The controversial Arthur Hayes asks a burning question in his latest blog post. Is the PoS Ethereum prone to centralization? The former BitMEX CEO compares it to the Binance Smart Chain, that’s famously and admittedly centralized. Arthur Hayes also describes how the validator’s disagreements with the majority are going to go, and predicts disaster for the dApps that build over a platform that doesn’t prioritize censorship resistance. In the short term, though, he’s bullish on Ethereum.
Before getting into all of that, Artur Hayes describes a concerning reality that many people in crypto Twitter have noticed and discussed. It has to do with the validators:
“As of 21 September, Lido Finance, Coinbase, and Kraken together control slightly over 50% of all ETH staked on the beacon chain. This means they are the most powerful validators and, in essence, they could censor what sorts of transactions are processed. What do all three of these centralized entities have in common? They are all US-owned companies or DAOs with major investments from US venture capitalists.”
For those keeping score, that’s a centralizing factor and a few single points of failure. All of those companies are under US jurisdiction, one of the most restrictive in the world. And of course, Arthur Hayes recognizes “protections in place to help ensure decentralization” and that the system punishes validators that censor transactions. Nevertheless, the PoS system seems fragile. Big institutions that the government can sue are the validators. And the biggest validators will control the whole system.
Arthur Hayes Sees Centralization
How will the slashing mechanism that punishes unruly validators play out? According to Arthur Hayes, this is how the system will deal with rebels:
“There is a way to slowly lose your ETH if < 33% of the network refuses to attest to blocks. Slowly losing your ETH means that a validator is punished by reducing the deposit on a node. Should the deposit drop below 16 ETH, that validation node is removed from the network. This capital becomes dead capital as for the foreseeable future you cannot unstake ETH.”
“There is a fast way to lose your ETH if > 33% of the network refuses to attest to blocks. The penalties get exponentially worse quickly such that opposing validators quickly fall below the 16 ETH threshold and are booted from the network.”
Hayes predicts that everyone will let that happen again and again, and compares it to the original DAO story. Ethereum’s developers decided to fork and “everyone at the time tacitly went along with the devs who forked the protocol so that folks could get their money back, rather than staying true to Ethereum’s supposed “code is law” ethos.”
ETH price chart on OkCoin | Source: ETH/USD on TradingView.com
Bullish On Ethereum Short-Term
Don’t get Arthur Hayes wrong, despite the criticism of the platform and PoS systems, he still thinks Ethereum will do well in relation to the dollar.
“ETH as a financial asset — fully tethered to the US-led financial system and under the pretense of “decentralization” — could still do extremely well in the near future. The issue that I wrestle with is whether truly decentralized financial and social dApps can exist at scale (i.e., with hundreds of millions of users)”
In the end, it all goes back to the most important factor: scarcity. According to Hayes, the only thing that matters in the next three to six months is “how ETH issuance per block falls under the new Proof-of-Stake model. In the few days post-merge, the rate of ETH emissions has dropped on average from a +13,000 ETH per day to -100 ETH.” If this continues, Arthur Hayes is optimistic:
“The price of ETH continues to get smoked due to deteriorating USD liquidity, but give the changes in the supply and demand dynamics time to percolate. Check back in a few months, and I suspect you’ll see that the dramatic reduction in supply has created a strong and rising floor on the price.”
Is the former BitMEX CEO right about this? We’ll find out soon enough.