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Ethereum Shanghai Upgrade: Price Impact, Staking and More | Notum

By Notum

Apr 23, 20238 min read


What Is Shanghai Upgrade?

The first step in Ethereum's switch from a Proof of Work ("PoW") consensus mechanism to Proof of Stake ("PoS") involved the launch of the Beacon Chain, a PoS chain that ran alongside PoW Ethereum from its launch in Dec 2020 until "The Merge" in Sept 2021. 

The Beacon Chain initiated staking to Ethereum. However, validators could deposit ETH to the Beacon Chain but can't withdraw it. EIP-4895 will allow validators to withdraw their ETH and any accrued staking rewards. It was the headline improvement within the Shanghai Upgrade. 

In September 2022, Ethereum finalized its switch to a Proof of Stake (PoS) consensus mechanism. Earlier, Ethereum used Proof of Work (PoW) and a mining mechanism to proceed and validate transactions. Users who want to validate on the network can stake 32 ether (ETH) instead of solving computational puzzles with specialized mining equipment that could be rather expensive and not that eco-friendly.

Since the Merge, which was the Ethereum mainnet combined with the PoS Beacon Chain, users couldn't remove their staked funds. The Shanghai update (EIP-4895) resolved that issue and gained components. Ethereum developers decided that the execution of the upgrade as a network hard fork will take place in March 2023 . Thus, users could test the update with a Shanghai-implemented public test network until February 2023. Thus, users could test the update with a Shanghai-implemented public test network until February 2023. 

What Is Ethereum Staking? 

Ethereum's switching to PoS allows users to stake their ETH as part of the network's consensus mechanism. PoS is an alternative to the energy-consuming PoW mining system spotted on a network like Bitcoin. Users can lock 32 ETH to run creator validator nodes to help secure the network and validate transactions. 

A validator gets new blocks created by other validators within the Ethereum network. As soon as the transactions and block signature have been checked, the validator affirms the validity of that block. With the Shanghai upgrade, stakers can now withdraw their locked ETH. Before, this feature wasn't available. 

How Much ETH Was Staked?

Let's talk about crucial things — how much ETH have people staked since the Beacon Chain launch in 2020? The data says that over 16.5M ETH has been staked.

Source: Binance Research, Cryptoslam, Data as of 14 Feb 2023

Almost 520K validators turned up to process this staking. And this bearing in mind that it takes 32 ETH to set up a validator. We should note that while there are over 520K unique consensus validators in Ethereum PoS, operators of these nodes can host and manage numerous validators. Even so-called solo stakes can operate multiple validators. So, this number does not represent the number of unique validating entities. 

Where Was It Staked?

As you probably know, Lido is the largest player in the market, having approximately 5B staked ETH and 29.2% of the market. Lido is a liquid staking provider (LSD) and provides the stETH token to users to represent staked ETH on its platform. 

stETH has massively traded alongside ETH over the last few months and additionally provides users with liquidity (for DeFi etc.) for their staked ETH. 

Such top exchanges in the staking market as Coinbase, Kraken, and Binance account for over 4B ETH and ~26% of the market. Within this group, Coinbase and Binance provide users with liquidity via their cbETH and bETH derivatives. 

Nearly 25% of the market is also held by solo and/or unidentified stakers. These might be people running nodes straight from their homes or smaller groups who are running private staking pools, for example. 

Go-Liquid or Illiquid?

Talking about liquid staking, we consider the pure-play providers such as Lido and Rocket Pool, but also the ETH staked by some of the major exchanges, including Binance and Coinbase. 

Source: Binance Research, Duna Research, Data as of 14 Feb 2023

For Lido and Rocket Pool, users receive stETH and rETH, while Binance and Coinbase provide users with BETH and cbETH. All of these tokens, while naturally differing in some of their mechanics, are tokenized representations of staked ETH and have traded close/or at 1:1 for a long time.  

About 57% of ETH stakers could access liquidity, with both their principal and rewards, for many months already.  

Who Are the "Illiquid" Stakers?

Solo stakers

SaaS stakers

Pooled stakers

CEX stakers

  • You will get a liquid token that should track ETH, e.g., BETH


Ethereum's Monetary Policy

Consensus Rewards are sent for consensus-related tasks and reciprocally proportional to the amount of staked ETH — the more ETH staked, the lower the consensus rewards. 

Execution Rewards are directly proportional to the number of transactions within the network — they are rewards for transaction execution. The higher the demand for Ethereum's blockspace, the higher the tip / MEV opportunities will be.

This means that if the number of validators decreases, they withdraw their ETH, and Consensus Rewards will increase to attract other validators.

ETH Staking vs. Other Assets

Source: Binance Research, Cryptoslam, Data as of 14 Feb 2023

It could be argued that many groups of individuals had been waiting for Shanghai to stake their ETH, as withdrawals would remove the liquidity risk and uncertainty of a previously undefined lock-up period. 

While smart contract risk and other security risks may remain, it is vital to many users (whether investors, institutions, or individuals) to be able to see withdrawals successfully take place before attempting to stake. 

 A wave of new participants can possibly add a definite level of buying pressure to ETH, especially if institutional capital would be attracted.  

ETH Supply Situation

One of the most substantial effects of The Merge was in relation to daily ETH issuance. 

The transition from PoW to PoS reduced expensive mining rewards to incentivize miners to provide network security. 

With EIP-1559 bringing a fee burn mechanism into Ethereum's monetary policy, ETH supply growth has been reduced from over 3.5% per year to -0.03%. Actually, ETH has been deflationary since Jan of this year.

Risks Involved

High Inflation

The demanding macro environment echoed in financial markets, which saw continuous repricing through 2022 and continue to remain in a risky place. 

With crypto continuing to trade in correlation with the broader market, the macro environment is an unarguable short-term risk for ETH and the wider crypto ecosystem. 

Alternative DeFi Ecosystems

Since November 2020, Ethereum's DeFi market dominance has been down from ~96% to ~60%. Simultaneously, BNB Chain is up from 0.1% to 10.2%, while Tron is from 2.1% to 10.4%. Avalanche and Solana have also demonstrated growth, while Ethereum scaling solutions, Polygon, Arbitrum, and Optimism, are also in the top 10 positions in terms of DeFi TVL

DeFi continues to develop innovation in competing L1s, particularly BNB Chain. We also have new DeFi-specific chains emerging, i.e., Canto and Sei. Ethereum's position within the DeFi space is definitely something that must be monitored closely.

NFT Market Isn't Only For ETH

As for NFTs, Ethereum is still the blockchain of choice for most VIP collections. Ronin also has a rich legacy within the ecosystem that gave popularity to Axie Infinity.  

Solana and Polygon have emerged as two of the more prominent long-term competitors for Ethereum. Polygon has been successful in attracting Web2 leviathans to NFTs, e.g., Reddit, Starbucks, etc. 

Solana, on the other hand, has its own lively community and is often a more affordable place for newer users and artists to try NFTs.

How Will Ethereum's Shanghai Update Affect You?

The Shanghai update will affect you depending on your situation. You could withdraw your funds if you've staked ETH with Ethereum or through a staking product. It's important to mention that not everyone staked 32 ETH directly, and many people staked smaller amounts on liquid staking platforms. 

The biggest question for traders will be the possible effect on ETH's price. At the moment of writing, 13.81% of all ETH tokens are already staked, according to Staking Rewards. When withdrawals are allowed, which unlocks a substantial amount of liquidity, staked ETH owners can withdraw and sell their staked holdings. Perhaps, one of the most vital things to monitor for traders and investors will be the percentage of coins staked out of the total supply. 

On the contrary, staking on ETH may be more desirable because of its improved liquidity. Users who didn't want to use liquid staking protocols will get the chance to stake ETH directly with Ethereum. This could cause the demand for ETH due to the enhanced staking conditions.

For holders of native tokens of liquid staking platforms, their price may also be affected. The reason is that a new Ethereum opportunity for withdrawals eliminates the unique functionality liquid ETH staking offers.

Allowing withdrawals from staking promotes a more accessible ETH market, enabling ETH holders to react to staking demand and supply to achieve market equilibrium. This should be perceived as a positive effect because it shortens artificial control effects on the ETH price and circulation.

Bottom Line

The Shanghai update provides an important feature for Ethereum stakers or those who's interested in staking. As well as the Ethereum's Merge, it's one of the most expected features for users who were waiting for a  fully- operational Proof of Stake mechanism. Although its possible effects on the market are still vague, if you have any interest in Ethereum, it's time to get involved by understanding the update and what it offers.

Disclaimer: Notum does not provide any investment, tax, legal, or accounting advice. This article is written for informational purposes only. Cryptocurrency is subject to market risk. Please do your own research and trade with caution.