Ethereum underwent a significant transition known as the Merge two years ago, moving from a Proof-of-Work (PoW) to a Proof-of-Stake (PoS) consensus mechanism. Since then, the performance of Ethereum relative to Bitcoin has been on a downward spiral. This article seeks to analyze the major drivers of Ethereum’s underperformance, including inflationary supply dynamics and weaker network activity compared to Bitcoin.
One of the key reasons for Ethereum’s decline in performance is the inflationary supply dynamics post the Merge. The total supply of ETH has been steadily increasing since April, currently standing at 120.323 million. This surge in supply is primarily attributed to the decreased fee burn rate resulting from the Dencun upgrade introduced in March. As a result, the ETH supply is becoming inflationary, with the circulating supply peaking to its highest level since May 2023. At this pace, the supply could potentially return to its pre-Merge levels in roughly three months.
Another factor contributing to Ethereum’s underperformance is its weaker network activity compared to Bitcoin. The total transaction fees on the Ethereum network have been on a downward trend in contrast to the upward trajectory of Bitcoin. The decline in transaction fees is a direct consequence of the Dencun upgrade, which incorporated data blobs into the network. Moreover, Ethereum’s transaction count has significantly dropped from a peak of 27 in June 2021 to 11, marking one of its lowest levels since July 2020. This decline in network activity indicates a lack of usage and engagement on the Ethereum blockchain.
Crypto investors have shown a clear preference for Bitcoin over Ethereum, as evident in the dwindling spot trading volume of ETH relative to BTC. Initially, ETH’s spot trading volume was 1.6 times that of Bitcoin but has now dropped to 0.76. The approval of United States spot Ethereum exchange-traded funds (ETFs) failed to boost Ethereum’s performance significantly, unlike Bitcoin, which witnessed a surge in demand following the approval of similar funds earlier this year. The mismatch in demand between Bitcoin and Ethereum further exacerbates the underperformance of the latter.
Analysts remain pessimistic about Ethereum’s prospects relative to Bitcoin, with predictions of further decline in its value against Bitcoin. Ethereum is still considered to be above the undervaluation territory, with the ETH/BTC Market Value to Realized Value ratio yet to reach 0.45, the threshold for Ethereum to be officially classified as undervalued. Unless there are substantial changes in network activity and demand dynamics, Ethereum may continue to struggle in catching up to Bitcoin’s performance.
Ethereum’s underperformance vis-a-vis Bitcoin can be attributed to a combination of factors such as inflationary supply dynamics, weaker network activity, and diminishing demand compared to Bitcoin. As the cryptocurrency market evolves, it remains essential for Ethereum to address these underlying issues effectively to regain its competitiveness and reputation in the digital asset space.