By
Steve Muchoki
May 13th, 2024
The Ethereum blockchain is looking forward to making major transitions with the Ethereum 2.0 rollout ahead this year. However, experts have pointed out some possible risks for users as well as Defi operators over the possible transition.
The Ethereum blockchain network is all set to undergo a major transformation from the Proof-of-Work (PoW) consensus model to the more efficient, secure, and scalable Proof-of-Stake (PoS) consensus model. This transformation also promises some new and additional benefits to its users. Besides, the PoS model that is presupposed by Ethereum 2.0 also allows users to stake their cryptocurrencies and earn passive income. This passive income will come in the form of rewards for validating transactions while staking your ETH. The Ethereum 2.0 will allow users to state their ETH in two different ways. The first is by depositing 32 ETH in the wallet and running a validator node software. The other is staking without any minimum deposits but running nodes through third-party tools.
Last week, blockchain engineering firm ConsenSys also announced its Codefi platform which offers staking-as-a-service solutions. While all this seems to be very a progressive move, some experts think that this new upgrade can bring some risks to the users.
Possible Negative Consequences of Ethereum 2.0 and PoS Introduction
One of the major possible risks could be the high staking requirements as well as the need to freeze your funds for validating the transactions. Another possible risk is that the average user may not understand the staking process. This lack of understanding can possibly create a loss of withdrawal keys or theft.
Some experts also say that the one-way transfer from the Ethereum 1.0 to Ethereum 2.0 can create a lock-up problem. While staking your ETH on the PoS chain, any sudden drop in the ETH price will prevent users to sell their assets and mitigate losses. Speaking to CoinTelegraph, Eliézer Ndinga, a research associate at investment company 21Shares, said:
“The transition from the current Ethereum blockchain to Ethereum 2.0 requires users to transfer their ETH between blockchains, which could create risks for users who try to do this themselves, though exchanges and other custodians are likely to assist in this process.”
Will McCormick, the director of communications at cryptocurrency exchange OKCoin, holds opposite views. McCormick thinks that the lockup phenomenon has a positive side to it. “This gives further options to those who look to balance their risk between the expected returns on staking versus the expected returns on trading. By giving both options, it appeals to a wider set of investors/users,” he said.
For the users to don’t want to do all the staking process themselves, the third-party staking pools can be a viable option. However, this also exposes their funds being accessed by others.
How Will ETH 2.0 Transition Affect DeFi and DApps?
Currently, the Ethereum blockchain is in desperate need of new solutions due to emerging competition in the market. There are a number of other blockchain networks that are offering DApps and Decentralized Finance (DeFi) applications. But the advantage of Ethereum is that it is quite resource-intensive.
With the ETH 2.0, the Ethereum developers are already working on Layer-2 scalability solutions. But Jon Jordan, the communications director at DappRadar, says that these solutions come with a certain degree of risks. Speaking to CoinTelegraph, he said:
“Of course, issues such as gas prices can be solved without Eth 2.0 There are plenty of layer 2 solutions launching and available – Matic, Skale Labs, OMG Network etc – which would solve these problems to some degree. And DApp developers are actively integrating these technologies or attempting to build their own. However, all these add potential risk. Eth 2.0’s advantage is it’s core to the underlying blockchain but for that reason it’s a more complex task.”
Note that the transfer of ETH tokens from the existing blockchain to ETH 2.0 will happen through a one-way smart-contract. This will happen during Phase 0 of the transition process. However, the Ether transferred will be usable only during the Phase 1.5 merger. Well, experts think that this gap in the traditional period can potentially impact some DApps and Defi applications.