Ethereum is the 2nd most valuable cryptocurrency in the world. Like Bitcoin, it has its own blockchain and its own consensus mechanism. Like Bitcoin, people hold accounts in the Ethereum blockchain. Ethereum is the currency of the Ethereum network and is used to pay for transaction fees and to pay for storage space in the blockchain.

The Basics of Ethereum

The basic technological layer of a cryptocurrency involves a blockchain. We explain what a blockchain is in another article where we talk about Bitcoin. The blockchain holds all the accounts and transaction history. Fees are paid with Gwei. Gwei is a sub denomination of Ethereum, equivalent to one-billionth of 1 Ethereum.

In summary, one billion Gwei equals 1 Ethereum. Similar to how 1 dollar has 100 pennies. Currently, mining is used to ensure that the network is secure from attacks. Soon Ethereum will shift from Proof of Work to Proof of Stake.

Accounts are created by cryptographic technology. Cryptography technology allows us to create unique digital signatures which cannot be replicated by anyone else unless they themselves are in possession of the private key. When an account is created, a private key is generated. A cryptographic function Is used to generate a public key from the private key. Since the public key is generated from a private key using one way cryptography, the private key cannot be retrieved or generated from the public key. The private key allows a user to sign transactions on the network as well as execute smart contracts. We will talk about this later.

What is The State Machine of Ethereum?

The Ethereum network is just one large global computer. Every time a block gets published on the network, the nodes (or peer connected computers) agree on a machine state of Ethereum. The state machine of Ethereum is dynamic.

The term state machine refers to the logical processing environment of a computer. As such, different functions and programs can be executed on the Ethereum virtual machine. The state machine holds information about accounts, balances and other information that pertains to functions that are executed on the Ethereum virtual machine.

Developers can use this virtual machine to execute functions and code programs and applications for network users to use.

What is The Ethereum Virtual Machine?

Many have heard about the term EVM. The Ethereum virtual machine (EVM) is a global machine environment that processes transactions, executes code, and stores information. It has its own rules and regulations for how applications are processed and how data is stored. It also provides rules for how transactions are to be executed. Think of it as a standard if you will. Since the blockchain state is dynamic, the EVM standard provides the rules for how the chain’s state changes from block to block.

The EVM behaves as a normal computer would, it receives an input and spits out an output. It also has rules for how memory is used up as the state of the blockchain moves from one instance to another.

Ethereum, as a global virtual computer, is the first originator of the EVM standard, as the name suggests. Many blockchain networks today adopt the EVM standard into their protocol. They describe this as being EVM compatible. Since most blockchain protocols today have smart contract execution capabilities, they end up being extremely similar to Ethereum.

What are Smart Contracts?

A smart contract is a term for programs that are executed by the Ethereum virtual machine. A smart contract can also be like a real-life contract that is published in a digital environment. The difference is that these smart contracts are programmable and once they are executed, they cannot be changed. A smart contract deals with public addresses in the blockchain. To execute smart contracts, addresses have to pay a gas fee in Ether.

Within the Ethereum blockchain Smart contracts also have an address and act as functions within the network. Smart contracts can themselves execute transactions but have no owner. Rather, they just run as programmed initially. When a user wants to interact with a smart contract, they call out a function within the smart contract and execute a transaction.

One popular use of smart contracts is to deploy an on-chain exchange, or a DEX. Person X can exchange coins for another type of coins via a smart contract which makes sure this exchange is done securely. The middleman becomes the global computer that Ethereum is.

Creating tokens is also done via smart contracts. These tokens can have many purposes. For example, the Uniswap token is used for governance in the Uniswap platform. Users can hold these tokens if they believe in the platform they originate from, or if they want to take advantage of the benefits that come with holding these tokens. The benefits are all relative to the token which they hold. Some tokens are usable for decentralized finance applications, others are used for more niche things.

One advantage is that no one can tamper with the smart contract. The smart contract is official once it is deployed. A disadvantage however is that if there is any bug in the code, then you cannot modify the smart contract to fix this bug. People could lose tons of money if they use a smart contract, and it gets hacked because it has a bug.

The property of a smart contract being distributed means that every participant of the blockchain validates and verifies both the smart contract and any interaction with it. There are many use cases for smart contracts which we illustrate in the infographic below and there are many more from the ones we’ve mentioned. One of the more popular smart contract use-case is DeFi, which stands for decentralized finance.

The Consensus Mechanism of Ethereum

Like Bitcoin, Ethereum has its own method of retaining security and upholding decentralization. Currently, as of the writing of this article, the consensus algorithm for Ethereum is Proof of Work. Later, in September 2022, it will change to proof of Stake. The Proof of Work algorithm works by solving complex problems. The first one to solve a mathematical problem gets a reward of 2 Ethereum. The user who firstly solves this problem also gets to add blocks to the blockchain, effectively validating transactions.

This system has two advantages. Firstly, it is a merit-based system with a bit of randomness. Solving the functions is difficult and requires powerful computers. Secondly, anyone can potentially solve these problems. There is still a chance that a weaker computer finds a solution to the problem and potentially gets to mine a block. A more powerful computer has substantially higher chances of solving these difficult problems than a weaker computer.

Because of the nature of this consensus mechanism, it is difficult to obtain control over the network and change blocks or exclude certain transactions.

One of the drawbacks with this type of consensus algorithm is that it requires a lot of computing power and electrical costs. This has become one of the main critiques of both Ethereum and Bitcoin. The amount of energy between Ethereum and Bitcoin is larger than many countries combined.

The Beginnings of Ethereum

How exactly did Ethereum start? Let’s look at the earliest signs of where it all began. Vitalik Buterin is one of the most well-known people in the cryptocurrency space. He is the co-founder of Ethereum. In 2013, Vitalik described Ethereum in a white paper outlining that blockchain technology has different use cases.

In 2014, Ethereum was announced in a North American Bitcoin Conference. Before this however, the team of founders came together to create the venture. Vitalik Buterin, Anthony Di Iorio, Charles Hoskinson, Mihai Alisie and Amir Chetrit became the cofounders of Ethereum started the development of the new project in 2013. After several months Joseph Lubin, Gavin Wood and Jeffrey Wilcke where added.

After which it announced in the Bitcoin conference described earlier.

In July 2014, Ethereum launched a presale for its native coins. 7.2 million Ether where sold. After this sale, the Ethereum foundation raised another 18.3 million USD by selling 60 million more Ethereum.

Ethereum was finally launched on July 30th, 2015. This launch was named Frontier. Following the initial launch, Ethereum upgraded several more times after this into the Ethereum that we have today.

Wallets For Ethereum

Almost all multi-cryptocurrency wallets support Ethereum. If we had to chose one, it would the Ledger Nano S. This hard wallet is the most secure and reputable in the space. Countless experts recommend it too. We also have 2 lists of other wallets; in case you want to check them out. Please remember to buy hardware wallets from their official vendors.

Almost all multi-cryptocurrency wallets support Ethereum. If we had to chose one, it would the Ledger Nano S. This hard wallet is the most secure and reputable in the space. Countless experts recommend it too. We also have 2 lists of other wallets; in case you want to check them out. Please remember to buy hardware wallets from their official vendors.