Ethereum Supply Shock: 3 Reasons Why It Might Be Coming

ETH withdrawals are rising dramatically. Here are 3 reasons why there could be an Ethereum supply shock coming!

Ethereum has had an incredible 2021 so far, with record adoption of decentralized finance (DeFi) protocols, and non-fungible token (NFT) projects, with the latter beginning to find new use cases in the burgeoning metaverse and GameFi spaces, such as Play-to-Earn (P2E) games such as Axie Infinity, leading to the original smart contract network’s ETH cryptocurrency almost touching $5,000 recently.

This came despite Ethereum‘s well-known problems of exorbitant gas fees and painfully slow transaction speeds driving many developers and users on to so-called “Ethereum killer” alternative layer-1 networks like Binance Smart Chain, Polkadot, Solana, Cardano, Avalanche, and more. Despite these problems, it would appear that ETH continues to be on the shopping list of crypto investors, especially as Ethereum continues to move closer to ETH 2.0 and take necessary actions such as pushing through deflationary mechanism EIP-1559 and staving off the introduction of the “difficulty bomb”, which will all but eradicate ETH mining profitability in order to encourage migration to its Proof-of-Stake (PoS) network, to June 2022.

You’ve likely come across reports about massive ETH outflows off exchanges, which saw a withdrawal of more than 427,000 ETH in November alone. CryptoQuant noted back in October that such outflows were likely an institutional activity, or “smart money”.

With so much ETH being moved off exchanges, are we about to see a “supply shock”, where the amount of ETH held in exchange reserves is depleting faster than it can be replenished? Before we get to that, let’s look at 3 reasons why this might be happening.

The ETH burn mechanism

The Ethereum network earlier this year pushed through an update called EIP-1559 as part of the London Hard Fork, introducing a burn mechanism to the network. The goal of the update was to address the blockchain’s exorbitant transaction costs and congestion while reducing ETH’s inflation. This deflationary mechanism was expected to help make ETH prices sustainable, perhaps even deflationary in some cases.

About 946,000 ETH has been burned from supply since the deployment of EIP-1559, and this number continues to grow. Note that these coins are gone for good. And looking at the volume of transactions, we can expect the burn rate of ETH to increase further in the near future.

Staking on ETH 2.0

Staking on ETH went live in December 2020 following the launch of the Beacon Chain. Since then, legions of hardcore supporters and investors have staked their ETH so they can start earning staking rewards despite the fact that the upgrade is not fully functional yet. 

And here’s where it gets interesting: ETH 2.0 staking today is a one-way street. Once you transfer your ETH 1.x to 2.0, you can’t reverse it, meaning it will remain untouched at least until the merge that is expected to come in the summer of 2022. With 8 million coins staked in the ETH2 deposit contract, we now have over $35 billion worth of ETH locked for several months to a year, all while we’re continuously burning its supply.

DeFi and NFT activity and interest continue to rise

Data from Defi Llama shows us that the interest in DeFi on Ethereum is still growing, despite the rise of cheaper alternatives like Solana and Fantom. In fact, we now have about $169 billion worth of ETH locked in DeFi contracts, a testament to the trust and confidence investors have in Ethereum, despite its high gas requirements.

Conclusion

Despite its systemic problems, Ethereum’s continuing supply squeeze shows that the world’s biggest eco-system of crypto projects isn’t going anywhere soon. With all the interest in Ethereum 2.0, staking, DeFi, NFTs, as well as its rising burn rate, and scaling layer-2 networks like Polygon continuing to serve as positive narratives in Ethereumland, in fact, its future is still quite bright and it should continue to play a leadership role in the the aforementioned industries. But don’t take it from me. Even crypto antagonists JP Morgan recently said that Ethereum is a better bet than good old Bitcoin!

And unless there is a major crash in the next few weeks, we don’t see this changing anytime soon. In fact, ETH holders should be happy about this since the less supply there is, the faster we break that stubborn $5K price ceiling and head off to the promised land of $20,000 and, of course, the prophecy of the Flippening.

If institutions and whales are HODLling, there’s no reason why you shouldn’t as well. DYOR though and to be safe. Consider techniques like Dollar cost averaging (DCA) when buying to spread the risk and of course, keep it on a CoolWallet where you can unlock further use cases for it through decentralized exchanges, staking and now also NFT collecting through Rarible!

This article is for educational and entertainment purposes only. The opinions included in this blog post are that of the author alone, do not represent that of CoolWallet or CoolBitX and should not be construed as financial advice of any sort.

Written by Werner Vermaak