Have you heard a little about Ethereum, but want to learn more? With our Beginner’s Guide to Ethereum, you can gain valuable knowledge as you consider making your first purchase of one of the world’s top cryptocurrencies.
What is Ethereum?
Ethereum is an open-source software platform that developers can use to create cryptocurrencies and other digital applications. Ethereum is also the name used to describe the cryptocurrency, Ether.
This Beginner’s Guide will get you up to speed quickly on the background of Ethereum, its intended purpose, and how it is being used around the world.
Who is behind Ethereum?
Many programmers and entrepreneurs were instrumental in founding Ethereum, but most of the credit goes to Vitalik Buterin and Gavin Wood. However, if you are wondering who controls Ethereum, that’s a different matter. The Ethereum network is decentralized, which means that no one person or entity controls the platform.
When was Ethereum created?
Ethereum moved relatively quickly from inception to creation.
Vitalik Buterin, a co-founder of Bitcoin Magazine, published a white paper describing the ways in which he believed that Bitcoin could be improved. For example, he thought that Bitcoin should open its doors to outside developers, who could create decentralized applications that could run on the Bitcoin platform. After his proposal failed to gain traction, he began building his own platform where he planned to do more than just trade cryptocurrencies.
Ethereum raised money for its venture with a crowdsourcing campaign that sold over $18 million worth of tokens called Ether.
The developers launched Ethereum, creating its genesis block on July 30.
What is blockchain technology?
Blockchain technology is a method of using cryptographic fundamentals to link (or chain) together blocks of digital records kept on a group of computers. Each computer contains a complete record of all transactions. Therefore, the system won’t collapse if one computer fails. There are typically thousands of computers involved.
There is also no governing authority controlling the network, making a blockchain network a decentralized system. Transparent recordkeeping is key to encouraging people to trust the system, so the network’s records are open to the public.
Blockchain technology uses cryptographic principles to prevent records from being forged or altered. Each new transaction undergoes an in-depth mathematical verification process. In theory, anyone hoping to maliciously alter a record would have to alter every occurrence of that record on every computer in the world participating on that network.
How does Ethereum blockchain technology work?
Ethereum uses blockchain technology just like Bitcoin. However, Bitcoin limits its use of the technology to the creation and distribution of its namesake digital currency. In contrast, Ethereum uses blockchain technology to do far more than transact cryptocurrency.
In keeping with the vision of Ethereum’s co-founder, Buterin, the platform is available to outside developers to create their own blockchain applications. Some developers refer to this platform as the Ethereum Virtual Machine.
What is a smart contract?
The use of smart contracts is how Ethereum works. A smart contract is computer code that establishes the guidelines of a contract and then makes sure that the parties involved executing the contract according to those terms.
Blockchain technology allows for two parties to initiate and carry out a smart contract between them without the use of a third-party traditional intermediary. Smart contracts are transparent and unchangeable, making it impossible for one party to alter the terms of the contract later in their favor.
Most people think of contracts in the legal sense. Smart contracts can include judicial matters but often do not. They are simply lines of code that execute a function.
You can think of a smart contract as a specialized type of business software. Developers create smart contracts to run their applications. Since these applications run on a decentralized network, they are called decentralized applications, or DApps.
Despite their name, smart contracts function only as well as their underlying computer code. They do not possess any form of artificial intelligence. If the creator of the code makes an error, the smart contract will still follow its instructions to the last detail. The result could be something as minor as a small glitch or as disastrous as a security flaw that invites hackers and fraudsters.
How does a smart contract differ from other contracts and protocols?
Traditional business software, which is responsible for executing particular actions, generally operates within the confines of a specific company. On the other hand, smart contracts can involve any number of players located anywhere in the world, thanks to blockchain technology. However, the actual smart contract is not distributed throughout the network to all of the computers but is housed instead on the server of the smart contract’s creator.
What is the token system?
Outside developers are welcome to create smart contracts using the Ethereum blockchain. The smart contract can create a new digital asset known as a token that can be used as digital currency in connection with the application. Unlike the Bitcoin blockchain, which is the exclusive home of Bitcoin, the Ethereum blockchain hosts an unlimited number of digital currencies, such as Tether USD (USDT), BNB, and ChainLink, in addition to its native currency, Ether.
The newly created smart contract not only creates the new token, but it also oversees the transactions involving the token. The public can often obtain the newly released token by purchasing it with Ether during the new token’s initial coin offering (ICO).
A problem soon developed with independent developers creating smart contracts and issuing their tokens. The blockchain was forced to communicate with each token differently. To solve the problem, Ethereum introduced a community standard for new tokens called ERC20.
ERC20 outlines six mandatory requirements that tokens must meet to achieve a designation as an ERC20 token. This standardization made creating tokens so easy, leading to websites being able to create a custom token for you in minutes.
However, not all developers choose to follow the standard. Depending upon which ERC20 functions the developers ignore, other smart contracts may find it difficult to interact with their tokens.
What are the uses of Ethereum?
From the beginning, Buterin envisioned his network ushering in a new era of decentralized applications, spanning a wide variety of industries. So, what is Ethereum used for? Here are a few of the ways people or organizations are using Ethereum (and the different cryptocurrencies created on its blockchain) today:
One of the uses of Ethereum is raising startup capital for new businesses. Companies create new digital currencies known as tokens that they can offer on the Ethereum network. Speculators are often willing to take a chance on a new currency by purchasing the new token at its ICO (initial coin offering).
This is how Ethereum raised money in its infancy with its Ether currency. Other tokens have also enjoyed crowdfunding success. The Augur platform brought in $5.3 million, while Golem collected $8.6 million.
Augur is a protocol that developers can use to build a prediction market where players can enrich themselves by correctly predicting events. Augur protects itself from fraud by gathering multiple reports on the outcome of the predicted events, rather than relying on one report, similar to a centralised prediction market.
Augur puts no limits on the bets you can place or on the amount of money you are allowed to win. If you are on a hot streak, Augur won’t step in and place a cap on winnings. Augur also does not take a cut of your earnings.
Cent is a social network that makes it easy for fans to financially support their favourite content creators with cryptocurrency.
In the US, the three major agencies responsible for keeping a record of your credit history are Experian, Equifax, and TransUnion. These bureaux handle such massive amounts of data that errors are common. Making matters worse, it can be difficult to remove the errors on your credit report. Meanwhile, your credit rating suffers and you are either denied loans or offered loans with unfavourable interest rates.
Decentralised lenders are not reliant on the credit reports produced by large third parties. Instead, your cryptocurrency serves as your collateral. Not only is it easier to receive a loan, but the repayment terms are more flexible than those of a traditional loan.
Decentralized insurance could eliminate the weeks and months that homeowners typically wait to get paid after suffering catastrophic damage from a natural disaster. Etherisc, for example, offers to pay instantly when winds above a set speed are recorded within 30 miles of your home or small business.
Not everyone likes the idea of media giants such as Facebook storing our personal data. Some developers are working on ways to house that data on the blockchain to keep it safer than it could ever be in the hands of for-profit corporations. This way, you could choose when to reveal information about yourself to another party (e.g., applying for a school or job). Once the application process is over, you could once again shield your data.
How is Ethereum different from other cryptocurrencies?
Ethereum is unique in the universe of cryptocurrencies, due to its multi-purpose software platform, in which outside developers are invited to create their own applications.
Many entrepreneurs have used the Ethereum platform to launch their own cryptocurrencies. Of course, Ethereum also has its native currency, Ether.
People often confuse the network, Ethereum, with the currency, Ether. Just remember that people technically don’t trade Ethereum, they trade Ether. When people refer to the current Ethereum price, they are actually talking about the Ether price.
How does Ethereum compare with other cryptocurrencies, whether they are created on the Ethereum platform or not? Let’s look at three of the most widely used cryptocurrencies besides Bitcoin (i.e., altcoins).
Similar to Ethereum, Ripple has a native currency called XRP. But also like Ethereum, Ripple is about more than a single cryptocurrency. Ripple is a global system that allows financial institutions to transfer money across international borders with the speed and security of blockchain technology.
However, Ripple is an exclusive network devoted to its own services. It does not have Ethereum’s open-door policy for developers.
Litecoin follows the Bitcoin model. Its existence is reliant solely on the buying and selling of Litecoin. Unlike Ethereum, Litecoin is not a platform on which other cryptocurrencies and applications are built.
Tether’s value is linked to the value of fiat currencies. Investors recognise Tether as belonging to a specialised category of crypto called stablecoins.
Stablecoins seek to reduce the volatility common among crypto prices by tying (or tethering) their value to relatively stable currencies such as the USD. Ideally, a tether coin would always be worth the equivalent of $1.
Furthermore, many other cryptocurrencies run on the Ethereum platform, including many of the most widely circulated currencies on the crypto market.
What are Ethereum forks?
A fork is the term used when there is an upgrade made to a cryptocurrency’s protocol. There are both “soft forks” and “hard forks.” Soft forks represent minor adjustments, while hard forks are large-scale changes. Soft forks generally go into effect with little fanfare, but hard forks are sometimes associated with controversy.
Ethereum’s first hard fork resulted in the Ethereum community splitting into two separate camps. When developers realized that a hacker had siphoned money from a group called the Decentralized Autonomous Organization (DAO), they stepped in and altered the Ethereum protocol to stop the hack.
The move was successful, but not without ramifications. Hardliners felt that the developers had violated the essence of what it means to have a decentralized network. They maintained that the developers should have let matters run their course. As a result, they refused to accept the new protocol and remained with the original. The blockchain running the original protocol is now called Ethereum Classic. The blockchain with the hard-forked protocol retained the name Ethereum.
What is the Ethereum DAO hack?
The Ethereum DAO hack refers to events surrounding the 2016 attack on smart contracts known collectively as the DAO (Decentralized Autonomous Organization). The term “decentralized autonomous organization” is generic and can apply to any project that functions accordingly. However, our story concerns a specific venture fund that named itself the DAO.
The DAO became an attractive target for hackers after collecting $150 million in startup capital as part of a crowdfunding campaign. By the time someone discovered the security breach, the hacker had drained away $50 million. They were never caught or identified.
The hacker found a loophole in the way the DAO had structured its business. The oversight allowed them to funnel the money into a new account and claim that they were only following the DAO’s rules and, therefore, acting legally.
Faced with their first major crisis, the Ethereum developers had to decide whether to let matters stand or to intervene by deleting the data on the blockchain that the hacker used to steal the funds. Some in the Ethereum community argued that altering the history of the blockchain was a violation of the decentralization that Ethereum supposedly represented.
After long deliberation and a vote, the developers moved to change the blockchain records and, thereby, restore the stolen funds to the DAO investors. This landmark decision resulted in a split. Some in the Ethereum community refused to join the new blockchain and remained with the unaltered one. The new branch is simply named Ethereum while the old blockchain is now known as Ethereum Classic.
This information is for educational purposes only and should not be taken as investment advice, personal recommendation, or an offer of, or solicitation to buy or sell, any financial instruments. This material has been prepared without having regard to any particular investment objectives or financial situation and has not been prepared in accordance with the legal and regulatory requirements to promote independent research. Any references to past performance of a financial instrument, index or a packaged investment product are not, and should not be taken as a reliable indicator of future results. eToro makes no representation and assumes no liability as to the accuracy or completeness of the content of this guide. Make sure you understand the risks involved in trading before committing any capital. Never risk more than you are prepared to lose.