Staking your Ethereum is a great way to earn passive income without needing to sell. You deposit coins for a fixed period of time to earn interest. The following discussion will break down the purpose of staking Ethereum and discuss if you should do it.
What is Ethereum?
Ethereum is a decentralized computing platform. In other words, you can think of it as a public shared global computer network.
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It doesn’t run on a single device but instead runs simultaneously on thousands of devices around the world. People around the globe contribute their computer’s computing power to the network and are paid for doing so.
The main idea behind Ethereum is that developers can create and launch code that runs across a decentralized network instead of a centralized server. These decentralized applications (dApps) cannot be censored or shut down with ease.
Ether: Ethereum’s native cryptocurrency, Ether, is the fuel that runs the network. It is used to pay for the computational resources and transaction fees for transactions executed on the network.
Smart contracts: Programs stored on a blockchain that facilitate the exchange of assets between two parties when predetermined conditions are met are called smart contracts.
Ethereum Virtual Machine (EVM): EVM is the engine that understands the language of smart contracts, which are written in Solidity, the native programming language of Ethereum.
Decentralized applications (dApps or DApps): These digital applications or programs run and exist on a blockchain. DApps built on Ethereum can be developed for a variety of purposes including finance, gaming and social media.
Decentralized autonomous organizations (DAOs): Member-owned communities without centralized leadership are called DAOs; they can be created on Ethereum to allow for democratic decision making.
What is Ethereum 2.0?
Ethereum 2.0, now referred to as The Merge, is an upgrade that aims to improve the scalability and security of the Ethereum network. The upgrade will move the Ethereum network from a proof-of-work (PoW) consensus algorithm to a proof-of-stake (PoS) one where network validators can verify transactions and stake their assets.
At its core, the Merge to PoS will reduce network energy usage by at least 99.95%. Other benefits of the Merge include:
- PoS makes participating in the network more accessible for many users, not just large miners.
- More equal distribution of network rewards to incentivize good behavior opens up yield to more users.
- The lack of mining will cause Ethereum’s overall coin supply to dwindle, which should push up its price.
What is Ethereum Staking?
Staking is considered a public good for the Ethereum ecosystem. It involves locking up ETH (Ether) to secure the network and earn rewards in the process. Currently, more than 11.5 million total ETH is staked, a significant portion of the entire circulating supply.
However, unlike staking other assets, you have to commit your coins for a longer period of time when staking ETH. Ethereum’s new PoS system is not yet operational, meaning that staking ETH is currently a one-way street.
Nonetheless, when you stake ETH, you’re effectively locking your coins up until the upgrade is complete, which could be 2023 or beyond. Some crypto exchanges may let you sell your staked ETH tokens; however, it is best practice to assume you’re committing them for the long haul.
Why Stake Ethereum?
Three primary reasons to stake your Ethereum include:
Earn rewards: In the Ethereum network, rewards are given for actions that help the network reach consensus. In terms of staking ETH, you will be rewarded for helping secure the network. ETH staking rewards are given in accordance to how much ETH is validated and what rewards the network is offering over a time period.
When there is very little ETH staked, the protocol rewards will be greater as an incentive for more ETH to come online. Conversely, an increasing amount of ETH is staked, the reward will be reduced. View the current amount of ETH staked and current APR.
Better security: The network becomes stronger against attacks as more ETH is staked, as it then requires a larger amount of ETH to control a majority of the network. This circumstance benefits the wider community and all individuals in the Ethereum ecosystem.
More sustainable: Staking Ethereum is more eco-friendly compared to mining because stakers don’t need energy-intensive computers to participate in a PoS system.
What are the Risks Associated with Staking Ether?
ETH staking is experimental and involves a few key risks. As a result, it is important that you understand, assess and accept the related risks before deciding to stake.
An important risk is the possibility of losing your staked ETH due to slashing. Slashing is a penalty enforced at the protocol level associated with a network or validator failure. In other words, the network destroys some of a validator’s coins if that validator doesn’t follow the rules. Additionally, another key risk is that you can’t sell your ETH to lock in gains or prevent further losses until the lockup period is over.
How to Stake Ethereum
You can use four different ways to stake your ETH. The option you choose depends on how much ETH you are willing to stake.
Solo home staking: Solo staking on Ethereum is considered the gold standard. Essentially, it is the act of running an Ethereum node connected to the internet. This method provides complete participation rewards, improves the decentralization of the network and never requires trusting anyone else with your funds.
Those considering solo staking need to have at least 32 ETH and a dedicated computer connected to the internet 24/7. Ideally, some technical know-how is helpful; however, easy-to-use tools can simplify this process.
Staking as a service: Staking as a service (SaaS) is a category of staking services where you deposit your own 32 ETH for a validator but delegate node operations to a third-party operator. This method allows you to avoid the hard part of the process while still earning native block rewards (ETH). However, a monthly fee is often required in addition to a certain level of trust in the provider. A great place to stake ETH is on Gemini, although Coinbase offers the same service at a slightly higher cost.
Pooled staking: If you are not comfortable with staking 32 ETH, you can take part in several pooling solutions that exist to assist users. Staking pools are a collaborative approach that allows those with smaller amounts of ETH to obtain the 32 ETH required to activate a set of validator keys.
Many of these options include what is known as liquid staking, which involves the use of an ERC-20 liquidity token that represents your staked ETH. However, since pooled staking is not native to the Ethereum network, you face inherent risks associated with the third parties building these solutions.
Centralized exchanges: Lastly, many centralized exchanges such as Coinbase Global Inc. (NASDAQ: COIN) provide staking services if you are not comfortable with holding ETH in your own wallet, allowing you to earn yield on your ETH with minimal effort or oversight.
However, the implication here is that centralized providers consolidate large pools of ETH to run a large number of validators. This practice is dangerous for users of the network because it creates a large centralized target and point of failure, making the network more susceptible to attacks or bugs.