The Bitcoin blockchain was launched at the peak of the 2008 financial crisis. Behind this innovation was the mysterious cryptographer Satoshi Nakamoto. Ethereum was launched in 2015. It became the second most popular crypto asset as per market capitalization. What problems in the banking system necessitated the creation of Bitcoin? What are the similarities and differences between Bitcoin and Ethereum?
Bitcoin and the Instability of the Banking System
Central banks have existed since the 17th century. One of the oldest centralized financial institutions is Swedish Riksbank from 1668. The Bank of England came later in 1694, while Napoleon established the Banque de France in 1800. Overtime, central banks became the banking system’s repository and regulators.
Americans had a deep-down mistrust in centering financial power. That said, the instability of the whole system gave rise to a newer wave of central banks such as the US Federal Reserve (the Fed) in the twentieth century. Running by the gold standard until the early part of the 20th century, the central bank’s currency anchored its value to gold in their reserves.
This convertibility of fiat to gold was a country’s economic health indicator. In 1944, Bretton Woods Agreement came into force, with national currencies pegged to the US dollar where the US dollar was fixed to the price of gold ($35 an ounce). This system was abandoned in 1971. Since then, more and more US dollars are being printed out of thin air.
The 2008 global fiscal crisis demonstrated what problems can be caused by centralized financial systems that print fiat money. Left to govern themselves, these centralized financial systems brought about the most adverse fiscal disaster since the Great Depression (1929–1933). Coupling irresponsibility and greed, the monetary systems lead to a massive loss of wealth and widespread unemployment.
Distrust in the Banking System
The public’s faith in the banking system was at an all-time low in 2008. Fortunately, the internet was already disrupting archaic structures of wealth creation and information administration. A need had been building up to build alternative channels that would democratize financial exchange. This massive technological and cypherpunk movement culminated in the release of Bitcoin (BTC).
Bitcoin launched at the peak of the 2008 financial crisis. Behind this innovation was the mysterious Satoshi Nakamoto. Bitcoin’s Genesis block (Block 0) carries a line from The Times newspaper: The Times 03/Jan/2009 Chancellor on brink of second bailout for banks. This should probably forever bring to recall the failures of the legacy reserve banking system.
While central banks issue fiat currencies, the miners using the blockchain are rewarded by the newly mined Bitcoins after they solve a ‚digital puzzle‘. The miners will then trade their BTC on exchanges. The laws of supply and demand are the critical determinants of the cryptocurrency’s value. Satoshi’s code only allows for the mining of twenty-one million BTC.
Presently, miners have mined over 18.5 million BTC from the Bitcoin blockchain. Close to 4 million of this amount is lost due to mismanagement of private keys. Consequently, miners only have 3 million BTC left to scoop out of the digital currency’s code.
Bitcoin As a Finite Digital Asset
As you can see, Bitcoin is a finite digital asset. Its mining process adapts over time, halving its reward to miners. At its inception, a miner would reap 50 BTC as a reward. Bitcoin’s first halving event in 2012 lowered the reward to one half – to 25 BTC. The third halving in 2016 plunged the mining bounty to 12.5 BTC. In 2020, the blockchain had its fourth halving event and the prize for mining BTC is now 6.25 BTC.
On this account, Bitcoin is limited and has a measure that automatically halves its inflation levels every four years. Its blockchain will carry on this process until about 2140, when the last Bitcoin comes out of the blockchain’s depths. It is also the world’s most popular electronically distributed currency.
Bitcoin’s Bull Run
By 2013, Bitcoin had gained parity with the US dollar and went above the $41,000 mark for the first time in January 2021 when its market capitalization was over $833B. Bitcoin is often described as digital gold. Because of its restricted supply, wide recognition, and measures against inflation, many regard it as a store of value.
Bitcoin is the closest thing to a decentralized financial asset that can act as a global reserve currency since the fall of the gold standard.
The Ethereum network was launched in 2015. It is the second most popular crypto asset as per market capitalization. Ethereum did not present itself as a Bitcoin alternative as its altcoin predecessors had (e.g. Litecoin). It is a blockchain with an ecosystem and has Ether (ETH) for its native currency.
The Ethereum network utilizes the ERC20 protocol. The ERC-20 is extremely important, since it defines a common set of rules for all Ethereum tokens. This makes it easier for developers to come with new ERC-20 compliant tokens. This protocol also facilitates the creation of a smart contract-driven world. Vitalik Buterin, Ethereum’s founder, started the blockchain off with a Proof of Work (PoW) consensus system, much like Bitcoin’s.
Miners would verify the blockchain’s transactions and earn a reward in Ether. The mining reward under this protocol is 2 ETH for each block. However, Ethereum’s plan to veer off the electronic cash-only visage hit a few speed bumps. Barely a year after launch, the network went through a secession (fork) that led to the creation of two blockchains – Ethereum (ETH), and Ethereum Classic (ETC).
In 2016, hackers took off with ETH worth $60 million from the fund pool app, DAO (Decentralized Autonomous Organization). A part of the Ethereum community chose to reverse the transaction and take back the ETH. Another chunk of the community felt that this move would go against the principles of the immutability of blockchain transactions.
The community initiated a hard fork, creating Ethereum Classic (ETC). Over the years, Ethereum has had many hard forks. Ethereum started the initial coin-offering craze of 2017, becoming a crowd funder’s network as well. By 2018, the blockchain network had given rise to project funds worth over $7.8 billion.
Large amounts of this seed capital went to developer activity on Ethereum, heightening the use of ETH. The most recent economic activity on Ethereum has been the creation of DeFi – decentralized finance applications. DeFi is an alternative to archaic financial systems offering loans, derivatives, and exchange services for the electronic world.
That said, Ethereum’s most significant success is its smart contracts technology via Solidity. Solidity is a DApp (Decentralized Application) programming framework that helps create blockchain interoperable DApps. This move has made Ethereum a general-purpose model leading to the development of ERC-721 and ERC-20 token linkages.
Ethereum challengers such as Stellar, Tron, EOS, and Tezos also have native DApp ecosystems, but none are as popular as Ethereum’s. While Ethereum has over 3,000 DApps on its blockchain, EOS, its closest contender, has only over 330 projects.
The slow and expensive Proof of Work protocol has been draining to all Ethereum developers. As an illustration, at the height of the crypto kitties fame in 2017, Ethereum had a transactions backlog of 30,000 settlements that would require days to fulfill. When the tokenized kitties rage hit a registered user base of 250,000, the developers sought answers to the proof of stake protocol’s technical limitations.
To present itself as the global developer’s computer, and onboard diverse DApps, the blockchain network has been scaling to Ethereum 2.0 (ETH 2.0). This recent development is set to position ETH 2.0 as the blockchain network with a billion-user capacity by adopting a Proof of Stake (PoS) consensus mechanism. By moving away from mining, Ethereum should open a new chapter free of crippling transaction speed bottlenecks and splits.
Key Similarities Between Bitcoin and Ethereum
Distributed Ledger Technology:
Ethereum and Bitcoin use distributed ledger technology. They have Proof of Work (POW) algorithms that verify transactions. POW keeps the platforms secure, minimizing the risk of double-spend or a 51% attack on a network. A miner or a group of them will find it impractical to raise a 50% hash rate on Ethereum or Bitcoin blockchain.
A 51% attack can lead to the reversal of transactions. Miners on both blockchains create long chains of transactions, leading to immutable high block numbers for a reward. Hashing makes it easy to locate any fraudulent activity and is a deterrent to attacks.
Decentralized Digital Currencies
BTC and ETH are decentralized digital currencies. You can make purchases with them and enjoy autonomy over your transactions since they eliminate the use of third party players. Since you do not need a bank to make BTC or ETH purchases, both digital currencies also provide high-level discretion. Transactions via these assets will not reveal any personal identity, and they enjoy a peer-to-peer focus.
Key Differences Between Bitcoin and Ethereum
Payments vs. DApps
While Bitcoin has positioned itself as an asset for payments, Ethereum seeks to fuel the development of blockchain programming as DApps. For this reason, Ethereum’s transactions use ETH as Gas, while Bitcoin transactions simply measure block size.
Finite vs. Unknown Supply
Bitcoin is a finite resource, making it a form of digital gold. This aspect makes BTC a highly coveted asset. Ethereum has an unknown supply level. It however has an 18 million per year ETH release cap to counter inflation.
ETH has a market cap of $143.81B, while BTC’s market cap is $773.54B, i.e. over five times larger. Bitcoin is therefore much more popular globally amongst individual and institutional investors.
SegWit, and LN vs. PoS
Currently, Ethereum TPS (speed of transactions per second), averages between 12-15 TPS, needing anywhere between 15 seconds and 5 minutes to confirm (process) a transaction if you pay the standard fee (gas price). Ethereum has undergone major upgrades with plans to move to a Proof of Stake (PoS) protocol for ultimate scalability.
With Bitcoin, it takes 10 minutes to mine a block, so you would expect a transaction to take from 10 minutes to around an hour on average. Bitcoin currently allows only around 7 TPS. To increase the scalability of its blockchain transactions, Bitcoin can employ Segregated Witness (SegWit) and the Lightning Network (LN), allowing for thousands of TPS where the BTC transactions are instantaneous and with practically zero fees.
SHA-256 vs. Ethash
Ethereum uses Ethash for its hashing algorithm. Ethash is extremely memory intensive, and miners require unique chips to mine ETH. This aspect gives the Ethereum mining network more decentralization. Bitcoin uses SHA-256 as its mining algorithm, which allows for mining by ASICs (Application-Specific Integrated Circuits).
In the past, the Ethereum blockchain had lower transaction fees than Bitcoin. Currently, the average fee charged for the Ethereum network has practically gained parity with Bitcoin’s as Tether (USDT) transactions heighten. The current average transaction fees are similar for ETH, and BTC, which can be checked at BitInfoCharts.