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What are gas fees.png

What are gas fees?

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PDAX

October 05, 2022

6 min read

IntermediateEthereum

TL;DR

Gas fees are the payments charged by blockchain networks in order to complete transactions. These fees are a crucial component of the sustainability of a blockchain as they are used to pay miners and validators whose job is to secure the network by verifying and authenticating transactions. 

What are gas fees?

Blockchains are decentralized ledger systems powered and maintained by individuals and entities all around the world through dedicated computer terminals called “nodes”. Instead of having one central server or database that controls the system, the responsibility is spread out through these nodes who handle the authentication and validation of all the transactions. This ensures that the network has no single point of failure. 

As a way to incentivize miners and validator nodes for the service they provide, they are compensated with the network’s cryptocurrency. Hence, users of the blockchain are charged a transaction fee which is  called a  “gas fee”.

The term “gas” is in reference to gasoline required to run a car. In this case, the gas fees are necessary in order to keep the blockchain up and running as a decentralized system. Since there is no single company or organization that handles the maintenance of a blockchain, it is up to the entire network to keep the blockchain alive through these payment contributions.

The term “gas fee” was first used on the Ethereum network, but the term has evolved and is now commonly used to refer to any kind of fee associated with making transactions across various blockchains and for a variety of uses such as for executing smart contracts or for minting non-fungible tokens (NFTs)

On most blockchains, a portion of the gas fees goes to miners or validators, sometimes with a fraction going to burning mechanisms to maintain the cryptocurrency’s tokenomic design. Some blockchains also keep a portion of the gas fees for use for further development of the network. 

Gas fees on Ethereum

Originally, gas was used to reference the amount of ETH that was required for users to interact with the Ethereum blockchain. Originally designed as a Proof-of-Work (PoW) blockchain, the Ethereum network is dependent on miners and these gas fees are used to compensate them for sharing their computing resources to the network.

Due to the booming popularity of Ethereum however, many users have been dismayed at Ethereum’s relatively high gas fees, caused by the increasing demand and network congestion, since Ethereum employs a “bidding system” wherein users who are willing to pay more for gas get prioritized for processing. This scalability issue has run counter to the general idea of a decentralized network, since one of the main reasons that people opt for cryptocurrency as opposed to traditional banking is the supposedly lower transaction fees associated with blockchain technology. 

Recently however, Ethereum transitioned to a Proof-of-Stake (PoS) protocol which is less energy intensive than PoW, and is the first step in a series of updates that will eventually help reduce the network’s gas fees.  

PoW and PoS gas fees

In PoW, miners provide their high-performance computer hardware to the blockchain for the purposes of solving complex mathematical equations in order to authenticate transactions on the network. With the massive growth of blockchains like Ethereum and Bitcoin, mining now requires a lot of money and energy to sustain and secure the network. 

A more sustainable and economical alternative to the PoW protocol is through PoS which makes use of “staking” instead of mining. Essentially, through PoS, validator nodes have to stake their assets as a sort of “collateral” for the purpose of keeping the blockchain operational and decentralized.

By making use of PoS, blockchains don’t require energy-hungry mining hardware in order for them to be operational. As a result of this, gas fees on PoS networks are generally significantly lower than PoW networks.

Current trends in gas fees

In recent times, various competitor Layer 1 blockchains such as Solana (SOL), Cardano (ADA), BNB Chain (BNB), Near Protocol (NEAR) and Harmony (ONE)  have seen the flaws in the gas fee model of Ethereum and have made improvements to their own protocols to make it possible to charge transaction fees that are significantly much lower while still providing smart contract capability. 

For example, Solana’s block time and size are much higher than Ethereum’s, taking only 0.4 seconds to generate a block that can accommodate as much as 50,000 transactions pers second (TPS) on Solana. This results in lower network congestion and cheaper transaction fees, by as low $0.00025 per transaction.

There are, however, a number of scaling solutions already available on Ethereum to lower its gas fees. The most popular include the sidechain Polygon (MATIC) which is built on top of Ethereum and is compatible with Ethereum smart contracts and decentralized applications (dApps). Polygon uses “rollup” technology which allows for transactions to be bundled together instead of being processed individually, significantly reducing the gas fees for Ethereum users.

GameFi applications also make use of such sidechains such as Immutable X (IMX) and Ronin (RON) specifically designed to help gamers reduce gas fees–a huge advantage when it comes to minting NFTs required for gameplay. 

Furthermore, many stablecoin companies such as Tether (USDT) and USD Coin (USDC) also issue their stablecoins in different token standards for use in multiple networks, so users can take their pick of blockchain networks that suit their preferred gas fee rates. 

Other technologies such as “wrapped tokens” allow users to use representative or “proxy tokens” for such coins as Bitcoin or Ethereum, so they can also be used on other networks and take advantage of extended utility and lower gas fees.  

Conclusion

Ultimately, while the blockchain isn’t necessarily a free service, the fees that are associated with the decentralized network are much lower on average when compared to traditional banking fees, while transactions are also faster and more transparent, adding to the reasons why blockchain technology and its financial applications are continually rising in popularity across the world.

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DISCLAIMER: The statements in this article do not constitute financial advice. PDAX does not guarantee the technical and financial integrity of the digital asset and its ecosystem. Any and all trading involving the digital asset is subject to the user’s risk and discretion and must be done after adequate and in-depth research and analysis.

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