Let’s just imagine, if you will … You are on vacation. You’ve decided to leave the United States, and you’re heading to London for a holiday. How bloody fabulous!
But first, if you want to do business in cash, you need to change your physical dollar bills. When you exchange your money at the airport for the necessary Euros instead of U.S. Dollars, you are going to pay an exchange rate fee.
Why do you have to pay fees? The person sitting in that booth has to be paid. The bank wants its fair share. And, don’t forget to count in Uncle Sam (or, er, the Queen, too?).
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The Origination of Gas Fees
If you take our analogy to heart, the concept of gas fees isn’t unreasonable. There are costs to doing business, and in the world of cryptocurrency, one of those major fees is the gas fee. But, what is up with this term? After all, no one is driving anywhere on the Internet.
So why such high gas fees if this is not, in fact, gasoline? And can you shop around gas stations as you cruise through your online crypto purchase?
Setting a Gas Price
Let’s face it: if you want to “cruise around” in the crypto world, you’re going to need to “fill your tank.” And, yeah, while these analogies are oh, so adorable, let’s get down to it. Why the terms?
It is ideal to first understand what this whole world of crypto is all about. Cryptocurrency is similar to other transactions you make. Crypto represents a value. Much like the dollar bill used to represent gold or silver, crypto value is determined through the work of miners.
Cryptocurrency is an entire network produced via a “proof of work” system. Instead of being backed by a banking system, overseeing or regulating the system, cryptocurrency is backed by proof of work. There is no central banking system or government monitoring the transactions occurring in this virtual exchange of funds.
Gas Fee
There is a strange irony in the fact that this complex digital world is still, at the moment at least, reliant on human beings.
People are solving complex puzzles. These people are called miners (think 1940s gold diggers). In doing so, they are using energy-guzzling machines.
These machines require power, or electricity, in order to function. When a miner solves a puzzle, a new block is formed in the blockchain. Blocks of verified transactions create a series of decentralized applications which form a ledger. That ledger is called a blockchain.
The most commonly used blockchain “brand” is Ethereum. In order to have a block added, that transaction and validation has a cost. That cost is a “gas price.”
Still with me?
Transaction Fees
There are ways to understand this cost in different terms. We will use a form of transactions you are more familiar with: the U.S. dollar.
Most any movement of money you make in this country will cost you something in the long run. You may be charged a fee to move money more quickly than you first agreed to via contract. You may be charged a percent when you buy or sell a stock. There may be taxes, transaction fees, or even banking charges. Everyone wants their fair share of the pie.
Crypto is no different. When crypto is produced, bought, sold, traded … you guessed it: fees are attached. Since everything in the crypto world requires the use of the digital world, that means, in turn, it also requires energy.
Gas fees have been created to cover fees associated with cryptocurrency. As the system is based on the “proof of work” aspect, a gas fee is just one of the ways a transaction’s cost is being covered. Gas fees are the the fees paid to process and validate transactions in the crypto ecosystem.
Cruising for Prices
Just like seeking gas for your car, you are going to shop around for gas limits. The higher gas limit the more you are willing to spend for a particular transaction. The cost your are willing to pay for processing transactions is a gas limit.
The more a gas limit is, the more work you (or a miner) must do to execute a transaction using ETH or a smart contract. These contracts are what miners use to set gas prices. If a price is too low, the miner may choose not to take on the work. If the work isn’t accepted, the transaction won’t be added to the blockchain (your cryptocurrency will not be created).
Miners are, after all, rewarded the set gas price for their computational efforts. The more computational power the miner has, the more they can produce. Because these limits vary, the gas prices may vary from contract to contract.
A Choice In Your Shopping
The Ethereum network is one of the platforms on which you can purchase crypto. It is second only to Bitcoin in buying and selling. On this platform, Ether is the purchased crypto.
Gas refers to the fee required to successfully conduct a transaction or execute a contract on that Ethereum blockchain platform. These fees on Ethereum are priced in small fractions of the cryptocurrency ether (abbreviated “ETH”).
The small fees have a number of “nicknames.” Sometimes the fees are referred to as “gwei” and sometimes “nanoeth.”
No matter the catchy term, the fees are all aimed to doing the same thing. The gas is used to allocate resources of the Ethereum Virtual Machine (EVM).
The Ethereum Virtual Machine
No, we aren’t traveling to another space and time continuum. But it sounds cool, right? No, EVM simple stands for an “Ethereum Virtual Machine.” This machine is a process by Ethereum to decentralize applications.
By decentralizing the work, it is more difficult to hack, a concern many have in the online world of financial exchanges.
Those decentralized applications include smart contracts, and allows these contracts to be self-executed in a secured, but decentralized fashion. In other words, it makes it safer.
Basic Economics
The price of gas, as it is the fuel used for the EVM, is thusly determined by the supply and demand of the product. That supply and demand is determined by the network miners (who again can decide not to process a transaction if the gas price is not at their threshold) and the users of the network (who want the miner’s processing power).
If you can try to flash back to high school econ, it all makes sense. The high demand for miner’s work means a higher cost of gas. The more people out there investing, means miners have more options (in other words can hold out for a higher cost of gas).
Ethereum provides an incredible amount of tools for the crypto universe. And those services, that data, that work … it all it comes with a price tag. Gas is one way that the bills get paid. It is how the system exists.
Who Is Setting Prices?
You know those people on both sides of politics that love to blame the president every time the price at the pump goes up? Yeah, people love to know who is responsible for their pain and suffering. So, who sets the cost of gas in the world of cryptocurrency?
In short, it is miners that decide these prices. But, they aren’t just throwing darts at a wall, wondering what they should randomly choose to charge. Instead, it all boils once again down to the supply and demand.
Feel The Power
Miners set the price of gas based on supply and demand for the computational power of the network needed to process smart contracts and other transactions. In other words, they are passing along the cost of their work and efforts on to the buyer.
You want crypto? You need to pay the piper … er miner, in this case. That miner is using power, and there is a computational cost to that work. To cover both that power, and of course the worker’s own computational effort, a gas fee is created.
Is Change Coming?
Of course, no one knows the future. If we did, we wouldn’t need to understand all this terminology anyhow. We could just play one simple lottery ticket, right?
Alas, the crystal ball is not working in the world of finance. What is working is the hard efforts of an entire digital universe. But at the end of the day, those systems need human workers, real-world energy, and a way to pay for it all.
They say the only two things in life that are certain are death and taxes. Consider gas fees that necessary “tax” in the world of crypto!
