Ethereum's Shapella upgrade: unlocking ETH staking and the blockchain's EV moment

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Last Thursday, Ethereum quietly completed a software upgrade, codenamed Shapella. For most ETH holders, it was a painless upgrade, much like a bank upgrading its ATM system without any noticeable impact, and there was even no downtime. However, this upgrade was historically significant. This article will explain what the Shapella upgrade represents and discuss the key points of the upcoming Ethereum upgrade.

EV moment

In 1886, German mechanical engineer Karl Benz invented the world's first three-wheeled gasoline-powered automobile, the Benz Patent-Motorwagen.

The invention of the Benz Patent-Motorwagen was significant in the history of automobiles. Today, Benz is a representative brand of high-end cars, but driving the Benz Patent-Motorwagen at the time was probably not considered cool. The top speed of this car was only 15 km/h, and the output power of the engine was only 0.75 horsepower. It was even criticized as a "smelly monster" on the road. People generally believed that the Benz Patent-Motorwagen's slow speed caused serious air pollution and that riding a horse was more environmentally friendly.

100 years later, air pollution caused by cars is still a significant environmental issue, but there are no longer people riding horses on the road. Blockchain has followed a similar development path.

Ethereum launched in July 2015, becoming the first blockchain to natively support smart contracts. It can not only handle simple transfer transactions, but also allow developers to write programs and create decentralized applications on the blockchain. It is like upgrading a calculator to a computer, where the latter has wider applications than the former.

However, just as the Benz Patent-Motorwagen was criticized as a "smelly monster" by German passersby, in recent years, many people have criticized blockchain as an "energy-consuming monster" - Ethereum's slow transaction speed and high energy consumption. It is less environmentally friendly than using bank transfers or even paper-based operations.

No one knows what will happen in another 100 years. However, the development of the automotive industry, from gasoline cars to the recent popularity of electric cars, took more than 100 years, while Ethereum completed its transition from the energy-consuming PoW (Proof of Work) to the environmentally friendly PoS (Proof of Stake) in less than 8 years. According to data released by the Ethereum Foundation, upgrading to PoS will reduce Ethereum's overall operational energy consumption by 99.98% and carbon footprint by 99.99%. In terms of speed and magnitude, it is much more significant than the automotive industry.

The Shapella upgrade symbolizes the last piece of the puzzle in Ethereum's transition from high-polluting PoW to environmentally friendly PoS.

Shapella Upgrade

Shapella is a combination of Shanghai and Capella, meaning that this Ethereum software upgrade is a combination of two sub-upgrades - the Shanghai upgrade representing Ethereum's execution layer and the Capella upgrade representing Ethereum's consensus layer.

The upgrade of the execution layer is named after the city where the previous Ethereum developers' conference (Devcon1) was held. In the past, there have been Berlin upgrades (Devcon0 host city) and London upgrades (Devcon1 host city). This time, it's the turn of the city where Devcon2 was held - Shanghai - so it's called the Shanghai upgrade. If Taipei has the opportunity to host the Ethereum developers' conference in the future, there will be a major software upgrade named after Taipei called the "Taipei upgrade."

The code name of the consensus layer upgrade is determined by alphabetical order based on star names. The previous two consensus layer upgrades were named Altair starting with A and Bellatrix starting with B. This time, it starts with C and is named Capella, and the next one will start with D and be named Deneb. The naming convention is similar to the international naming of typhoons, which is the result of proposals and discussions.

However, the Shapella upgrade is important because it symbolizes the end of an era - Ethereum officially completed the merge and ended the transition period since 2020. The following figure illustrates how Ethereum developers replaced the engine for cars on the highway most clearly.

In December 2020, Ethereum officially launched its PoS-based consensus layer, known as the Beacon Chain. It was like installing an electric engine for Ethereum, but the engine was still in the testing phase, and the car was still running on gasoline.

It wasn't until September 2022, after 20 months of testing, that the electric engine proved to be stable enough for the engineers to decide to turn off the gasoline engine and switch directly to the electric engine without stopping the car. In other words, Ethereum's car will transform from a gasoline car to an electric car on the highway. The difficulty and danger of this transition can be imagined. This is the most thrilling upgrade in Ethereum's development history - the Merge.

Although Ethereum has survived the most dangerous moment, the electric engine is not fully installed yet. It is not until the Shapella upgrade that the transition from a gasoline car to an electric car can be considered complete. In the past, the "gasoline engine" relied on miners' computers to maintain engine operation through high-speed calculations, but the new "electric engine" can be maintained by the ETH held by stakers.

During the PoW period, miners could shut down their computers and exit mining at any time. After entering PoS, before the completion of the Shapella upgrade, stakers could not withdraw their ETH to exit mining at any time. The Shapella upgrade not only symbolizes that the electric engine is running stably, and people can start withdrawing ETH, but also allows engineers to focus on other issues of the "car," such as improving driving speed and passenger comfort.

Recently, many exchanges have posted announcements allowing users to withdraw ETH previously used for staking. For example, Binance's announcement states:

Binance is pleased to announce that ETH 2.0 Staking participants will be able to redeem ETH with their BETH holdings on a 1:1 basis at the ETH 2.0 Staking page, starting from 2023-04-19 08:00 (UTC). Initially, it may take 15 days to several weeks before users’ ETH withdrawal requests can be fully processed. The time it takes to process ETH withdrawal requests is determined by the overall amount of ETH withdrawals requested by participants, as well as the Ethereum network.

Since December 2020, people have not been able to withdraw their staked ETH at any time. Therefore, several prominent exchanges such as Binance and Coinbase have launched staking certificates (e.g. BETH, cbETH) in response to market demand, providing liquidity to staked assets. This allows stakers to sell their staking certificates on exchanges to other people who want to participate in staking, even if they cannot directly redeem ETH from Ethereum.

However, staking certificates are issued by exchanges and their prices rely on people's confidence in the exchanges. In the event of negative market news, such as the US government cracking down on ETH staking services, the price of staking certificates issued by exchanges will also fall. The price of stETH staking certificates issued by decentralized staking service Lido once dropped by as much as 5% due to market panic.

After the Shapella upgrade, the price of staking certificates is less affected by market news. If the price of staking certificates drops significantly, people can theoretically buy them up and redeem them from exchanges at a 1:1 ratio for arbitrage. Unless the exchange goes bankrupt, the price of staking certificates will not deviate significantly. This is a great boon for leveraged traders.

Many savvy investors have seen that the price of staking certificates (such as stETH) and ETH are almost always in sync, so they exchange their ETH for stETH and use it to collateralize loans on Aave, borrow ETH, and then repeat the process of staking it to obtain more stETH and earn staking rewards. In the past, the risk of this leveraged strategy was that the price of stETH would deviate significantly, resulting in insufficient collateral and liquidation.

The Shapella upgrade has reduced the risk of liquidation and made the leveraged strategy more robust, so investors no longer have to worry about being targeted by market rumors. After completing Shapella, Ethereum's next upgrade will focus on the issue of transaction fees, which is the most important concern for users.

Next upgrade

During the Shapella upgrade livestream, Ethereum founder Vitalik Buterin pointed out that the focus of the next upgrade will be on transaction fees, which is the most important issue for users:

Ethereum has already overcome the most dangerous moment and completed the upgrade from PoW to PoS. The focus of developers will now be on Ethereum's scalability issues. If we don't solve Ethereum's scalability problem before the next bull market arrives, people will have to pay $500 in transaction fees to complete a transaction on the chain as the number of on-chain transactions increases.

Vitalik's words seem to imply something, which raises the question of when the next upgrade (bull market) will come. Although there is no clear timetable at present, he himself expects the next upgrade to take place in early 2024 and increase Ethereum's processing efficiency by 10 times. The improvement in blockchain efficiency will be reflected in transaction fee prices.

For Ethereum users, a $50 on-chain transaction fee is still expensive compared to $500. However, the Ethereum upgrade will also benefit second-layer networks such as Arbitrum, Optimism, or zkSync. If the transaction fee for Ethereum's second-layer network can be reduced from the current $0.2 per transaction to $0.02 per transaction after the upgrade, it will cost less than 1 NTD per transaction, which will definitely attract more users to participate.

Returning to the automotive industry, the first car launched by Mercedes-Benz was not only considered a smelly monster but even as the car's performance continued to improve, no one was willing to buy it, and even Karl Benz himself lost confidence. It wasn't until two years later that his wife Bertha Benz took a long-distance trip with their two sons without her husband's knowledge, driving a total of 180 kilometers round trip, that the world saw the practicality of cars.

I believe that Ethereum is still in the "smelly monster" stage. Those who are willing to try it out have to tolerate many of Ethereum's shortcomings. However, Ethereum continues to improve, and I believe that in the future, someone will accidentally plan a "long-distance trip" that will show the world the practicality of blockchain. As Mercedes-Benz wrote in the end note of the video, "Bertha drove not only a car but the entire automotive industry."

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