What is ethereum?

Ethereum is a digital platform that allows people to build a range of decentralised applications. These applications can include security programs, voting systems and methods of payment. Like bitcoin, ethereum operates outside the mandate of central authorities such as banks and governments.  

The idea behind ethereum was created by Vitalik Buterin, a programmer born in Russia and raised in Canada. Buterin drew inspiration from bitcoin to develop his own cryptocurrency. It didn’t take too long for ethereum to become very popular and to make its creator a millionaire. As mentioned, Buterin took inspiration from bitcoin and the similarities between ethereum and bitcoin are indeed there. Both ethereum and bitcoin are cryptocurrencies that work thanks to a worldwide computer network, with “miners” being rewarded through the release of daily tokens.. He launched the first version of the platform in 2015, with the help of several co-founders. Since then it has grown rapidly in popularity and has helped prompt an increase of new rivals to bitcoin.

Gold Ethereum coin

How does ethereum work?

Ethereum works as an open software platform functioning on blockchain technology. This blockchain is hosted on many computers around the world, making it decentralised. Each computer has a copy of the blockchain, and there has to be widespread agreement before any changes can be implemented to the network.

The ethereum blockchain is similar to bitcoin’s in that it is a record of the transaction history. However, the ethereum network also allows developers to build and deploy decentralised applications (‘dapps’). These are also stored on the blockchain along with records of transactions.

What are dapps?

Dapps are open-source software that use the blockchain technology. Unlike traditional apps, they don’t need a middleman to function. As they are still a relatively new concept, it is difficult to pinpoint an exact definition of them. However, noticeable common features include the fact that they are open source (governed by autonomy) and decentralised.

Is ethereum a cryptocurrency?

Ethereum itself is essentially not a cryptocurrency – the word ethereum refers to the digital platform. The actual tokens (used for payment on the network) are called ether. In other words, ether is the ‘crypto-fuel’ (or cryptocurrency) for the ethereum network. When it comes to trading, the prices you see will refer to ether. Nonetheless, you will commonly see the cryptocurrency referred to as ethereum.

However, ethereum also acts as a network for the so-called “smart contracts”, a feature that differentiates ethereum from other cryptocurrencies. In essence, ethereum is a real network that can be used for many different types of transactions.

Smart contracts

Smart contracts are essentially contracts that can be translated into a programming language and then made to operate automatically and independently, according to the instructions contained in the contract, similar to an automated trading system. This is in fact one of the main secrets that has allowed ethereum to become the second top cryptocurrency by market capitalisation.

What exactly is a smart contract? A smart contract is a program that follows a set of established rules, just as a regular contract does. However, it must be said that a smart contract is not a traditional contract, but rather it behaves in an “active” and independent way, meaning that it generally responds with different outputs to the different inputs it receives.
A practical and very fitting example of a smart contract is that of a car purchased on an instalment plan. If the instalments were not paid for a certain number of months, the smart contract could come into play, blocking some of the car’s functions and thus making it practically unusable.

It is possible to use smart contracts to carry out various types of actions such as:

  • Registering an internet domain
  • Trading on financial markets
  • Crowdfunding

Ethereum vs bitcoin: what are the differences?

Currently, ethereum has established itself as the second cryptocurrency in the world by market capitalisation, immediately after bitcoin and a very short distance from ripple. Compared to bitcoin, ethereum offers superiod technology, particularly suitable for integration with different applications, and therefore it will certainly enjoy an even more marked growth in the near future.

As we have already discussed, ethereum’s blockchain technology is similar to that of bitcoin bitcoin’s. However, there is an important distinction in their purpose and capability. Bitcoin only uses one specific application of blockchain technology. Ultimately, it’s an electronic cash system that enables online bitcoin payments. The ethereum blockchain does track ownership of digital currency, but also focuses on running the programming code of a range of decentralised applications. Bitcoin was designed to be a cryptocurrency to be used for spending, as an alternative payment method to banks. Ethereum, on the other hand, has its own payment system which is closely related to its ecosystem.

Other key differences include:

  • Ethereum allows developers to raise funds for their own applications. They can set up a contract and seek pledges from the wider community.
  • There is a finite number of bitcoins available (estimated to be 21 million). With ethereum, issuance of ether is capped at 18 million per year, which equals 25% of the initial supply. So, while the absolute issuance is fixed, relative inflation decreases every year.
  • Instead of mining for bitcoin, miners of the ethereum blockchain work to earn ether.
  • They cost their transactions in different ways. With ethereum it is referred to as ‘gas’. Costs of transactions depend on bandwidth usage, storage requirements and complexity. With bitcoin, transactions compete equally with each other and are limited by block size.

What affects the price of ethereum?

Ethereum’s price is affected by different factors to those which affect traditional currencies. It is less exposed to economic and political influences, but is affected by other factors such as:

Availability – Unlike bitcoin there is no limit to the supply. However, units of ether are still added and lost over time, causing its availability to fluctuate.
 
Regulation – Ethereum is currently unregulated by both governments and central banks. If this starts to change over the next few years it could have an impact on ethereum’s value.
 
Media – Negative media coverage, particularly around security and longevity, can have an impact on price.
 
Technological advances – The future of blockchain technology is unknown. However, its integration into areas like payment systems and crowdfunding platforms could raise its profile.


CMC Markets is an execution-only service provider. The material (whether or not it states any opinions) is for general information purposes only, and does not take into account your personal circumstances or objectives. Nothing in this material is (or should be considered to be) financial, investment or other advice on which reliance should be placed. No opinion given in the material constitutes a recommendation by CMC Markets or the author that any particular investment, security, transaction or investment strategy is suitable for any specific person.

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