The Ethereum Investment Framework

This research piece has been written by Michael Nadeau from The DeFi Report, in collaboration with Token Terminal.

1. Executive summary

The internet is incomplete.

There is no denying that the web has brought us endless abundance. But it’s missing two critical components:

1. Internet users do not have digital property rights.
2. The internet does not have a credibly neutral, shared, secure, permissionless, global accounting system — to record the state of its users and enable global commerce on one shared ledger.

This is the core value proposition of public blockchains — which are installing a new data layer into the internet.

We take the concept of ownership and property rights for granted when it comes to our physical reality.

Yet we struggle to make the same connections to our digital lives. It’s helpful to pause and contemplate that which we truly own on the internet today.

We license books from Amazon. We rent music from Spotify and Apple. We even make payments to borrow web domains from a registrar. Our Twitter, Instagram, Facebook, LinkedIn, and YouTube accounts can all be taken from us on a whim.

Never mind how our digital footsteps are monetized by others.

Our data is valuable. Yet we have no way of controlling access to it.

Crypto networks such as Ethereum bring the concept of property rights to the internet. We can think of this as user-controlled data via digital bearer instruments. The data comes in the form of both fungible and non-fungible tokens or crypto assets — controlled by users with digital wallets and private keys.

Given this breakthrough in computer science, it is worthwhile to contemplate the importance of property rights as the bedrock of any modern economy. Clear title to land — and the ability to own, control, and improve land is arguably what made the modern world possible. Just about everything else in the consumer economy is a consequence of this: accessing credit, the incentive for investment, unlocking “dead capital,” etc.

To drive home the concept, we’d ask you to ponder the last time you sent a PDF document as a bearer instrument. As in, when you sent it, the recipient now controlled it, and you no longer had access to it. You probably have no recollection of doing so — because it’s not possible today. But this is how crypto assets and NFTs work.

The reason that we cannot own anything on the internet relates to #2 above: we do not have a credibly neutral, shared, secure, permissionless accounting database for the internet.

This means that the digital economy relies on centralized services to maintain the ledgers and the state of internet users across time. As a result, the economic activity of billions of individuals globally is recorded and stored by a handful of private internet businesses — which control both the user interface and the database/accounting ledger.

While these problems are abstract to consider, the impact of solving them is potentially massive. To grasp the magnitude, we’d like you to consider the potential impact of a global ledger & computing platform such as Ethereum:

1. Can securely connect 8 billion people globally.
2. All the world's financial assets could be securely stored and transacted globally in a peer-to-peer manner on this ledger.
3. Has the potential to remake just about every business model on the internet via the introduction of smart contracts and digital property rights.
4. B2B interaction could be fundamentally transformed — with shared ledgers + automation via smart contracts (ERP for business interactions).
5. The global financial services industry could utilize this ledger for payments, trading, settlement, custody, lend/borrow, and ownership records.
6. Art, collectibles, music, gaming, brand loyalty/advertising, digital content, digital identity, social media, web hosting, and cloud computing business models could leverage this new ledger & computing platform — creating net new markets in the process.

This begs the question: How much should this global ledger & computing platform be worth?

And what are the core concepts that an investor needs to understand to properly assess its potential value?

Things like the power of open-source technologies. Network effects. Lindy effects. Moore’s Law. Decentralized incentive structures. “Good enough technology” and “The 10-year window.” Why network technologies tend toward monopolies. The distinct phases that revolutionary technologies go through as they are implemented and deployed. The economics of Layer 2 solutions. The business model of each layer of the tech stack. Ethereum’s addressable market and “GDP.” On-Chain financials, and much more.

Furthermore, what KPIs, metrics, and benchmarks should one be tracking?

How big is the addressable market? And what is the proper methodology to value a decentralized computing network?

The bottom line is that crypto is new. We haven’t seen this before. Furthermore, crypto markets and news cycles are full of noise. No matter where you turn, you will see wildly conflicting views on the space.

This is why we created The Ethereum Investment Framework.

We hope you find some value in it. If you do, please share the download link with your friends and colleagues so that more people can responsibly learn about crypto from first principles and on-chain data.

2. A brief history of open standards

Historically, information technology has evolved in multi-decade cycles of expansion, consolidation, and decentralization. The cycles have played out in repeatable patterns over the last 60-70 years.

Periods of growth follow the introduction of a new open standard that reduces the production costs of technology as it becomes universally accepted. As production costs fall, the barrier to entry for new firms to compete with the established incumbents drops, further pushing down prices and margins while decentralizing existing market structures. New users become attracted to new products and services, which draws in entrepreneurial talent to serve new markets where costs and barriers to entry are low, competition is scarce, and the upside is high.

This is happening today — but it can be difficult to see amidst the “crypto casino” running alongside the fundamental innovation brought forth by public blockchains — the new open standard.

With history as our guide, public blockchains and crypto can be viewed as the latest expression of the open-source technology movement — which began decades ago.

1950s: The transistor — a new open standard — collapsed the production cost of electronics by replacing expensive vacuum tubes with smaller, cheaper, and more reliable switches. As barriers to entry dropped, entrepreneurs rushed in. Computer hardware began to proliferate. The industry eventually consolidated around IBM and mainframe systems. 

1970s: The microprocessor — a new open standard — collapsed the production cost of computer hardware by replacing inefficient CPU systems with a general-purpose processor that was easy to mass produce. Entrepreneurs rushed in, and a new era in computer hardware was born, creating economies of scale.  

1990s: Cheaper computers attracted more users, creating the demand for software services. The market consolidated around Microsoft and the Windows Operating System.

2000s: The introduction of new open standards for computer software (HTTP, Linux, etc.) in the 90s eventually challenged Microsoft’s incumbent position. With open standards for both computer hardware and software now in place, we saw exponential growth via the democratization of information and an epic boom/bust period in the late 90s/early 2000s as the internet emerged. 

2010s: As economic value creation moved away from the software layer, data networks became the next monetization opportunity. Firms such as Google, Facebook, Amazon, Apple, etc. are today’s incumbents controlling a vast majority of economic activity on the internet via closed and proprietary data networks.

2020s: Public blockchains — a new open standard — introduce credibly neutral shared databases & accounting ledgers. Similar to the efficiencies brought forth by open standards for hardware and software, public blockchains are collapsing the production costs of data/compute networks and verifiable trust. In doing so, they introduce the concept of digital property rights and universal accounting systems. 

As with past open standards, lower costs remove barriers to entry — and create a frenzy of economic activity.

In summary, the cycles tend to cover three distinct stages:

1. Decentralization (creation and universal acceptance of a new open standard).
2. Expansion (due to lack of barriers to entry & new business models).
3. Consolidation (due to consumer preferences & network effects).

3. Why now? Phases of a technological revolution

Per the framework laid out in Carlota Perez’ Technological Revolutions and Financial Capital, revolutionary technologies go through 4 distinct phases as they are implemented and deployed. We’ve seen this play out through the Industrial Revolution, The Age of Steam and Railways, The Age of Steel and Electricity, The Age of Oil, the Automobile, & Mass Production, and The Age of Information and Telecommunications.

The innovation on and around public blockchains (crypto) has been following an eerily similar pattern.

1. The Irruption: The irruption is typically kicked off with a “big bang” and the introduction of the new technology. During this period, new technologies are introduced, but real-world applications are scarce. We don’t know what to do with the new technology just yet. This era is dominated by nerds and tinkerers. The early days of Bitcoin marked “The Irruption” phase for crypto and public blockchain technology.
2. The Frenzy: The frenzy period is when new applications and use cases begin to emerge. Speculative financial capital enters the fray. We typically see financial bubbles during this period — as the imagination of the market far overshoots the current reality of the technology and what is possible. The introduction of Ethereum in 2015, the ICO boom in 2017, and the bubble of ’21 represent “The Frenzy” phase for crypto.

In between “The Frenzy” and “Synergy” phases comes The Turning Point.  The Turning Point occurs during the hangover from “The Frenzy” period. Financial leverage is wiped out. Consumers are hurt. Frauds are exposed. Over-investment is curtailed. Lessons are learned.

Turning Points are highlighted by regulation and policymaking, marking the end of the Installation Period — and the beginning of The Deployment Period.

In our opinion, public blockchains are currently on the cusp of The Turning Point (red dot below). 2022 was the “cleansing” period. We now see regulatory enforcements. Court cases. And new legislature drafted by policymakers in the US and around the world.

1. Synergy: The synergy period marks the beginning of The Deployment of the new technology. This is the golden period for emerging technologies. The infrastructure has been laid out. Clear use cases and applications have emerged. New rules and regulations have been created to protect consumers while fostering innovation and the formation of financial capital. New industries are born. Millionaires and billionaires are minted.
2. Maturity: The maturity period is when the laggards officially capitulate and join the revolution. This period is marked by market saturation and technological maturity. Markets consolidate. Complacency enters the fray. And the need for a new technology emerges.

4. Similarities to the internet

The best way to understand the importance of public blockchains and protocols is to study the existing protocols of the internet.

Without getting too technical, the infrastructure of the internet consists of a set of protocols enabling the communication and transfer of information amongst billions of people globally.

For example, TCP/IP (Transmission Control Protocol/Internet Protocol) is a base protocol allowing computers to share data amongst themselves globally. VOIP (Voice Over Internet Protocol) is an internet protocol enabling voice calls globally over the internet. SMTP (Simple Mail Transfer Protocol) is an internet protocol enabling email communication globally.

Internet protocols accrue massive network effects because they enable the creation of products and services to be built “on top” that can connect billions of internet users globally. For example, every major email provider (Outlook, Gmail. Yahoo, etc.) is built “on top” of SMTP. SMTP is the connective tissue. It allows each email provider to be natively interoperable with each other. This means that switching costs are extremely low for email users. If a Gmail user wanted to switch providers, they could simply connect to Yahoo and have access to the same set of global users. This keeps Gmail on its toes. It keeps the service provider honest.

No such protocol exists today for the transfer of value/ownership. This is what public blockchains and protocols are introducing to the internet. Today, financial service providers such as Paypal and Visa operate on top of a maze of banks and disparate private ledgers — which are not interoperable with each other. It’s why we need fintech firms such as Stripe and Plaid to provide API integrations between banks, consumers, and merchants. It’s also why international wire transfers can take from days to weeks to settle. Contrast this with a stablecoin transaction on Ethereum — which settles peer-to-peer, instantly, at nearly zero cost — because every user leveraging Ethereum is on the same global ledger. We believe all bank accounts could eventually be Ethereum-based wallets for this reason.

The build-out of Ethereum is mirroring that of the internet

In the early days of the web, if you wanted to create a website, you had to host your own physical server — which was cost prohibitive and didn’t scale well.

We solved this problem with the creation of shared hosting servers. This made it much easier and cheaper to spin up a website — by leveraging hosting services such as GeoCities. Suddenly the internet started to scale and become cheaper for entrepreneurs to build products and services.

Eventually, innovation became constrained by the shared execution offered by GeoCities. Virtual servers offered the flexibility of your own server, but with the convenience of using a shared host. Amazon Web Services was born.

Along with AWS came e-commerce, SaaS businesses, and social media — all of which were not possible in the early days of the internet. It took the development of broadband (scalability) + HTTPS (encryption) for the internet as we know it to become a reality.

Public blockchains & Ethereum

This same process is playing out today on public blockchains — which are introducing a new data structure to the internet via global accounting ledgers and digital property rights.  

It starts with a clunky, inefficient, and expensive user experience — before becoming streamlined, cheap, and fast.

Bitcoin was the first public blockchain. In the early days, if you wanted to create a new application leveraging this new breakthrough in technology, you had to start your own blockchain. Namecoin (peer-to-peer naming system) — a fork of the Bitcoin network — is an early example. This era for public blockchains was similar to the early days of the web — when you had to host your own server to build a website.

Ethereum entered in 2015. It was created to be the “GeoCities of public blockchains” because Ethereum made it possible to leverage shared infrastructure to build a blockchain based application. Developers no longer had to build their own blockchain to deploy an app — making it cheaper and more efficient.

However, more flexibility is needed for applications building for specialized use cases. Enter Layer 2 blockchains and application specific blockchains — execution services building “on top” of Ethereum, with Ethereum serving as the base layer settlement infrastructure. Suddenly Ethereum is becoming a “network of networks.” Just like the internet. Layer 2’s and the application specific blockchains leveraging them look quite similar to Amazon Web Services — enabling flexibility and scalability while maintaining shared infrastructure.

We believe Layer 2 blockchains are serving as Ethereum’s “broadband moment.” Furthermore, enhanced scalability on L2 is being developed alongside zero-knowledge proofs, which are bringing privacy to public blockchains — just as HTTPS brough encryption to the internet, enabling e-commerce. We cover these concepts in more detail in the L2 section of the report.

The internet as a global monopoly

Most people don’t think of the internet as a monopoly, but there is only one network choice, and it keeps improving over time. Nobody complains about this because the internet is open, permissionless, and decentralized. Anyone can join, contribute, and use it. There is no central authority in a position to control access, or decide which applications can be built or used. The result is an endlessly innovative system.

Public blockchains like Ethereum follow the same model as the internet. They are public, permissionless, and decentralized systems.

Because Ethereum is a network model, it is destined to be a monopoly in our opinion. But if we are going to end up putting our business models on a monopoly network, a public and permissionless monopoly is the only kind worth having.

We cover this concept in more detail in the network effects section of the report.

Value accrual: web2 vs web3

The below framing is a helpful visual for projecting the differences concerning how value could accrue in Web3 vs Web2. It’s important to consider that the protocols running the internet didn’t accrue any value. TCP/IP, SMTP, HTTP, etc. They were not monetized. There was no business model for them. Rather, governments funded their development via grants. As such, the vast majority of value in Web3 accrued to the applications. Google, Amazon, Microsoft, Facebook, Netflix. These firms all leverage base internet protocols. But the protocols didn’t accrue any value. We didn’t have public blockchains at the time.

In Web3, so far this concept has reversed. The infrastructure has accrued the most value, with the early applications garnering significantly lower valuations to date.

5. Ethereum’s business model

Investors should think of the Ethereum Network as two distinct things:

1. ETH – the native token that powers the network and creates economic incentives for it to run in a decentralized manner.
2. Ethereum – the computing network and accounting system serving as base layer infrastructure for other businesses to build applications “on top” of.

In this section, we focus on #2: The computing network and global accounting system.

Ethereum sells block space (accounting entries), as well as the security and smart contract functionality enabled by its global, open-source computing platform, ledger, and operating system.

We can think of Ethereum as an online marketplace that provides a secure platform for executing and recording global commerce. The businesses within this online marketplace are made up of batches of smart contracts that autonomously execute business logic. The Ethereum Virtual Machine (EVM) provides a Turing complete standard and execution environment that powers the business logic while immutably storing the state of all users and economic activity.

In essence, the businesses (smart contracts & protocols) building “on top” of Ethereum leverage the network’s secure computing, execution, and accounting system to outsource operating and capital expenses. In doing so, developers can create products and services that can natively connect to 8 billion people globally. This concept is similar to Facebook or Google leveraging internet protocols such as TCP/IP.

Ethereum’s global network of 960k + validators secure the network and ensure the rules of the global, online marketplace are followed. They also maintain the global ledger that immutably records all economic events and transfers of data that occur within the marketplace.

Users interact with each other and access services within the online marketplace via digital wallets (mobile app or browser extension). In doing so, network usage fees are paid in the native asset, ETH — which is paid to the distributed global network of validators who provide services to the network by approving transactions. Some fees are burned (acting as “share buy backs”) — accruing value to passive holders of the ETH token.

If you can imagine the current structure of the internet, you might visualize silos of private companies hosting private services and private user data hosted on private servers.

Ethereum functions as an open, secure marketplace for internet commerce that records all economic events in an auditable fashion on a global ledger, while allowing users to control data and assets via digital wallets.

Anyone can build a business within this open marketplace without asking for permission — leveraging the “mall cops,” i.e., validators, for security and the recording of all economic activity on the networks distributed ledger.

6. The tech stack

Wallets & Aggregators: Aggregate users and provide access to underlying protocols and apps while monetizing via small transaction fees.

Protocols & Applications: Base protocols that are also somewhat analogous to web1 internet protocols such as SMTP (email). Early use cases include DeFi, identity solutions, NFTs and NFT marketplaces, gaming, payments/stablecoins, social networks, data storage, etc. The business models typically consist of two-sided markets with the business logic executed via smart contracts. Demand pays the supply side, and the protocol DAO/treasury typically takes a small cut (10%) for providing the market, smart contracts, interface, user experience, etc.

Protocols and applications are often open sourced — leveraging Ethereum for final settlement and security. As mentioned, we could think of this layer of the protocol/app layer as “outsourcing” its security and capex expense to Ethereum at the base layer of the tech stack. The combined revenues of the apps and protocols built “on top” of Ethereum could be viewed as Ethereum’s “GDP.” Every state change running through a protocol or app is recorded immutably on the Ethereum global ledger, paying a small transaction fee to do so.

Layer 2: Layer 2s are separate blockchains that provide execution and scalability services to the app/protocol layer above. They supply the “broadband” and essentially resell Ethereum’s block space by compressing data and creating a superior user experience. As L2s improve, more interesting use cases become possible on the app/protocol layer above. L2s are net positive to Ethereum as each transaction ultimately pays for final settlement on Ethereum when the call data is posted to the L1. The strongest L2s in the ecosystem today are Arbitrum, Optimism, Base, and Polygon (side chain). Approximately 5% of total gas usage on Ethereum runs through an L2 today.

Not shown in the simplified view above are bridges, data oracles, emerging solutions such as Eigen Layer, and data availability networks. Bridges allow assets and data to move to/from other networks (such as Bitcoin, Solana, Avalanche, etc.). Data oracles allow off-chain data to be ported on-chain via APIs, which then informs smart contract execution on-chain. Eigen Layer is a nascent “restaking” solution, allowing users to “restake” ETH into additional protocols to provide economic “security as a service.” Data availability networks make it easy for developers to deploy sovereign roll-ups/app chains within the layer 2 ecosystem. We’ll cover these areas of the tech stack in more detail as the tech matures.

Similar to how Google and Microsoft leverage the SMTP Protocol (Simple Mail Transfer Protocol) to deliver email services, we expect large traditional finance firms and others to leverage the protocol layer of the tech stack to deliver new products and services to end users.

7. Ethereum’s network effects

History is clear that open networks triumph over closed networks — and network technologies often become natural monopolies. Two key laws drive technology markets towards dominance by a small number of entities.

The first is Metcalf’s Law, which states that the financial value of a network is proportional to the square of the number of connected users of the system.

The second “law” states that the marginal cost of software is effectively zero. This means that if you’re an incumbent in the market and have already spent the sunk cost to develop high quality software, you can add new members to your network by selling your product at a very low price, since it costs you nothing more to make one more copy.

As mentioned previously, because Ethereum is a network model, it is destined to be a monopoly in our opinion.

Ethereum’s network effect flywheel

Ethereum’s network value grows as the number of connected users increases — which is driven by a foundation of developers, developer tooling, programming languages, the EVM standard, token standards, wallets, liquidity, applications, scaling infrastructure, and venture capital investment.

Although crypto projects are open-source and can be copied/forked at will, strong power law dynamics are taking shape on public blockchains — at both the L1 and protocol/app layers. We believe this is due to the immense difficulty in bootstrapping the supply & demand sides of a layer 1 blockchain or a protocol/app in an open-source fashion. Brand, UX, and community are additional factors driving “winner take most” dynamics on public blockchains.

Ultimately, Ethereum’s long-term success is dependent on building out infrastructure and tooling. This work lays the foundation for developers, entrepreneurs and established firms to offer new products and services within the network, driving more connected users.

More users drive more venture capital. Which grows the developer ecosystem. This brings in more users and creates a positive flywheel leading to sticky network effects.

Good enough technology & the ten-year window

In many technology ecosystems, market leaders tend to emerge within about a decade of the product category being born. Windows was the leading PC operating system by 1984, about 8 years after the first PCs emerged. iOS came into existence about a decade after the smartphone category emerged. We’ve seen similar patterns with office productivity (Microsoft), network equipment (Cisco), and cloud computing (Amazon).

Ethereum emerged 6 years after the introduction of public blockchains. It’s been around for 8 years now.

It’s important to consider that the best product doesn’t always win. In fact, rarely does the best product win. This is due to inertia and network effects that form around the “good enough” incumbent. We see this today in the world of blockchain. Over and over, new layer 1 networks come to market claiming to offer superior performance than Ethereum. More transactions. Lower costs. Faster finality.

In the end, it doesn’t seem to matter.

Ethereum has the most prevalent programming language, token and smart contract standards, node infrastructure, wallets, data oracles, bridging infrastructure, number of applications, value locked, venture capital investment, etc.

We monitor Ethereum’s network effect from both a quantitative and qualitative perspective. Below is an overview of the key performance indicators and metrics we monitor to measure progress and adoption. We share comps against the top 10 alternative L1’s later in this report.

Operating KPIs & metrics

Data: Token Terminal, Glassnode, Etherscan

Unique Non-Zero Addresses: A proxy for users. This KPI represents unique accounts, or digital wallets that have been created on the Ethereum network and currently hold some ETH. The cumulative total has been increasing at an exponential pace over the last 8 years. As of 9/30/23, the network has nearly 107 million unique non-zero wallets, and over 190 million total wallet addresses. Despite a crypto bear market extending into 2023, the network grew its unique non-zero addresses by almost 26% compared to one year ago, and 4.9% compared to Q2.

Active Addresses: The number of unique wallet addresses that either sent or received a transaction on a given day or interacted with a smart contract. This metric is a proxy for daily users. Ethereum averaged roughly 400k daily active addresses in Q3, down 4% from Q2. We saw similar declines in the last crypto winter, before an influx of new users when market conditions improved.

Average Daily Transactions: Daily transactions were up slightly in Q3. Demand for Ethereum’s block space continues to meet and exceed supply on a daily basis. As the network scales, layer 2 networks such as Optimism, Arbitrum, and Base are now handling a larger % of transactions, while batching and ultimately settling the bundled transactions on the Ethereum L1. In fact, transaction volumes on L2 are up over 3,438% over the last few years — a clear indication of Moore’s Law playing out within the Ethereum Network.

Average Developers: Average core developers working on Ethereum leveled off during Q3. Core developer data is tracked by Token Terminal by measuring the number of distinct GitHub users that made 1+ code commit to the Ethereum’s public GitHub repository during the past 30 days. Per Electric Capital’s Developer Report, the Ethereum ecosystem has over 5,946 total active developers, up 51% over the last two years, and more than 3x its closest competitor. Note that these figures are likely to be under-counted since they do not reflect any contributions to proprietary crypto businesses building on Ethereum. 

Average Gas Used Per Day: This metric measures the total computational resources expended to execute specific operations on the network. Similar to transactions/day, average gas used is a metric to help us understand the demand for block space on the Ethereum L1. Avg. gas consumption per day was up slightly over Q2. Note that network upgrades have increased Ethereum’s gas limit by 5x since inception. Each increase has been met by increased demand for block space. We expect this relationship to persist, with further enhancements and the development of layer 2 solutions further extending Ethereum’s computational resources. We cover layer 2’s, scalability, and the economic impacts to Ethereum later in the memo.

Average Transaction Fees: This gives us an idea of the user experience and the supply/demand for block space on the network. The average transaction fee in Q3 was $4.85, down 46% from $9.10 in Q2. As we can see, during periods of high demand, the average transaction fees rise sharply due to lack of block space supply. The Ethereum Network is currently scaling through Layer 2 solutions and side chains such as Arbitrum, Optimism, Base, and Polygon. Applications that leverage Layer 2 see much lower transaction costs — ranging from less than 1 cent to 13 cents today. Layer 2 solutions are complementary to Ethereum because L2s batch hundreds of transactions that ultimately settle on the Ethereum L1 as one transaction. We anticipate fees to compress even further in Q4, with the implementation of EIP4844.

ETH Staked: This metric tracks the % of circulating ETH that is staked in validator contracts, approving transactions on the network. Validators earn transaction fees for providing these services, locking their ETH in staking contracts to do so. An increasing stake rate is healthy for the network as it increases security, and indicates that ETH holders have a long-term outlook. The ETH stake rate is up 17% when compared to Q2, and 117% when compared to one year ago. The sharp increase in staking participation is driven by the Shanghai Fork upgrade — which took place on April 12. The upgrade enabled staking withdrawals for the first time — allowing ETH holders to unstake their assets with a few clicks of a mouse. Ethereum is the only public blockchain network with a positive real stake rate — currently 3.6%.

8. Market & DeFi KPIs

ETH Price: We can see the reflexive relationship of the price/ETH as it pertains to the on-chain metrics above. In this nascent stage, crypto markets are extremely reflexive — with narratives and on-chain activity leading price action — and price action feeding further on-chain activity and market narratives. We can also observe the extreme volatility of the price within each year since inception. ETH has seen price action exceed 2.24x from trough to peak each year since 2015. Of note is the price bottom in the depth of the bear market in 2018, when the price/unit reached $83.79. Those with strong conviction at that time would later see a 57x increase at the peak of the bull run of 2021. We provide further valuation analysis later in this report.

Daily Trading Volume: Trading volumes continued to drop in Q3, down 18% from Q2 and 56% from prior year.  We believe this is due to Jane Street and Jump Trading pulling back on market making in the US due to current regulatory uncertainty. In addition, we’ve seen a loss of interest in the space from retail investors as the crypto winter drags on.

Total Value Locked (USD): Total Value Locked is measuring the total dollar value of assets committed to financial services within DeFi application on the Ethereum blockchain — currently $39b — down 12% from Q2, yet still 5.8x higher than the closest competitor. Another way to think of TVL is “assets under management.” Note that TVL is a recursive KPI due to the volatility of the underlying assets. We prefer to measure the health of “assets under management” by looking at the % of ETH held in smart contracts, which is currently 32%, an all-time high.

Unit Economics: Daily revenue per active address was up 87% in Q2 over the prior quarter, but down 24.9% from Q2-22. The increase in daily fees per active user are in line with the increase in transaction fees for the quarter. This indicates that users are willing to pay higher fees when the network becomes congested due to the time-value and sensitivity of timely on-chain transactions.  

via layer 2 solutions, we are seeing user fees collapse. As this occurs, transaction volumes are projected to increase exponentially. E&Y, who provide enterprise blockchain services on the Ethereum Network only, project 4 billion transactions/day for industrial/manufacturing use cases alone.

9. Onchain financials

The business model

Although the economics and market structures are decentralized, Ethereum’s business model is fairly straight forward. The platform charges a small computing/settlement fee for any activity taking place on the network. Therefore, as applications scale users, the Ethereum network becomes increasingly more profitable. We break down the elements of Ethereum’s financials below.

Total Revenues: Refers to the gross transaction fees paid by users on the network. Early users are paying fees directly today, but we expect applications to pay fees on behalf of users in the future. Transaction fees cover any exchange of data and can represent a peer-to-peer payment, a loan in DeFi, a trade on a decentralized exchange, a gaming experience, an NFT mint, supply chain tracking, the recording of an ENS domain, etc. Any action on any application leveraging the Ethereum blockchain must pay a small compute fee. Additionally, applications leveraging layer two solutions ultimately settle “call data” as transactions on the Ethereum base layer. Revenues were down 47% in Q3 compared to Q2 due to significantly less user activity on-chain. With that said, the network was still profitable for the quarter.

Cost of Revenue: This line item represents amounts paid out to the supply side (validators), who provide services to the network by approving transactions and ensuring network security. 80% of user fees (the base fee) were burned in the quarter (value that accrues to passive holders of ETH). The remaining 20% represent priority fees and MEV — captured by the decentralized network of validators as “cost of revenue.”

Token Incentives: Token incentives represent protocol inflation — or the block subsidy paid out to incentivize validators who secure the network. Prior to “The Merge” — which occurred in 2022 and shifted Ethereum from a Proof-of-Work network to a Proof-of-Stake network — Ethereum was paying out roughly 13,500 tokens per day to miners — an annual inflation rate of about 4%. Post-Merge (9/16/22), the network is paying out approximately 1,800 ETH/day at current stake rates. This represents an 87% reduction in security expense and turned the network into a profitable state, in which validators and passive holders are compensated by user fees.

*There are many differing views as it relates to token incentives. The prevailing view is that this is an “expense” for the network — because it is paid out to validators and can potentially dilute the existing shareholders (if transaction fee burns do not offset the security budget/protocol inflation). With that said, this is not an expense in the traditional sense. We view token incentives as an expense to the extent that validators sell their rewards — which can be challenging to quantify today.

Blockspace Profitability: From an on-chain perspective, the network netted $78.7m for the quarter — down 81% from Q2. Despite the decline, Ethereum is still the only profitable public blockchain — where user fees are exceeding the networks token incentives.

ETH circulating supply

Unlike Bitcoin, Ethereum does not have a fixed token supply & issuance schedule. Rather, token issuance, yield to validators, burn rates, and the net change in circulating supply — the networks “token economics” — are all dependent on the number of validators, demand for services, and L2s & apps built “on top.”

Imagine if Amazon automatically bought back shares of its stock as it scaled users of its web services? That’s how Ethereum’s token supply works — with the circulating supply dropping during period where network usage and burned tokens exceed new token issuance to validators.

The data above reveals the necessary progression for a layer 1 blockchain network. In the early years, the inflation rate is high. This is required to incentivize validators to run hardware and secure the network. A secure, decentralized ecosystem allows entrepreneurs to trust the long-term viability of the network. As they build new applications and protocols, more users join. Users pay gas fees. User fees slowly take over as compensation for validators. As this plays out, the network is no longer required to inflate the token supply by selling “equity.” Instead, the network is fully supported by user fees — becoming profitable in the process.

As mentioned, Ethereum is the only public blockchain network that has achieved this status to date. We break down how value accrues to passive holders of ETH and those who provide services by staking ETH (validators) below.

10. Value accrual: ETH holders vs validators

Passive ETH Holders: Value accrues to passive holders of the ETH token via token fee burns — which act as stock buy backs and accelerate as the network usage grows. When token fee burns exceed network inflation (paid to validators), the circulating supply of the ETH token declines.

Stakers (validators): Value accrues to stakers in the form of token fee burns, but also in the form of priority fees, MEV, and the block subsidy (new issuance). When we add up each item, validators accrued nearly $562 million in Q3, down 42% from Q2.

Despite the decline in revenues during the quarter, the average token price was down just 5.4%.

11. Token economics

Token Supply 9/30/23: 120,238,406

Change YTD: (286,808)

Annualized Inflation Rate: -.237%

Max Supply: n/a — circulating supply dependent on demand for block space

ETH, the native token of the Ethereum Network, serves 5 primary roles as a multi-function asset:

1. Ownership/Capital Formation: the ETH token was initially used to bootstrap the network. Similar to start-up equity, the ETH token was sold to investors as a means to capitalize the ecosystem of developers.
2. Coordination and Incentive Alignment: The Ethereum Foundation retained about 5.9 million ETH (about 8% of the initial pre-mine). These funds were used to incentivize further development of the ecosystem in the early years of the project. Furthermore, new issuance of ETH is the economic incentive for validators to provide services and secure the network.
3. Utility: ETH is used to pay for computation services within the network.
4. Security: ETH is staked into validators which approve transactions and secure the network.
5. Collateral: ETH is used as collateral to access services within DeFi.

The Ethereum Foundation made two important enhancements over the last few years that have dramatically shifted the projects tokenomics — and value accrual to validators & token holders.

EIP 1559: Ethereum Improvement Proposal 1559 went live August 5, 2021 and made three significant changes to the Ethereum fee market:

1. Solved inefficiencies in fee markets by making gas fees more predictable and block sizes more flexible.
2. Created a base fee for each transaction — which is adjusted up/down based on network congestion. The base fees (approximately 85% of user fees) are “burned,” i.e., destroyed by the protocol — acting as an automatic share buyback.
3. The priority fee or “tip” for block inclusion is paid to the validators.

Since EIP1559 went live in August 2021, the network has seen over 2.6 million ETH burned and removed from circulation.

The Merge: On September 16, 2022, the Ethereum developer community officially “merged” its consensus mechanism from Proof-of-Work to Proof-of-Stake. This is universally viewed as one of the most important moments in the history of open-source technology — akin to swapping the engine of a plane in mid-flight.  

By merging to a new consensus mechanism, miners were replaced by validators to approve transactions. This reduced the energy consumption of the network by 99% and the protocol inflation/block subsidy by 87%. Prior to the merge, the network was paying out approximately 13,500 ETH per day for security expense. At current market prices, this equates to $25.6 million of new issuance per day. Meanwhile, miners had operating costs (hardware + electricity) and therefore sold about 80% of their block subsidy rewards — about $20.5m of daily selling activity that the market had to absorb.

Post-merge, the network emits about 1,800 new ETH per day — or $3.4 million — an 87% reduction in new issuance that the market does not have to absorb. This is akin to three Bitcoin halvings at once. Unlike miners, validators do not have operating expenses. Therefore the 80% of automatic sell pressure is largely gone.

Finally, there are over 38 million ETH locked in staking contracts as of 9/30/23, representing nearly 32% of the circulating supply.

Flows: As mentioned, about 1,800 ETH are issued each day to validators. This represents protocol inflation and varies based on the number of ETH staked.

Our sensitivity analysis indicates that net issuance of ETH will remain deflationary as long as the network sees average transactions of 1.1 million per day — levels that were achieved in 2021, 2022, and the first two quarters of 2023. With less on-chain activity in Q3, network issuance was nearly identical to the total ETH burned for the quarter.

Token Allocation:  Ethereum’s ICO took place in the summer of 2014, and the platform went live in July of 2015. There was an initial pre-mine of 72 million ETH, of which 12 million (16.67%) went to the Ethereum Foundation and the early contributors. The remaining 60 million ETH were sold to the general public for .30/ETH, returning $18.3 million to the core team to bootstrap and grow the network. The Ethereum Foundation currently holds about .297% of the circulating supply.

Ethereum currently has 120,238,406 tokens circulating. The circulating supply that exceeds the 72 million initial pre-mine were earned by miners and validators for approving transactions and providing services to the network. Because Ethereum was a Proof-of-Work network for 7 years before switching to Proof-of-Stake, many of the coins have been circulated into new hands over the years — which is positive for overall distribution of the tokens amongst the general public. The number of users holding greater than 1 ETH has doubled since 2018. At the same time, the total number of addresses holding more than 1,000 ETH has been declining since 2018.

This puts Ethereum in a distinct advantage concerning decentralization of the token holder base over competing Proof-of-Stake networks — which have a much higher supply of tokens concentrated amongst fewer hands.

Below is a view of Ethereum’s token distribution as of 9/30/23:

In summary, Ethereum’s token economics create a sound economic incentive structure that rewards the proper behavior for long term growth, while creating a positive feedback loop between network security, usage/utility, and value accrual to the token.

12. Valuation frameworks

Price/Token 9/30/23: $1,681.40

All-Time High Price/Token: $4,815.37

Market Cap 9/30/23: $201,470,000

All-Time High Market Cap: $548,390,000

As a multi-function asset, ETH has many differences from traditional financial assets such as equities. We demonstrate this by analyzing how it fits into all three asset classes from Robert Greer’s Super Asset Class framework:

1) Capital Asset: The Ethereum Network produces cash flows which are captured by the distributed set of validators/block producers through user transactions — yield which is captured by holding the native token and staking it to a validator contract. The current yield is about 3.6% for stakers — representing a P/E of 27.7. Cash flows are used for share buybacks or token “burns” and validator rewards (dividends). Therefore, we can run DCF analysis to approximate the network value based on growth assumptions.Using 2021’s bull market revenues, a 10-year DCF with avg. growth of 30% and a 12% discount rate reveals a present value of $1,711/token. Using 2022’s bear market figures, the same analysis reveals a present value of $738/token. Both projections conservatively forecast no change to the token supply. Finally, if we take the average revenue per day since EIP1559, we arrive at a present value of $954/token.

We will note that DCF is not an ideal valuation methodology for blockchain networks because the revenue derived by the network does not accrue to a central entity. Rather, it accrues to a distributed set of service providers through user fees — and to passive holders via buy backs. Furthermore, cash flows are received in the native token on blockchain networks — which can fluctuate in value — making present value calculations circular and flawed to some degree. Finally, as Ethereum scales and matures, we expect the cost/transaction to drop. This could make the network more attractive to businesses and users. Naturally, this could increase the network value, but a DCF calculation would reveal a decrease in value due to new efficiencies. Nevertheless, we use DCF for relative valuation — one of many valuation methods and metrics we look at (more analysis below).

2) Consumable/Transformable Asset: ETH has features of a commodity asset. To access the Ethereum network, users pay for compute with the native token, ETH. Meanwhile, ETH is “consumed” as more people use the network — via the automatic share buyback or “token burn” feature. As traditional commodities such as oil/gas are consumed, their value is exhausted. Ethereum is different in that the “burned” tokens accrue value to passive holders of ETH as the circulating supply is reduced.  This creates a positive feedback loop between network usage (block space sales) and value accrual to ETH the asset. Investors can think of “burned tokens” as automatic share buy backs, correlated directly to usage of the blockchain. 

3) Store of Value/Money Asset: ETH has features of a store of value/money asset and could potentially see a monetary premium that would give it a much higher valuation than a traditional capital asset or commodity could achieve. The network has an extremely large addressable market, superior cutting-edge technology, strong network effects, and quality tokenomics. The scarcity of the token, as well as the positive feedback loop between network usage and circulating supply could result in market consensus that Ethereum is the strongest layer 1 smart contract platform — therefore commanding a significant monetary premium.

In the following sections, we share further methodologies for projecting ETHs future value:

1. Total Addressable Market analysis
2. Crypto-cycle analysis: Price action and network KPI’s and Operating Metrics
3. “GDP” analysis
4. High-level frameworK

13. Addressable market analysis

One way to forecast the future value of ETH is with Total Addressable Market analysis. Below, we identify the industries already adopting blockchains, forecasting the percentage of the industry that moves on chain by the year 2030.

Global finance is forecasted to be the largest value driver due to clear product/market fit. We believe all assets could one day be tokenized on Ethereum, with the network potentially serving as the global accounting & settlement layer for all of finance. The finance industry does over $28 trillion in annual revenues today — growing at a compound annual growth rate of 7.5%.

Our base case assumptions:

• Ethereum captures 50% of the market amongst L1s (currently 80% market share)
• Ethereum’s terminal average take rate across applications built “on top” is 5% (currently 44%)
• No change in token supply (annualized inflation rate through Q3-’23 is -.237%)
• Discount rate = 12%.
• Terminal value = 2030.
• Terminal free cash flow multiple = 25

If history is any guide, it should take approximately 10 years from the “go” moment for 50% of enterprises/institutions to adopt public blockchains. In this case, the adoption rate will follow a similar migration timeline as we saw with the move to the cloud.

The “go” moment will occur at the intersection of 1) the implementation of clear rules & regs by Congress in the US (jurisdictions such as Europe are already moving forward), 2) infrastructure scalability and privacy on public blockchains, and 3) the shared consensus that public blockchains are the way forward.  We believe we are currently nearing this moment.

Our scenario analysis follows a logical framework for Ethereum’s potential future value. With that said, new technologies that create net new markets tend to break models justified with rational analysis.

Ethereum is unique in that it does not belong to one jurisdiction, making it a global asset and network accessible to anyone. Given the permissionless nature of public blockchains (similar to the internet protocols), we believe the network has potentially spawned an endlessly innovative ecosystem. The compounding effects of this are could be quite powerful, yet difficult to forecast.

Additionally, when market structures are digitized and streamlined, the net new markets tend to blow away the size of what was previously in place. Uber and Airbnb are instructive in this regard. As such, we think it is possible that our base case estimates are significantly discounting Ethereum’s true potential — assuming the compounding network effects continue to persist. Below is a summary of our valuation scenarios using total addressable market analysis.

14. Crypto cycles

Another way to forecast the potential future value of ETH is by analyzing past adoption cycles. Crypto cycles appear to be volatile and chaotic to the naked eye. However, underneath the surface, we can observe network growth and adoption across several important operating & network KPIs.

Below is a visual of the price action through Ethereum’s first two cycles — which coincide with the Bitcoin halving cycle. In the following section, we highlight the growth in network and operating KPIs to demonstrate the correlation with the increased market value each cycle.

Our projected price action in the next cycle is based on a continuation of trends we have observed across the first two cycles.

Below we can see how the operating and network KPIs correlate to the above price action. Our projections for the next cycle are all based on actuals as of 9/30/23.

15. The setup for the next cycle

There are three primary drivers of crypto cycles:

1. The global liquidity/business cycle: interest rates & monetary policy
2. The innovation cycle: development of infrastructure & applications
3. The Bitcoin Halving: the date upon which Bitcoin’s new issuance drops in half (in this cycle, we drop from 900 bitcoins issued per day to 450)

With Bitcoin as our benchmark, we’ve observed remarkable consistency over the last three cycles in terms of timing and price action:

• % drawdown from each cycle peak: roughly 80%
• Timing from cycle bottom: 1 year from peak
• Time to recapture new all-time highs: 2 years

Furthermore, each cycle has lined up almost perfectly with cyclical changes in the business cycle as measured by the ISM Manufacturers PMI — which also aligns with global liquidity cycles.

As we look ahead, we believe all three factors could align once again as we gear up for the next Bitcoin halving, set to occur in April of 2024. For a full report on the macroeconomic setup, please see the 9.18.23 issue of The DeFi Report.

16. Relative valuation: “GDP” analysis

One way to compare Ethereum’s valuation relative to other layer 1 networks is with “GDP” analysis. In this case, we would quantify and forecast the economic opportunity, or GDP of the network. The GDP of a blockchain network is the sum of all the revenues produced by the applications built “on top” of the L1.

From this perspective, we analyze L1 blockchains as “countries” rather than networks or companies. A country’s currency is only as strong as the economy/GDP, its system of property rights and laws (the infrastructure of the country), and the demand for the currency (to pay taxes, purchase commodities, consumer services, store value, etc.)

Within a public blockchain network, the native token of the L1 is the currency of the network. The system of property rights and laws within a public blockchain network are derived from its consensus mechanism, decentralization, security, community, and values.  Similar to countries, the strength of the currency is tied to the economy/GDP that the layer 1 infrastructure supports, as well as demand for the token to access services within the network.

Per data extracted from Token Terminal, Ethereum’s “GDP” over the last 365 days is $2.6 billion. We break out the annual revenues by sector below:

Ethereum currently dominates its competitors in terms of “GDP” and Total Value Locked ($39b). As the network scales via layer 2 solutions, we anticipate the economic opportunity (or GDP) to grow exponentially larger in the coming years via net new use cases enabled by enhanced throughput and zero-knowledge privacy solutions — the “broadband” + “privacy” moment for Ethereum.

Comparing demand for ETH to demand for the dollar

To expand on the idea of ETH as a currency, we analyze the strength of a currency relative to other currencies. In doing so, we can observe that the dollar has built a vast network effect around the world via its strategic relationship with oil producing nations. This creates structural demand for dollars all over the world — because if another country wants to buy oil from an OPEC nation, they must first convert their native currency to dollars. This constant “bid” strengthens the dollar relative to other currencies. Furthermore, dollars are required to pay taxes and consumer services. Dollars themselves have no utility. But we need them to gain access to the things we want.

We see this same dynamic playing out within Ethereum. In order to access the network, one must pay for computing resources in ETH. If a user wants to send a stablecoin cross border, they need some ETH. To access DeFi services, one needs to pay in ETH. To play an on-chain game, the user must have some ETH. To mint or buy an NFT, you better have some ETH. Additionally, if you want to secure the Ethereum network and earn a yield, you need to hold some ETH.

We are even now seeing ETH used to provide economic security of additional layers of the tech stack via Eigen Layer — an emerging “restaking” solution creating even more demand for ETH.

In summary, we see parallels concerning ETH with that of traditional currencies such as the dollar. If Ethereum can continue to expand its global network effect, we think there will be strong demand from users and businesses to hold the asset given the requirement to access services within the network.

*Please note that we are not suggesting that ETH could be a currency used for everyday services, but rather the “ticket” to access services within the Ethereum global ecosystem. Also note that we expect applications to pay gas fees on behalf of users in the future.

High-level valuation analysis

The combined crypto market cap reached $3 Trillion in 2021. Despite the volatility of the space, we think crypto is in a long-term secular and exponential adoption cycle. As such, if the industry were to follow past growth patterns, the combined market cap could reach $10 trillion in the next adoption cycle. Following simple logic and historical data, 50% + of this figure is likely to accrue to Bitcoin & Ethereum (68.1% of the crypto market today). If we assume that Ethereum captures $1-2.5 trillion, that puts the price somewhere in the range of $8.3k - $20.8k/token in the next adoption cycle — which aligns to our base case valuation scenario above.

17. Valuation metrics

Price/Earnings Ratio (validators): Our models indicate that ETH could maintain a 4-5% + yield for validators of the network based on projected stake rates and transaction volumes. This equates to a P/E ratio of 20-25 for validators, with the caveat that the yield is earned in the native token, which can fluctuate in value. Despite its growth potential, this makes Ethereum a cheaper asset than Apple, Tesla, Facebook, Netflix, Amazon, etc. We think these yields will be quite attractive to large institutions as regulatory clarity comes to the industry, the stigma of “crypto” wears off, and interest rates drop once again to finance debt and deficit spending in the US.

Revenue Multiples: Because Ethereum is a decentralized network, its expenses are taken on by its distributed set of service providers/validators in the form of computing resources.

Since these minimal expenses are not borne from the network, they are not considered in our valuation analysis. This means P/S for crypto networks is equivalent to P/E for traditional companies — because the marginal cost of computer software is essentially zero. Using Ethereum’s 2021 revenues and today’s market cap, we arrive at a revenue multiple of 19.2. If we were to take 2022’s bear market revenues, we get a multiple of 45.4.  Finally, using the average revenue/day since EIP1559 (network upgrade impacting base fees), we get a revenue multiple of 36 today.

Given Ethereum’s potential as a global network, these figures seem reasonable as it is not uncommon for the market to price high-growth tech at higher multiples. In fact, Tesla saw a p/e of over 200 in 2021. Amazon, a company that launched 29 years ago, has a p/e of 102 today. Nvidia has a price/earnings ratio of 111.

Correlations: We have observed strong long-term correlations between the price of a crypto assets and the # of wallets, developers, transaction fees, and users. ETH has an all-time correlation coefficient of .74, .72, .68, and .76 respectively across these metrics.

Relative Valuation: Ethereum functions as a computing platform that could one day power all of finance as well as a host of new business models resulting from tokenization and user-controlled data. Furthermore, Ethereum has the potential to transform B2B interactions across manufacturing & supply chain management.

We believe NFTs will create entirely new business models around advertising, art, music, content, social media, gaming, consumer experiences, metaverse experiences, etc. These applications “on top” of Ethereum pay block space/compute fees to network validators.

While not a centralized organization, this concept is analogous to the Apple App Store charging 30% for all 3rd party transactions.  Or Amazon Web Services taking a small cut of revenues earned by every merchant using AWS. Both companies represent platforms with massive network effects that allow other businesses and applications to build “on top” of them, creating net new markets. Apple has a market cap of over $2.8 trillion today. Amazon has a market cap of $1.36 trillion. Ethereum has a market cap of $201 billion today, with the potential to grow much larger. 

Finally, when we compare Ethereum to other top software networks, only Google reached $10 billion in revenue faster.

18. Valuation summary

In this section, we summarize the results of the 4 primary valuation methods we have applied to the Ethereum Network.

Below are additional KPIs we monitor concerning Ethereum’s valuation:

Final Note on Valuation: The nascent stage of blockchain technology and the new business models leveraging the tech means that new valuation frameworks are consistently being tested by the market. There is no “shared consensus” on how to value a Layer 1 blockchain today. Our strategy is to approach valuation from several angles. 

Some analysts focus on DCF calculations and relative valuation frameworks.  Others see flaws in these methods due to the fundamental differences (outward value flow) between crypto networks, tokens, and traditional investments. With crypto assets, the token itself does not represent “equity” in the legal sense. Since value does not accrue to the “center” or the equity/centralized entity within crypto networks, new valuation frameworks are required for robust analysis.

We saw similar challenges in the early days of the internet — when “page views” were the primary market signal used to evaluate internet businesses.

Ultimately, we believe the lacked of “shared consensus” concerning valuation is creating information asymmetry in the market today. In the coming years, we anticipate that information asymmetry will be arbitraged away as tooling, data providers, buy/sell side analysis, and social constructs emerge amongst market participants — crystallizing agreed upon valuation criteria and benchmarks.

19. Layer 2 economics & application margins

As the base layer settlement and computing platform, Ethereum is optimized for security and decentralization. The network must scale in a modular architecture, with layer 2 solutions providing execution services that increase transaction throughput while lowering costs. As noted in the “Similarities to the Internet” section, Ethereum is growing as a network of networks.

L2’s are separate blockchains that service the application layer above by processing and compressing data, ultimately anchoring “call data” and proofs of the transactions to Ethereum at the L1. About 5% Ethereum’s gas consumption is currently running through the top three L2s today: Base, Arbitrum, Polygon, and Optimism.

As we analyze the growth of L2s, we are focused on how the unit economics change when a user transaction runs through an L2. Specifically, how much of the transaction fees is paid to the L2 and how much accrues to ETH validators. Our analysis indicates that approximately 70% of the transaction fee running through the largest L2 rollups (Optimism, Base & Arbitrum) accrues to ETH validators today.

L2s enable new use cases for app developers by unlocking scalability and privacy. Driving down fees and increasing transaction throughput ultimately benefits Ethereum validators and holders via increased transactions and burned tokens. A win/win/win for app developers, users, and ETH validators/holders. With that said, as L2s scale, we expect that there could be a period where L1 validator revenues drop until the new supply of block space is ultimately filled by new use cases coming to market.

We anticipate that there will be hundreds if not thousands of layer 2 blockchains and app specific blockchains in the future. Within this structure, we expect to see a few large, generalized L2s (For example, Arbitrum & Optimism). Additional L2s will serve specific niche use cases. One mental model here is to think of Ethereum as the country, and L2s as states. The L2s are all connected via shared infrastructure and security, but have their own culture and use cases. Again, it’s helpful to think of Ethereum maturing into its modular architecture as a “network of networks,” similar to the internet. We think that some L2s may serve specific use cases and geographic regions. For example, internet users in the US have a very different experience than internet users in China — despite the fact that we are all connected to the same base protocols. We see a similar dynamic playing out on Ethereum, with L2s networks driving unique use cases and even geographic ringfencing around the globe.

The recording of all economic activity occurring on these L2’s will ultimately settle on the Ethereum base layer, with the L2s keeping approximately 10% of the execution fee charged to apps. In terms of value capture, we believe there will be more aggregate value at the L1, but potentially higher returns at the L2 and app layer.

We view ETH as high-growth index fund that captures a small amount of value from everything built “on top” of it. This concept is not dissimilar to owning the S&P 500 and capturing a small amount of value of the companies that cycle in/out of the Index. The higher up the tech stack, the more risk (and potential upside) in our opinion.

*Note that we project Ethereum as the dominant smart contract platform, but we think there will be a small handful of major L1s with different architectures serving slightly different use cases.

Margins at the application layer

Today, when a user interacts with an application on Ethereum, they pay fees to both the app and Ethereum validators (the gas fee – in some cases paid to an L2, with the L2 paying Ethereum validators for final settlement). However, in the long-run, we expect applications will simplify the experience and pay gas fees on behalf of their users.

Below is an overview of the current margins for various businesses deployed on Ethereum.

We break down the economics at the application layer further below, highlighting Uniswap — the largest decentralized exchange today.

20. Onchain gas consumption by year

Ethereum’s gas consumption reveals the use cases in which computing resources are most in demand. The above data tells a story regarding Ethereum’s evolution and maturation as computing infrastructure. Notably, we can see the introduction of DeFi in 2017. Stablecoins as payments and collateral in 2019. NFTs in 2020. And bridges in 2021 — relieving congestion on Ethereum at the time.

In the future, we expect to see the majority of Ethereum’s gas consumption derived from layer 2 solutions — which will drive an explosion of new use cases as costs are compressed.

Furthermore believe gaming and enterprise use cases will have their own line items in the coming years. We also expect to see DeFi re-emerge with the introduction of “permissioned DeFi” — now possible on privacy enabled L2s, such as E&Y’s Nightfall solution.

21. Onboarding enterprises

“Public blockchains are to business ecosystems as ERP is to enterprises.” – Paul Brody, E&Y

If we’ve said it once, we’ve said it a million times: the key value proposition of public blockchains is derived from the utility of a global settlement ledger and accounting system that anyone can access but nobody can control. This concept has the potential to radically transform the way that businesses interact with each other in the coming years — by leveraging a shared ledger that neither party needs to trust the other to maintain properly, or worse yet — have their data exploited or get kicked off the platform. That is the power of decentralization.

Reconciling and verifying information across disparate systems is quite costly. It is often estimated that, on average, large companies spend around $100 in administrative costs for each payment processed.

ERP solved many issues inside the enterprise by making various processes and standards uniform within an organization.

Public blockchains will offer similar capabilities, but with the ability to transcend enterprise boundaries — an important development given the complex nature of global supply chains and B2B interactions.

Ernst & Young (who is solely focused on the public Ethereum Network) recently launched Nightfall, a privacy focused L2 on Ethereum and Polygon for enterprises. Their Head of Global Blockchain, Paul Brody, is forecasting 4 billion transactions/day just for manufacturing & supply chain use cases. For reference, Ethereum does about 1 million transactions/day today on the L1.

Nightfall (and similar privacy focused scaling solutions) is important because it calls into question the existence of private blockchains — which saw some early traction amongst enterprises primarily due to lack of privacy and scalability on public networks.

Our view is that private blockchains aren’t useful for B2B interaction because they lack decentralization — the core innovation of public blockchains. Businesses don’t want to join someone else’s network — giving away data and control in the process. Ideally, firms want to be on a public network, but with the ability to keep data private (similar to the internet). Given E&Y’s early success stories, it is possible that Nightfall becomes the catalyst for broad enterprise adoption of the public Ethereum Network in the coming years.

A few examples of firms E&Y are working with and the current application per Ethereum for Business by Paul Brody:

• Gerelli Wines & Ansa News: Notarization and document verification
• Digital art, medicine tracking, real-world assets via tokenization (E&Y believes *everything* will eventually be tokenized)
• Peroni Beer & Takeda: Product & asset traceability
• IBM & Mediledger: Supply chain management
• Microsoft: Procurement & contract management
• TradeLens & Contour Network: Trade finance
• Emissions Tracking & Carbon Offsets
• UNICEF Grants, IFAD Global Contributions, and the IMF: Government & public sector accountability
• Circle: Cross-border payments & asset transfers

Ultimately, Ernst & Young expects DeFi applications such as MakerDAO, Uniswap, etc. to launch on Nightfall (or another privacy enabled L2), introducing institutional DeFi services on the public Ethereum network.

22. Ethereum as infrastructure for global finance

We believe Ethereum has the potential to serve as the base settlement layer for global finance. To see this future, it is helpful to revisit the idea of Ethereum as a shared, global accounting system. The features of this system are as follows:

1. Enables users to self-custody assets using shared, global infrastructure.
2. Uses smart contracts to automate services without intermediaries: cross-border payments, exchange, lend/borrow, asset management.
3. Automates services provided by transfer agents via smart contracts, with the Ethereum ledger as the final book of record (accounting ledger).
4. Eliminates costly and time-consuming reconciliation amongst disparate accounting systems.
5. Introduces multi-function assets. For example, one can imagine tokenizing an asset such as a money market fund, and pledge that asset within DeFi as collateral for a loan with instant settlement. This could be applied to real estate or any other financial asset. Users could rehypothecate various assets by providing liquidity to automated market makers, in exchange for additional yield. Or tokenizing a receivable account while collateralizing the asset within DeFi. The key concept here is that an investor can stay invested while maintaining liquidity, earning additional yield in the process.
6. Uses tokens for crowd funding and frictionless capital formation.
7. Creates new governance structures in which users leverage tokens for voting purposes.
8. Democratizes access to private assets via tokenization and fractionalization.

Considering the utility of the Ethereum network for finance, it is not hard to imagine the entire industry running on-chain in the future.

Financial historians will recall the introduction of ETFs and CDOs as new financial products in the early 90s. Rehypothecation is a dirty word post-financial crisis — but it is only dirty because we didn’t have public blockchains (accounting ledger tracking who owns what) and smart contract infrastructure (liquidation engine) to support rehypothecation in 2008.

We believe the tokenization of financial assets in conjunction with automation via smart contracts will drive an explosion of innovation we have yet to see in finance. Once an asset is tokenized on a secure, public blockchain, it becomes unbounded by the rules of traditional constructs and outdated technology.

Furthermore, it is worth considering that what made the modern world possible was clear title to land. The ability to own, control, and improve land.

This was the turning point for modern civilization because land became the core asset. With clear title, individuals could borrow against land value — unlocking capital formation in the process. Everything else in the consumer economy is a consequence of this core breakthrough.

We see clear parallels via the concept of digital property rights (bearer digital assets) — enabled by public blockchains such as Ethereum — and the tokenization of items of digital and physical value.

Ultimately, we believe DeFi (smart contracts) and tokens will unbundle and remake just about every financial service available today. We see a future where the early mover asset management firms (Fidelity, Franklin Templeton, VanEck, Blackrock, JPM, etc.) will ultimately provide the on/off ramps for their customers — leveraging public blockchains and DeFi protocols to offer new and improved financial products and services.

Large banks such as JP Morgan have been aligning themselves with the Ethereum Network since 2016. However, JPM is a massive commercial bank.  As such, they have been building and testing on a private/permissioned fork of Ethereum called Quorum. This is essentially functioning as a “sandbox” for the bank to run proof of concepts and find product/market fit within a safe, “ringfenced,” environment. Because Quorom is a fork of Ethereum, it utilizes the same smart contract language and shared standards as the public Ethereum Network.

Ultimately, we believe JPM is eyeing the public Ethereum Network as its final destination. Tyrone Lobban, JP Morgan’s Head of Blockchain hinted as such in a recent appearance on the Blockworks Empire podcast.

We believe the interaction between large financial service providers and Ethereum will ultimately look similar to Google or Microsoft building “on top” of the SMTP protocol to deliver email services worldwide.

Global network effects will accrue to public blockchains and protocols, with end users accessing services through large asset managers and regulated financial service providers.

We see TradFi and DeFi winning together.

23. Decentralized finance (DeFi)

We define DeFi as any financial service running on a public blockchain utilizing smart contracts and tokens. With seeds planted in the 2018/2019 crypto winter, DeFi truly burst onto the scene in the summer of 2020. And while many view DeFi as a “bankless” grassroots movement, we take a more pragmatic approach. In our view, DeFi is just a very much needed technological upgrade for finance. Like any good technology, DeFi protocols will transform business models, create efficiencies, reduce costs, enhance security & transparency, and expand markets.

In this section, we’ll start with why we believe DeFi has a structural advantage over existing financial infrastructure — and the core value proposition of the tech. From there, we’ll break down a few dominant business models today.

DeFi’s structural advantage

Over the last 15 years, we’ve seen very little innovation in the arena of finance — due to regulatory capture and closed, proprietary data networks. The permissionless, open-source nature of DeFi turns this on its head. DeFi existing on an open platform that anyone can build on cannot be understated — because it leads to endless experiments and innovation. We believe DeFi is unstoppable for this reason.

Furthermore, the open-source nature of the code enables rapid innovation in which a disparate, global network of developers and engineers can build off each other’s work. The code is all out in the open. Each problem is solved once, with others building on the work of those before them.

Composability is to open-source technology as compounding is to finance.

Finally, because the protocols and smart contracts all interact within the same infrastructure, everything is composable. Everything is interoperable. The assets stay with the users and can be ported across services with the click of a mouse. This is incredibly powerful when we consider that the very existence of fintech companies such as Stripe and Plaid is due to: 1) lack of a global, shared ledger, 2) lack of composability and interoperability. Ever wondered why you cannot transfer funds from Paypal to Cash App? Or why many online merchants cannot receive payments without Stripe? Lack of interoperability. Lack of a shared, global database. In the open world of DeFi on public blockchains such as Ethereum, Plaid and Stripe’s value proposition becomes obsolete.

DeFi’s value proposition

It all comes back to the core idea that public blockchains are installing a new data layer onto the internet. This new data layer consists of 1) global accounting databases that are credibly neutral, 2) smart contracts that automate business logic, 3) user-controlled data (assets).

If you haven’t been studying the data structure of the internet and the business models of finance, the new “data layer” as we describe it may sound like a bunch of buzz words. However, we believe these three core concepts will usher in a new age of finance in the coming decade.

Our thesis:

Everything changes once an asset is tokenized, running on a blockchain, and utilizing smart contracts. To drill down on how these core principles transform the business models of finance, let’s walk through a few core primitives in the market today.

Decentralized exchanges/AMMs

Decentralized Exchanges, or Automated Market Makers (AMMs) are protocols leveraging smart contracts to automate the formation of two-sided markets. The “new data layer” (public blockchains) transform the business model while enabling new functionality. Here’s how:

1. Anyone can be a Market Maker: Because the user controls the assets via digital wallets, they can send idle assets into pools, providing liquidity for traders. Traders pay fees to swap assets, compensating the liquidity providers in the process. Liquidity providers can withdraw their assets at any time.
2. Unlock Idle Capital: It is estimated that billions of idle capital sitting in brokerage accounts could be put to work utilizing the AMM model — again because the new data structure allows assets to move freely. The global accounting ledger (a public blockchain such as Ethereum) keeps track of who owns what, and smart contracts execute the business logic. Within this structure, asset managers could passively earn income while hedging risk.
3. Reduce Slippage: As AMMs mature, we are seeing features of the central limit order book implemented on-chain. For example, Uniswap enables customizable liquidity positions and range order trades. Unlike some markets where limit orders incur fees, range orders can actually generate fees while the order is being filled — since it’s technically a form of liquidity provisioning rather than a typical swap.
4. Rehypothecation: The composability of DeFi means that all services are composable with each other. For example, one could stake their ETH to earn a yield via a liquid staking solution, receiving stETH as their receipt token. The receipt token could then be used to provide liquidity within a stETH liquidity pool on Uniswap, earning additional fees.
5. Bootstrap Liquidity for Illiquid Assets: There are hundreds of trillions worth of capital locked in illiquid assets today. With the ability to easily spin up pools for trading, we believe the AMM model could serve as a step-change innovation serving illiquid private markets.
6. Transform Foreign Exchange Markets: The Bank for International Settlements (BIS) spent the last year conducting experiments using AMMs to trade between the Euro, Singapore dollar, and Swiss Franc on public blockchains. The conclusion? “DeFi elements tested in the project, specifically automated market makers, could form the basis for a new generation of financial market infrastructures.” FX markets trade $7.5 trillion in volume per day.
7. Global, 24/7 markets: No explanation needed.
8. Efficiency: The AMM model eliminates unnecessary intermediaries — again, due to the new data structure enabled by smart contracts and the global accounting ledger. For example, consider the parties to a trade in traditional finance today:
   
   1. Broker
   2. Custodian
   3. Transfer Agent
   4. Market Maker
   5. Exchange
   6. Settlement (DTCC)

The AMM model collapses the number of parties involved to the following:

1. Interface to the AMM
2. Liquidity provider
3. Smart Contract
4. Public Blockchain (e.g., Ethereum)

Ethereum becomes the custodian and the settlement/accounting ledger. The smart contract becomes the transfer agent and the exchange.

Payments

The new data structure introduced by public blockchains is also transforming the business model for payments.

Last year, stablecoins settled over $9 trillion of value globally — nearly eclipsing that of the Visa network. The new data infrastructure introduces several upgrades over traditional payments:

1. Stablecoins offer expanded financial inclusion via digital wallets and peer-to-peer interaction — enabling individuals globally to hold and transfer dollars without owning a bank account. We are seeing this in places like Argentina right now, where inflation is surging over 100%.
2. Stablecoins reduce costs for merchants, e-commerce providers, and remittance payments globally — by leveraging a shared, credibly neutral accounting ledger.
3. Stablecoins create a net new buyer of US treasuries, enhancing the network effect of the dollar, similar to the effect of the $20 trillion Euro dollar system.
4. In a regulated environment, stablecoins represent a new line of revenue for banks and fintech firms.
5. Stablecoins transact on public blockchains — providing unprecedented transparency for regulators and compliance officers.
6. Stablecoins enable global B2B interaction 24/7, 365 without the need for intermediaries.

Similar to the AMM model, the new data structure introduced by public blockchains transforms the business model. We highlight this by laying out the roughly 9 steps that happen between a buyer and seller when a credit card payment is made:

1. The buyer interfaces with a merchant via a payment service provider (Stripe, FIS, Fiserv, Square, etc.).
2. The merchant sends the buyers payment information to a card acquirer (Chase payment tech or another 3rd party).
3. The entity sends the information to the card network, which passes it through to the issuer bank (where the consumers credit card is tied back to).
4. The bank checks to see if the person has enough money or credit.
5. The card issuing bank then transmits the information back to the card network.
6. The card network then transmits the information back to the card acquirer entity.
7. The acquirer sends information to the payment service provider (Stripe, Square, FIS, etc.)
8. The payment service provider transmits the information back to the seller.
9. Payment is processed.

Actual settlement amongst banks occurs days later.

That’s a lot of entities. And each one has its hand out, taking a fee. In total, intermediary fees add up to nearly 2.6%, with most of this going to the banks (who take the credit risk).

With stablecoin payments, we have just 3 steps between the buyer and the seller:

1. The buyer already had funds pre-loaded in their digital wallet.
2. The buyer signs a transaction via a digital wallet.
3. The digital wallet transfers the funds peer-to-peer to another digital wallet.

Estimated savings: 2.4% — since there is no card network, no bank, no payment service provider, and no two-day settlement. As we noted above, great tech lowers costs and creates efficiencies. DeFi does this in spades.

DeFi summary

We’ve covered just a few of the dominate business models today. In addition to automated market makers and payments, DeFi has clear product/market fit in the lend/borrow and liquid staking space. In the coming years, we expect to see an explosion of new financial services and products leveraging public blockchains and smart contracts. In theory, any tokenized instrument with a yield could be combined into new financial products with interoperability across services — with smart contracts providing the liquidation engines and public blockchains keeping track of who owns what.

The vast majority of DeFi activity is on Ethereum today — with approximately 80% market share across stablecoin transfer volume, AMM trading volumes, and on-chain lending. To wrap up our section on DeFi, we’ll leave you with a quick overview highlighting the key differences between traditional assets and crypto/tokenized assets.

24. Projecting the merger of “TradFi” & DeFi

As mentioned, we expect early mover traditional finance firms to win together with quality crypto networks and protocols.

An analogy from web2 is how Microsoft and Google leverage the SMTP protocol to deliver email services to end users. SMTP is a permissionless, open-source internet protocol that provides the infrastructure for Microsoft, Google, etc. to build email services “on top” of.

Ultimately, we think that firms such as Blackrock, Fidelity, etc. will be competing to offer new products and services by tapping into public blockchains and DeFi protocols — opening up net new markets. With that said, we expect this to be a slow, phased approach. Below is a rough overview of how we think it could progress in the coming years. Keep in mind that many of these products are already making their way into the market.

• Offer trading and custody of large cap crypto assets such as Bitcoin & Ethereum
• Offer Bitcoin and Ethereum as options within 401ks and Mutual Funds
• Launch Bitcoin ETFs
• Launch Ethereum ETFs
• Tokenized Treasuries and Money Market Accounts
• Tokenized Equities
• Offer Separately Managed Accounts covering a basket of crypto infrastructure projects
• Launch ETFs covering a basket of L1 projects
• Launch ETFs covering a basket of DeFi protocols
• Offer trading of a broader range of crypto assets
• Offer staking services to customers — allowing them to earn yield on their crypto assets
• Provide buy/sell side analysis of crypto networks and protocols utilizing on-chain data & analytics platforms such as Token Terminal
• Integrate with DeFi protocols via Ernst & Youngs (and other) privacy enabled L2 Nightfall
• Provide the access points for users to do on-chain lending/borrowing, asset management, and provide liquidity to decentralized exchanges (yield generating activities)
• Offer access to private, tokenized assets such as Commercial Real Estate and Private Equity (with additional services delivered via DeFi integrations)
• Financialization of NFTs and nearly anything with a yield
• Provide insurance for self-custody wallets

Ultimately, we expect all assets to be tokenized and all of finance to run on public blockchains. If history is any indication, it could take about 10 years for half of the market to port products, services, and assets over to public blockchains from the “go moment” (clear regulations & market acceptance/consensus). This would be in line with the recent migration timeline for enterprises to the cloud.

25. Private/permissioned blockchains vs public blockchains

As previously mentioned, the fundamental innovation of blockchain technology is decentralization. That’s it. Blockchains are only useful when multiple parties need to work together without empowering a single central authority that might exploit them now or in the future. Public blockchains are the only solution for this — meaning decentralization in and of itself is quite valuable.

As such, using first principles analysis, private blockchains are a misnomer — because there is always a gatekeeper. Once you understand that the only thing a blockchain really offers that is truly unique is decentralization, the idea of a centrally managed “decentralized” ledger starts to seem quite silly.

Of course, in some cases, private blockchains are being used by enterprises and institutions as “sandboxes” since the public Ethereum network can be highly antagonistic toward weak or flawed computer code. In this case, private chains can serve as a safe space for testing and proof of concepts (JPM strategy today). But eventually, we believe that all assets will migrate to public blockchains with global network effects.

We see many parallels with private/permissioned blockchains to that of the build out of the internet in the early 90s. Back then, governments and enterprises were also attempting to create their own “private internets,” i.e., intranets. Of course, this did not make sense. What did make sense was to create a virtual private network, while connecting to the open internet protocols and 8 billion people globally. A network of networks, if you will.

While the market has yet to officially come to consensus on this, we think public blockchains will win in the long-run. Our conviction rests within the following logic:

• Private blockchains are not decentralized, shared, credibly neutral ledgers. As such, they are not useful when more two or more parties need to share data, but don’t want to trust an intermediary to record the economic activity and maintain the ledger.
• Private blockchains are owned and operated by centralized entities or a group of centralized entities. Because they are closed and private, there is no shared standards. No network effect. No interoperability. No shared consensus. No DeFi. No NFTs. No user-controlled data. No permissionless access. No transparency. And no outward distribution of value.
• Public blockchains are more secure since there is no single point of attack.
• Historically, open networks triumph over closed network. This is due to the composability of the code — where developers can stack logic like legos, driving rapid innovation and vast network effects by building on already deployed code. Linux is a fantastic example of the power of open-source.
• Joy’s Law: states that there are always more smart people working outside your organization than inside it. Permissionless, open-source networks such as public blockchains have a unique structural advantage in this regard. Because anyone can access them, entrepreneurs and tinkerers can conduct endless experiments, leading to endless innovation.
• Private blockchains lack interoperability and standardization. There is a reason we have a standard for railroad design, highway systems, telecom systems, and one suite of internet protocols. We don’t see any reason why these concepts would not apply to blockchains.
• Private blockchains lack developer talent. The closed nature works to their detriment, limiting creativity and innovation. There is no such thing as “permissioned innovation.”

So, why do private blockchains exist?

There are a few factors driving the confusion in the market:

Flaws of public blockchains today

Public blockchains are far from perfect at present. In particular, they are 1) slow, 2) expensive, 3) lack privacy, and 4) have not been blessed by regulators.

These problems are being solved by 1) layer 2 scaling solutions, and 2) zero-knowledge proofs.

As we covered, Ernst & Young recently released its privacy focused layer 2 privacy solution, Nightfall. This will allow enterprises to access the best of both worlds: scalability and privacy while connecting to the open, composable, global network offered by Ethereum.

We think this will be one of the catalysts for the onboarding of enterprise use cases and the intersection of TradFi and DeFi.

A useful analogy could be to think of scalability + privacy for public blockchains as akin to broadband + encryption for the internet. E-commerce was not possible before these two developments. Similarly, enterprises could not migrate to public blockchains prior to E&Y’s Nightfall (and similar zero-knowledge privacy solutions).

26. Central bank digital currencies

130 countries representing 98% of the worlds GDP are currently working on developing a CBDC. In short, CBDCs are inevitable. Given that governments tend to prefer control, it is not surprising that nearly all CBDC projects are currently being developed on private/permissioned blockchains or some form of distributed ledger technology.

Which begs the question — how will they be implemented, and how will their presence impact public blockchain networks such as Ethereum?

Will central banks operate a global monetary system that runs parallel to crypto and the financial services available via public blockchains and protocols?

Or will governments eventually build upon public blockchain networks such as Ethereum?

We think it will be the latter. There are several reasons that private/permissioned blockchains will not work for CBDCs. Reading through research reports covering the NY Federal Reserve’s proof of concepts reveals some clues as to why. Two primary challenges were cited in the most recent report concerning Project Cedar:

1) “Establishing a multi-party governance structure for a common network while maintaining independence is non-trivial.”

We think this is more than just “non-trivial.” It flat out doesn’t work. We know this because it has been tested several times via “blockchain consortiums.” The bottom line is that nobody wants to join someone else’s network — giving away data and control in the process. It turns out that for every blockchain consortium created, two more private networks were created per a Forrester study commissioned by Ernst & Young.

If it doesn’t work for a consortium of financial institutions, we think a group of sovereign governments will run into the same issue.

The New York Fed tested a private consortium network in which each Central Bank runs its CBDC on its own chain (Project Cedar). This solves the privacy/independence issue. But it introduced the second primary challenge.

2) “Requires agreement and alignment to common technical stack and standards.”

Does anyone seriously think we’re going to get a bunch of governments around the world to coordinate to build on the same tech stack, where nobody owns or controls it?

Newsflash: this already exists. They’re called public blockchains. Public blockchains are decentralized. This means each government doesn’t have to trust that another party won’t kick them out of the network or steal data. Ethereum is the largest public blockchain network today. It already has shared standards around developer tooling, programming languages, token design, wallets, identity, scaling infrastructure, identity, etc.

Ethereum has already solved the interoperability challenge. Furthermore, public blockchains are more secure, have massive network effects, and a global hive mind of brain power working on them 24/7. Governments do not have to build all of this themselves.

Not to mention, they can create their own “private networks” on Ethereum as Layer 2 solutions while opting into a set of shared global standards — enabling interoperability with other governments and connection to 8 billion people globally.

This is similar to a government or large institution connecting a VPN to the global set of internet protocols. Again, we expect Ethereum to grow as a network of networks (similar to the internet).

Within their own Layer 2 network, governments can mint currency and interact with intermediaries (banks). They can track everything on a transparent ledger while maintaining privacy with zero-knowledge proofs. This means monetary policy could be “proven” to the general public, without revealing the details of everyone’s private data. They’ll be able to track and ensure tax receipts are collected and trace money laundering. Not to mention, regulators will have more transparency into systemic risk.

This can all be set up with a proper rule-set for what is acceptable and what is not — as determined by the voters. For example, governments ought to be able to use the ledger to track criminal activity and tax fraud. But they shouldn’t be able to arbitrarily spy on citizens and censor user behavior (4th Amendment).

For these reasons, we believe CBDCs will ultimately be issued on public blockchains. The most obvious choice would be Ethereum today given its massive network effects. Of course, scalability and privacy are the key missing ingredients at present. These constraints are being solved by increased throughput on L2s in conjunction with zero-knowledge proofs. It is important to remember that Moore’s Law continues to play out on the Ethereum Network.

27. New internet native business models

In this section, we want to revisit Ethereum’s core value proposition:

1. A global computing platform enabling user-controlled data (assets) and digital property rights.
2. A credibly neutral, shared, secure, permissionless database & accounting system — recording the economic activity of all applications built “on top.”

Open Data Networks/Accounting Ledgers (Ethereum) + Automated Business Logic (smart contracts) + User Controlled Data & Peer-to-Peer Interaction (via digital wallets) = New Internet Native Business Models.

Outside of finance, we see Ethereum disrupting business models across a variety of industries. To name a few:

1. Digital Art & Collectibles: The Ethereum Network has processed over $43b in digital art & collectible sales over the last two years. Digitally native art recorded as an NFT allows creators to monetize their work directly with their fans — leveraging the internet to displace unnecessary intermediaries. Furthermore, as a global accounting system, Ethereum tracks the provenance of ownership of unique digitally native artwork. This enables royalties paid to creators for secondary sales. Finally, end users can display ownership of unique digital art through the internet/social media — a form of expression that can reach millions of people — as opposed to physical art, which can only be viewed by visitors to a gallery, museum, or one’s private residence. We think this could expand art markets in ways that are difficult to fully grasp today.
2. Music: The same concept applies to the music industry. Artists can now leverage NFTs as a form of distribution directly to their most loyal fans, cutting out unnecessary intermediaries in the process. Furthermore, NFTs can serve as a mechanism for superfans to access premium content and unique experiences.
3. Gaming: Gaming is the fastest growing form of entertainment globally, with annual revenues exceeding $346b. NFTs introduce new gaming business models as users can now own (and display) their in-game skills and assets. With this, we expect to see new “in-game economies” and secondary markets for gaming assets.
4. Brand Loyalty Programs: Global brands such as Louis Vuitton, Gucci, Tiffany, Nike, Adidas, Lamborghini, etc. see NFTs as a new way to create unique experiences for their most loyal customers. For example, we envision a future where e-commerce transactions are made through digital wallets with stablecoins. When a customer completes a purchase, they will receive a “digital twin” as an NFT in their wallet. This can then be displayed by the customer on social media as a form of expression. It also becomes a “perfect cookie” in terms of data tracking. The NFT allows brands to keep tabs on all of their customer wallets. Marketing teams will be able to create unique experiences with their most loyal customers by “air dropping” special deals or in person experiences to customer wallets. In the physical world, consumers display their association with popular brands as a form of expression. Some people seek to share their social class. Others want you to know what kind of style they have. And some people just want you to know they are unique. We expect NFTs to bring this enhanced expressiveness to the internet (where distribution is massive) while acting as the accounting system and connective tissue for a global network of customers.
5. Enterprise & B2B: The introduction of ERP allows businesses to create internal standards and processes around finance, accounting, administration, human resources, manufacturing, supply chains, procurement, etc. We believe public blockchains such as Ethereum will do the same for business ecosystems. Using smart contracts, business logic can be automated, with final proof and settlement recorded on Ethereum’s credibly neutral and trusted database. In essence, business interactions can now be automated in a peer-to-peer manner with the economic activity recorded on a shared accounting ledger.
6. Digital Content: There is a staggering amount of digitally native content that can be placed on public blockchains as NFTs. We now have the technology to establish ownership, and make intellectual property liquid — for all forms of digital content. To fully appreciate this, we need to consider that we seldom own anything on the internet today. We license books from Amazon. We rent music from Spotify and Apple. We make payments to borrow web domains from a registrar. If we can own digital content in the future, then we can value digital content. If we can value digital content, then we can trade and financialize digital content — which could lead to secondary markets.
7. Digital Identity: With digital wallets serving as “digital identity,” we see a future where users will be able to permission brands to see the contents of their digital wallets. Brands can then market to individuals based on past purchases and ownership vs “clicks.” We believe this will dramatically shift advertising business models and enable an internet that “works for the user, rather than extracts value from the user.”
8. Social Media: Today, social media creators do not own the relationship with their users. The platforms do. For example, a creator with 100,000 followers on Twitter cannot connect with their followers on any platform except for Twitter. One way to solve this is to create a protocol for social graphs. This way, the creator can port their followers onto any other app utilizing the same protocol (similar to how SMTP and email work). Farcaster and Lens are two such protocols building on Ethereum today. We think this will ultimately create stronger ties between creators and the apps they use, while aligning the financial incentives for those creating value on social networks.
9. Web Hosting & Cloud Compute: Research suggests that the average firm is wasting about 32% of their cloud spend in 2022. As such, we are beginning to see the green shoots for projects creating decentralized marketplaces allowing firms to buy and sell unused cloud computing resources.

28. Governance & core team

The Ethereum Foundation

Ethereum is run by the Ethereum Foundation (EF) — a non-profit with 254 employees that supports the Ethereum ecosystem, and works alongside a broader ecosystem of organizations, individuals, and companies that fund protocol development and community growth. The EF team is an amalgamation of lead developers, engineers, business leaders, researchers, and community leaders. Functionally, Ethereum operates more like a “community of teams” rather than a traditional organization. The goal is to support and advocate for the Ethereum ecosystem, without controlling it.

Some teams are focused on the development and maintenance of important pieces of the Ethereum technology stack. Other teams explore the technical frontiers of what Ethereum and its ecosystem can become. Another team may be focused more outward on the ecosystem, trying to understand it while looking for challenges and opportunities. Additional teams focus more internally, ensuring that resources are allocated properly, that the right problems are being worked on, and that the teams and groups that make up the community have the support they need to achieve their goals.

Vitalik Buterin is the primary creator of Ethereum and is widely considered one of the brightest minds in the industry. Vitalik has lead development efforts on numerous projects and actively provides the guiding hand for future innovation and network enhancements. His blog and Twitter are must-reads for anyone in the industry.

The Enterprise Ethereum Alliance is composed of some high-profile firms including Consensys, CME Group, Ernst & Young, Fedex, Microsoft, Intel, J.P. Morgan, Deloitte, VMWare, and Accenture. Additionally, there are at least nine funded independent development teams working on Ethereum 2.0.

29. The Ethereum community

Ethereum has one of the strongest communities in crypto, if not the strongest. We have observed somewhat of a “religious fervour” within some early crypto communities, and we see this within the Ethereum ecosystem. While this can create contention within the crypto industry, we view it as a positive and a sign of a strong, vibrant, mission driven ecosystem of core contributors, supporters, and evangelists. We’ve seen these dynamics in past technology movements as well — which can be driven by ideology in the early years.

Social presence

The Ethereum Foundation has over 3.1 million followers on Twitter and the Reddit channel has over 2.5 million members.

There are hundreds of thousands of members devoted to various Discord and Telegram communities supporting applications within the Ethereum ecosystem.

Furthermore, the Ethereum Foundation conducts conferences and hacker houses globally throughout the year. Last year’s ETH Denver event was attended by over 15,000 people from 115 countries.

Finally, Ethereum is the second largest blockchain ecosystem by market cap and is regularly covered by both mainstream and crypto oriented media publications.

30. Security & decentralization

The security of a proof-of-stake blockchain is largely determined by the following:

1. The number of nodes (computers) running the Ethereum software.
2. The geographic dispersion of the network of nodes.
3. The percent of nodes hosted by one web hosting service.
4. Concentration of ETH supply within staking providers.
5. The cost to attack the network (the cost to acquire more than half of the supply of the token).

Ethereum has the largest network of validators, as well as the highest market cap of any smart contract platform today. Given the low allocation of tokens to insiders (16.67% at inception) we feel that the ETH holder base is sufficiently decentralized to prevent a single entity from taking control of the network. It is also worth considering that the economics of attacking the network are unlikely to work in the attacker’s favor. For example, if an attacker tried to acquire more than half of the ETH circulating supply, they would likely drive the price up in the process. And even if they were able to accomplish this and take control of the network, it is likely that the blockchain would immediately fork via social consensus. Honest actors would then validate the transactions on the fork (the valid chain, with the valid history of approved blocks). The attacker would lose hundreds of billions of dollars, and Ethereum would recover on as if nothing had happened.

As far as geographic dispersion, Ethereum nodes are located all over the world. The largest concentration is in the United States (38%), with Germany coming in at #2 (17%).

Currently about 53% of Ethereum’s nodes (computer servers) are running on centralized cloud service providers, with AWS running half of the 53% (26.5% of the entire network). 47% of Ethereum’s servers are hosted locally, up from just 30% 3 years ago.

Regarding concentration amongst staking providers — Lido currently controls 31.8% of all staked ETH — a growing concern within the Ethereum Foundation. For what it’s worth, Lido has vowed to decentralize its validator network to ensure against collusion and potential transaction censorship.

While Ethereum is the most decentralized smart contract platform in the industry today, it is critical for the network to maintain credible neutrality far into the future.

31. Roadmap

The Ethereum Foundation has successfully navigated the protocol through many important updates. To date, thousands of improvement proposals have been put forth by the community, voted on, and implemented. The most important improvement thus far has been transitioning the network to a Proof-of-Stake consensus mechanism. Many technologists view this as one of the most impressive engineering accomplishments in computing history, analogizing the feat to re-building a plane while it is flying in the air. The transition to proof of state has had a major impact on the tokenomics and energy consumption of the network. However, the network is far from finished.

Future enhancements to the protocol include the following:

• 100,000 transactions per second and beyond (on layer 2 solutions & rollups, EIP4844)
• Build out of Zero-Knowledge Proof solutions — which will bring privacy to public blockchains, enabling commercial use from enterprises (and could make private/permissioned blockchains obsolete). Ernst & Young recently launched Nightfall, a privacy focused layer 2 solution for enterprises.
• Enhanced network security
• Ensure reliable and credibly neutral transaction inclusion and avoid centralization risks related to MEV
• Introduce the ability to verify data and transactions on nothing more than a cell phone
• Simplify the protocol, eliminate technical debt, and limit costs of participating in the network by clearing old history

Ultimately the goal is for Ethereum to be able to onboard billions across hundreds if not thousands of applications. This is a multi-decade process in which we are still in the early innings. Based on the team’s track record in executing on its road map to date, we feel confident in their ability to continue shipping updates that will enhance the usability of the network, draw in more entrepreneurs and developers, and eventually billions of users.

Q4 Updates

We want to highlight two important developments on our radar for Q4. The first is EIP 4844, also known as “proto-danksharding,” — which is set to be implemented this quarter. Its primary goal is to reduce transaction fees on L2s while increasing throughput. Here’s the takeaway:

• L2 execution will now be decoupled from L1. This means L2 execution (servicing apps) will not be impacted by congestion at the L1. For example, popular NFT mints have created congestion on Ethereum in the past, making it difficult for others to use the network. EIP4844 solves this by separating L2 execution from L1 block space. Keep in mind that ultimately, the L2 still anchors its transaction call data to Ethereum at the L1, paying fees to do so. Impact to ETH: we think that ETH burn rates could drop initially as a result of EIP4844. However, we believe this new compute supply will eventually be consumed by new demand — from developers of new applications that were previously not feasible due to transaction fee and throughput constraints.

The second important development that we are keeping an eye on is account abstraction (EIP4337), which will significantly upgrade the user experience on Ethereum. Today, users interact with Ethereum using externally owned accounts (EOAs), or digital wallets. This is the only way to start a transaction or execute a smart contract — limiting how users can interact with Ethereum. For example, it makes it difficult to do batches of transactions and requires users to always keep an ETH balance to cover gas fees.

Account abstraction introduces smart contract wallets as a means to solve these problems. This unlocks several benefits for users including:

• Ability to define your own flexible security rules.
• Recover your account if you lose your private keys.
• Share your account security across trusted devices or individuals.
• Pay someone else’s gas fee, or have someone else pay yours.
• Batch transactions together (for example, approve and execute a swap in one click).
• More opportunities for dapps and wallet developers to innovate on user experiences.

The biggest takeaways from account abstraction are that users will no longer have to pay transaction fees in ETH (though ETH is still needed to settle — it is just swapped for the users’ tokens at the smart contract layer under the hood).

It also means that applications and protocols may start paying gas fees on behalf of users — an exciting development for onboarding new users.

32. Competition

Ethereum has several layer 1 smart contract platforms providing formidable competition today. Each blockchain competes on a set of trade-offs related to consensus mechanisms, computing architecture, approach to scalability, decentralization, etc. We view the strongest competitors to Ethereum today as Binance, Cardano, Solana, Polkadot, Cosmos, and Avalanche. We should note that there are trade-offs for each design choice taken by Ethereum’s competitors. For example, Solana seeks to scale from a monolithic perspective. The trade-offs to doing this relate to decentralization and the complexity to run the software. Cosmos, Polkadot, and Avalanche seek to offer solutions for applications to launch their own “app chains.” Again, there is no free lunch. Doing so requires tradeoffs regarding security, interoperability, and liquidity.

While we see Ethereum growing into a global monopoly, we think there will ultimately be a small handful of Layer 1 blockchains that capture the majority of the market. Recall that our valuation analysis assumes a 50% terminal market share for Ethereum amongst smart contract networks.

Our “small handful thesis” for L1’s aligns with past computing movements such as cloud providers, mobile providers, infrastructure providers, software providers, etc. Ethereum has an early lead today as the blockchain was first to launch in 2015. As covered, we have observed that network effects tend to hold in crypto, even though open-source code can be copied/forked at will. We believe this is due to the immense difficulty in bootstrapping two-sided markets and building out the necessary infrastructure (developers, tooling, standards, liquidity, etc.). As a network effect takes hold, trust (Lindy Effects) and brand recognition make it even more difficult on competing networks.

Below are Ethereum comps as of 9/30/23. Absent in the list is Bitcoin — which is not a smart contract platform, and therefore not a competitor to Ethereum.

A data-driven analysis of the top 10 smart contract platforms today reveals the following in terms of ranking:

Ethereum is #1 in terms of valuation, operating metrics, and decentralization. It is #2 in terms of social ranking.

The criteria for comparison were compiled as follows with each metric receiving equal weighting.

Valuation Metrics: Market Cap to Revenue, Devs, Users, TVL

Operating Metrics: daily users, transactions, active developers, revenues, and value locked over the last 180 days.

Decentralization: Nakamoto Coefficient

Social: # of Twitter followers

Modular vs monolithic blockchains:

As we’ve covered, Ethereum is maturing and growing as a “network of networks,” or a “modular” tech stack — in which settlement (L1) and execution (L2) are separate yet connected.

By contrast, Solana (the #3 ranking) functions within a monolithic, or integrated architecture — in which settlement and execution are mashed together.

We think that both architectures can flourish in the future by serving slightly different use cases and applications. In fact, some view Ethereum vs Solana similar to how one would think about the differences between Android and iOS. In this case, Ethereum is more like Android — which values modularity and runs on many different devices made by hundreds of manufacturers worldwide. Android’s flexibility and expressiveness allows hardware developers to make anything from smartphones to televisions — without having to invest in building bespoke operating systems. As with Android, Ethereum is becoming more of a platform for 3rd party networks (L2s), rather than the place where most end-users and developers will operate. As it becomes easier to launch L2s, we expect to see hundreds if not thousands of networks offering slightly different use cases or serving specific geographic regions.

Solana is more like iOS because it can provide users and developers with a more integrated experience — bypassing the complexity required to seamlessly connect a disparate network of L2s. As a unified network, Solana boasts lower transactions costs and higher throughput than Ethereum and the EVM operating system. This allows developers to focus on delivering applications serving a single, high-performance platform without dealing with complexities related to transaction speed or interoperability across disparate networks. It can also make the experience more seamless for users by stripping away the need to bridge assets or deal with inconsistent wallet support.

Ultimately, we think there is space for an alternative architecture such as Solana. The two can win together, along with Bitcoin in our opinion. Speaking of Bitcoin…

Ethereum vs Bitcoin

We did not include Bitcoin in the competition section above. That’s because we don’t view Bitcoin as a competitor to Ethereum. Rather, Bitcoin is trying to be “internet money.” We think it’s already won that game. With the digital gold narrative taking hold, we believe this is the primary use case for Bitcoin. While we remain open-minded to potential breakthroughs on Bitcoin (such as Ordinals this year), we think Ethereum has proven itself to be the dominant smart contract platform due to the expressiveness of the programming languages, and its vast network effect.

Unlike Ethereum, Bitcoin is not a Turing complete computing platform. After all, Bitcoin’s Script programming language was designed with limited functionality.

In other words, Bitcoin wasn’t designed to be an innovation platform. It is supposed to be simple. Reliable. Predictable. Decentralized. And secure. And it is doing just that. To highlight the differences, we present some basic network data below comparing the two.

• Non-Zero Wallets: given the need for users to hold ETH to access the vast offering of services on the network, it makes sense that we would see more than double the number of non-zero wallets on Ethereum than on Bitcoin.
• 365 Day Transaction Fees: Again, given that Ethereum has thousands of applications and billions of dollars locked in DeFi, the network did about 6.3x the revenue that Bitcoin did over the last year.
• Average Daily Active Addresses: Bitcoin leads this category, though the data is somewhat skewed on the Ethereum side. This KPI is measuring the number of active wallet addresses in the network as either a sender or receiver. Bitcoin is primarily a store of value and payment network. Therefore, most interactions are between sender/receiver wallets. Ethereum is a smart contract network. As such, users are more likely to be interacting with smart contracts — which is not measured in the data.
• Total Value Locked: We think this KPI is a very strong reflection of the fact that Bitcoin is not a smart contract platform designed to execute business logic across various applications. As such, Ethereum has 283x the amount of value locked on the network.
• Annual Inflation Rate: Bitcoin’s monetary policy is simple and fixed. Every 4 years the new issuance per block drops in half. In April of 2024, network issuance will drop from 900 to 450 bitcoins per day. By contrast, Ethereum does not have a fixed monetary policy. It is dynamic and is influenced by the number of stakers and the user fees on the network. Unlike Bitcoin, Ethereum’s token issuance can turn deflationary during periods when the user fees burned exceed the daily issuance. Over the last year, we’ve seen these dynamics play out almost daily, with the circulating supply dropping by .23% as a result.
• Average Monthly Developers: As we noted, Bitcoin is not a developer platform. While the network has plenty of developers maintaining the code, it has far less brain power than Ethereum.

In summary, we think both networks have a role to play in the future of Web3. Bitcoin could have a monopoly on “internet money,” with Ethereum serving as the global settlement layer for finance while introducing digital property rights to the internet — transforming many internet native business models in the process. For this reason, we think that Ethereum has a far larger addressable market than Bitcoin.

33. Regulation

If Ethereum were to become the base settlement network for all of finance, the new technology will transform just about every financial service we are accustomed to today. This will require new rules and regulations pertaining to:

• Custody of assets
• Multi-functionality of assets
• Interoperability & composability
• Tokenization of assets
• Capital formation and asset fractionalization
• Transfer agents
• Accounting & reconciliation
• Exchange of assets
• Payments
• Market trading hours (crypto markets are global, 24/7)
• Blurring of jurisdictional lines (“internet native” markets)
• Securities laws

To date, we have seen a “regulation by enforcement” approach in the United States from the SEC. With that said, Ripple’s recent victory in court vs the SEC could represent a sea-change moment for the industry. In her ruling, Judge Torres concluded that crypto assets sold in secondary markets were not securities transactions. The implication here is that assets trading on Coinbase and any other secondary market are not securities transactions — exempting crypto networks from onerous disclosure & reporting requirements that cannot be complied with.

It’s worth noting that jurisdictions around the world are ahead of the US when it comes to regulation. Europe recently passed MiCA (Markets in Crypto Assets), which went into law in July — with compliance projected to commence in 2024. In the UK, Prime Minister Rishi Sunak has pitched plans to turn the UK into a “crypto hub.” Hong Kong is putting pressure on banks to service crypto companies. Japanese and Singaporean regulators have joined forces on a crypto pilot project.

With some of the largest financial hubs globally pressing forward with crypto regulation, we think it’s only a matter of time before the US responds in kind.

The regulatory apparatus of the Biden administration has been hostile toward the crypto industry, but we are observing more nuanced sentiment coming from Congress and the Court system. In fact, per data compiled by Coinbase, we see more supporters of crypto from both Democrat and Republic policymakers in Congress today.

Ultimately, per the United State constitutional system, it is Congress that has the authority to establish a regulatory regime for the emerging crypto industry. The Responsible Financial Innovation Act and The Digital Asset Market Structure are two drafted bills would address many of the issues noted above.

Per a recent study by the Federal Reserve, over 10% of US adults owned or used crypto in 2022. Coinbase puts the number at closer to 20%, with surveys indicating that more than half of Fortune 100 companies are currently developing blockchain initiatives to stay competitive.

The popularity amongst users and the financial incentives of service providers to meet market demand ultimately point to new rules and regulations for crypto that will foster capital formation and innovation, while protecting consumers.

34. Why Ethereum?

In this section, we recap five core themes covered throughout the report in an effort to hammer home some of the key drivers regarding Ethereum’s path toward becoming a global monopoly.

1. Metcalf’s Law: we believe Metcalf’s Law is particularly powerful for permissionless systems because of the compounding effect of endlessly innovative systems. Ethereum developers have already put down most of the infrastructure, which we think will serve as a moat that could drive an endless flow of entrepreneurs and developers to the network. Successful entrepreneurs will drive the next billion users.
2. Moore’s Law: The primary criticism of Ethereum today is that it “doesn’t scale well.” This is largely true when directed at the base layer. However, Ethereum is scaling via layer 2 networks. Moore’s Law is playing out. In less than two years, we’ve seen transactions on Ethereum’s largest L2 scaling solutions (Arbitrum, Optimism, and now Base) grow by 3,438%. We’re also observing significant efficiency gains in terms of cost/tx on L2, which we anticipate to decline further with the release of EIP4844.

1. Good Enough Technology & The Ten-Year Window: It’s often confounding to try to understand why the best product almost never wins. For example, Microsoft Windows was terrible when it first came out. Not just by today’s standards, but even compared to some of the other options in the market, including the Mac. And there were many others with superior products — which had more modern underpinnings and better user interfaces. In the end it didn’t matter. Microsoft had an early lead. And the companies that made and sold PCs, which was primarily IBM in the 80s, were good at serving the main buyers — other enterprises. The combination of “good enough tech” and enterprise services was enough to create a formidable moat for Microsoft. We see this same dynamic playing out today with Ethereum. Furthermore, in many technology cycles, we have observed that the winners typically emerge within the first 10 years of the category being born. Microsoft had the leading operating system by 1984, 8 years after PCs first emerged. iOS came into existence about a decade after the smart phone category was born. We’ve seen the pattern repeat with office productivity (Microsoft), networking equipment (Cisco), and cloud computing (Amazon).
2. Community, Brand, and Lindy Effects: We think that part of the reason that “good enough technology” wins is because of these factors. Ethereum has the strongest mission driven community and brand in crypto. In many cases, we’ve observed almost a “religious fervor” amongst the community — which is something we’ve seen with past technology movements as well. We view this as a positive. Ethereum’s community and brand extend from the most loyal crypto natives, to big 4 accounting firms, to global asset managers and systemically important banks such as JP Morgan. We have yet to observe this range of support for any other blockchain ecosystem in the market. Furthermore, Ethereum’s Lindy Effect means that new entrants to the market are more likely to choose Ethereum than its lesser known, less proven competitor. For example, how many large enterprises choose Amazon Web Services new competitor with some shiny new feature? Very few. They go with AWS because it is known. It is proven. It’s what everyone else uses. We believe Ethereum will ride a similar tailwind in the coming years.
3. Token Economics & Liquidity: Ethereum has the strongest token economic structure of any layer 1 blockchain today. We believe the mechanisms in which value is returned to token holders and stakers of ETH will be easily understood and embraced by Wall Street in the coming years. Furthermore, Ethereum has by far the most liquidity of any other blockchain ecosystem. Liquidity begets liquidity. Therefore, we think the combination of these two factors will be a driving force for adoption in the coming years.

35. Catalysts & drivers of adoption

In the near term (2-3 years), we see adoption catalyzed via scalability, privacy solutions, and regulatory clarity. Over the long-run, Ethereum has several tailwinds supporting network adoption this decade:

1. Open-Source Technology: The Ethereum Network sits at the epicenter of web3 — an open-source technology movement that promises to deliver the “next iteration of the internet,” powered by new business models leveraging user-controlled data and peer-to-peer interaction. The permissionless nature of open-source technology has historically driven waves of innovation sustained by low barriers to entry. Furthermore, open-source technology movements can see rapid innovation due to the composability of the tech — with engineers and developers stacking code like Legos. Each problem is solved once, with others then picking up and expanding new code into further use. “Composability is to software as compounding interest is to finance.” Finally, open-source technology follows Joy’s law in that “there are always more smart people working outside your company than inside it.” Open-source movements pull from a much wider network of talent than centralized companies. Meanwhile, Ethereum has a big lead and has already established new standards for node infrastructure, tokens, wallets, developer tooling, smart contract programming languages, etc.
2. Demographics: The United States, and many of the most populous countries globally are currently undergoing the largest shift in demographics since WWII. In the US, the last of the baby boomers are set to retire in 2030. Younger generations have distinctly different ideas about what the future should look like. And they are increasingly getting a seat at the table — within large companies, and within government offices. 
3. Global Distribution of Wallets: As web3 products and services improve, we think adoption rates could scale non-linearly due to the open-source nature of the tech, and the fact that anyone with a smartphone can participate. It is estimated that 83% of the global population has a smartphone today (up from 49% just 6 years ago).
4. Tokens and Outward Distribution of Value: Crypto networks such as Ethereum provide the infrastructure for new internet-based business models based on user-controlled data and peer-to-peer interaction. We believe this will ultimately drive more value to users, creators, and the supply side of these networks. Furthermore, distribution of tokens to early ecosystem participants provides a superior bootstrapping mechanism for early-stage VC projects, while more evenly distributing ownership amongst contributors. 
5. Internet Culture: It is not lost on us that Bitcoin has no CEO. No boardroom. No sales or marketing teams. And no “road map.” Yet Bitcoin achieved a $1 trillion valuation faster than any company in history. We believe the internet is evolving in ways that are hard for us to understand. The internet has scale and distribution that we still struggle to fully grasp. Ethereum and other web3 networks are likely to benefit from these powerful, yet misunderstood forces. 
6. Lack of Trust in Institutions: Per Gallop polling, the US is currently at all-time lows in terms of trust across categories such as organized religion, the Supreme Court, public schools, newspapers, congress, television news, the presidency, the police, big business, etc. Global institutions such as the World Bank, the IMF, NATO, the EU, and the World Trade Organization were all established after WWII. History is clear that we can go through decades where not much changes at all, and then everything can change in a decade.
7. Macroeconomics: History is also clear that long-term debt cycles are real. And we are currently at the end of one. History tells us that we tend to enter periods of geopolitical turmoil at the end of the long-term debt cycle. During these periods, societies can undergo significant change in short period of time. It is possible this will play out this decade globally. As this occurs, we think that “new ways of doing things” will be embraced, which should be a tail wind behind web3 development and the Ethereum Network.
8. Layer 2 Scaling Solutions: Ethereum is still slow and expensive as a settlement network. This is necessary to ensure that the base layer maintains proper security and decentralization. The network must scale on Layer 2, which we are now seeing. The story of the bear market of 2022/2023 has been the growth of Layer 2 networks such as Arbitrum, Optimism, Base, and Polygon. EIP-4844 is projected to go live in the fourth quarter — exponentially increasing transaction throughput. We believe that Ethereum is nearing its “broadband” moment that will enable new use cases and better user experiences — driving adoption to 1 billion users in the coming years. Of course, layer 2s are net-positive to Ethereum, as all transactions running through them ultimately pay for settlement/block space on the L1. 
9. Financial Innovation: The internet has disrupted just about every business model imaginable. Yet the business models of the financial services industry have remained largely unchanged. We view public blockchains as the catalyst for a major overhaul of the global financial system from both an infrastructure perspective and a products/services perspective. The financial incentives for the largest asset managers and service providers will drive these changes. Ernst & Young has launched a privacy based L2 on Ethereum called Nightfall. We believe this could be a catalyst for institutions to migrate onto public blockchains.
10. New Internet Native Business Models: As we’ve covered throughout this document, Ethereum enables a host of new internet native business models by introducing user-controlled data, smart contracts, peer-to-peer interaction, and a global accounting ledger.

36. Risks

While Ethereum’s network effects appear to be approaching escape velocity, nothing is for certain. There are several risks to consider given the nascent stage of the technology:

1. The network is currently in the process of scaling via layer 2 solutions such as Optimism, Arbitrum, Base, and Polygon. It is critical for applications to be able to leverage these solutions to provide a better user experience for their customers, but still unproven.
2. It is possible that some of the networks largest applications could leave to build their own “app chains” on a competing network to integrate vertically and capture more of the value chain.
3. It is possible that competing layer 1 smart contract platforms could capture a larger share of venture capital, developers, and users in the future.
4. While unlikely, it is possible that the network could have a security bug that is exploited. We will note that hackers all over the world have been trying to hack the network for 8 years to no avail.
5. We cannot rule out the possibility that the industry will move toward permissioned/private blockchains for many use cases we believe will play out on Ethereum and public blockchains.
6. It is possible that we enter a period of geopolitical or economic uncertainty, and governments seek to stall innovation, or implement capital controls in an attempt to maintain order.
7. Thoughtful regulation is required to allow innovation to prosper. It’s possible that regulators and policymakers create new rules and regulations that hinder Ethereum’s growth potential.
8. Centralization concerns. The core value proposition of public blockchains such as Ethereum is credible neutrality. If Ethereum were to lose this, it could severely impair the networks market value.

37. Conclusion

Ethereum has demonstrated strong network effects, clear revenue generation/outward distribution of value, and quality tokenomics “post merge” with token issuance turning net deflationary. The network is currently capitalized by user fees, and earns its distributed set of validators a yield of 4-5%.

The core team has demonstrated the ability to execute on its roadmap, and the Ethereum ecosystem/community is the strongest we have seen amongst smart contract platforms.

We think ETH represents the best risk-adjusted return potential across the crypto ecosystem today. Investors could think of ETH as an index fund that represents a call option on web3. The S&P 500 rotates in new corporations. Ethereum rotates in new L2s, applications, and protocols. Given Ethereum’s strong network effects, we think the value of ETH could grow in line with the adoption of web3 — similar to how Google, Amazon, and Apple grew with the adoption of the internet.

38. Glossary of terms

1. Application – refers to decentralized applications built “on top” of Ethereum. Can also be referred to as dApps or “protocols.” For example, Uniswap is an application and interface that allows users to swap assets in a peer-to-peer manner using smart contracts. It’s also a “protocol” that runs autonomously in which other applications could build additional products and services “on top.”
2. Arbitrum – the largest Ethereum L2 today in terms of daily users, total value locked, applications, etc. Arbitrum provides execution services to applications/protocols by enhancing transaction throughput and lowering fees. Currently, Arbitrum captures 25% of the gross fee paid by users transacting through applications leveraging the L2. 75% of the user fee is paid to Ethereum validators when the transactions are settled in batches on the L1.
   Block Space – refers to computational resources expended by users in the form of “gas” when transacting within the Ethereum ecosystem. All business logic, transactions, and transfer of data are recorded as ledger entries (and tied to digital wallet addresses) within a block. Blocks are the “to do list” for Ethereum validators to complete. Every 12 seconds a new block is processed. When a user has a timely transaction to make (such as a trade on an exchange), they will pay extra “tips” and MEV to Ethereum validators to ensure that their transaction is included in a block. Block space is the product Ethereum sells. It is paid for in ETH.
3. Bridge – refers to solutions that connect disparate blockchains, allowing for the transfer of assets and data. Just as a physical bridge connects two blockchain ecosystems, a blockchain bridge connects two blockchain ecosystems. L2’s can be referred to as bridges — since users have to “bridge” their assets to the L2 in order to access the benefit of using applications at reduced costs.  Bridges first saw widespread usage during the bull market of 2021 as fees increased on the Ethereum L1 — creating demand for blockchains and apps that had much lower transaction fees.
4. Burned Token – refers to Ethereum’s monetary policy, in which the “base fee” paid by users is removed from circulation, or “burned.” Burned tokens can be thought of as share buy backs. Currently, about 85% of Ethereum’s user fees are “burned,” accruing value to passive holders of ETH, and offsetting network inflation (approximately 1,800 ETH/day). Through the first two quarters of 2023, the network has experienced only 19 days in which the number of “burned” tokens did not exceed the token issuance for the day.
5. Composability – refers to standardization of computer code, tokens, programming languages, and functions within open-source projects. This concept allows multiple applications/protocols to be compatible and interoperable with each other, driving rapid innovation and sticky network effects. Some refer to composability as stacking computer code like “lego blocks.” Naval Ravikant has made the statement that “composability is to open-source development as compounding is to finance.”
6. Daily Active User – refers to unique wallet addresses that send or receive a transaction.
7. Data Availability — refers to the concept that data that is stored on a network is accessible and retrievable by all network participants. Data availability networks such as Celestia service the L2 ecosystem by making data stored on Ethereum L1 available to them — which allows L2s to service the application layer of the tech stack.
8. Decentralization – broadly refers to the ethos of web3. Decentralization can refer to censorship resistance and permissionless access for users and developers. It can refer to the lack of a centralized entity. It can refer to the distribution of ownership. It can refer to how the economics of a blockchain or protocol function — with revenues pushed toward service providers and contributors rather than a centralized entity. Decentralization can also refer to the security of a network and the number and complexity involved with running a node.
9. DeFi – refers to any financial service offered through a blockchain in which user interaction is peer-to-peer. Business logic is encoded into smart contracts, removing the need for a centralized entity. Economic activity and the record of what happened is settled on the Ethereum ledger with full transparency and auditability. The strongest use cases for DeFi today include peer-to-peer payments, lending/borrowing, and exchange.
10. DEX – short for Decentralized Exchange. Decentralized exchanges can also be referred to as Automated Market Makers. They leverage smart contracts to create peer-to-peer markets where assets can be exchanged. Anyone can be a market maker. Traders pay fees directly to market makers today. Uniswap is the largest DEX on Ethereum today, controlling approximately 70% of the market. We view DEXs as a step-change innovation, similar to Bitcoin or Ethereum. Ultimately, we think DEXs could replace traditional exchanges since they enable anyone to be a market maker, deep liquidity, passive yield for liquidity providers, hedging options, and superior trade execution with reduced counterparty risk.
11. Digital Bearer Instruments – refers to the idea that bearer assets do not require the redeemer to register ownership. Anyone holding the asset can redeem it. Physical gold is an example of a bearer asset because it is transferred by physically giving the asset to someone else in a peer-to-peer manner. Prior to public blockchains, there was no way to transfer ownership of data (and assets) peer-to-peer. For example, if I send you 1 BTC, you have the BTC (data) now, and I cannot access it. The BTC is tied to your digital wallet address and not mine — and we executed this without an intermediary doing the accounting of who owns what. Now, if we expand this out to additional forms of data, one could imagine how impactful this concept of digital bearer instruments could be for the internet.  For example, PDFs (as NFTs) could be property now. I sent it to you, and you now control it. I no longer have the PDF. Again, this is a breakthrough in computer science that was not possible prior to public blockchains.
12. Digital Property Rights – refers to digital scarcity, digital bearer instruments, and the ability for users to control data (assets) via digital wallets. The internet does not have digital property rights today, because there is no way to convey ownership of digital content. Public blockchains such as Ethereum change this via tokens (fungible and non-fungible). An example is best to convey the importance of this concept: you’re reading this document because you purchased and downloaded it. But now you have a copy, and you can share your copy with anyone you want. There is no way for me to stop you from doing that. But what if you purchased the document with a digital wallet? And the document was an NFT (and ERC-721 token)? In this case, only your wallet would be able to access the content. You could share the content with someone else, but upon sending it, only their wallet would be able to view the content. They have it now. And you do not. This may not seem like a big deal, but we think it will transform how just about everything on the internet works. One more example: you own some BTC, ETH, or stablecoins in your digital wallet. You want to access a loan. All you do is connect your wallet to a DeFi protocol. If you don’t like the yield or the service offered, you simply disconnect your wallet, and connect to another service. You just switched bank accounts with a few clicks of a mouse because you control the assets (data) — which is not possible today. 
13. Economic Incentive Structure – refers to the economic incentives that drive human behavior, enabling decentralized coordination on public blockchains. For example, Ethereum validators are incentivized to provide services to the network because they receive block subsidy rewards and user fees. Without these economic incentives, the network would fail to secure itself.
14. EIP – stands for Ethereum Improvement Proposal. EIPs describe standards for the Ethereum platform, including core protocol specifications, client APIs, and contract standards. Network upgrades are discussed separately in the Ethereum Project Management repository. The next important EIP is 4844 — a network upgrade that will dramatically reduce transaction fees and increase throughput.
15. Ethereum Monetary Policy – broadly refers to the issuance of new tokens on the Ethereum network. Currently, the network emits about 1,800 ETH tokens per day, which are paid to Ethereum validators for providing services to the network. The number of tokens issued will increase/decrease per the amount of ETH staked within validator contracts. The monetary policy is designed to create an optimal equilibrium to incentivize and compensate validators, while also not inflating the token supply (diluting existing holders). Ethereum has the strongest monetary policy in crypto today, and is the only network that is currently supported by user fees.
16. Gas – refers to computational resources expended by users to pay for block space when transacting on-chain. Users pay for gas with the native ETH token as they interact on-chain. In the future, we expect applications to pay gas fees on behalf of users to simplify the user experience.
17. Global Accounting Ledger – We’ve referred to Ethereum as a “global accounting and verification system” throughout the document. The internet is flawed today because there is no way to track the “state” of users with a credibly neutral, secure database. As such, we rely on centralized companies to do this. They control the user interface and the database.  Ethereum is a global database, that records the state of all user activity occurring on applications throughout the network. Every action taken by every digital wallet on the network is immutably recorded on-chain — in an account based manner. We expect this concept to collapse the cost of accounting, reconciliation, and record keeping across many use industries. For example, enterprises rely on a system of disparate databases to record payments and inventory. These databases are costly to maintain, and require constant reconciliation and bookkeeping. What if all of this could be tracked automatically on a shared ledger that nobody had to trust? This is no longer theoretical. Ernst & Young is onboarding enterprises to Ethereum for this exact use case, while offering auditable privacy protections — proof that economic events took place, without revealing the contents or parties to those transactions. 
18. Internet Native – refers to the idea that businesses deployed on Ethereum have no jurisdiction. We think this concept could potentially break our mental model for addressable markets — which are typically tied to limited geography. Ethereum has no jurisdiction. It lives and breathes on the internet. Anywhere there is a server, Ethereum and the businesses deployed on it, exist.  In addition to potentially spawning massive new markets, this presents unique challenges for regulators and policymakers.
19. Layer 2 – refers to separate blockchains that provide execution services (lower fees, higher throughput) for applications. Ethereum provides settlement and security for the L2s as all transactions ultimately settle on Ethereum and pay for block space to do so. The business model of L2s is to essentially re-sell Ethereum’s block space, ultimately posting the “call data” to the L1 for final settlement.
20. Lindy Effect — a theorized phenomenon by which the future life expectancy of some non-perishable things, like technology or an idea, is proportional to its current age. In essence, the Lindy Effect proposes that the longer something has survived to exist or be used in the present, the longer it’s remaining life expectancy.
21. Metcalf’s Law — states that the financial value or influence of a network technology is proportional to the square of the number of connected users. Metcalf’s Law helps us understand the power of network effects related to communication technologies, the internet, and social media.
22. MEV – “Maximum Extractable Value.” MEV is essentially excess fees paid by users of Ethereum in order to have a transaction included in a block. These transactions typically occur on DEXs and are time sensitive. As such, users will pay validators to ensure their transaction is included in a block. Validators receive MEV, tips/user fees, and protocol inflation as compensation for validating transactions on the network.
23. Moore’s Law — Moore’s Law is the observation that the number of transistors in an integrated circuit doubles every two years. Advancements in digital electronics, the increase in memory capacity (RAM), the improvement of sensors, and even the number and size of pixels in digital cameras, are strongly linked to Moore’s Law. In terms of blockchain development, we see Moore’s Law playing out via increased throughput and scalability of Layer 2 networks built “on top” of Ethereum. 
24. Multi-Function Asset – refers to the functionality of crypto assets. For example, ETH, the native token of the Ethereum network, serves 5 primary purposes: 1) network ownership, 2) coordination and incentive alignment, 3) payment for services, 4) used to secure the network, 5) collateral within DeFi. This concept differs from traditional assets such as stocks. Stocks primarily serve one purpose: ownership of a corporation or legal entity.
25. Nakamoto Coefficient – measurement that refers to the decentralization of a layer 1 public blockchain by calculating the minimum number of validators or nodes that would need to collude in order to control the network. Ethereum has a Nakamoto Coefficient of 34 today, tied for the most decentralized smart contract network in the ecosystem.
26. NFTs – Non-Fungible Tokens. NFTs follow the ERC-721 and ERC-1151 token standards. The primary use case for NFTs to date has been digital art and collectibles. However, NFTs are a new primitive that have broad use cases covering digital identity, web hosting, music, access to digital content, ticketing, consumer loyalty programs, metaverse experiences, gaming, etc.
27. On-Chain Data – refers to transaction data immutably recorded to a public blockchain. Public blockchains are credibly neutral accounting databases that record the economic activity of all applications running “on top” of them. As such, public blockchains are incredibly data rich. Every wallet address that has ever recorded a transaction can be viewed on-chain by anyone running a node or through tools such as Etherscan.
28. Optimism – the second largest Ethereum L2 today in terms of daily users, total value locked, applications, etc. Optimism provides execution services to applications/protocols by enhancing transaction throughput and lowering fees. Currently, Optimism captures 20% of the gross fee paid by users transacting through applications leveraging the L2. 80% of the user fee is paid to Ethereum validators when the transactions are settled in batches on the L1.
29. Oracle – refers to technology solutions that port off-chain data on-chain, informing smart contracts running business logic. Oracles connect events occurring in the “real world” to the blockchain.
30. Outward Distribution of Value – refers to decentralization and the business models of public blockchains and applications/protocols — which push value “outward” to service providers and contributors, rather than centralized entities. For example, Ethereum validators accrue user transaction fees. Uniswap liquidity providers accrue trading fees. Aave (DeFi lend/borrow) lenders accrue interest payments from borrowers.
31. Peer-to-Peer – refers to person to person interaction over the internet. The ability to transact data as digital bearer instruments without an intermediary was a breakthrough in computer science first introduced by Bitcoin in 2008. Ethereum took this concept a step further by introducing a Turing Complete computing platform with smart contracts automating business logic — enabling an explosion of new use cases involving peer-to-peer interaction and user-controlled data.
32. Permissionless – refers to the lack of authorization needed to use or build on public blockchains. This concept sits at the core of the web3 ethos. Anyone can set up a wallet on a public blockchain. Anyone can transact on-chain. Anyone can run a node and participate in consensus. Anyone can provide services to the network by validating transactions. Anyone can build a business on the network. Anyone can audit the data of the network. In essence, nobody controls the network. Instead, it functions as a global public good, privately funded.
33. Private Blockchain – refers to a permissioned blockchain, in which users and builders must be authorized for access. Private blockchains are typically controlled by a single entity or a small group of entities. Private chains such as Hyperledger have been the choice for regulated entities to date since they offer privacy, scalability, and KYC/AML. However, Ernst & Young recently launched Nightfall, a privacy focused layer 2 solution on the public Ethereum Network and public Polygon Network (Ethereum side-chain). This means institutions now have the best of both worlds — access to the public Ethereum network and interoperability with the ecosystem while maintaining privacy, scalability, and the ability to stay within compliance.
34. Protocol – refers to a set of standards that specify how computers and individuals can share and transact data (information and value). TCP/IP is an internet protocol that defines standards for how data is split up and transferred from a server to your computer. SMTP is an internet protocol for email communication. Ethereum is a protocol that sits at the base layer of the web3 tech stack. Other protocols (such as DeFi: Uniswap, MakerDAO, etc.) build “on top” of Ethereum. Similar to how Google and Microsoft “tap into” the SMTP protocol to deliver email services, we expect traditional finance firms to “tap into” DeFi protocols to deliver new products and services to their customers.
35. Public Blockchain – public blockchains are permissionless data networks. They offer two primary breakthroughs in computer science: 1) a global, shared, credibly neutral database and accounting ledger, 2) user-control of data and digital property rights. Open networks tend to triumph over closed networks. And network technologies can become natural monopolies.
36. Restaking — also known as “security as a service,” or the ability to “rent security,” re-staking is a way extend Ethereum’s pooled security from ETH stakers to other blockchain systems — a way to bootstrap new networks without having to create their own communities of network validators. Users who “re-stake” their ETH can earn network fees in addition to the rewards earned as an Ethereum validator, but also must take on additional “slashing risk.”
37. Staking – staking is the act of sending the native token of an L1 proof-of-stake blockchain to a smart contract that participates in validation of transactions on the network. Stakers (validators) receive transaction fees and block subsidies for providing these services. Staking differs from mining in that stakers use the native asset of the network as their consideration (cost) for providing services and earning a yield. In proof of work blockchains, miners have consideration in the form of energy consumption and capex cost.
38. State of User – in computer engineering, “state” refers to the “current snapshot” and the recording of user activity. The primary flaw of the internet is that it does not natively capture the “state” of users in a credibly neutral database. Instead, we rely on centralized service providers to provide the “state” of end users. This is accomplished with “cookies.” Cookies track the state of users and record the events of “what happened” on private ledgers. This data is often sold to advertisers. Public blockchains are a breakthrough in computer science because they record the “state” of all users on all applications and protocols running on the network in a credibly neutral, secure, public ledger.
39. The Merge – “The Merge” occurred in September 2022. It’s when Ethereum developers successfully transitioned Ethereum’s consensus mechanism from proof-of-work to proof-of-stake. The engineering feat is seen as one of the most impressive accomplishments in the history of open-source technology — akin to swapping the engine of a plane mid-flight. The Merge reduced Ethereum’s energy consumption by 99%, adjusted the monetary policy, and made ETH a yield generating asset for stakers.
40. Token – simplistically, a token is just on-chain data. Tokens can be “blockchain native” — meaning they represent interest in a public blockchain or protocol. They can also represent tokenized interest in traditional assets such as bonds, stocks, and real estate. Tokens on public blockchains are unique because they are multi-function bearer assets and can represent interest in just about anything. Ethereum’s primary token standards are ERC-20 (fungible blockchain native assets), ERC-3643 (tokenized traditional assets/securities), ERC-721 (NFTs), ERC -1151 (NFTs). At the end of the day, tokens are just user-controlled data that represent ownership in various assets (digital and non-digital).
41. Tokenomics – refers to the monetary policy and the economic incentive structure of layer 1 public blockchain networks. For example, the Ethereum Network issues tokens to service providers for securing the network. It also burns about 85% of the tokens used to pay for services on the network. The supply/demand as it pertains to token issuance and burn rates as the network scales users is how one could think about token economics. Each blockchain network has different token economics — which can impact how value accrues to token holders.
42. Token Incentives – refers to tokens issued to users and service providers of public blockchains and networks. Layer 1 public blockchains provide token incentives as economic compensation for providing services and validating transactions. Protocols sometimes will issue tokens to early users as a reward for helping to bootstrap the network. For example, a DEX may issue tokens to liquidity providers as an incentive to boost liquidity and improve trading execution. Token incentives can be viewed as a new way of issuing “equity” and incentivizing the formation of a robust ecosystem of stick users and service providers.
43. Token Standards – refers ERC-20, ERC-721, ERC-1151, ERC-3643. Each standard allows smart contracts to perform their basic functions and execute business logic. Token standards are a subset of smart contract standards and represent a guide for the creation, issuance, and deployment of new tokens on them. Token standards are critical because they provide the base infrastructure upon which wallets and protocols must comply with.
44. Total Value Locked – refers to the total value of assets committed to a public blockchain network or a specific protocol. It could also be thought of as “assets under management.” For example, Ethereum currently has over $45b in total value locked. This figure includes the TVL of Uniswap, which has $4b of TVL within the protocol. TVL is a recursive metric because it is tied to the dollar value of the crypto assets on-chain. For this reason, when analyzing TVL, we focus on the number of ETH locked in DeFi rather than the total dollar amounts.
45. Transaction – refers to any *data transmission* across the network of computers in a blockchain system. This can include anything from a payment, the minting of an NFT, an interaction with a smart contract, accessing a loan on Aave, making a trade on Uniswap, tracking products within supply chains, gaming interactions, social media posts, etc.
46. Turing Complete – a term in computer science that describes the ability of a system to compute any possible calculation or program. Can also describe a programmable system that can solve any computational problem.
47. User-Controlled Data – users of public blockchain networks have control of their assets (data) via self-custody should they choose this option. In this way, users control their assets via digital wallets. Digital wallets are browser extensions and mobile apps that allow users to sync to protocols and applications for peer-to-peer interaction and access to on-chain services. For example, a DeFi user can access an on-chain loan by simply connecting their wallet to a protocol such as Aave. If they desire a different experience or a better yield, the user can simply disconnect their wallet and take their assets to another service by connecting the wallet. This is akin to switching back accounts with a click of a mouse. User-control of data (assets) will transform the business models across many industries.
48. User Fees – users pay fees directly from digital wallets when interacting on public blockchains. For example, a user transacting on Uniswap will pay a small fee to the liquidity provider for making a trade, and a small fee to the Ethereum validators for settling the trade. In the future, we expect that applications will pay fees on behalf of their customers to simplify the user experience. In the same way that we do not pay a separate fee for the rent when we buy a coffee at a local café, users will not pay fees directly on public blockchains in the future.
49. Validators – also known as stakers, validators are service providers to the Ethereum Network. They stake their ETH assets as collateral/consideration to approve transactions on-chain. Validators are paid user transaction fees and block subsidies for doing so. Anyone in the world can be a validator on a public blockchain network by running their own node or by delegating their assets to another user or service provider running the node infrastructure. The value created by Ethereum users paying for block space is captured “on the edges” by validators globally — rather than a centralized entity.
50. Wallet Address – this is the public address that allows users to transact in a peer-to-peer manner. A user’s assets always reside on the blockchain. They access their assets and sign transactions with a private key. The public key is the address given to another party allowing the two to transact peer-to-peer. Because public blockchains are public ledgers, we can track unique wallet addresses on-chain as a proxy for unique users and the economic activity occurring on-chain. Wallets allow users to control data as digital bearer instruments — a breakthrough in computer science introduced by public blockchains.
51. Web3 – a broad, overarching term for the innovation taking place on public blockchains. Some refer to web3 as the “next iteration of the internet.” We think this is the best way to think about web3. It simply introduces public blockchains to the internet and the concept of credibly neutral, shared, and secure accounting ledgers and user-control of data. These two concepts have profound implications to internet native business models and the infrastructure of the internet.
52. Zero-Knowledge Proof — a cryptographic method by which one party (the prover) can prove to another party (the verifier) that a given statement is true, while avoiding conveying to the verifier any information beyond the mere fact of the statement’s truth. Zero-knowledge proofs are an emerging technology on public blockchains that allow the combination of transparency and privacy simultaneously — which is critical for the onboarding of institutions and large enterprises.

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