Welcome to this weeks Just The Metrics

GM Crypto Enthusiast,

Here we are again, your favorite Crypto Metrics Newsletter - Just The Metrics - with a

SPECIAL ISSUE: Ethereum post Merge vs Cardano: Staking and Decentralization compared.

So Buckle up, after this wild ride of a week let's take a step back and view the events from an eagle's perspective 👀 🦅

This week’s issue will be a special issue about the Century Event in crypto:

The Ethereum Merge from Proof-of-Work to Proof-of-Stake.

The Merge refers to the original Ethereum Mainnet merging with a separate proof-of-stake blockchain called the Beacon Chain, now existing as one chain.

It’s worth noting that Ethereum PoS (aka Ethereum 2.0) has been in the making for years, with the exact date of “The Merge” always looking like something set to happen in the not-so-clear distant future.

So finally, the Merge was executed on September 15, 2022. This completed Ethereum's transition to proof-of-stake consensus, officially deprecating proof-of-work and reducing energy consumption by ~99.95%.

During the pre-merge phase, Crypto Twitter was full of hype and assumptions about the Merge and its effects. Some even anticipated a price increase of ETH to 10K.

In this special issue of “Just The Metrics” we will do what we think should be the foundation of blockchain assessment:

Generally, PoS comes with different flavors, and characteristics. Hence, we will take a deep look into the pure metrics and compare one PoS L1 Blockchain with another.

In this issue, we are comparing PoS at Cardano with the freshly merged PoS at Ethereum.

Especially looking at the following 4 areas:

• Custodial Staking

• Slashing

• Fluid Staking

• Participation Threshold

Ok, let's dig in!

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Ethereum post Merge vs Cardano: Staking and Decentralization compared

First of all: What is Proof-of-Stake?

Proof-of-Stake (PoS) is a term that many people misunderstand.

Proof-of-Work (PoW) and Proof-of-Stake (PoS) are components of a consensus mechanism to protect a decentralized network against Sybil attacks.

A Sybil attack is a kind of security threat on a blockchain network where one person or an entity tries to take over and control the blockchain network by creating multiple accounts or nodes.

For example, Cardano uses the Ouroboros consensus algorithm based on the longest-chain rule and PoS Sybil resistance mechanism.

In contrast, Bitcoin uses the Nakamoto consensus algorithm based on the longest chain rule and PoW Sybil resistance mechanism.

Because of the limitations and high energy consumption of PoW, we are currently seeing more and more blockchains adopting PoS. The transition of Ethereum from PoW to PoS was one of the most significant events in the history of blockchain.

PoS is an umbrella term used to specify the Sybil resistance mechanism, and there are significant differences in the flavors of PoS used by different blockchains.

For example, Cardano is a prominent blockchain network that has been running on PoS since 2020. The network is battle tested and has seen zero glitches or downtime.

Here we compare and contrast the core differences in the PoS mechanism between Cardano and Ethereum from a metric point of view.

1. Slashing (Ethereum) / no slashing (Cardano)

What is slashing?

Slashing is a tool used by some PoS-based blockchains for discouraging bad conduct and making validators and other network participants more accountable to prevent malicious behavior.

As sophisticated as it sounds, Ethereum validators risk staking penalties, with up to 100% of staked funds at risk if validators fail.

As slashing might lead to the loss of funds, which may hold people or entities back from participating in the network. Hence, slashing disincentivizes decentralization and results in low network participation.

Because of that, Slashing is a controversial and unproven approach that negatively affects good-intentioned network participants, especially regarding property rights. Once you stake your ETH, you give up your rights over the ETH to the Ethereum network. Bankless guys make the point pretty clear 👇

Cardano’s implementation of proof-of-stake doesn’t require slashing. The blockchain has a unique reward-sharing scheme that incentivizes shareholders to behave rationally. Anyone can participate in the network without the fear of losing their ADA or giving up the property rights of their ADA.

Cardano incentivizes staking and network validation. This results in high network participation and decentralization of the network, making it more resistant to attacks.

2. Infinite locking period (Ethereum) / Liquid Staking (Cardano)

As of now, the unlock period for your staked ETH is infinite. After the merge, you cannot unstake your ETH. Even the core developers are not sure about the schedule of protocol change that would enable unstaking:

So overall, you cannot unstake your staked ETH, and it can also get slashed. This adds a lot of uncertainty to the process, resulting in a low level of participation which is reflected in the low staking ratio (Ethereum 11.86%).

In contrast, Cardano allows liquid staking (meaning you can move your staked ADA anytime you like without penalty or restriction), which makes network participation easier and uncomplicated. This is reflected in the high staking ratio of Cardano 71.72%.

Here is an overview of minimum locking periods, the necessary minimum amount to be staked and the status of slashing for different PoS networks:

3. High Participation Threshold (Ethereum) / Low Participation Threshold (Cardano)

Cardano allows anyone to run a validator node without requiring a minimum amount of ADA and the minimum staking requirement is 10 ADA (4.78 USD).

Whereas Ethereum requires a minimum of 32 ETH (45.904 USD) to start running a validator node. This is a pretty high participation threshold for many.

This, coupled with slashing and an infinite locking period will scare off most of the well-intentioned people from participating in the network.

4. Custodial Staking (Ethereum)/ Non-Custodial Staking (Cardano)

The risk of slashing, uncertain locking period, and high participation threshold have resulted in a situation that incentivizes custodial staking of ETH.

So what is custodial staking?

Custodial staking is similar to delegation, except you don't actually own your crypto. If you "only" have 5 ETH, you are not qualified to participate directly in the network. Then you have to depend upon staking services like Lido or exchanges like Coinbase or Kraken to participate in the network.

This has resulted in the centralization of the Ethereum network. Currently, three entities control more than 51% of the network.

In contrast, Cardano has no risk of slashing, zero token locking period for staking, and a low participation threshold.

This has resulted in a situation where the protocol incentivizes non-custodial staking, thereby increasing the Cardano network's decentralization. Currently, it would take the collaboration of 24 entities to control more than 51% of the network

So what does now the overall verdict look like: 

Cardano approaches blockchain development in a methodological and scientific manner, developing a PoS-based blockchain from scratch, which is running flawlessly since 2020. This drastically differs from starting the journey as a PoW blockchain and then merging into a PoS chain.

Cardano seems to have a superior PoS mechanism that incentivizes network participation and in turn, a high degree of network decentralization. Whereas Ethereum disincentivizes network participation and thus results in a situation where 3 entities could control 53% of the entire network.

So overall it becomes obvious that just switching from PoW to PoS is not the holy grail for a blockchain as the hype promises. As always the devil is in the details. As we have seen the PoS comes with different nuances which have a huge impact on the end users and the degree of decentralization of the network.

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DISCLAIMER: None of this is financial advice. This newsletter is strictly educational and is not investment advice or a solicitation to buy or sell any assets or to make any financial decisions. Please be careful and do your own research.