Bankless: Why We Believe ETH Has a 99% Chance of Surpassing BTC?

Original Title: 《Why the Flippening Is Good for Crypto》

Author: Ryan Berckmans, Bankless

Translation: Deep Tide TechFlow

The merge has concluded, and there has been a significant change in Ethereum's tokenomics, with a notable reduction in the supply of ETH.

Ethereum is generating more revenue and has greatly improved its position in competing with BTC.

So, does this mean that ETH's market cap will eventually surpass BTC's market cap?

Of course, people like me who hold ETH hope for such a change, but aside from our personal economic interests, is this beneficial for the entire cryptocurrency space? What’s wrong with BTC being the leader? So far, hasn’t it been good? If it’s beneficial for cryptocurrency, why hasn’t it happened yet?

These questions are all intertwined, and perhaps it’s best to explore them by delving into the details of BTC's returns.

1. Reliability Does Not Equal Investability

BTC is the most trusted neutral asset. This is because the Bitcoin protocol is mature and will not change, and proof of work, due to its simplicity and mature record, effectively reduces risk.

Over the years, it has withstood dozens of failed attempts by some organizations to unilaterally modify Bitcoin's underlying code and increase its node count. Regardless of Satoshi Nakamoto's original intentions, BTC's reliability has become its core intrinsic value proposition.

However, the reliability of Bitcoin does not mean that the asset will maintain its value or accumulate value in terms of purchasing power or fiat currency.

On the contrary, Bitcoin's core design is non-programmable, and any appreciation for holders is undermined by its mining cost structure, which leads to significant value leakage.

This is why, for Bitcoin, reliability does not equate to investability.

Having established this background, let’s start understanding how BTC works through historical returns.

What happened in 2016?

From 2013 to 2016, if you bought low and sold high, BTC's return was about 6 times.

However, if you bought BTC at the peak in 2013 and sold in 2016, you earned nothing—zero.

After 2016, the situation changed completely. If you bought BTC in 2016 and held it until today, you earned 20 to 40 times. What about buying BTC at the low in 2016 and selling at the new high in 2021? You earned 130 times.

Some might protest, "The period before 2016 was the dark age of cryptocurrency; it didn’t matter, we were just getting started."

Are you sure that explains everything?

What happened around 2016 that led BTC to perform better in the following years? What changed about Bitcoin before or after 2016 that created massive returns?

In fact, Bitcoin itself did not change; after all, not changing is a characteristic of Bitcoin and part of its top-tier reliability.

Of course, the Lightning Network was launched after 2016, but it has had little impact.

What else might have happened around 2016 to unleash Bitcoin's potential? Or what invisible aspects of BTC matured in 2016?

These explanations are unreliable. The idea that Bitcoin evolved or released its potential in some way around 2016 cannot be explained by the narratives and numbers we have seen over the past years.

2. BTC Rode the Web3 Wave

So, what happened?

In my view, the fact that aligns best with historical narratives and data is that every major catalyst in the cryptocurrency market since 2016 has been driven by the promise or realization of Web3 applications, which Bitcoin does not support.

In 2016, a small project called Ethereum began to achieve great success, striving to run public blockchains as computers.

So far, BTC has merely surfed the wave of actual useful things created by the Ethereum community (and a few others) in the recent bull market.

At this point, Bitcoin maximalists or a basket of cryptocurrency investors might reasonably counter, "Wait a minute, if BTC is just a bystander, why would investors buy it? Today, BTC's dominance is about 38%." "Are you kidding? Do you think a $400 billion market cap is just a mistake?"

Yes, that’s exactly what I’m saying, and I will strive to prove it below.

This is why BTC as an investment is unsustainable, why it is possible for ETH's market cap to surpass BTC, and why this is beneficial for cryptocurrency—because it will eliminate an uninvestable asset as the leader of our industry.

3. Unsustainable Investment

Bitcoin fits the definition of an unsustainable investment.

If we seriously examine Bitcoin's use of proof of work, it is hard to question Bitcoin's sustainability in terms of value retention or accumulation.

Bitcoin's fees are paid directly to miners, providing no value accumulation for BTC holders. This means that BTC does not generate income, especially considering the expensive costs of mining.

BTC's annual inflation rate before the 2024 halving is about 2%. That sounds good; what’s the problem with just 2% inflation?

The issue is that the inflation (issuance) in PoW is the most direct capital consumption against BTC valuation due to the economics of mining. Coupled with the thin liquidity of spot prices, it means that miners selling BTC can significantly harm BTC's market cap.

In the medium term, on average, miners must sell most of the BTC they earn because they need to spend up to $1 in hardware and energy costs to compete for $1 of BTC. This is a huge problem for BTC (as it was for ETH before yesterday's merge) because selling X% of the supply harms the market cap far more than X%.

According to some estimates, selling $1 of BTC could lead to a market cap loss of $5 to $20.

The open secret in cryptocurrency is that you cannot sell more than a small portion of the total supply at spot prices; the order book is thin, and liquidity is weak.

Therefore, not everyone can sell at today’s prices, and by definition, miners are depleting a scarce resource through constant selling.

That said, BTC miners may only sell about 2% of the total supply each year, but the net fiat inflow they receive each year far exceeds 2%. Because BTC's fees are low and paid entirely to miners, there are two very important implications that many BTC holders may overlook:

1. On average, someone must buy a significant amount of BTC daily to keep the price stable. In 2021, about $46 million in net fiat inflow was needed daily to maintain BTC's price parity. In other words, I have this huge investment for you, and we only need $46 million of new funds from others daily to avoid losing our principal…"

2. When a BTC investor earns a 50% return, or 5 times, or 40 times, those profits can only come from new entrants. There is no meaningful fee income accrued to holders, nor are there any significant applications on Bitcoin, and due to the costs of mining, BTC's price cannot maintain its stability. Therefore, by definition, anyone buying BTC at new highs cannot make money on a sustainable basis.

4. Social Imbalance

Who would deliberately buy an unsustainable long-term investment? Who would recommend buying it? Last year, BTC reached a total cryptocurrency market cap of $3 trillion with about 40% dominance; how did we end up here?

As far as I know, a few different types of buyers may be responsible for driving capital into BTC, each with their own reasons, and most are unaware of the true risk situation of their investments. Below are some types of investors mentioned:

First type, newcomers buying BTC. For example, seasoned hedge fund managers transitioning to Web3, long-term institutional investors, ultra-high-net-worth individuals, and retail investors. These newcomers appear in Web3—statistically more during bull runs—they are excited, they know cryptocurrency is novel and complex, and they reasonably allocate proportionally to a basket of top cryptocurrency assets.

Proportional allocation is an investment term that means "I want to buy something according to today’s market cap proportion." These newcomers are often the future lambs, the slaughter targets of BTC as an unsustainable investment.

Second type, long-term investors buying BTC. These individuals may be early crypto OGs or crypto VCs with more connections and capital. They buy BTC because they genuinely lack and/or do not want to establish confidence in the direction of this field's development, and they do not want people to think their views are wrong. Worse, these individuals are often authorities who have played a significant role in driving newcomers to invest in BTC.

Third type, speculators buying BTC. They may sell everything at the next new high. These are often the smartest, shrewdest, and/or most hungry individuals among crypto OGs, VCs, and finance professionals transitioning to Web3. However, they feel that for greater good (often their own interests), they must avoid controversy and should work to promote Bitcoin.

They believe that if BTC crashes, it would mean significant losses for some of the largest and strongest investors in cryptocurrency, which could harm the entire space and their portfolios.

Fourth type, traders. They buy BTC and rotate profits into BTC as the de facto reserve currency of cryptocurrency. Traders simply follow trends; they know that in the current era, BTC performs better in bad times and worse in good times. Traders have a very short time horizon; they just use BTC as a base to play riskier games. To some extent, traders are the most rational and/or least destructive among all BTC buyers.

Fifth type, BTC maximalists. These are die-hard fans of BTC who believe it is the most reliable currency in world history. They not only believe that BTC has top-tier reliability but also that this reliability will inevitably translate into excellent long-term investments and/or the best cryptocurrency investment on a risk-adjusted basis so far.

Among these five types of BTC buyers, only BTC maximalists have hope of sticking around after BTC's dominance collapses. Overall, Bitcoin buyers are playing one of the most speculative games in modern finance, and among these people, only those speculators have a slight concept of the nature of this game.

Admittedly, this categorization of BTC buyers is overly simplistic, but I think it is useful. By this point, BTC maximalists and skeptics may be feeling more confident:

"Since you say BTC as an investment tool is doomed to fail, then why hasn’t ETH taken down BTC yet?"

That’s because: the numbers, that’s the reason.

Historically, ETH miners have earned significantly more than Bitcoin miners. If the cost structures of the two chains were swapped, that is, if BTC miners earned what ETH miners earn and vice versa, or if the merge had happened two years ago, I believe ETH's market cap would have already surpassed BTC.

Let’s explore these numbers…

5. Standing on the Shoulders of Giants

If miner selling is important—indeed it is, as mentioned above—then it is also significant that over the past few years, ETH miners' rewards have been 2.5 to 4 times that of BTC miners (normalized by market cap):

Last year, BTC miners earned $16.6 billion, while ETH miners earned $18.4 billion.

Conversely, if we had swapped the cost structures of Bitcoin and Ethereum last year, ETH miners would have earned and sold about $6 billion, while BTC miners would have earned and sold about $50 billion.

This is a key point, so let me reiterate: Last year, Ethereum miners earned and sold $1.8 billion more in ETH than Bitcoin miners sold in BTC. If we imagine reversing the cost structures between the two chains, in 2021 alone, BTC miners would have earned and sold about $44 billion more in BTC than Ethereum miners sold in ETH.

To prove this: in 2021, Ethereum had very high operating costs compared to Bitcoin, and if the situation were reversed, Bitcoin would need an additional net fiat inflow of about $45.8 billion (i.e., new buyers of BTC) to keep the market caps of both chains the same as today, all else being equal.

These extremely large numbers—especially the greater selling pressure on miners relative to ETH's market cap—are a key driving factor for the flippening that has yet to occur.

6. No Eternal Monarchs

What happens next?

Ethereum is transitioning to PoS post-merge, eliminating miner dumping. We are now on the path to positive revenue, expanding with L2, and Web3 is becoming globally ubiquitous.

Ethereum has become a positive, productive economy.

In the coming years, for the reasons mentioned above, I believe ETH has a 99% chance of surpassing BTC, with 1% being unknown uncertainties, such as aliens appearing and forcing us to use BTC as the only global currency.

ETH's profitability, low verification costs, massive growth of dApps, and the good atmosphere brought by credible neutrality will usher our industry into a post-BTC era.

7. The Fall of Rome

That day will be explosive and spectacular.

Of course, we may only briefly surpass it. But magnifying the time frame, this is a one-way transition for BTC into the realm of cryptocurrency investment antiques.

Unfortunately, cryptocurrency and Web3 investors may suffer heavy losses during BTC's slow decline and violent collapse.

Today, the probability of surpassing is close to 50%.

As ETH slowly rises against BTC, we will encounter a breakthrough point, and then this surpassing ratio could jump from 70% to 100% in a day, or from 80% to 120%, or any final outcome, marking the farewell to the era of BTC.

8. What This Means for Cryptocurrency: A Healthy New Era

I suspect that ultimately, years from now, all of us, including most of today’s BTC holders, will look back and see how naive the idea was that BTC could always remain number one.

BTC's fate will undergo a dramatic transformation, ultimately becoming a fossil of the crypto world. Only after ETH becomes number one will the true healthy era of cryptocurrency begin.

An environmentally friendly era, streamlined cost structures, earning profits from valuable applications, Web3 will become globally ubiquitous, and Ethereum will become the global settlement layer—a fair competition era for all humanity.