Is there still hope for Ethereum? Grayscale says let's not give up just yet, the overall adoption rate of public chains is still in its infancy.

*The original text is from *Grayscale Research

Compilation|Odaily Golem (@web3_golem)

Core Argument:

• Smart contract platforms are the core infrastructure for decentralized applications and blockchain-based finance. Therefore, they are central to the vision of public blockchains providing new architectures for financial markets and digital trade.
• Grayscale Research believes that the trend of application adoption of smart contracts will accelerate in the next 1-2 years, partly due to regulatory changes in the United States and upcoming legislation.
• Based on market capitalization, the scale of the application ecosystem and developer community, as well as the value of on-chain assets, Ethereum is the largest smart contract platform. However, it has recently lagged behind certain competitors, including Solana, in terms of fees (revenue) and other on-chain activity metrics.
• Ethereum's distinguishing features emphasize a culture of decentralization, security, and neutrality. Even as some newer blockchains capture market share, these characteristics will continue to help it attract a large number of users, developers, and transaction fees in the smart contract platform space. Therefore, ETH should be regarded as an important component of a diversified cryptocurrency portfolio.
• The outlook for smart contract platform fees is highly uncertain, in part because we do not know how much pricing power platforms like Ethereum can maintain in the long term.** However, this report from Grayscale Research indicates that Ethereum has the potential to increase total fees to over $20 billion by executing its scalability strategy and maintaining pricing power (the annualized growth over the past six months is approximately $1.7 billion).**

Ethereum will still occupy a large share of on-chain activities in the future.

Similar to Linux, Python, and a few other examples, Ethereum is regarded as one of the most important open-source software projects in history. Although it was born less than 10 years ago, today's Ethereum network consists of over 11,000 nodes, processing 35 to 40 million transactions per month, with a value of approximately $46 billion, and supported by more than 2,100 full-time developers. The broader Ethereum ecosystem, made up of interconnected blockchains, can now handle about 400 million transactions per month.

Despite its prominent position in the crypto industry and the launch of spot-based Exchange Traded Products (ETPs) last year, ETH's market capitalization significantly lags behind that of BTC. In fact, the ETH/BTC exchange rate has fallen to the last levels seen in mid-2020. From a market cap perspective, ETH's market cap has grown by about $90 million since the end of 2022, while BTC's market cap has increased by about $1.35 trillion (approximately 15 times). ETH's recent performance has also lagged behind some other smart contract platform tokens, such as Solana and Sui.

ETH has underperformed BTC for more than 2 consecutive years.

The continued poor performance has led some observers to question the prospects of Ethereum network activity and the value of ETH. Although there is uncertainty about the outlook for every crypto asset, we continue to believe that ETH should be an important component of a diversified crypto portfolio.

Ethereum cannot be directly compared to Bitcoin. The Bitcoin network is a currency system, and Bitcoin is primarily used as a medium for value exchange and storage. In contrast, Ethereum is an application platform that provides utility for users of these applications through ETH. Although the prospects for smart contract technology are broad, we have yet to see large-scale adoption of decentralized applications based on smart contracts. There are many early success cases (including the growth of stable trading), but compared to the vision of smart contract platforms, the current adoption rate is still low. Smart contract platforms aim to bring most traditional finance onto the chain.

Grayscale Research believes that the development of applications based on smart contracts will accelerate in the next 1 to 2 years, partly due to regulatory changes in the United States and upcoming legislation. The Trump administration has made changes to federal crypto policy, allowing the industry to invest and thrive in the U.S. Additionally, a bipartisan group of senators has introduced the "Guiding and Establishing the U.S. Stablecoin National Innovation (GENIUS) Act," which builds upon efforts from the previous Congress and aims to provide a comprehensive regulatory framework for the issuance of payment stablecoins. More clear regulations should help increase investment and adoption of blockchain-based applications, thereby enhancing on-chain activity (such as transactions and fees) and ultimately leading to the value accumulation of tokens on smart contract platforms.

In addition to having the "first mover advantage," Ethereum is now facing competition from other smart contract platforms. However, Ethereum still has differentiators that are particularly valuable for financial use cases, including a large amount of on-chain capital and a cultural emphasis on decentralization and neutrality. Therefore, we expect Ethereum to capture a significant share of future on-chain activity, which in turn will drive ETH prices up.

Ethereum - The World Computer

Ethereum is the first mainstream smart contract blockchain. Similar to Bitcoin, the Ethereum blockchain can also be used to send and receive transactions. However, with the increase in smart contracts, Ethereum can also run decentralized applications. These applications can be anything from decentralized lending platforms to identity solutions to video games. Because Ethereum serves as the infrastructure for applications, it is regarded as a software-based computer, sometimes referred to as the "world computer."

Currently, there are thousands of applications on Ethereum, which has more on-chain assets (such as stablecoins and tokenized assets) compared to other smart contract blockchains. However, recently, in terms of on-chain activity and other metrics, Ethereum has lagged behind other blockchains. Solana is the second largest network by market capitalization among smart contract platforms, and in the past 30 days, it has seen higher activity in terms of active addresses, transactions, and fees, but its market capitalization is only 30% of Ethereum's.

Top 10 Smart Contract Platforms

The investment logic of smart contract platforms is that new applications will bring more users and transactions, ultimately leading to more fees for the underlying protocol. We estimate that the transaction volume of smart contract platforms has increased from about 20 transactions per second (TPS) five years ago to about 1,200 TPS today, with an annual growth rate of approximately 130%. In comparison, the Visa network processed about 7,400 TPS in the 12 months ending September 30, 2024. If smart contract blockchains can continue to grow in digital payments, and if they can establish competitive moats and maintain pricing power, then fee revenues and token values may rise in the future.

The smart contract blockchain processes ~ 1,200 transactions per second.

According to the FTSE/Grayscale smart contract platform cryptocurrency industry index, the performance of ETH is roughly in line with its peers. The cryptocurrency smart contract sector currently includes 70 tokens, with a total market capitalization of 428 billion dollars. Since the beginning of 2024, the smart contract platform index has decreased by 22%, while the price of ETH has fallen by 18%. In contrast, the price of Solana has increased by 18%, and the price of Bitcoin has risen by 90%.

The performance of ETH is generally in line with the index.

Fees on the Ethereum Network

Ethereum profits from network activity through transaction fees (known as "gas fees"), which are payments made by users when executing transactions or interacting with smart contracts. Unlike Solana and many other blockchains, activity in the Ethereum ecosystem occurs simultaneously on the L1 Ethereum mainnet and L2 networks. This is how Ethereum intends to scale to millions of users, as L1 itself cannot fully scale without sacrificing decentralization. If coordinated properly, this layered structure should provide users with options for high throughput and low L2 transaction costs while preserving the security and decentralization of L1.

L2 networks such as Arbitrum One and Base also charge transaction fees. Because they rely on the Ethereum L1 network for final settlement and security, L2 can charge lower transaction fees and process more transactions per second. However, L2 still pays a portion of the fees to L1 as payment for settlement and security services. Last year, Ethereum underwent the Dencun upgrade, which introduced blob transactions, making it cheaper for L2 to publish its data to L1. This upgrade successfully increased the number of users and transactions on L2.

Significant growth in activity on Ethereum L2

However, the introduction of blob transactions has also affected the fee levels and distribution across the entire network. Blob transactions reduce the fees that L2 pays to L1, which has led some observers to believe that L2 is a "parasite" on Ethereum, as the short-term success of L2 comes at the cost of L1. However, if L2 benefits from the Ethereum ecosystem (such as security guarantees and other network effects), then in the long run, a large L2 ecosystem will ultimately bring more value to the Ethereum network and ETH.

The fees paid by Ethereum L2 to L1 are now lower.

Future Ethereum upgrades will continue to expand L1 and L2. The Pectra upgrade is scheduled for April 2025, combining Prague (execution layer) and Electra (consensus layer). To address scalability, Ethereum Improvement Proposal 7691 optimizes blob storage, targeting 6 blobs per block, effectively doubling the blob capacity of Dencun. Looking ahead, Ethereum's scalability potential could significantly increase with the implementation of a concept known as Full Danksharding.

Future Ethereum upgrades will significantly increase L2 capacity.

The Outlook for Ethereum Fees

The outlook for smart contract platform fees is highly uncertain, partly because the technology is in its early stages, and we do not know how much pricing power platforms like Ethereum can maintain over time. While smart contract platforms compete with each other, they also compete with centralized systems; to maintain pricing power in the long run, they need to offer differentiated features to prevent users from migrating to cheaper (centralized or decentralized) systems. Although the Ethereum blockchain is slower and more expensive than many competitors, Grayscale Research believes its unique advantages (including the high value of on-chain assets and an emphasis on decentralization and security) will help its adoption and network effects, ultimately providing Ethereum with a certain degree of pricing power.

The image below illustrates how Ethereum increases fees by increasing capacity and maintaining pricing power. We assume the average transaction fee on L1 is $5, while the average fee since 2019 has been $6.3. In the long term, L1 will likely be primarily used for high-value transactions and transactions that require high security assumptions, while for L2, we assume the average transaction fee is $0.05. If we further assume that Ethereum L1 can handle 100 TPS, and Ethereum L2 can collectively handle 25,000 TPS, these assumptions can be realized within the next 3 to 5 years under Ethereum's scaling roadmap.

Ethereum fee revenue can grow with the increase in scalability and pricing power.

Under these assumptions, the total fees for Ethereum L1 will grow to $20 billion, although the annualized growth rate over the past six months has been around $1.7 billion. Despite the highly uncertain outlook for fees, if Ethereum executes its scaling strategy and maintains a certain level of pricing power, it should theoretically be able to significantly increase fee revenue. To track progress, investors should consider monitoring the key variables in this simplified model, namely L1 and L2 TPS and the average execution fees for L1 and L2.

First, make the cake bigger

In the previous crypto bull market, BTC and ETH appreciated almost simultaneously, and even in 2021, ETH's price rose faster, ultimately peaking in November 2021, with its price return approximately twice that of Bitcoin. Some cryptocurrency investors may expect the same thing to happen in the current cycle, as the cycle matures, ETH's performance clearly outperformed other tokens, although recent results have been disappointing.

In the last crypto cycle, ETH ultimately outperformed Bitcoin.

However, Grayscale Research believes that the poor performance of ETH precisely indicates that the crypto market is still focused on fundamentals, which is a healthy sign. In Grayscale's analytical framework, the Crypto market primarily differentiates the value of smart contract platforms based on fees. Although fees do not translate into token value accumulation in exactly the same way on the blockchain, they are typically passed on to token holders, and fees can be said to be the most directly comparable metric of blockchain activity.

In the field of smart contract platforms, both Ethereum and Solana have relatively high fees and market capitalizations. Since the end of 2023, Solana has seen an increase in fee revenue and market share in the smart contract platform space, while Ethereum has lost its dominant position in fee revenue and market capitalization. In other words, due to changes in fundamentals, the market has appropriately repriced the relative values of Ethereum and Solana. As shown in the figure below, Solana moves up and to the right, while Ethereum moves down and to the left, and today's valuation may be higher than its fee revenue.

Due to weak growth in fees, ETH has underperformed compared to Solana.

These small differences in competitive positioning are important, but not as significant as the potential growth of the entire category, as the adoption of all smart contract platforms is still in its early stages. For example, today's Ethereum has only about 7 million monthly active users, while Meta, the parent company of Facebook, disclosed in its report in December 2024 that it has 3.35 billion "daily active users."

With the increase in adoption, smart contract platforms are expected to benefit from compound network effects, which can not only drive higher transaction volumes and fee revenues but also accelerate developer activity, liquidity depth, and interoperability across ecosystems. This strengthening of adoption and utility may amplify the value capture capabilities of the entire sector.

The networks that ultimately win in the competition may be those that collect the most transaction fees over time and have favorable structural supply and demand conditions for their native tokens. Solana, SUI, and some other smart contract platforms will share characteristics of high throughput, low transaction costs, and good user experience. However, what sets Ethereum apart is its large and diverse ecosystem of applications and developers, significant on-chain capital, and a culture that prioritizes decentralization, security, and neutrality. We expect these features to continue attracting many users to the Ethereum ecosystem, and Ethereum will capture a significant share of economic activity on future smart contract platform blockchains.