Ethereum’s Identity Crisis Worsens Amid Rising Inflation Concerns

Ethereum's identity is changing as it moves from a deflationary model to inflation, raising questions about its role as a cryptocurrency

Arslan Butt•Saturday, October 5, 2024•2 min read

Ethereum’s identity is changing as it moves from a deflationary model to inflation, raising questions about its role as a cryptocurrency amid the rise of Layer 2 solutions and Bitcoin’s dominance, according to a new report from Binance Research.

After months of bearish momentum, September was a month of recovery. Partly due to the Federal Reserve’s decision to reduce interest, the total crypto market capitalization was increasing. On the other side of the world, China also cut interest rates, further fueling optimism.

These conditions helped fuel the growth of several key crypto assets, including Ethereum (ETH). However, due to its own rising inflationary pressures, ETH failed to capitalize and showed slow growth.

Ethereum inflation rises, threatens ‘ultrasound money’ status: Report

Ethereum’s inflation rate reaches a two-year high as layer-2 platforms reduce ETH burn, challenging the deflationary “ultrasound money” narrative.

— Minerium (@MineriumUS) October 4, 2024

Ethereum’s inflation rate has risen to 0.74%, raising concerns about its long-standing “ultrasonic money” narrative, according to Binance’s October 2024 Monthly Market Insights report.

The research report indicated that the Ether issuance rate is at its highest level in two years, as reduced on-chain activity and lower burn rates change the economic status of the asset.

In September, Ethereum’s issuance rate reached 0.74% annualized. As with fiat currencies, the issuance of new currencies results in inflationary pressures.

This calls into question Ethereum’s “Ultrasound Money” narrative, which promised that ETH would be even more deflationary than Bitcoin. This has put pressure on Ethereum’s gains in market cap.

For example, while Bitcoin’s market cap increased by 7.5% in September, Ethereum’s market cap increased by only 2.8%. More recently, Ethereum has seen a major selling trend, with one whale dumping $48 million worth of ETH.

The probable cause of this inflationary pressure is the fall in activity on the Ethereum main net. Notably, following the long-awaited Dencun upgrade in March, much of Ethereum’s traffic moved to its layer 2 chains.

The Dencun update, which introduced EIP-4844, has had a huge impact on the Ethereum economy. Although it boosted layer 2 transaction volumes, mainnet fees hit record lows, raising concerns about Ethereum’s deflationary narrative.

Fewer fees mean less ETH being burned, leading it to become inflationary again after the Ethereum community was consistently focused on its deflationary path before that.

Aside from that, the ETH/BTC ratio has fallen almost 30% since Dencun’s update, indicating an “identity crisis” for Ethereum. At the time of writing, Ethereum is trading at $2,390, more than 50% below its all-time high from three years ago.

Ethereum's Identity Crisis Deepens Amid Resurgent Inflation, Analyst Warns

The third quarter of 2023 painted a bleak picture for the crypto market, with Ethereum facing renewed challenges due to rising inflation and low on-chain transaction fees. Analysts warn that these factors…

— CoinBlogCap (@coinblogcap) October 4, 2024

The rise of Layer 2 solutions like Arbitrum and Optimism has substantially impacted on-chain activity on the Ethereum Layer 1 blockchain.

These L2 networks process transactions outside of the Ethereum mainnet, reducing gas fees and, in turn, reducing the amount of ETH that is burned through transaction fees.

Ethereum Improvement Proposal (EIP) 1559, introduced in 2021, burns a portion of transaction fees, but the reduction in the number of transactions on the main net has caused a decrease in the volume of ETH burned, decreasing its value.

In periods of heavy network usage, such as the NFT boom, the consumption rate was higher than the inflation rate. This made Ethereum deflationary. This has important implications for its price in the short term.

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ABOUT THE AUTHOR See More

Arslan Butt

Lead Markets Analyst – Multi-Asset (FX, Commodities, Crypto)

Arslan Butt serves as the Lead Commodities and Indices Analyst, bringing a wealth of expertise to the field. With an MBA in Behavioral Finance and active progress towards a Ph.D., Arslan possesses a deep understanding of market dynamics. His professional journey includes a significant role as a senior analyst at a leading brokerage firm, complementing his extensive experience as a market analyst and day trader. Adept in educating others, Arslan has a commendable track record as an instructor and public speaker. His incisive analyses, particularly within the realms of cryptocurrency and forex markets, are showcased across esteemed financial publications such as ForexCrunch, InsideBitcoins, and EconomyWatch, solidifying his reputation in the financial community.