blocks, Proof-of-Stake allows validators to place bets on which block they think will be added to the chain. If the validator is correct, they are rewarded (by a deterministic algorithm) in proportion to their bet or “stake”.

The result of Casper is (among other things) meant to be a Bitcoin-style Proof-of-Work mining blended with a much-anticipated and still-experimental Proof-of-Stake system. This means that Ethereum will begin oscillating between the two, and ultimately become dependant on PoS to arrive at consensus across its network.

Supporters of Casper hope the change will bring about a more eco-friendly protocol. Meanwhile, detractors point to the fact that its release has been pushed back numerous times as evidence that PoS won’t ever be truly successful on Ethereum. Others stress a more important issue, security (considering that the network holds billions of dollars of value). Developers have claimed that PoS will be more secure.

At the time of this writing, Casper FFG has been released on testnet. FFG is scheduled to be implemented on the main network when the second half of Metropolis is launched, (The first half is called Byzantium and second half will be called Constantinople).

Full-PoS Casper is still a ways off. But the first steps to getting Ethereum positioned for true scalability have been made.

How Ethereum Works

When you drill down, blockchains are really a shared version of reality everyone agrees on. So whether it’s a fully immersive VR experience, augmented reality, or even Bitcoin or Ethereum in the physical world as a shared ledger for our ‘real world,’ we’ll increasingly trust blockchains as our basis for reality.

-Fred Ehrsam, co-founder @Coinbase, and trader @GoldmanSachs

In the context of Ethereum, the blockchain acts as a public ledger that lists everything that goes on in the network in real-time. It’s the thing that makes the whole show possible.

Some of the same fundamental blockchain technology that allows Bitcoin to function allows Ethereum to function. The structure of the Ethereum blockchain is similar to Bitcoin, in that when a transaction goes through, a copy of it is distributed through the whole network. Every node (computer running Ethereum software) on the network stores a copy of this history

This distributed digital ledger of information can be easily synced across a large decentralized network. This is what makes Ethereum accessible to anybody with internet access, regardless of location.

Within the Ethereum network, there are blocks of data that consist of transactions and smart contracts. These blocks are chained together and are the complete record of Ethereum’s history going back to its first block. These blocks are created or mined by some users and distributed to other users who validate them or make sure they are “right”.

Every blockchain has some type of algorithm for reaching consensus. The network uses these algorithms to agree upon the single value of a data point across the entire system. As discussed in the section below, new transactions on Ethereum were initially agreed upon by “miners” using the same Proof-of-Work system as Bitcoin but plans to change that have been in the pipeline for quite a while now.

Now, let’s take a look at some key aspects of Ethereum.

The Ethereum Virtual Machine EVM

One of the key innovations of Ethereum is the introduction of the EVM.

Before the advent of Ethereum, crypto currencies were designed with a narrow range of function (sometimes this was completely singular). Bitcoin, for example, could only operate as digital currency.

Developers had hit a roadblock; they’d either need to expand the functionality of Bitcoin onto the existing blockchain (very time consuming and technically challenging) or start from scratch with a whole new platform. Recognizing this impasse, Buterin stepped into the void, pioneering the EVM.

To quote The Merkle:

this (the EVM) project focuses on preventing Denial-of-service attacks, which have become somewhat common in the crypto currency world. Moreover, the EVM ensures programs do not have access to each other’s state, ensuring communication can be established without any potential interference.

That is just one aspect, however, so let’s try to clarify in simpler terms why EVM matters so much.

With Ethereum, every time a program or transaction is activated the network has to process this. Contracts written in various programming languages are compiled into ‘bytecode’, which the EVM can decipher and execute (a bit like Google Translate). This means that anyone can run any program, regardless of the programming language given (and this is key) enough time and memory.

All the Ethereum nodes execute contracts using their EVMs and this invention is huge because it allows people to build things in a more efficient way than ever before. Now every application can be built in one place; there is no need for an original blockchain for every new project.

Smart Contracts

When you start learning about Ethereum, it becomes clear that the special sauce is its ability to power smart contracts. The phrase “smart contracts” was originally coined in 1996 by computer scientist Nick Szabo (rumored by some to be Satoshi Nakamoto). Smart contracts are computer programs that directly control the transfer of digital currencies or assets between parties, if certain conditions are met.

Smart contracts carry out if-then statements. For example, imagine if a smart contract was used to operate a vending machine. The if-then statement could be: “If someone puts a dollar into the vending machine, the vending machine will release a can of Coke for them.”

Ethereum provides a base for these contracts because it is “software that can host other software”. This offers a level of functionality that many other crypto currencies simply don’t have. Ethereum is projected to have the ability to deal with things like identity systems, insurance payments, and management of permissions (to name a few).

All of these are possible due to the smart contracts which sit on the Ethereum blockchain. They effectively stand in for a transaction or contract in an all-digital environment. This may all sound a little nebulous, so let’s look at a concrete example.

Say we were to set up an Uber-type service. A smart contract could be written to track the GPS coordinates of someone’s phone. It could be designed in such a way that if the GPS reaches an intended destination, then the smart contract automatically pays out to another user whose GPS made the same trip (in theory, the driver).

The driver could be paid $15 or whatever the reasonable fee is and this could all be done seamlessly without either party trusting each other or even really communicating for that matter. The driver has a guarantee of payment if, and only if, they deliver the other person to this specified GPS location.

The potential magic of Ethereum lies in making daily life more efficient and cost-effective by automating everyday processes and removing middlemen from human systems. The above example of Uber is but one of thousands of possible use cases.

To learn more about smart contracts, check out our articles “Digital Assets and Smart Contracts: A Beginner’s Guide” and  “4 Reasons Smart Contracts Will Change The World”.

ERC20 Token

ERC20 is simply the name for the standard requirements for anyone wishing to introduce a new token onto the Ethereum blockchain. ERC stands for Ethereum Request for Comments.

Introduced in late 2015, ERC20 used to be unofficial guidelines until they became formalized on the Ethereum GitHub page. To paraphrase Coindesk, the primary reason that ERC20 exists is to ensure that Ethereum-based tokens perform in a predictable way throughout the ecosystem, such that decentralized applications and smart contracts are interoperable across the platform, and that all tokens follow a fixed standard of security. In layman’s terms, it’s so that new things work with everything else in the system.

Given the huge number of ICOs that have taken place on Ethereum, it makes sense they’d want to develop some type of a standard. As of January 2018, there are more than 21,000 ERC20 token contracts and making sure they work across platforms and applications benefits Ethereum as a whole.

Ether Supply and “Gas”

As alluded to earlier, the ether token is the currency that makes the Ethereum ecosystem run.

The Ethereum website explains it this way:

ether is a necessary element — a fuel — for operating the distributed application platform Ethereum. It is a form of payment made by the clients of the platform to the machines executing the requested operations.

The cost of this fuel is determined by the degree of computation for an action the network performs — basically, everything costs a bit of gas, but some things more than others. This means that no one works for free and it disincentivizes inefficient code.

Who needs ether? Any developer wishing to build something on Ethereum or anyone wishing to access an Ethereum-based smart contract should have ether. It can also be used as a currency. As the Bitcoin network slowed and transaction fees rose toward the end of 2017, some people turned to ether as a medium of exchange.

The total supply of ether is not capped like Bitcoin is. The supply and rate of issuance were largely determined by initial donations at the 2014 presale. It breaks down like this:

(Source: etherscan)

  • 72 million ether created and given to contributors of the presale.
  • 24 million ether created and given to the development fund, most of it going to early contributors/developers and the remaining to the Ethereum Foundation.
  • 1.4 million created in “Uncle Rewards” (rewards for recording alternative or “very close but not quite right” blocks)
  • 98 million ether (roughly) in current total circulation (at time of writing).

As Ethereum changes, some have speculated that the ETH issuance rate might as well. But this has previously been guaranteed not to change. As one Redditor put it, “Casper FFG doesn’t mean anything for the supply of tokens or inflation rate. It’s PoS built on top of PoW.”

In 2017, the issuance rate of ether is 14.75%, or roughly 5 ETH per block. It should also be noted that the issuance of ether is capped at 18 million ether per year (this number equals 25% of the initial supply).

As we move into 2018, the introduction of Casper has been said to be “dis-inflationary” (i.e., inflation perpetually trending towards 0 but never reaching it).

You should now have a basic idea of how the Ethereum blockchain, the ether token, smart contracts, the ERC20 standard and PoW/PoS consensus protocols work. For those who really want to dig into the engineering side of things, there is an excellent medium article on the technical nitty-gritty of Ethereum. Or you can always read the whitepaper.

Want The Full Article?

Want the full scoop? You can read the the complete version of this article from InvestInBlockchain by clicking here.

written by Colin Adams




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