Ethereum Merge Paves Way For Stronger Bitcoin

Ethereum Merge Paves Way For Stronger Bitcoin

by John Lee Quigley
22 Sep 2022

An immediate decline in Ethereum’s market price and a $10 billion gap in mining hardware consolidates Bitcoin strength

Ethereum’s transition from proof-of-work (PoW) consensus to proof-of-stake (PoS) consensus is one of the longest developing and most radical shifts the cryptocurrency industry has ever seen. A formerly $194 billion network irreversibly changed its security backbone which has underpinned the network from a model which relies on hard-to-obtain computing power to one which relies on accumulating and staking wealth in an open market.

In a nascent industry like digital assets, the developments of one asset within the ecosystem do not act in isolation. The impact of their developments reverberate across the industry and impact other assets for better or worse.

In this ASIC Jungle analysis, we review the impacts of the Ethereum Merge on the bellwether of the crypto market Bitcoin. We explore the immediate market impact after the Merge occurred, the security implications of the event, and a potential $10 billion gap in the hardware market.

Immediate Market Impact

In the months leading up to the PoS transition on September 15th, there was a lot of anticipation from Ethereum advocates that the event may serve as a catalyst to accelerate the market cap of Ethereum overtaking that of Bitcoin, a speculative idea that has been labelled “The Flippening”. The market reaction turned out to be the contrary.

Since the move to PoS, $40 billion has been shed from the market cap of Ethereum, representing a 20% decline from pre-Merge values. Over the same timeframe, Bitcoin’s decline has been just 4%, resulting in the ETH/BTC declining from ~0.081 BTC to 0.067 BTC at the time of writing.

Network effects and capital inflow/outflow play an undeniable role in not only the security but the future success and appeal of cryptocurrency networks. Understanding this phenomenon, the recent market developments would suggest that the relative security and strength of Bitcoin has improved as the market responded poorly to the Ethereum developers and community completely upending the security backbone of their network.

Security Concerns and a $10 Billion Gap in the Hardware Market

The selloff is logical when considered from a security standpoint. Bitcoin miners invest heavily into specialized ASIC hardware that compete to bundle transactions and append them to the Bitcoin blockchain. The competitive process to appending such transactions to the Bitcoin chain is extremely costly and if they include invalid transactions, network nodes will disqualify their block and they will lose out on vast rewards, leaving miners with only the huge cost of their hardware and power.

This is the genius of PoW and having a network of Bitcoin nodes which are delinked from miners. Ethereum has discarded this model for one which only requires wealth for validation. Such dynamics have also led to validators becoming highly concentrated with no delinked nodes to keep them in check. 51% of the validation process is currently controlled by only three entities.

On top of this, a major gap has been left in the hardware market. It is estimated that roughly $10 billion worth of hardware was actively mining Ethereum before the Merge. Some of that hardware has been diverted to lower-cap altcoins that utilize the same PoW algorithm which Ethereum previously employed but the returns are dismal.

The specialized nature of this hardware means that the owners have little options but to try to operate it on a lower-cap network or to use it as scrap metal, leaving formerly bullish Ethereum miners with an expensive lesson. However, this lesson also opens the doors for more capital inflow into Bitcoin mining. Those who previously may have considered altcoin mining may now learn from the losses incurred by Ethereum miners.

Proof-of-Work Shines in Merge Aftermath

In light of the excitement and anticipation surrounding the Ethereum Merge, few remind themselves of the fact that the event was postponed almost indefinitely for several years. The initial plans were to transition only a couple of years after the network launched but it was regularly postponed to speculative future dates.

And for good reason. At its essence, PoS is largely unproven and the dynamics of the consensus system certainly seem less secure than PoW where a heavy investment in participating in the consensus incentivizes good behavior. Now that the Merge has finally happened, all of the immediate aftereffects corroborate the validity of PoW consensus and point towards a stronger and healthier Bitcoin.