Life on the Ether - the basics of Ethereum

Bitcoin was the first cryptocurrency and continues to be the biggest cryptocurrency by market capitalization. The second largest cryptocurrency is Ether, the token on the Ethereum network. Whilst Bitcoin aimed to solely become a decentralized payment system, Ethereum’s network is a platform capable of supporting the creation of completely decentralized applications. In doing so, it supports the movement away from centralized authority of many institutions and towards a world with more decentralized systems. In this article we cover:

  1. Where did Ethereum come from?
  2. What are smart contracts on Ethereum?
  3. What is Ether?
  4. What are the differences between Bitcoin and Ethereum?

Where did Ethereum Come From?

In 2008, Bitcoin became the world’s first digital currency by using a technology called blockchain to prevent the double spending problem. Bitcoin was the first ever cryptocurrency and the blockchain technology that powered it was the first distributed public spending ledger. Bitcoin was created to be a decentralized system of spending and saving to free people from the manipulation of central authorities. It’s goal was to be a decentralized money transfer system and it has achieved that. Critics of centralized authority often claim that governments and law makers use their power for their own benefit and believe that the world would be a better place if more systems were decentralized. Enter Ethereum…

The founders of Ethereum saw that Blockchain Technology was to Bitcoin what the Internet is to Email. Essentially, they saw that Blockchain is the technology that enables the decentralized currency Bitcoin, but it’s capabilities could be expanded. Ethereum founders, Vitalik Buterin being the most famous, aimed to create a decentralized network that other people could use to build decentralized apps (DApps). They sought to create a whole network with it’s own browser, coding language, and payment system that other people could use to build their own decentralized apps. Of course, everything made by Ethereum and Ethereum app creators is run across a decentralized network of computers. In short:

Ethereum is a public, open-source, Blockchain-based distributed software platform that allows developers to build and deploy decentralized applications

Much like Bitcoin, there is a network of nodes (computers) that have downloaded the entire Ethereum Blockchain to be able to enforce the consensus rules of the decentralized Ethereum network. These nodes are rewarded for their work with cryptocurrency tokens of Ethereum’s currency - Ether.

What are Smart Contracts on Ethereum?

Before we dive into smart contracts on Ethereum, let’s first understand what a smart contract is. Smart contracts are essentially automatically enforced digital contracts. The terms that each party to the contract must fulfil are coded into the contract with specific transactions/actions based on the completion of terms agreed. When the terms of the contract are completed, the actions/transactions are then automatically completed. Bitcoin was the first to support basic smart contracts but the extent of the contracts was severely limited. On Bitcoin, each transaction is a smart contract because the network will only approve transactions if certain conditions are met – that the user provides a digital signature proving that they indeed own the cryptocurrency they claim to own. Only the owner of a Bitcoin private key can produce such a digital signature.

Ethereum endeavoured to produce an environment in which more complex smart contracts could be written and executed to expand the capabilities of decentralized systems. They created a Turing complete programming language, meaning that the language supports more complex computational functions, which meant that developers could pretty much create any smart contract they could think of. These smart contracts and the programming language of Ethereum enables developers to create almost any application they can think of. Decentralized investment banks, social networks, games, and more have been created. Once contracts are written into the Ethereum network, they are validated and enforced by Ethereum’s decentralized network. This of course costs money for those users running their computers as nodes on the network. As we previously mentioned, these nodes are rewarded for their computational power with Ether - Etheruem’s cryptocurrency.

What is Ether?

Let’s take a step back and think about traditional currency. Traditional currency is used to sell and buy things in a country (or trading zone in the case of the Euro). They are typically only spent in the country of issue. For example, you can only really spend British Pounds in the United Kingdom or Kenyan Shillings in Kenya. In a sense, these traditional currencies are an enabler of trade in a specific state with certain institutions and laws. If you live in Britain and you want to travel to Kenya you would exchange your Pounds for Kenyan Shillings at a money exchange for a mutually agreed upon exchange rate.

Now back to cryptocurrency… Ether (whose symbol is ETH) is the currency that is used to buy and sell things on the Ethereum network. It is the reward paid to the miners that ensure Ethereum smart contracts are correctly executed. If you use an Ethereum app or send Ether to someone then the cost of computational power required to perform those transactions will be charged as a small fee in Ether.

What are the big differences between Bitcoin and Ethereum?

The major difference between Ethereum and Bitcoin is that Bitcoin is purely designed to be a decentralized alternative to centralized currency, whereas Ethereum is a decentralized platform for building decentralized applications that run on the Ethereum network and are blockchain-based. The Ethereum cryptocurrency, Ether or ETH, is a token used to pay to run programs on Ethereum’s network. However, similar to Bitcoin it can be traded against other cryptocurrencies (including BTC). Initially, both Ethereum and Bitcoin used the Proof of Work model to validate transactions, but since 2017 Ethereum has begun transitioning to a less energy intensive model called “Proof of Stake”. “Proof of Work” requires ALL miners in the network to try to solve the next block and rewards the first to do so, but in “Proof of Stake” one miner is randomly selected to solve the block.

Rounding Up

Ethereum was created to support the creation of decentralized applications beyond simply money transfer. The Ethereum network enables developers to create DApps through the use of Ethereum’s programming language and the ability to create any smart contract that a developer can think of. Ethereum transactions are verified by Ethereum Miners that solve cryptographic puzzles and add transactions to the Ethereum blockchain. These miners are rewarded for their work with the Ethereum token called Ether. Ether is also a cryptocurrency that can be traded against other cryptocurrencies. The major difference between Bitcoin and Ethereum is that Ethereum is an entire platform for creating DApps whereas bitcoin is purely a money transfer system.