People who are getting started in the cryptocurrency world often wonder about the need to pay gas fees for transactions. Isn't the whole point of blockchain that it is decentralised? Why (and to whom) are you paying Ethereum gas fees whenever you want to buy or sell crypto?
Here's the thing: while money transactions may sometimes feel a little bit like magic (you put in a transfer and the money just disappears from one account and appears on another), reality is seldom so whimsical, and the crypto universe is hardly an exception to that. There's a lot of complex work that goes behind that magic – technology just makes it look invisible. And that work needs to be compensated somehow.
Ethereum gas fees are essentially the price a user needs to pay to conduct a transaction through the Ethereum blockchain platform. It is the compensation for the work and cost that goes behind the magic.
Gas fees are often criticised for being too costly. When it comes to investing in crypto, they have a direct impact on returns – one of the many reasons why crypto indices are gaining a lot of traction in the market is because they allow users to invest in many assets while paying the gas fee only once.
While Ethereum is working hard to decrease these costs (a multi-part upgrade whose first step, called The Merge, is set to be launched in the second half of 2022), gas fees will still be part of most crypto investors' lives, and understanding them is a big step towards making the smartest financial decisions. And in order to get that, it is necessary to understand how Ethereum operates in the first place.
What is Ethereum?
Ethereum is a blockchain-based platform in which users can deploy, build and use decentralised applications and programs – a.k.a., applications and programs that are run on a huge network of computers, rather than one single computer; and that aren't controlled by a specific authority, but distributed in a transparent way so that many different users have access to transactions to make sure they are valid.
Sounds a little too technical? Try thinking about the Ethereum network as the world's super computer – only it's not a computer that is plugged into a single machine, but spread around several thousand machines around the world.
That way, it cannot be controlled by one single machine owner, making the infrastructure more trustworthy and transparent.
Ethereum is better known by its native cryptocurrency, ether (ETH), sometimes referred to as ethereum as well (the lowercase "e" indicates that someone is talking about the currency, while the upper case is attached to the name of the network).
However, Ethereum has expanded way beyond that, and is today considered one of the most versatile blockchain-based platforms in the world, with a series of decentralised applications (dApps) and programs that run through it.
Want to learn more about Ethereum? We've written a whole article on what Ethereum is.
How does Ethereum work?
Like other networks built through blockchain, Ethereum works in a decentralised, distributed form. That means that every transaction of any type is registered inside the blockchain, where it can be verified and recorded to make sure it is authentic.
Imagine you are part of a collaborative book club where everyone is constantly exchanging books with each other. In the beginning, it's simple enough: Mary gives her book to Joe, so she knows he has her book in his hands.
But what happens when Joe gives Mary's book to Elizabeth, who subsequently lends it to Charles – while Mary herself has had several books pass though her as well? What if Charles claims he never received the book from Elizabeth, who in turn claims she returned it to Joe and never promised to give it to him in the first place?
If there's no leader of the book club, who is keeping track of all of these transactions to make sure they are all valid and that no one is trying to defraud another member?
Now let's apply blockchain into this whole book club mess.
Every single time a book changes hands – be it as a loan, a purchase, a giveaway, or any other type of transaction –, that exchange generates a document that is recorded into the network, and all of the club participants have access to it.
Every new exchange updates that document. That way, everyone can have an official record of every transaction, making it very hard to defraud information while still not having to rely on a single entity to control the whole process.
That very same logic can be applied when we talk about transactions in the Ethereum network. Everyone participating in the network has access to a copy of the ledger, which holds the entire history of verified transactions.
Simple enough, right? But remember how we talked about this whole process not happening through sheer magic? That's where Ethereum gas fees come in.
What are Ethereum gas fees?
In the Ethereum universe, gas refers to the value that is necessary to conduct and execute a transaction on the platform. Ethereum gas fees are, therefore, the price a user needs to pay whenever they wish to run a transaction.
The reason why Ethereum fees exist is that all transactions use cryptography to maintain the security of the network. In order to correctly verify and register a transaction or contract, the network uses miners – users who own powerful puzzle-solving systems, which require a lot of processing power and energy costs.
Ethereum miners perform this crucial step of verifying and recording the transaction within the blockchain. Mining crypto essentially means solving the complex mathematical codes and equations that ensure the transaction is valid and add it to a new block on the blockchain. Miners do that in exchange for compensation – that's where the Ethereum gas fee goes to.
In other words, Ethereum gas fees are a reward paid to miners per transaction in exchange for their work in making that transaction happen.
Ethereum gas fees are paid in cryptocurrency tokens, specifically ether (ETH).
Why are Ethereum gas fees so expensive?
One of the main concerns for crypto investors is that Ethereum gas fees are often too expensive – imagine paying your friend USD 10 for covering last night's pizza, only the transaction fee for that is USD 50.
The reason for that is that gas fees are determined by supply and demand. There's a lot of work to be done, and miners can choose which transactions they will pick or decline to process based on how well they will be compensated. That way, gas fees tend to increase in order to make the task more appealing to be picked up.
That wouldn't necessarily be a problem, were it not for the fact that Ethereum has grown so much over the past few years that scalability became one of its biggest challenges.
There is so much demand that the speed for transactions went down and the price of gas fees went up. After all, if miners have an entire ocean of tasks to pick from, they'll tend to prioritise those with highest rewards. Add to that, of course, the fact that more complex transactions require more power and energy spent from miners, also increasing the gas fees.
For crypto investors, of course, this is a major turn off. High Ethereum gas fees mean a chunk of your investment going away at every transaction. It is one of the key points of why investing in a crypto index can be a much better strategy than buying and selling individual assets: with one single transaction, people can have exposure to several different assets, without having to pay gas fees for each one of them.
What is The Merge and what does it have to do with Ethereum gas fees?
Ethereum is not blind to its scalability issues, and the network is currently taking steps to improve and become more accessible to users. The first part of these upgrades, called The Merge, is set to occur in the second semester of 2022.
Through The Merge, Ethereum will shift from a Proof of Work (PoW) model to a Proof of Stake (PoS) mode. It gets quite technical – essentially, that means miners will no longer have to use so much machine power to validate transactions.
In very simplified terms, Proof of Stake allows cryptocurrency holders to validate a transaction based on the number of coins the validator stakes. It is somewhat akin to offering your coins as a collateral to validate the blocks, using much less computer power and lowering costs.
This upgrade, coupled with others that are still to come, can allegedly reduce the energy consumption by 99%, decrease the issuance of ether and reduce overall costs of gas fees.
The Merge does not mean the end of Ethereum gas fees. They will still exist, and making good crypto investment decisions is crucial to decrease the price you pay for them and manage your portfolio in the smartest possible way.
How to go around Ethereum gas fees?
The best way to go around Ethereum gas fees and pay the least possible amount is through crypto indices.
An index is essentially a list of investment assets. An index fund, therefore, is a way to invest in a certain index – that is, rather than buying several different assets, you can invest in a single "package" composed of them that automatically calibrates itself as prices fluctuate and certain assets get included or removed from the index.
That same logic can be applied to crypto indices. A specific index is composed of several crypto assets that track a certain performance within the market.
What do crypto indices have to do with gas fees?
Let's assume you wish to invest in the top 10 cryptocurrencies in the market.
- You can buy each of them individually, which means you would not only need to conduct 10 transactions – each of them with its specific gas fee to be paid – but manage each one of them.
- Alternatively, you could invest in a crypto fund that aggregates those top 10 coins in a single package. That means one single transaction, with one single gas fee to be paid and free management for them.
It gets better: crypto indices have pre-set strategies that make the funds update themselves to accompany market changes. For instance, if coin number 11 increases in value and surpasses number 10, the index will automatically self-adjust – all of that without any required action or fee.
Crypto index options are still limited, but that is close to changing as more and more people become interested in investing in crypto, since they are cheaper and less complex options. After all, crypto investments should not be reserved only to the wealthy and tech-savvy.
Phuture crypto index funds
Phuture’s mission is to bring simple crypto exposure to everyone. We are a decentralised crypto index platform that simplifies investments through automated, themed index funds.
When it comes to cheapening Ethereum gas fees, Phuture's products play a major role in making crypto investments more accessible. You pay the fee once and then you let the code do the work for you.
Here are the main advantages of investing in crypto index funds:
- Ride the trends, not the extremes: crypto indices soften volatility without giving up on returns. In the long run, index funds tend to perform better than individual assets.
- Avoid gas fees: Phuture index funds are gas-efficient. That means you get exposure to crypto assets without paying gas for every one of them.
- Save time: tracking the market requires time and keen eyes. Phuture index funds are built to follow the market and give you peace of mind.
- Themed investments: Phuture indices group the space into themes and evaluate the best projects so investors don't have to.
- Automated rebalancing: our index funds are managed by code, and always will be. That means that once set, they are unchanged – no one touches the strategy.
- Stay disciplined: discipline beats timing the market. If you believe the crypto market will grow, then set the strategy, invest and forget.
Investing in crypto may seem challenging and expensive, but it absolutely doesn't have to be. Avoiding Ethereum gas fees and complexity through crypto indices is a great strategy to have better returns and avoid hiccups along the way.
Phuture index funds are accessible globally to anyone with an internet connection. We take meticulous care in adding each and every asset into our index funds – we believe in creating lasting value, not short term hype.