Can anybody explain the future ETH 2.0 / EIP 1559 issuance model / variable interaction in simple layman's terms? As I understand it:
- As usage on the network increases, fees (in terms of the amount of ETH required to transact) increase.
- Fees are paid by users in ETH to the network. ~70% of those fees will be "burnt" and ~30% will be paid to stakers.
- Stakers earn yield in the form of (i) the portion of fees paid to stakers, and (ii) newly issued ETH.
- As the # of ETH stakers increases, staking yield from new issuance decreases. As the # of ETH stakers decreases, staking yield from new issuance increases. (Technically the amount of new ETH issuance increases as the # of stakers increases, but the new ETH issuance per staker decreases.)
- Staking yield is also a function of transaction fees. If the # of ETH stakers is flat, but network usage increases, then fees will increase, and therefore staking yield will increase.
- As a result, staking yield is a function of both network usage and the # of stakers.
- Currently, the Ethereum network is costly and slow (high fees / long transaction times), but as rollups and sharding are implemented, fees will be reduced and transaction times will decrease.
- In theory, scaling would reduce the amount of fees "burnt" and reduce fee yield to stakers, but the lower fees and faster transaction times will improve UX, increase the # of viable use cases, and enhance the value proposition of the network overall, thus increasing the demand for network usage (and the amount of fees / staking yield as a result).
My questions are:
- Is the above an accurate representation?
- A number of reports have suggested that ETH's stock-to-flow could go negative, if fees "burnt" exceeds the amount of new ETH issuance. Isn't this purely a temporary phenomenon? How does one gain confidence that the amount of fees "burnt" will exceed the new issuance required to pay issuance yield to new stakers? How does one model the impact of scalability on fees and the associated amount "burnt" by the network? Ad infinitum, the "burnt" fees obviously can't take the count of ETH to zero.
- How is new issuance determined? Is it purely algorithmic and tuned in such a way that new issuance will increase less than network usage?
- How is new issuance governed once PoS if fully rolled out? Would a change to issuance (e.g., algorithm that determines it) require majority consent of stakers?
These questions arose after reading the Triple Halving report that has been making the rounds: https://drive.google.com/file/d/1bECqgijhgjdS782AB620gFjK5qx-vA99/view. @Jeremiah S @Remi Tetot
I can absolutely see a scenario where ETH held by those least likely to sell gets locked up in both staking and Defi contracts while ~70% of the ETH held by those most likely to sell ends up getting "burnt", resulting in a parabolic supply shock as the marginal unit of ETH becomes increasingly unavailable at the same time that demand is exploding (scalability increasing UX and # of viable use cases, ETH ETFs, institutions adopting, wallets increasing, etc.). This is the Triple Halving thesis in a nutshell (essentially the pending reduction in new ETH supply from EIP 1559 and staking could be equivalent to 3 BTC halvings) and it could require @Raoul Pal to revise his prior ETH price target (which was based on ETH's performance vs. BTC based on network adoption timeline but didn't contemplate ETH experiencing a halving cycle).
However, I also want to make sure I understand the variable interaction and longer term issuance implications under a variety of scenarios as I think a lot of institutional investors will want to understand that in detail before committing meaningful amounts of capital. In the ultra long term, so long as the demand for network usage exceeds the amount of new issuance, the price per unit of ETH would have to increase (Exponential Network Effect > Relative Amount of New Supply --> NGU). Given the potentially infinite amount of use cases, and assuming they solve scalability issues / regulatory hurdles, it seems like understanding the issuance schedule (and governance mechanisms) is the key determinant of long term price appreciation potential.