In July last year, I wrote about investor enthusiasm for Ethereum’s move to a Proof of Stake (PoS) consensus system. Traders piled into ether, the blockchain’s native token, in hopes of a big payoff close to the actual event. [There were profits, but they were taken much before the actual event].
Amidst the chilly crypto winter, investors are repeating the trade. The catalyst for ether’s price movement this time around, they say, will be the enabling withdrawal of staked ether, some of which has been parked there since December 2020, from validators.
A reduced supply after the move to PoS coupled with the ability to withdraw ether quickly will aid rapid trading of the token and transform it into a Wall Street asset, say investors in the token. But that argument does not take into account the absence of utility and regulatory scrutiny on ethereum’s native token.
Ether’s Value Proposition
To articulate an investment case for ether, one must distinguish it first from the rest of the crypto riffraff. The agita in prices for such tokens are driven by speculators throwing money at the crypto roulette.
Therefore, any argument for a future increase in ether’s price must rest on its utility in the crypto ecosystem. In that respect, ether is like a tech stock that trades at multiples of its current earnings.
But tech companies have products and services that generate cash flows and revenue. Ether’s only utility is in gas fees that are used to record transactions on Ethereum’s blockchain.
The Importance of Gas Fees
Those fees depend on demand for blockspace or space on a blockchain to record or store data. While Ethereum is still years away from mainstream adoption, other applications – that are more akin to fads and tests of a concept – have become the prime consumers of space on its chain. Decentralized finance (DeFi) applications are one. Non-Fungible Tokens (NFTs) are another.
For example, Crypto Kitties drove demand for ether in late 2017 while NFTs and DeFi apps powered the surge in its prices to record highs in 2020 and 2021. The popularity of such applications also threw a spotlight on Ethereum’s scaling problems.
Delays in processing transactions bloated gas fees and made the blockchain expensive. In response, a wave of so-called Layer 2 solutions – independent blockchains in their own right – emerged and drove gas prices lower.
A steep drop in crypto prices since the beginning of last year has punctured demand for blockspace. The era of NFTs is over. Tokens that were once valued in millions of dollars are now worth pennies. DeFi apps too have been hit hard by the recent crypto downturn. Their contribution to gas fees on Ethereum’s blockchain has declined. And there are no new applications on the horizon to power ether’s main use case.
That means demand for ether, at least among applications, is declining even as investors are speculating about its future uses, many of which are unproven and have an undated timeline.
Ether’s case is further complicated by its position in the regulatory spotlight. While Bitcoin is classified as a commodity, the status of Ethereum’s native token is still unclear. Back in 2018, former SEC commissioner William Hinman clarified that Ethereum was “sufficiently decentralized” to be classified as a commodity under the agency’s rules.
But current SEC chief Gary Gensler is not shy about saying that all crypto tokens, except for bitcoin, are securities. In fact, he has mentioned Ethereum’s staking program as an event that has converted ether into a security because it provides yields or a promise of profits. The token is already in regulatory crosshairs after the New York Department of Financial Services (NYDFS) filed a case recently alleging that ether is a security.
The agency will have to prove its case in courts, though, and that may take a long time. Given the track record of regulatory agencies in extinguishing services and tokens in the crypto ecosystem, however, investors are likely to remain wary of putting money into ether for the time being.