What Is Ethereum? How Does It Work? (2024)

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Ethereum (ETH) is the second most popular cryptocurrency after Bitcoin. Founded by Vitalik Buterin and Gavin Wood in 2015, today Ethereum’s market capitalization represents approximately 20% of the $1.1 trillion global crypto market.

There are some distinct differences between Ethereum and the original crypto. Unlike Bitcoin (BTC), Ethereum is intended to be much more than just a medium of exchange or a store of value. Instead, Ethereum is a decentralized computing network built on blockchain technology.

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What Is Ethereum?

In the crypto’s own words, Ethereum is “a global, decentralized platform for money and new kinds of applications,” with thousands of games and financial apps running on top of the Ethereum blockchain. The crypto is so popular that even other crypto coins run on its network.

Central to Ethereum is its blockchain network. A blockchain is a decentralized, distributed public ledger where transactions are verified and recorded.

It’s distributed in the sense that everyone participating in the Ethereum network holds an identical copy of this ledger, letting them see all past transactions. It’s decentralized in that the network isn’t operated or managed by any centralized entity—instead, it’s managed by all of the distributed ledger holders.

Blockchain transactions use cryptography to keep the network secure and verify transactions.

Ether, the native token on Ethereum, can be used to buy and sell goods and services just like Bitcoin. But what’s unique about Ethereum is that users can build applications that “run” on the blockchain like software “runs” on a computer. These applications can store and transfer personal data or handle complex financial transactions.

Ether and Ethereum: What’s the Difference?

You can use Ether as a digital currency in financial transactions, as an investment or as a store of value. Ethereum is the blockchain network where Ether is held and exchanged. As mentioned above, this network offers a variety of other functions outside of ETH.

“These can be simple movements of funds, but they may also be complex transactions that do anything from exchanging assets to taking out loans to acquiring a piece of digital art,” says Boaz Avital, head of product at Anchorage. The transactions are processed and stored on the Ethereum network.

The Ethereum network can also be used to store data and run decentralized applications. Rather than hosting software on a server owned and operated by Google (GOOGL) or Amazon (AMZN), where the one company controls the data, people can host applications on the Ethereum blockchain. This gives users control over their data and they have open use of the app as there’s no central authority managing everything.

One of the most intriguing use cases involving Ethereum is self-executing contracts, or so-called smart contracts. Like any other contract, two parties agree to deliver goods or services in the future. Unlike conventional contracts, lawyers aren’t necessary: The parties code the agreement on the Ethereum blockchain. Once the contract conditions are met, it self-executes and delivers Ether to the appropriate party.

Ethereum vs. Bitcoin

Bitcoin’s primary use is as a virtual currency and store of value. Ether also works as a virtual currency and store of value. But the decentralized Ethereum network also makes it possible to create and run applications, smart contracts and other transactions on the network. Bitcoin doesn’t offer these functions.

Ethereum also processes transactions more quickly.

“New blocks are validated on the Bitcoin network once every 10 minutes while new blocks are validated on the Ethereum network once every 12 seconds,” says Gary DeWaal, chair of Katten’s financial markets and regulation group. And future developments could speed up Ethereum transactions, even more, he notes.

Last, there is no limit on the number of potential Ether tokens, while Bitcoin will release no more than 21 million coins. Currently, Bitcoin has 19 million coins in circulation.

Ethereum Benefits

  • Large, existing network. The benefits of Ethereum are a tried-and-true network that has been tested through years of operation and billions of value trading hands. It has a large and committed global community and the largest ecosystem in blockchain and cryptocurrency.
  • Wide range of functions. Besides being used as a digital currency, Ethereum can also process other financial transactions, execute smart contracts and store data for third-party applications.
  • Constant innovation. A large community of Ethereum developers is constantly looking for new ways to improve the network and develop new applications. “Because of Ethereum’s popularity, it tends to be the preferred blockchain network for new and exciting (and sometimes risky) decentralized applications,” Avital says.
  • Avoids intermediaries. Ethereum’s decentralized network promises to let users leave behind third-party intermediaries, like lawyers who write and interpret contracts, banks that are intermediaries in financial transactions or third-party web hosting services.

Ethereum Disadvantages

  • Rising transaction costs. Ethereum’s growing popularity has led to higher transaction costs. Ethereum transaction fees, also known as “gas,” can fluctuate and be quite costly. That’s great if you’re earning money as a miner but less so if you’re trying to use the network. Unlike Bitcoin, where the network rewards transaction verifiers, Ethereum requires those participating in the transaction to cover the fee.
  • Potential for crypto inflation. While Ethereum has an annual limit of releasing 18 million Ether per year, there’s no lifetime limit on the potential number of coins. This could mean that as an investment, Ethereum might function more like dollars and may not appreciate as much as Bitcoin, which has a strict lifetime limit on the number of coins.
  • Steep learning curve for developers. Ethereum can be difficult for developers to pick up as they migrate from centralized processing to decentralized networks.

What Is Ethereum 2.0?

In 2022, Ethereum 2.0 switched the crypto’s blockchain from a proof-of-work consensus mechanism to proof of stake. This phased out the need for miners, who run validations on expensive crypto mining equipment and consume a lot of energy.

Staking, which involves locking away a certain amount of cryptocurrency to participate in the transaction verification process, replaced mining to verify Ethereum transactions. Ethereum 2.0 reduced the crypto’s carbon footprint by up to 99.9%.

How to Buy Ethereum

It’s a common misconception among people new to the Ethereum network. You don’t buy Ethereum itself—that’s the network. Instead, you buy Ether and then use it on the Ethereum network. Given Ethereum’s popularity, it’s very easy to buy Ether:

  • Pick a cryptocurrency exchange. Crypto exchanges and trading platforms are used to buy and sell different cryptocurrencies. Coinbase, Binance.US and Kraken are a few of the larger exchanges. If you are just interested in purchasing the most common coins like Ether and Bitcoin, you could also use an online brokerage like Robinhood or SoFi. Be prepared to pay some amount of trading or processing fees almost universally.
  • Deposit fiat money. You can deposit cash, like dollars, in your trading platform or link your bank account or debit card to fund purchases of Ether.
  • Buy Ether. Once you’ve funded your account, you can use the money to purchase Ether at the current Ethereum price along with other assets. Once the coins are in your account, you could hold them, sell them or trade them for other cryptocurrencies in the future. Keep in mind you may incur taxes whenever you sell or trade cryptocurrencies.
  • Use a wallet. While you could store the Ether in your trading platform’s default digital wallet, this can be a security risk. If someone hacks the exchange, they could easily steal your coins. Another option is to transfer coins you aren’t planning on selling or trading soon into another digital wallet or a cold wallet that’s not connected to the internet for safety.

Should You Buy Ether?

You might consider investing in the Ethereum network for a few reasons, according to DeWaal. “First, it has value and uses as a virtual currency. Second, the Ethereum blockchain could become more attractive when it migrates to the new protocol. And third, as more people utilize Ethereum distributed apps, demand for ETH may increase,” he says.

Besides buying Ether directly, you could also try investing in companies building applications using the Ethereum network. If you’d like help managing your investment, you could also buy into a professional investment fund like the Bitwise Ethereum Fund or Grayscale Ethereum Trust.

Before making any significant investment in Ether or other cryptocurrencies, consider speaking with a financial advisor first about the potential risks. Given the high risk and volatility in this market, make sure it’s money you can afford to lose, even if you believe in Ethereum’s potential.

What Is Ethereum? How Does It Work? (2024)

FAQs

What is Ethereum and how does it work? ›

In the crypto's own words, Ethereum is “a global, decentralized platform for money and new kinds of applications,” with thousands of games and financial apps running on top of the Ethereum blockchain. The crypto is so popular that even other crypto coins run on its network.

How does Ethereum work for dummies? ›

Ethereum is a decentralized blockchain network powered by the Ether token that enables users to make transactions, earn interest on their holdings through staking, use and store nonfungible tokens (NFTs), trade cryptocurrencies, play games, use social media and so much more.

How does Ethereum work now? ›

Ethereum can be used by anyone to create any secured digital technology. It has a token designed to pay for work done supporting the blockchain, but participants can also use it to pay for tangible goods and services if accepted. Ethereum is designed to be scalable, programmable, secure, and decentralized.

Can someone explain Ethereum to me? ›

Ethereum is a technology that's home to digital money, global payments, and applications. The community has built a booming digital economy, bold new ways for creators to earn online, and so much more. It's open to everyone, wherever you are in the world – all you need is the internet.

What is Ethereum in simple terms? ›

Ethereum is a decentralized blockchain platform that establishes a peer-to-peer network that securely executes and verifies application code, called smart contracts. Smart contracts allow participants to transact with each other without a trusted central authority.

How does Ethereum make you money? ›

If you own Ethereum, you can use it to earn passive income through a process called staking. Ethereum's current annual percentage rate, or APR, is 5.3%, but that requires you to have 32 ETH to stake directly.

What is Ethereum in plain English? ›

Ethereum is a blockchain-based computing platform that enables developers to build and deploy decentralized applications—meaning not run by a centralized authority.

Can ETH be converted to cash? ›

Absolutely! The most common way to cash out Ethereum is by using a crypto exchange. A cryptocurrency exchange is exactly that – you can exchange one currency for another. Cashing out Ethereum is when you exchange your cryptocurrency for fiat currency (usually Dollars or Euros).

What are the 5 steps of Ethereum? ›

Ethereum Roadmap: Merge, Surge, Scourge, Verge, Purge, and Splurge. According to Ethereum co-founder Vitalik Buterin, Ethereum's roadmap is split into a few stages.

Who controls Ethereum? ›

No one person owns or controls the Ethereum protocol, but decisions still need to be made about implementing changes to best ensure the longevity and prosperity of the network.

Does Ethereum have a purpose? ›

Ethereum enables building and deploying smart contracts and decentralized applications (dApps) without downtime, fraud, control, or interference from a third party.

Who owns Ethereum? ›

Ethereum is an open-source blockchain platform built by hundreds of thousands of developers from around the world. Since Ethereum is a decentralized network, no single entity controls or owns it.

Who owns most Ethereum? ›

Vitalik Buterin, one of the founders of Ethereum along with Gavin Wood (Polkadot) and Charles Hoskinson (Cardano), has many ETH addresses, but his VB 3 address is the largest. He currently holds over 240,000 ETH at this address, having sent 320,000 from his main VB wallet just under 2 years ago.

Do I need to do anything to my Ethereum? ›

Your ETH tokens which are held on the current Ethereum chain, will automatically be accessible on the Ethereum 2 chain and you do not need to do anything. If you send your ETH to the deposit contract to start staking on the Ethereum 2 blockchain, they will be locked until Phase 1.5 of the Ethereum 2 transition.

Is Ethereum too risky? ›

We think ethereum is a worthwhile long-term investment. However, we also note that ethereum is extremely volatile. That means it experiences large price movements over short periods. Before you invest in ETH, you must understand the risks involved: you could lose all or a large portion of your investment.

Can you turn Ethereum into cash? ›

Can Ethereum Be Cashed Out? Absolutely! The most common way to cash out Ethereum is by using a crypto exchange. A cryptocurrency exchange is exactly that – you can exchange one currency for another.

Is Ethereum real money? ›

ETH is a cryptocurrency. It is scarce digital money that you can use on the internet – similar to Bitcoin.

Is it worth it to invest in Ethereum? ›

Ethereum (ETH), the second largest cryptocurrency by market capitalisation after Bitcoin, accounts for almost 20% of the $1.1 trillion global crypto market, making it one of the safest long-term bets if you are looking to diversify your portfolio with digital currency.

What are the disadvantages of Ethereum? ›

Cons of Using Ether

The network can be very slow, especially when dealing with smart contracts or ICOs. The price of Ether is very volatile, which allows its users to make a lot of money if they know how to trade it properly, but that also means that you could lose a lot depending on what you do with it.

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