Let’s finish up where we left off yesterday.

Benefits of EIP1559

The main reason EIP1559 is supposed to work is that miners (validators in PoS) will act in their own best interest. If they allow large blocks all the time, the BASEFEE will grow exponentially, burning more of the total fee and therefore give them less TIP income.

If they target the specified block size, then the TIP portion will become an increasing component of their income. They get paid more for maintaining the specified block size.

For users, if there is continued congestion (like we have now) then fees will rise exponentially. The chart below shows the fee paid if miners need to sustain larger blocks for long periods of time. You can see that after 100mins of congestion, a single ETH transfer will cost over $1000!

In theory, that should make transacting undesirable and therefore reduce demand for blockspace, allowing miners to work their way through the mempool until the BASEFEE returns to normal.

Security

Since the BASEFEE is burned, it does not pay for security. Ethereum has opted for the perpetual inflation model where staking rewards pay for security and fees are just a ‘tip’ and mechanism to make spam and congestion expensive.

There is an advantage for stakers in that staking income will be more reliable than a fee only model adopted by Bitcoin. The burn mechanism also acts to counter the inflation rate, potentially reducing the real inflation to much lower levels (i.e. if staking inflation == fees burned, actual inflation becomes zero, or even negative).

There is a benefit to the scarcity of ETH and EIP1559 also ensures that ETH specifically is always burned. This adds a demand for ETH as transaction fees cannot be paid via any other token.

Risks and Concerns

BASEFEE only corrects to the target block-size during periods of congestion (i.e. blocks larger than 20M gas). If miners coordinate and agree only mine much smaller blocks that are 10M Gas, then BASEFEE equals zero and they get paid the full fee in TIP. However if one miner decides to mine larger blocks, it breaks the truce and BASEFEE will begin to increase.

Another risk which I see is that the exponential increase in fees during congestion may lead to ‘resonance’. This phenomenon was seen in the Decred ticket price during the early days where tickets were 2-3DCR, an all out rush to buy them occurred, followed by rapid correction of price up to hundreds of DCR. It was a horrible user experience and required a rewrite of the ticket algorithm. It is not certain to happen but will require careful design to avoid.

Example of resonance in the Decred ticket algorithm which may occur if the design of EIP1559 is not tuned quite right.

If stablecoins continue to be hosted on Ethereum, there is also a risk that the traders using the network to send Tether around (who are clearly not phased by high gas prices) may maintain a constant demand for block-space. It may just mean that the ‘minimum’ price floor for fees is higher and smaller users may forever be priced out.

Perhaps I have missed something, but I’m not entirely sure that this mechanism actually solves the issue at hand which is that fees price out the majority of users. I sense that problem may not be solved and instead it is becomes expensive and stable, rather than just expensive.

Concluding thoughts

Clearly this is not an easy problem to solve. I won’t lie, I find the complexity of the proposed Ethereum 2.0 and this new fee market quite overwhelming. There is a lot of moving pieces and crypto-economic gears in the mix and how they all interact and operate in a live fire exercise remains to be seen.

Nevertheless, there seems to be widespread community support for EIP1559. I mean who wouldn’t support a burn mechanism for their coin? It is what propelled BNB and KNC higher so makes sense for it to work for ETH too.

If I take Vitalik’s word for it, that the system will function as designed, then it should be a bullish development by enhancing scarcity and creating a stable security incentive. It is also a differentiator to Bitcoin and if it does work, would be quite competitive. Not sure how far along the pipeline the proposal is for inclusion but I believe it will be widely talked about in the coming months so I will keep you updated as I hear more!.