Wait, What's 'The Merge'?

coming after years of delays. This upgrade would represent a fundamental overhaul of how the Ethereum blockchain works, and would, if all goes according to this very ambitious plan, a major shift away from the current approach that's known as proof of work. In its place, Ethereum would adopt the proof of steak model, which proponents say is significantly more energy efficient than proof of work, but skeptics worry is

less secure. Ether has sold about six since June as traders and developers alike positioned themselves for this big transition. So what does the merge mean for users? What are the risks associated with this upgrade? And why is it finally happening now after all these years. Bloomberg Crypto reposes Olga Carey, pretty much everybody in this system will be affected, and David Pan, the amount of money involved in this is very, very striking. Join me today to tackle these questions.

Hello and welcome. So today we're just gonna I'm just gonna say it, We're gonna get a little bit nerdy, but no one who's listening should be worried. I've got two of the foremost professionals as it comes to reporting on Ethereum and the merge in various studios today. I think we're in like three different states right now, such as the power of audio. But Olga, I'm going to

start with you. We've said the word of the merge several times on this on this podcast, we've mentioned that it relates to what is basically a huge software upgrade for the Ethereum blockchain. But when we talk about the merge, what are we actually talking about? So we are talking about the change over in the way transactions on Ethereum are ordered. So today, uh, this very powerful computers called

miners essentially do the job. And with the merge, we're going to switch to a much more energy efiicient system using essentially wallets with staked coins. This wallets are called validators. The new system is called proof of steak, and essentially it's gonna reduce energy consumption of ethereum by which is huge. And uh, it's also gonna mean sort of a number of major shifts for the whole etherorum ecosystem. So there's a couple of things there that I want to dive

more deeply into. And I'm going to start with the big macro, which is what you say, is the whole ethereum ecosystem. Well, who is in that ecosystem? You know, Folks might know for example that to like buy a certain n f T S you have to pay an ether But what are the other elements of this ecosystem that are going to be affected? Pretty much everybody in this system will be affected. We are gonna see validators, of course, who are going to be key to ordering transactions.

We're going to see builders who are going to be essentially packaging transactions into blocks and h Essentially, this change could attract more developers and more investors to etheroryum because it's very importan for a lot of investors to invest

in energy efficient projects. They want to comply with their e s G requirements and the same is true with a lot of developers who are environmentally conscious, and so it's believed that once Ethereum switches over to this new system, this could potentially lead to an influx of new investors, new developers, and just new users who will be to whom this this idea of an environmentally friendly Ethereum will

appeal to. Got it? So? Right now, Ethereum is on something that you described as proof of work, which is the same system that Bitcoin is on. So, David, I'm just gonna ask you if you had to explain the difference between proof of work and proof of stake to somebody without using a crypto example, what would you say. I think, at the end of the day, it's a it's a software. So the blockchain Ethereum is a blockchain.

A proof of work is one way to secure the network, and also, you know, to validate the transaction data on the digital ledger. And from proof of work to proof of steak, I would say, like, how exactly we secured the network validate the data on the blockchain. On the proof of work, we use computers. On the proof of steake, we use validators who are essentially, you know, the people

who are holding Etherem in the note. Okay, so on proof of work on current ethereum blockchain, on Bitcoin, you David send a bitcoin to Olga, which you can't actually because you don't hold any but you know, different, different

disclosure story. But in theory, you send a bitcoin to Olga because you just have twenty dollars lying around and for that transaction to kind of go through and be validated, there's a bunch of computers somewhere that are kind of processing the existence of that transaction and saying like, yes, this thing is valid. This has moved from you David to your wallet David to your wallet Bulga. And that's

kind of like simplistically the proof of work conversation. Right there are like computers figuring out computationally that this thing, this transaction is valid. If you on a proof of steak blockchain move one ether from your wallet David to Olga. What is it that the the validators do exactly that's different from what the computers and bitcoin do. So the new softwaware, the updated software will randomly assign, you know, the task of validating this particular data to a specific

group of Um validators. You know, people who are holding essentially people who are holding the ether cryptocurrency, and they will perform the task of validating the data in the servers that belonged to them. So that's one of the reasons why proof of steak could have higher speed transaction speed. It's because improved work. You have to update this data among millions of computers and they have to be in sync of the same data at the same time. That's

why we call it decentralized proof of work mechanism. But like under proof a stake, it's like you have this like a selected group of validators who are validating the data on blockchain, which is faster and which is like easier to prove the transactions. How do you become a validator? I mean there are a couple of ways. Ideally you can stake at least a thirty two either tokens um

you can operate as a note. But like as far as I know, a lot of these people do not have thirty two either, because that's a lot of money for average person. So people put their holdings into centralized exchanges like coin based and cracking, and they will stake the tokens for investors for the users, and the users can enjoy the yields, and the other major way is decentralized. The platforms were also providing staking services for either holders.

The biggest the one it is called Little It's a protocol and investors can put their either into the protocol and and aren't yield from from it. So, Olga, I'm going to go back to you. What's about moving from proof of work to proof of steak leads to that supposed increase in energy efficiency. So today to mine etheryum, people use very powerful computers. When you move to proof of steak, you will be able to use essentially a

laptop to be a validator on the network. Basically you don't need as much computing power and so that makes the whole system much more energy efficient. To be a minor you have to have a data center to be a validator, you can have like a MacBook exact pretty much, yea, pretty much. Yeah, that's a pretty significant jump. And you know, oor go one of the you know, we've we sort of talked about the mechanics here, but I want to go back to the idea of this being a gigantic

software upgrade. I don't know if any of you have ever like upgraded your computer or your phone, and then suddenly nothing works anymore, and it's just really frustrating, and you're like, why is this software upgrade going to go completely smoothly? Like is everything just gonna be totally fine? You know? That's the funny thing. I think a lot of people today expect that it's gonna just be a switch over. One second it's one system, another second it's

another system. Nobody even noticed anything, and ideally this is exactly what's going to happen. Nobody will notice the thing. But uh, if if we go by past experience, chances are things are not gonna go as smoothly as that. So if we'll look at ethereums sixteen major staftware upgrade, back then, there were literally weak sort of an uh puple of months of problems that arose from that switch.

The main issue was replay attacks, because when a blockchain upgrades to new software, very often there is a contingent of people who likes the system just the way it was and they don't want to upgrade and they don't want to switch to a new system, and so they essentially copy the software and uh start running what is called a fork. So essentially, it's it's the same Ethereum with the same coins, with the same applications, but it's going to be using say proof of work instead of

proof of stake this time. And what can happen in a replay attack is that a hacker can use users transaction on one of those chains that that look very similar to each other and replay it on on the other chain, and the user can lose coins. This was rampant in Ethereum implemented some protections against this since then, but we could still still see some replay attack is if some of the applications hadn't sort of implemented the

protections properly. And in addition to that, we could also see some other glitches which came up during the last test before the merge was announced. It was called the Girly merge test. And during that test, some of the validator's nodes sort of didn't quite sink properly, and there were several blocks that sort of said that I am the block when the merge happened, So so very curious.

Strange things happened basically during the last test before the merge, and the same kind of strange things could occur during the merge, and in the most sort of extreme scenario, we could potentially see the need for the network to be paused and for some blocks to be redone. So there could be a lot of issues that come up, and in fact, a lot of experts say, you know, if you're a user trying to do as little as possible around the merge, don't do anything if you don't

need to, and just be very very careful. Up next, Bloomberg reporters Olga Karif and David pan unpacked some of the risks involved in the merge and what could go wrong. So, if I'm hearing you correctly, a replay attack is like the clue is in the name. So let's let's say I am on the one version I'm on, like the upgraded software, and I sell an n f T, or I buy something or do some kind of defied transaction.

Somebody can look at my transaction history and effectively like spoof me on the fork and make it look like I'm selling that n f T again, or you know, I'm doing that transaction again. So as a as a user and potentially exposed to like twice as much financial risk than I was when I did it the first time. It's like if somebody clones your credit card and then you know, it's just like repeating everything that you've done previously, other than like not doing anything while while this upgrade

is happening. What do you do to protect yourself if you're kind of a user and you're worried about this. One idea that people suggested was that, okay, if you want to do something on the fork chain, before you do anything, just move all your coins into a different wallet so that the wallet that is assigned to you on the fork chain does not look the same as the wallet that you now have, and then every player

attack cannot really happen. So that's that's one idea, But a lot of people just caution people to just stay away from from from doing anything if you can. Neither of those sounds like the best possible outcome for for an end user. So what is it supposed to happen. There's a clock tracking this, and the timing could still change, but for right now, it's supposed to be September fifteen.

But the thing is the timing will depend on how much computing power is supporting ethereum, how much minor support it has. It is possible that really close to the time of the merge, a bunch of miners will decide to sell their equipment or switch to supporting another chain, and all of a sudden, Ethereum loses a bunch of minor support and then the merge could be pulled forward. So the timing is still very much in flux, but but it's would hopefully happen in the next few weeks.

There were expectations that the march would happen years ago and even you know this June and it didn't. But but this is the first time when it's actually bench caeduled, officially scheduled. So, David, who's going to make money on this? And who's gonna lose money on this? So the biggest winners are some of these centralized exchanges who are facilitating staking. They are charging a fee by providing staking services to

their users. Most of the exchanges they don't have their own staking infrastructure, which you know where like you can operate the software to a stake the tokens directly. Coin base is is a good example. It doesn't have the staking infrastructure, but like it provides very attractive yields to

its users through the Staking programs. Its source of staking infrastructure from a third party company called kim k I L and they are they're the winners after the merge and then of course cracking for instance, they actually bought Staking infrastructure provider about a year and a half ago, so they also have their hand in that business as well. The amount of money involved in this is very, very striking.

One analysts expected that there there's going to be over one hundred and forty billion dollars worth of the tokens being staked in the protocol because if we look at the other major proof of state networks like Salana and Cardano, they have a ratio of anywhere between six of the total supply being staked in their protocol were like in

the Staking programs. One thing that occurs to me that we should probably define is just what staking is sure so so, Staking is essentially using your coins to order transactions on the network. And what's cool about staking is that it's a very good way for the network to keep tabs on validators that order transactions and make and and keep them honest essentially, because if a steaker is doing something bad for the network is not being honest.

It's not verifye you know, or ordering transactions correctly, then that validator can potentially lose its steak. It's coins could be taken away. And that's a very effective way of making sure that validators don't do something they shouldn't. For example, you know, attack the network, try to to push through a transaction using the same coin twice, that sort of thing.

Because one of the insensives that we didn't describe in terms of staking is the fact that if you as a normal person, you know, like stakes your crypto on and exchange, you get a yield on it. Right, So if you like on the Cracking website for example, um, they're advertising as of mid August or up to yearly on your up too for as we this word that we've been using for like staking your crypto on on these exchanges. So there are lots of different incentives at

play here. Well, we will be watching it unfold, and we've been writing about how it unfolds, and we'll be talking about how it unfolds on the podcast, so you know, I'm sure we'll I'll be talking to both of you again in the coming weeks. Thank you, thank you, thank you. You can find more of Olga and David's reporting on the Bloomberg terminal on Bloomberg dot com or follow them on Twitter. Olga is at Olga Karif that's k H A R I F. And David is at David Pan

Underscore one. On the next episode of Bloomberg Crypto, We're gonna get into stable coins, and into one of them in particular. Tether is one of the largest and most liquid digital assets trading today, and that market influence has attracted both regulatory scrutiny and investors skepticism. We'll discuss Tether's late just disclosures about its assets and what the market is expecting next m This is Bloomberg Crypto, a daily

podcast from Bloomberg and I Heart Radio. For more shows from I Heart Radio, visit the I Heart Radio app, Apple Podcasts, or wherever you get your podcasts. Send us your comments, questions, or suggestions for the show to Crypto at Bloomberg dot net or find us on Twitter. We're at Crypto. The supervising producer of Bloomberg Crypto is Vicky Verglina. Our senior producer is Janet Babin. Our producer is Sharon Barriro. Associate producer is Ty Butler desta wonder at is our engineer.

Original music by Leo Sidran. I'm Stacy Marie schmal We'll be back tomorrow.