The Ethereum Deflationary Upgrade: How it Could Pump Prices

The Ethereum London upgrade has gone into its final phase of testing this week and the highly anticipated hard fork has now been scheduled for August 4.

This move by Ethereum will usher in a controversial upgrade called EIP-1559 that will result in some of the transaction fees being burnt.

Industry experts have asserted that this will introduce deflationary properties to the Ethereum economy. Currently, ETH is mined and the supply increases by between 4 and 5% per year.

When the London upgrade occurs, the fee burning could reduce this to less than 1%, dropping into negative, or deflationary territory when proof-of-stake is rolled out.

One researcher has taken a look at the economic impact that EIP-1559 may have on the Ethereum network.

Burning Unstaked Ethereum

A website has been set up to see this fee-burning mechanism in action on the various testnets. At the time of writing more than 89,000 ETH had been burnt on the testnets, valued at approximately $185 million at current prices.

EIP-1559 ties the theoretical value of ETH to the value of the Ethereum network because unstaked ETH must be paid as gas, the researcher noted.

Proof-of-stake ties actual ETH price to the value of Ethereum network because annual fee burn cannot go above some percentage of unstaked ETH without moving price, he added.

A hypothetical scenario was proposed where, in the year 2025, 80% of ETH had been staked, and the network has a deflation rate of 2%. Annual gas fees could burn as much as 10% of unstaked ETH per year.

“At 10% of unstaked ETH burned per year, unstaked $ETH prices would have no choice but to rise. Unstaked $ETH is too valuable, that would be too scarce.”

There are several arguments as to how prices will be influenced by this ETH that remains circulating and the conclusion is that it will inevitably rise.

In February, researcher Ryan Berckmans hypothesized that ETH prices could reach $20K once all of these factors come into play. EIP-1559 will see gains going towards ETH holders instead of miners. The deflationary properties of the network will be further enhanced when proof-of-stake replaces proof-of-work in 2022 some time.

ETH Price Outlook

At the time of publication, current Ethereum prices were on their way down again. CoinGecko was reporting a 0.2% rise on the day with ETH trading at $2,169.

ETH has gained 9% over the past fortnight but is down 14.2% since the same time last month. At current levels, it has corrected 50.2% from its May 12 all-time high of $4,357.

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