homecryptocurrency NewsExplained: How Ethereum’s token burns are making it a deflationary cryptocurrency

Explained: How Ethereum’s token burns are making it a deflationary cryptocurrency

Explained: How Ethereum’s token burns are making it a deflationary cryptocurrency
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By CNBCTV18.com Jan 23, 2023 8:36:14 PM IST (Published)

The reason Ethereum is now considered a deflationary cryptocurrency is that the number of ETH tokens that are entering into circulation is less than the number of tokens that are being burnt on a regular basis.

Multiple crypto projects in the market oscillate between being inflationary and deflationary in nature. Ethereum, the biggest altcoin in the market has recently gained the status of being a deflationary cryptocurrency, thanks to its recent burning rate.

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But before we delve deeper into the subject, let us give you a quick understanding of when an asset becomes deflationary.
Why do cryptos become deflationary?
The terms inflationary and deflationary stem from an asset's supply and demand. It is important to note that the majority of crypto assets can be inflationary in nature. This directly relates to the supply of circulating tokens in the market. The more tokens are out there in circulation, the higher the chances of the crypto being affected by inflation.
Several crypto assets come with a limited supply, such as Bitcoin (21 million) or BNB (200,000,000) while many other projects come with an infinite supply of coins. Some examples of the latter are Solana, Dogecoin, and Ethereum.
However, a crypto asset can be deflationary despite having a limited or unlimited supply. In the case of coins with an infinite supply, there needs to be a burning mechanism in which a certain number of tokens are ‘burnt’ (destroyed) or they are moved away from circulation in a separate wallet that cannot be accessed. Therefore, the tokens which are burnt are rendered useless.
However, burning is an essential component since it creates a balance between supply and demand, which in turn helps determine the prices of these tokens. If demand exceeds supply, the prices will likely go up and vice versa.
Bitcoin, Shiba Inu, or BNB are some good examples of deflationary tokens. Now Ethereum too is hailed as a deflationary crypto asset. So, what caused this transition?
How did Ethereum transition to a deflationary crypto asset?
The reason Ethereum is now considered a deflationary cryptocurrency is that the number of ETH tokens that are entering into circulation is less than the number of tokens that are being burnt on a regular basis.
Ethereum launched the EIP-1559 protocol back in August 2021, where EIP stands for Ethereum Investment Protocol. The protocol entails that with every transaction conducted on the Ethereum blockchain, a fraction of the transaction fee or gas fees will be burnt.
Ever since the launch of the EIP-1559, almost 2.8 million ETH worth $4.6 billion (at present prices) has been burnt so far and removed from circulation in the process. Currently, an estimated ETH burn rate is 1.62 ETH per minute, as per reports. This has rendered Ethereum to be more deflationary than even Bitcoin.
Ethereum’s transition to becoming a deflationary asset cannot be credited only to its burning rate. The previous year, Ethereum switched from being a Proof-of-Work (PoW) network to a Proof-of-Stake (PoS) network. This was a massive game changer for Ethereum and was popularly termed the Ethereum Merge.
PoS is a more efficient mechanism that allows users to stake their ETH in return for yields. This transition from PoW to PoS has attracted numerous investors. As per Etherscan, more than $24 billion worth of ETH is deposited on the Beacon Deposit Contract, which is a smart contract at the core of the new transition.
It has been witnessed that the NFT (Non-Fungible Tokens) and DeFi (Decentralized Finance) activities conducted on the Ethereum blockchain have resulted in the maximum burning of ETH over the previous week alone (almost 8,000 ETH).
In Conclusion: Is this good news for the ETH community?
Experts indicate that the massive burning rate of Ethereum has positively affected the coin's economy. After a disastrous previous year, ETH prices this year have gone up significantly.
Experts believe that if Ethereum can continue its burning rate and maintain a lower circulation supply than the number of tokens burnt, ETH prices will likely continue to go up, which can be great news for long-term investors. At the time of writing, ETH was trading hands at $1,633.22, gaining 0.40 percent over the previous day.
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