With this post, we would like to provide a non-technical introduction to Ethereum 2.0 — what it is, how it works, and how you can participate.

Ethereums’ transition to Proof-of-Stake has been planned longer than the chain itself even exists. With the launch of the Beacon Chain on December 1st, we are closer than ever before for this to happen. The Beacon Chain can be considered “the Heart” of Ethereum 2.0, which is not a “new” Ethereum, but rather an evolution of the second-largest blockchain by market capitalization.

With this post, we would like to shed some light on Ethereum 2.0 and provide a source for less technical people to get up to speed in what is probably one of the biggest events in a fairly young, yet striving crypto industry.

  • What is Ethereum 2.0?
  • How does Ethereum 2.0 work?
  • When and how is Ethereum 2.0 launched?
  • How can one participate in Ethereum 2.0?
  • What are the risks associated with participation in Ethreum 2.0?
  • Where can I learn more?

Before diving into the post, we would like to thank everyone involved in making Eth2 a reality: the researchers, core devs, client teams, developers building on Ethereum, content creators, community contributors, and anyone that is some way or another involved in the overall Ethereum ecosystem.

What is Ethereum 2.0?

Ethereum 2.0 is by all means not an alternative to the Ethereum you know and love from today. Eth2 is not a hardfork, nor will there be any additional or different ETH tokens. While the current Ethereum (Eth1 if you like) and Eth2 will run in parallel for a while, Eth1 will eventually become a part of Eth2. Ethereum 2.0 is more of an upgraded version of Eth1. The main objective behind this upgrade is to enable Ethereum to scale while maintaining a high level of security, and decentralization.

Eth2 is still an open, permissionless public blockchain. There are however fundamental changes to the structure and design choices in Eth2 compared to Eth1. The two biggest ones being “Proof-of-Stake” as well as “Sharding”, which we are going to explain briefly in the following.

What is Proof-of-Stake?

In a Proof-of-Stake system, validators take the role of miners that you know from Ethereum 1.0. They provide computing power, storage, and bandwidth to validate transactions, and they propose new blocks. For doing so, they receive periodic payouts denominated in ETH. Validators need to lock 32 ETH into a deposit contract, which functions as a sort of security deposit, that gets (fully or partially) forfeit in case of malpractice. This way of incentivizing honest behavior requires far less energy than the current Proof-of-Work mechanism, in which miners are incentivized through sunk costs in the form of hardware and electricity.

[You can learn more about Proof-of-Stake in our beginners guide to PoS. If you want to dive deeper into the advantage of PoS over PoW, we encourage you to read this blog post by Vitalik Buterin.]

What is Sharding?

Sharding is the process of splitting up your blockchain into multiple blockchains called shards. It is a way of partitioning the computational and storage workload across different nodes. Hence, the transactional load of the entire network does not have to be processed by each validator, but instead, they can focus on maintaining information related to “their” shard. In order to avoid collusion, the validators are shuffled between shards on a regular basis. In Ethereum 2.0, the shards communicate and coordinate through the Beacon Chain. They are linked through crosslinks, a reference in a beacon block to a shard block. The plan is to have 64 shards that compose the Eth2 network.

In this comprehensive blog post about Eth2, a great analogy is drawn to the human body with the Beacon Chain being the heart and the shards being the limbs.

How does Ethereum 2.0 work?

Since validators are responsible for the provision of infrastructure as well as the maintanence of the blockchain, they are essential for Eth2 to work. Every validator has two keys: a signing key and a withdrawal key. The former is used to perform “work for the blockchain”. The three jobs of a validator are:

  • proposing & adding blocks to the Beacon Chain or one of the shard chains
  • attesting to the validity of Beacon Chain & shard blocks
  • “policing” other validators (reporting malicious behavior)

Hence, the signing key needs to be online 24/7. The withdrawal key is needed to perform actions on their funds, e.g. sending or withdrawing them. It does not need to be online all the time, but needs to be secured, because whoever has control over it, ultimately has control over your funds!

To become a validator, one needs to “lock-up” 32 ETH in the Beacon Chain (more on that later). Every slot (~ 12 seconds) a new block is proposed by a pseudo-randomly selected validator. However, validators do not have to work alone. They work in committees, groups of at least 128 validators that are responsible for voting on the head of the blockchain they were pseudo-randomly assigned to on a block-by-block basis & crosslinking it to the Beacon Chain. Validators cast different types of votes:

  • LMD GHOST votes: attestations to the head of a blockchain (the most recent block that validators agree upon)
  • Casper FFG votes: attestations for the checkpoint in the current epoch

Checkpoints are the most recent blocks in the first slot of an epoch. Epochs are composed of 32 slots and last ~ 6,4 minutes. As soon as 2/3 of the active validators have agreed on the most recent checkpoint, it gets justified. Once the preceding checkpoint gets justified, the last justified block becomes finalized. Hence, a block is finalized after two epochs (~ 12,8 min).

Validators are paid for their work in the form of rewards. Malicious behavior is disincentivized through penalties.

Collin Myers from Consensys created a reward calculator for anyone looking to stake their ETH:

Furthermore, the Ethereum Foundation provides this interactive graph to visualize the estimated APR in relation to the total amount of ETH staked:

There are different types of rewards & penalties:

Attester Rewards & Penalties

Validators are rewarded for making attestations (LMD GHOST & FFG votes), which are agreed upon by the majority of other validators. In a later stage, crosslinks will also be rewarded. In the case of a validator not attesting or attesting to blocks that are not finalized, validators are penalized. In a worst-case scenario, underperforming validators stand to get penalized an annual amount comparable to the rewards that a “good” validator earns in a year. These penalties are not as severe as getting slashed for malicious behavior. Penalties have an effect on the validators’ rewards, whereas slashes affect the validators’ staked funds.

Proposer Rewards

If a validators’ proposed block gets finalized, the validator collects his/her reward at the beginning of the next epoch. Furthermore, top-performing validators who are consistently online, see their rewards boosted by ~1/8 for proposing blocks with new attestations.

Slashing

Slashing results in parts of a validators’ stake being burned or forfeited, hence a loss of the validators’ staked funds. The severity of a slash can range up to the entire stake of a validator. Slashing is implemented to disincentivize malicious behavior of the validators. In Eth2, the following is considered as “slashable behavior”:

  • proposing more than one block for the validators assigned slot
  • casting two different FFG votes in the same epoch
  • casting an FFG vote that surrounds or is surrounded by a previous FFG vote they made

In addition to getting slashed, a validator is thrown out of the active validator set and has to wait longer than usual for his/her funds to become liquid again: 8192 epochs (~ 32 days) instead of 256 epochs (~ 27 hours). During this time period, the malicious validator also suffers from the penalties mentioned above. In Phase 0 (s. below), validators that have been ejected will no longer be able to join the active validator set. Please note that these time periods will become effictive in Phase 1.5 and beyond.

As scary as this may sound, getting slashed is quite unlikely as long as you know what your validator is signing. Furthermore, you cannot simply get slashed due to another validator. They can only report you in case they detect you engaging in slashable behavior. As long as you sustain from it, you do not need to fear getting slashed. You are in full control here.

You can find more about slashing in this blog post by Consensys.

Whistleblower Rewards

Validators that successfully report a malicious validator (“whistleblower”) as well as the validators that include this in their proposed block (“proposer”) receive a total reward for doing so in the amount of the slash. The whistleblower receives 7/8 of the amount, whereas the proposer receives 1/8.

Network Penalties

If many validators get slashed around the same time, each suffers an additional penalty. The severity of the slash is 3 times the fraction of slashed validators out of the total set. So if a third of all validators got slashed around the same time, they all stand to lose their entire stake. The time period here is between a reported slash being included in a block and the slashed validator being able to withdraw.

Furthermore, there is also an inactivity leak penalty, which should be quite rare as it only comes into effect if finality of a block has not been reached for more than four epochs. The penalty increases quadratically until a checkpoint is finalized. This penalty only affects validators that are offline.

When and how is Ethereum 2.0 launched?

Ethereum 2.0 is set to launch in a phased roll-out with each phase having different properties and objectives. Please note that no clear dates or timelines have been announced w.r.t. the individual phases. During a Reddit AMA with Vitalik and other members of the Ehereum Foundations’ research team, it was stated that instead of a sequential, phased roll-out, there will be a “parallelization of phases”. This means that light client support, data sharding, as well as merging Eth1 and Eth2 is “specced in such a way as to be independent of each other, so each piece can be implemented “when ready” regardless of what stage the other pieces are at.” During the AMA, Vitalik posted that sharding could be implemented fairly quickly, whereas he does not believe the merge to be happening within the next twelve months. The main phases are briefly described below:

Phase 0 — Launch of the Beacon Chain

Phase 0 introduces the Beacon Chain and Proof-of-Stake. It will run parallel to the current Eth1 chain and mainly acts as a registrar for validators and their balances. ETH holders can deposit their funds to stake on the Beacon Chain. Please note that these transactions are one-way only. Hence, your funds and accrued staking rewards cannot be transferred until Phase 1.5 and remain illiquid for an unknown period of time. In their “Internet Bond” paper, Collin Myers and Mara Schmied compare Eth2 during that phase to a deferred interest bond. The Beacon Chain launched on the first of December after the minimum threshold of 524,288 ETH has been met.

Phase 1 — Launch of Shard Chains

Shard chains will be released that interoperate with the beacon chain. Validators are then “working” on shard chains that they are randomly assigned to. There are still no transfers nor smart contract calls enabled. The main objective is to test the sharded infrastructure, so adding, storing, retrieving data from the shards.

Phase 1.5 — The merge of Eth1 and Eth2

In Phase 1.5, the Ethereum 1.0 chain will become a shard of Eth2, and transfers are enabled, which results in Eth2 resembling a “perpetual bond with debt- and equity-like characteristics” and a floating rate since validators can now freely enter and exit the system (s. “Internet Bond” paper).

Phase 2 — State Executions

This phase marks the end of Ethereums’ transition to a sharded, Proof-of-Stake network. It is then fully functional with cross-shard transfers, smart contract calls, and execution environments.

This tweet by Vitalik Buterin provides his bird’s eye view on the Eth2 roadmap for the next ~5 to 10 years. Please note, that some things might be subject to change while the launch process unfolds.

How can one participate in Ethereum 2.0?

For an in-depth analysis of all the available Eth2 staking options, please check out this post by Mirko Schmiedl from Staking Rewards. In general, ETH holders have two options to participate in Ethereum 2.0, namely running their own validator or using a third party service.

Option 1: running your own validator

While this is definitely the most decentralized solution, it requires a certain degree of technical understanding, continuous maintenance, and capital. To spin up one validator, 32 ETH are required to be staked on the Beacon Chain. Validators differ in terms of their infrastructure, so they can e.g. be on-premise or run in the cloud, with the latter compromising decentralization if a majority of validators are run on AWS. Furthermore, if AWS goes down, affected validators might suffer a more severe slash. In this post, the Bankless Nation team provides a comprehensive guide on how you can run your own validator (specs, requirements, etc.). In case you are interested in running your own Eth2 validator, we highly encourage you to check it out.

Option 2: using a third party service

There are several different options to choose from here and we highly suggest reading the above-mentioned blog post by Staking Rewards for an in-depth analysis of each. The main options currently available are “Validator-as-a-service Solutions”, in which ETH-holders hold on to their withdrawal key and choose a service provider to manage their signing keys. “Staking Pools” enable people to stake less than 32 ETH and are mostly run by professional validators and node operators. Custody of the funds held by the operators is transparent and verifiable on-chain.

At Staking Facilities, we are participating in the current Testnets of Lido as well as RocketPool. Both provide trustless, liquid staking solutions for any ETH holder regardless of how many ETH he or she holds. We expect these solutions to become available on mainnet during Q1/2021. If you have questions about these solutions or are interested to stake with us through these solutions, please reach out to us via eMail (info@stakingfacilities.com) or our Telegram.

Lido

Through Lido, ETH holders can stake their funds without having to maintain infrastructure or forego the liquidity of their funds. If you stake via Lidos’ smart contracts, you receive stETH (ERC20s) that represent your staked ETH (+ accrued rewards & penalties). Once transfers are enabled, stETH can be redeemed for ETH + accumulated rewards. While staked ETH remain illiquid until Phase 1.5, stETH can be transferred or traded. Lido is run as a DAO and deposited ETH are distributed between reputable node operators that are members of the DAO. This blog post explains how Lido works in detail.

RocketPool

Rocket Pool is a decentralized staking infrastructure network, whose smart contracts assigns deposits for staking to decentralized node operators and matches ETH-stakers with validators. RocketPools’ roots date back as far as 2016. In case of a slash, the forfeited funds are “socialized” across the whole RocketPool network, so that the effects on a single participant are lessened. RocketPool also offers liquidity for staked funds by minting rETH for every staked ETH. These minted tokens can be transferred or traded and redeemed for deposited ETH (+ accrued rewards) once transfers are enabled. You can learn more about RocketPool and how it works here.

What are the risks associated with participation in Ethreum 2.0?

The main risks you face as an ETH holder that participates in Eth2 through staking are:

  • one-way transactions to the Beacon Chain & locked funds until Phase 1.5 (unknown timeline)
  • bugs in the client software (the software one runs as a validator)
  • getting slashed
  • service provider shutting down before Phase 1.5

In case Eth2 fails to gain traction or Eth1 forks away before Phase 1.5, your deposited ETH are lost. Given these risks, we highly advise you to thoroughly assess your Eth2 staking strategy. In order to mitigate these risks, we have decided to offer the above-mentioned staking solutions to offer our customers the most secure and convenient ETH staking experience.

Where can I learn more?

Ethereum 2.0 is an exciting, yet highly complex topic. We hope that we could shed some more light on it through this blog post. However, given the scope of this update, it is impossible to cover everything in a single blog post. In case you want to dig deeper, we highly encourage you to check out the following sources. They provide an excellent starting point to go down deeper into the Eth2 rabbit hole:

Ethereum Launchpad

https://launchpad.ethereum.org/

Beacon Chain Explainer

https://ethos.dev/beacon-chain/

Staking Rewards “Ultimate Guide to Staking”

https://www.stakingrewards.com/journal/ultimate-ethereum-2-0-staking-guide

Consensys Eth2 Knowledge Base

https://consensys.net/knowledge-base/ethereum-2/

Lido Homepage

RocketPool Homepage

Let’s connect

We hope that we could shed some more light on Ethereum 2.0 and answer some of your questions. In case you have any more questions, or simply want to chat, always feel free to reach out to us via Telegram, eMail, Twitter or LinkedIn!

We operate industry-grade architecture and offer non-custodial staking services. We’re advocates for web 3.0, set to accelerate its’ adoption!