The world's second largest cryptocurrency is getting a significant improve – right here's what it’s good to know

Ether, the digital token on the Ethereum blockchain, is the second largest cryptocurrency in the world in terms of market value.

Jaap Arriens | NurPhoto via Getty Images

While you've watched the price of Bitcoin rise to an all-time high, another cryptocurrency has been quietly staging its own comeback.

Ether, the world's second largest virtual currency by market value, has risen by around 350% since the beginning of the year. Last week it briefly topped $ 600 for the first time since June 2018 before plummeting sharply, and hit that level again this week.

Now, Ether investors are keeping their eye on a lengthy upgrade to the underlying network called Ethereum 2.0 that they believe will make it faster and more secure.

A major problem with today's Ethereum blockchain is scalability. For example, in 2017, the popularity of an Ethereum-based game called CryptoKitties caused the network to be heavily congested and trading slowed down significantly.

However, proponents of Ethereum 2.0 say the planned upgrade could enable thousands more transactions per second. In the meantime, investors believe that this could also lead to a further introduction of ether as well as an increase in prices.

"Proof of Use"

To understand the transition to Ethereum, it is important to first know a little about blockchain technology. Blockchain is the digital ledger that was originally used to record Bitcoin transactions and forms the basis for most major cryptocurrencies.

Like Bitcoin, Ethereum's blockchain currently works with a "proof of work" model. So-called "miners" with specially built computers compete to solve complex mathematical puzzles to validate transactions. Whoever wins this race will receive Bitcoin.

A transition to a "Proof of Stake" model is to begin with the Ethereum blockchain on Tuesday. Instead of miners, the network will rely on "stakers" who already have some ether to process new transactions.

In order to validate a transaction in the new network, a staker must deposit 32 ether tokens with a value of approx. 19,600 USD at current prices in a crypto wallet, using a so-called smart contract. These are contracts on the Ethereum blockchain that are automatically executed using code.

The stakers then receive ether for validating transactions like crypto miners. This "staking" process effectively gives crypto investors the opportunity to earn interest on their holdings after a certain period of time.

A big topic in Ethereum is currently decentralized financing [DeFi], with which traditional financial products such as loans are to be replicated without intermediaries such as banks. Some crypto evangelists say Ethereum's ability to support apps could lead it to become a structure for a next-generation decentralized internet.

"Essentially, the Ethereum ecosystem made the decision to grow up a little more and become a little more secure so that people, institutions and developers can continue to build more apps and financial products on it," said Konstantin Richter, CEO of blockchain software company Block daemon, said CNBC.

What does this mean for investors?

Right now, a parallel Ethereum blockchain known as a Beacon is being rolled out. This will be used to test the new proof-of-stake system prior to a full migration to Ethereum 2.0.

"It's a bit like the start," said Richter. "The rocket is now taking off. We are committed to the journey. We are still on the launch pad, but everything will be achieved when we land on the moon. At this point we start the official end of the old Ethereum."

In the meantime, more and more airwaves are being hidden for a restrictive multi-year "lockout" period from token holders trying to become validators of transactions in the new network.

This could slow the supply of ether and potentially increase the value of the asset if demand exceeds supply. Richter sees innovation in the DeFi area as well, as investors try to maintain liquidity by borrowing against their caged ether holdings.

Another major development the upgrade will introduce is what is known as "sharding". This effectively divides the network into many parallel chains that can process transactions to speed up the network.

"A split blockchain can be represented as a round hairbrush, where each row of bristles is a shard that acts like a blockchain on its own, and where the beacon chain connects them all together, like the hairbrush handle does for the bristles," Jerome de Tychey, co-founder and president of Ethereum France, told CNBC.

"The shards communicate with each other via the beacon chain, which also regularly determines the state of the shards. Over time, the hairbrush lengthens when the shards produce blocks, and so does the beacon chain, which keeps track of what is happening in the whole network."

Crypto experts say Ethereum 2.0 should help the Ethereum network scale, process a lot more transactions faster, and support apps with millions of users.

"Within five to ten years, these decentralized platforms will be on a par with the centralized platforms," ​​predicts Richter. "Then gameover is for the centralized platforms."

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