What Is Ethereum And How Does It Work? | ETH For Beginners

Before we answer the question of what Ethereum is, it is helpful to know the basic idea of the Internet. The Internet was developed with the aim of creating a decentralised information platform. Today, however, our personal data is largely stored on other computers – servers or in the cloud – by a few companies such as Google, Facebook or Apple.

However, as we have noticed in recent years and months, this data is at risk from various interest groups (hackers, etc.). Ethereum is a technology that represents the leitmotif of a decentralized Internet. It is based on blockchain technology. This is also the technological basis of Bitcoin. It was first described by Satoshi Nakamoto in his whitepaper “Bitcoin: A Peer-to-Peer Electronic Cash System” in 2008.

While Bitcoin is a pure crypto currency, Ethereum can do more. Ethereum intends to use its technology to replace third parties who store our personal information. Ethereum’s goal is to decentralize our personal information.

Here is an example: Some of us may use online document services or online workspaces to collaborate on projects. Others store information such as photos, insurance letters, invoices, etc. in the Microsoft or Apple cloud. We therefore share our information with third parties and trust both the privacy and integrity of the information.

We cannot verify whether this is really guaranteed. Ethereum’s vision is that the same functionality that Google, Apple and Facebook offer will be created through new distributed applications based on Ethereum technology, which returns control of our data to us, the owners of the data. No one except the owner can access or modify the data. More about this and the technical background later.

The Origin of Ethereum

First of all, we would like to look at the history of its origins. Ethereum was first mentioned at the end of 2013 by programmer Vitalik Buterin, who is considered the inventor and founder of Ethereum. At the beginning of 2014 he, Gavin Wood and Jeffrey Wilcke started to develop the system. At the time, the project was financed with 18 million US dollars (in Bitcoins) as the second largest crowdfunding of all time. For this reason, the Ethereum Foundation was established to coordinate the development. Vitalik Buterin was the lead developer with sovereignty over the code repository.

Under his leadership, completion could take place in July 2015 and the starting shot could be fired for the company. In February/March 2016 a first significant increase of the ether from approx. 1.00 to 10.00 EUR could be observed. A long sideways trend followed, until the ether started its legendary rally in March 2017 with over 300.00 EUR. Now the ether price is around 300€ (mid-October 2017).

The ether had to survive the most difficult situation in its very recent development at the end of June 2016, when hackers stole the DAO (the first decentralized autonomous organization) 3.6 million ethers with a value of more than 40 million Euros, which only exists in the block chain. At that time, the Ethereum rate collapsed by a third.

The theft was almost reversed by “hard work”. With an amendment to the protocol, new blockchain strands were inserted according to the new rules. The new rules moved the entire stolen ether to a new address. The owners could exchange their shares for the new ether. All non-transfer passengers landed in a block chain, which was separated from the main line by the heavy work and thus from the rest of the ecosystem.

This was the birth of the Ethereum Classic. All who followed the dogma “Code is Law” and emphasized the immutability of the protocol gathered here. On the other hand, all those who followed the dogma “Code is Law” gathered behind the Ethereum. From the group consensus of the Ethereum community it emerges that the change was legitimate for the followers of this dogma.

Phases of Ethereum development

The introduction of Ethereum is planned in 4 phases:

  • Frontier;
  • homestead;
  • metropolis;
  • serenity.

Ethereum is currently in the 2nd phase of “Homestead”. It is important to know that Ethereum is still at an early stage – it is still experimental technology. The current goal is to explore and improve the safety of the system. For example, incorrectly programmed contracts can still cause problems with EVM.

In the third phase, “Metropolis” Ethereum will be mainstreamed. In this phase, the focus is on solving the scalability problem. In particular, the dismantling process must change. The difficulty of mining will increase exponentially to prevent inflation. In the fourth phase “Serenity”, a so-called “proof-of-stake” algorithm must be introduced to clarify what is in the blocks. The decisive factor will probably no longer be the computing power (“proof-of-work”), but the ownership of the ether.

How does Ethereum work?

As we have already described, Ethereum wants to decentralize the Internet and break with the current client-server model. But how will this work? The servers and clouds will be replaced by nodes provided by the community around the world, forming a “world computer”. Ethereum is thus a distributed public block chain network. The central component is the Ethereum Virtual Machine (“EVM”), a computer architecture emulated by many connected computers running a public block chain.

Access is via various Ethereum clients, which can be used to participate in the block chain. They are part of a network that consists of many nodes: each node in the network executes the Ethereum virtual machine and the same instructions. However, this parallelisation of computing is not intended to speed up computing performance, but to maintain consensus on the block chain. This consensus enables a very high fault tolerance and minimization of downtimes (towards zero) on the one hand and guarantees the immutability of the block chain on the other hand.

Ethereum can be used by anyone to create a decentralized application. From the computer scientist’s point of view, it is remarkable that the Ethereum Virtual Machine can execute codes of any algorithmic complexity. From the point of view of computer science, Ethereum is therefore turing-complete. This means that with Ethereum arbitrarily complex operations based on the blockchain can be executed and thus blockchain applications can be programmed without restrictions. The programming language plays no role, i.e. it is arbitrary. Ethereum is particularly suitable for automated peer-to-peer interactions.

The applications are based on so-called “Smart Contracts”, which support the blockchain. Smart Contracts are a kind of phrase to describe a computer code that describes the exchange of money, content, property or something else of value. When the code is executed on the blockchain, the smart contract is treated like a self-executing program. It is executed automatically if the conditions in the program code are met. The basic unit of the Smart Contracts is the so-called account. When transactions, i.e. status changes, are sent to the account, e.g. in the form of new values and information, these are “observed” by the Ethereum block chain. This triggers the Smart Contract, i.e. the program code is executed. Now the Ethereum miners come into play. The miners are nodes in the network that receive, verify and execute the transactions. They execute the complex mathematical problems and group the transactions into the blocks of the block chain.

Due to their unlimited complexity, digital contracts offer a variety of applications. They can be used, for example, in hospitals (medical records), in elections, in notarial work or in the financial sector.

Ethereum Mining

Similar to the Bitcoin mining principle, Miner’s machines deal with a complex mathematical problem in order to make a block successful. This is also called “proof of work”. In return for the hardware to be purchased and the power consumption, the miners receive a certain number of ethers for each successful block. In order to prevent the industrialization and centralization of mining, Ethereum provides miners with a memory-based computing problem that can be most efficiently executed with a “general” computer.

Ether and Ethereum – the technology of the future?

For many, ethereum is the successor to Bitcoin. This is shown by the fact that the market value is already (currently) about half of the Bitcoin. Whether and when the Bitcoin can be overhauled and the so-called “flipping” is achieved is difficult to predict. From our point of view, Ethereum offers a technology that will be groundbreaking in the future. However, both Ethereum and the crypto currency Ether are still in a relatively early development phase. So there are still some important challenges to overcome before stability similar to that of bitcoin can be achieved.

As the number of Ethereum-based applications increases, the question arises as to what happens to poorly programmed smart contracts that disrupt the network or, in the worst case, block it. How does the Ethereum Virtual Machine deal with this? Manual intervention is not possible due to the decentralized leitmotif. This contradicts the nature of the block chain, which is supposedly unchangeable.

Another unsolved issue is the total number of tokens. Bitcoins are limited to a maximum of 21 million tokens. Nothing will change here. With ether, however, it is not yet clear how many tokens there will be. Currently there are over 80 million tokens, 72 million of which were created in the Genesis Crowdsale. In addition, the “difficulty bomb” that is supposed to prevent inflation is only just beginning to take effect. This means that the more the computing power in the network increases, the more difficult the cryptographic computing tasks that the miners have to process become. It remains to be seen whether the ether’s difficulty bomb will “work” or whether the slowdown will reduce production too much (due to a lack of financial incentives for the miners).

Another problem caused by the rapid growth of ether is scalability. The Ethereum network therefore has to contend with a sharp increase in the number of users. On the day before the crash, 20.06.2017, more than 300,000 ether transactions were carried out, a record for the only two year old crypto currency.

For all open questions: Ethereum is only at the beginning, in its second of four phases, and thus has enormous development potential. It has the chance to become the programmable money of the future. To achieve this, however, the tasks described above must be solved. In addition, there must be strong cohesion in the Community to support the changes to be implemented. In any case, the potential is there.

Buy Ethereum Wallet and Ether

Detailed instructions on how to set up an Ethereum Wallet can be found here. If you are interested in buying ether, you will find a step-by-step guide to buying ether here.

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