Ethereum: An Introduction to The Merge and the ETH Staking Ecosystem

7 min readJul 13, 2022

‍What is Ethereum, and how is its token (ETH) used?

Ethereum is a layer-1 blockchain designed to provide both the transactional and value-store properties of cryptocurrency along with the added functionality of smart contracts, a concept established by Nick Szabo in 1994 and developed further in 1996. Smart contracts have been used to deploy DeFi solutions, DAO (Decentralized Autonomous Organization) frameworks, and a host of other platforms for decentralized, permissionless coordination between parties across the globe. To this day, Ethereum is the most dominant platform for developers building decentralized protocols.

Ether (ETH) is the native token of Ethereum, and is the native unit of account for interacting with the network and transacting with other users. The Ethereum whitepaper was released by Vitalik Buterin in 2014. By combining the innovation of the blockchain with the Ethereum Virtual Machine (EVM), Ethereum led to a paradigm shift in Web3. It is considered by many to be among the few true “blue chip” cryptocurrencies believed to be less susceptible to market downturns and more resistant to shocks to the cryptocurrency ecosystem. Ether does not have an issuance cap but will become deflationary post-merge as the ETH burn rate far outpaces rewards received by validators, leading some to label it “ultrasound money.”

Pre-Merge Timeline

The general timeline leading up to the Merge is shown through the graphic above. Currently Ethereum Mainnet (Proof-of-Work) and the Beacon Chain (Proof-of-Stake) are running in parallel, although regular transactions are being processed on Mainnet while the Beacon Chain is coming to consensus about its own state, which generally has minimal usefulness to the typical Ethereum user. “The Merge,” estimated to take place during the third quarter of 2022, will join these two together, with the Execution Layer (what we know today as Mainnet) focusing on processing transactions and the Consensus Layer (what we know today as the Beacon Chain) coming to consensus on the network’s state as well as proposing blocks.‍

Post-Merge Roadmap

In terms of timing, the latest seems to indicate that the merge will take place during the third quarter of 2022(1), but this is not a certainty. Expedient release of Ethereum’s Proof-of-Stake functionality pales in comparison to ensuring the merge occurs in a risk-minimized way. In terms of Ethereum’s future development, the Merge is the earliest phase along the following roadmap:

Phase 0 (Current) — Beacon Chain: The Beacon Chain (PoS) is running in parallel to Ethereum mainnet (PoW), and is producing blocks relevant to the Beacon Chain, but which are largely uninteresting to most Ethereum users. Neither smart contracts nor transactions can be executed on the Beacon Chain currently, but those who wish to can deposit 32 ETH to become a validator. Funds cannot be withdrawn until this feature is enabled sometime after the Merge.
Phase 1 — The Merge: The Merge is the term for when the Beacon Chain combines with the Execution layer (what we know currently as Mainnet), changing consensus from Proof-of-Work to Proof-of-Stake.
Phase 2 — Post-Merge Cleanup: There will be several changes to Ethereum following the merge, including enabling withdrawals and some “technical clean-up.”
Future Phases — Scalability/Sharding: Post-merge, Ethereum will attempt to increase capacity by splitting the network into multiple chains, known as “shards,” to spread the processing load to multiple validators without increasing their size. This will hopefully address scalability issues.‍

Tokenomics Before and After The Merge

Currently about 15,000 ETH/day is issued to pay miners (~13,500 ETH/day) and validators (~1,500 ETH/day). On top of this, roughly 8,100 ETH/day(2) is being burnt every day, implying that Ethereum will become “deflationary” post-merge. In other words, stakers will still receive an estimated 7–9% APY staking rewards in like-kind, but it will be rewards paid in an asset with a continuously decreasing supply.

Currently, auto-compounding rewards are not enabled, and rewards to validators are distributed for performing one of three activities. These three activities are described below (references to architecture are minimized due to the intensive technical explanations required to describe them fully):

1. Proposing a new block;

2. Attesting to (i.e. voting with staked ETH in approval of):
a. The Beacon Chain head (i.e. “LMD GHOST”)
b. The source (i.e. “FFG vote”), and
c. The target (i.e. “FFG vote”); or

3. Participating in the “Sync Committee” (A group of 512 validators chosen every 256 epochs, or roughly 1 day) — This group of validators continuously signs the block header at every slot.

Generally, rewards APY is calculated based on the total amount of ETH staked, as shown below:

‍Currently, the lock-up period for staked ETH is indefinite once a user deposits their ETH on the Beacon Chain. In all likelihood, withdrawals will be made available with the first upgrade after the merge (see Shanghai and Capella). Notably, it is possible for ETH to be exited from the validator set voluntarily or due to a slashing event. In both cases, the ETH still remains locked in the Beacon Chain until the required post-merge upgrade enables withdrawals. These two events can be generally understood as follows:

Voluntarily exiting validator set: Similar to entry queue,there is a maximum number of validators permitted to exit during any given epoch; if the queue is empty, then it will take a minimum of 5 epochs (~32 minutes) to exit; note pre-merge this exited ETH will not be withdrawable.
Slashing: Yes for either: (1) Double voting, or (2) Surround voting (see here for reference). When slashing occurs, the penalty is the same (assuming 32 ETH):
- 0.5 ETH is taken immediately;
- 0.15 ETH is taken while the validator is waiting to be removed from the validator set; and
- Further amount taken from stake proportional to other validators that were slashed at the same time.‍

The State of the Ethereum Staking Ecosystem

Ethereum has proven to be one of the best blockchain networks in terms of security, flexibility, and reliability, processing over $2 billion in transactional volume per day. Due to the incredible amount of demand for this reliability and secured information across many interoperable applications, the cost of blockspace on Ethereum has skyrocketed. This has presented an opportunity for Layer-2s (“L2s”), which are networks that aggregate transactions on their own side-chain before they are added to the Ethereum blockchain as a single transaction, thereby spreading the cost of that costly ETH transaction across all L2 participants.

ETH is the native token on Ethereum, but it is also represented in these various L2 solutions as wETH, axlETH, and stETH, to give a few examples. These L2 solutions have allowed the network to scale and provide greater efficiency to users beyond the base protocol layer, with benefits such as lower transaction fees (Ex: Polygon, Arbitrum) and accessibility to liquid staking until withdrawals are enabled for Ethereum itself (Ex: Alluvial, Lido). Lido is an L2 that is geared towards permissionless liquid staking, allowing anyone to deposit ETH and receive stETH in return, which generates staking yield and is also able to be freely traded or deposited into compatible derivative smart contracts. Alluvial, on the other hand, is geared towards liquid staking for institutions, which have different needs such as AML and KYC, for example. The goal of Alluvial is to not only offer this higher-grade service for institutions, but also plans to convert into a decentralized autonomous organization (DAO) and hand over governance to its community in the interest of preserving decentralized principles.

Given the emphasis on moving to Proof-of-Stake, Ethereum will still have scalability issues for the foreseeable future. This means that L2 solutions will remain important to the overall success of the network and for participants in the Ethereum ecosystem. Liquid staking solutions like Alluvial and Lido will also continue to occupy a massive sector of the staked Ethereum market even after withdrawals are enabled after the merge, because they will allow stakers to not only continue earning yield on liquid assets but also enable more robust yield-generating strategies by allowing them to deposit their assets on other utility-based smart contract platforms. The merge is a major step forward in Ethereum’s development, but importantly, it is only the beginning of what we will build together.‍

Staking Ethereum With Figment

If you are interested in staking over 32 Ethereum, we offer a host of services aimed at delivering safe, reliable staking yield for your assets. Not only do we provide some of the highest quality staking infrastructure in-house, we also have a number of ancillary data processing services at your disposal.‍

Quick Facts on what Figment offers:

White-glove solutions catered to a tokenholder’s current tech stack and security needs.
A mix of bare metal and cloud infrastructure optimized for safety.
Custom SLAs: Slashing and Missed Rewards coverage.
Rewards reporting and custom portfolio dashboards.
24/7 private support channels.
Lighthouse client provides unique safety coverage and excellent performance.
Secure key handling.
Validators can be provisioned in specific geographic locations based on preference.
Automated validator provisioning.
APIs for customer self-service.
Fully set up and staking within 5 business days.

We also support Lido, a liquid staking solution that allows ETH holders to stake less than the 32 ETH required to spin up a validator on the Beacon Chain. We are also one of several core staking providers for the institutional version of Lido’s liquid staking services, Alluvial.

(1) https://twitter.com/TimBeiko/status/1514010098145759232

(2) EIP1559 was implemented August 5, 2021. As a proxy for daily average burn, take the amount burnt since EIP1559 (see https://watchtheburn.com/) and divide by number of days between today and August 5, 2021.

This story originally appeared on the Figment blog here.