What is Ethereum?

Everything you need to know about one of the most exciting cryptocurrencies

What is Ethereum?
Steven Heap/123RF

With more than 1,300 cryptocurrencies out there, Ethereum has risen to the top of the pile, with its name often mentioned in the same breath as bitcoin. Although its value is no way near that of the flagship cryptocurrency, it’s great for trading and some of its more advanced features give it some exciting potential for the future.

But what is Ethereum, and what does it mean for the future of cryptocurrency (and maybe society)? Here’s the rundown.

If you’d rather not learn everything there is to know about Ethereum and just want to buy some, here’s our guide on how to do so.

What makes Ethereum different?

Although it does have its differences, on the surface at least, Ethereum functions as a cryptocurrency much like most others. Ethereum’s token, “Ether,” works in a similar manner to bitcoin. You can buy and sell it, with confirmations for transactions handled over the blockchain. It’s entirely decentralized, with no banks providing the confirmations needed to validate transactions. Instead, “miners” around the world fulfill that role by running powerful computational algorithms. Completing them rewards Ether, much like mining bitcoin rewards bitcoin.

In that way, the broad strokes of Ethereum are similar to bitcoin and other cryptocurrencies. It means owners can use Ether for conducting transactions online, or save it and potentially make money from its growing value — it grew from around $10 per Ether at the start of 2017, to more than $1,100 at the start of the next.

As much as Ethereum and bitcoin do share some similarities though, the two platforms have different goals. Where bitcoin is strictly a digital currency, designed to function as a means of payment or a store of value, Ethereum takes a grander approach. Ethereum functions as a platform through which people can use Ether tokens to create and run applications and, more importantly, smart contracts.

What is a smart-contract?

Smart contracts are contracts written in code, which the creator(s) upload to the blockchain. Any time one of those contracts is executed, every node on the network runs it, uploaded to the blockchain; thus, it is stored in the public ledger, theoretically tamper-proof.

Smart contracts are essentially structured as ‘If-then’ statements. When certain conditions are met, the program carries out the terms of the contract.

As an example, say you want to rent a car from a service that uses Ethereum. A smart contract is generated, stipulating that if you send the required amount of funds, then the service will send you a digital key to unlock the car. The process is carried out on the blockchain, so when you send the Ether tokens, everyone on the network can see that you did so. Likewise, when the rental service sends you the key to unlock the car, everyone will see it. In this scenario, the contract might state that if the service does not send you the key, the tokens are refunded.

Since every computer on the network is keeping track of this transaction through the blockchain, there is no way to tamper with it. If someone altered the details of the contract, every copy of the digital ledger would note it.

Every program on Ethereum uses a distinct amount of processing power, and since the program must be run by the nodes, it is important to keep superfluous activity to a minimum. This is why every contract and program on Ethereum is given a cost in “gas.” Gas is a measurement of how much processing power the program will require, and the higher the gas requirement, the more Ether tokens the user will need to spend.

One of the commonly cited advantages of smart contracts is that there is no need for “middlemen” like lawyers or notaries. In theory, this means that you can carry out transactions without the waiting times inherent to paper filings, and without paying fees to whoever would typically oversee such a transaction. This is particularly important for people living in countries where the legal system is corrupt, or woefully inefficient.

Of course, the automation means that, if something goes wrong — if, for example, there is a bug in the code of the smart contract — the blockchain will still carry out the terms of the contract, which could be problematic.

A scandal involving “The DAO” serves as a case study in how smart contracts can go wrong. The DAO was one of many decentralized autonomous organizations (DAOs), and cheekily named itself as a pun off the Dow Jones Industrial Average.

The DAO was essentially a leaderless investment fund. Members invested Ether, gaining tokens that allowed them to vote on how to invest The DAO’s funds. As CoinDesk explains, The DAO was built through a series of smart contracts.

However, a vulnerability in The DAO’s code allowed one user to funnel millions of dollars worth of ether into a different decentralized autonomous organization. A writer for Forbes compared the process to embezzlement but notes that because The DAO’s contract allowed for it to happen, it was not illegal; the user was working within the confines of the code.

What does it mean for the future?

Ethereum has cast an enormous shadow during its short time in the spotlight. It is trading at around $1,200 as of January 29, 2018, and has grown thousands of percent throughout the last year. The platform has already attracted massive corporations like JP Morgan Chase and Microsoft, who are among the more notable members of the Enterprise Ethereum Alliance. It aims to provide “Resources for businesses to learn about Ethereum and leverage this groundbreaking technology to address specific industry use cases.”

That bodes well for Ethereum’s usage in the business world, but true believers see the platform as something more than a tool for corporations; they see it as a way to decentralize the internet, and make it more democratic.

In an interview with Wired, Ethereum creator Vitalik Buterin laid out his view of how Ethereum will disrupt the traditional power structures of the world:

“I think a large part of the consequence is necessarily going to be disempowering some of these centralized players to some extent. Because ultimately power is a zero sum game. And if you talk about empowering the little guy, as much as you want to couch it in flowery terminology that makes it sound fluffy and good, you are necessarily disempowering the big guy. And personally I say screw the big guy. They have enough money already.”

Smart contracts could free individuals from the constraints of the legal system and big business. However, technology enthusiasts often promise such utopian futures. Just as social media has helped the spread of fake news, Ethereum and the automated, decentralized internet it seeks may have unintended consequences, as the DAO hacking indicates.

Like other cryptocurrencies, Ether is prone to wild fluctuations in value. While Ethereum has been riding high as of late, it is just a susceptible to crashes as other cryptocurrencies. Whether Ethereum is sturdy enough to survive long-term, or is an ephemeral trend, remains up in the air.