What is EIP 1559?
EIP = Ethereum Improvement Proposal, this was inspired by BIP, the Bitcoin Improvement Proposal.
Before we continue on the EIP 1559 Fee model. I will explain the current Ethereum fee model
CURRENT ETHEREUM FEE MODEL
It is based on simple auction mechanism also know as first price auction.
A person want his transaction to be picked by a miner need to bid their space in a block by submitting a gas price which they willing to pay for a particular transaction.
Then a miner are incentivize to pick up a transaction by sorting them by the highest gas fee, including the most profitable one first.
This model also problematic to the wallet, Coinomi wallet for example, it allows the user to adjust their fee by choosing between slow, average, and fast confirmation time. The faster the transaction is the higher the gas fee. There is also a custom setting to manually specify any amount of gas fee, this will effects the transaction time.
As for user who submitted their transaction fee with the default gas value fee just before the spike of the gas fee, they may end up waiting for their transaction to be confirmed for a long period of time. This is of course not ideal to the user point of view and this is where EIP 1559 comes in.
EIP 1559
i) Making transaction fee more predictable.
ii) Reducing the delay on transaction confirmation.
iii) Create a positive feedback loop between network activities and the Ethereum supply.
EIP 1559 FEE MODEL
1 . They introduce a new concept called "Base fee". The Base fee is a base fee that has to be paid by a transaction to be included in a block. The base fee is set per block and can be adjusted up or down depending on how congested the Ethereum network is.
2 . The increasing of network capacity activity by changing the maximum gas limit per block.
With the base fee and the increase of capacity, what EIP 1559 aims for is this:
- when the network is more than 50% utilization, the base fee will increase.
- when the network is at lower than 50% utilization, the base fee will decrease.
- This means the network aims to achieve equilibrium at 50% capacity b adjusting the fee accordingly to the network utilization.
3 . EIP 1559 also introduce a "Miner Tip". This is a separate fee that can be paid directly to the miner, to incentivize them to prioritize certain transaction. This is similar to the previous mechanism where the miner can be incentivize by higher gas fee. This features is really important for some transaction that takes advantages for quick confirmations.
** EIP 1559 VS CURRENT MODEL***
Current fee model example:
For an example, a minimum gas fee to be included in the previous block is 50 Gwei, and the network activities remain the same. So user starts submitting their transaction with default 50 Gwei gas fee. At the same time a new potential token launches, causing users who want to buy the new token increases their bid. Therefor to be included in the next block the minimum required fee is 100 Gwei and then the network activities remains high.
And for multiple subsequent block the user who already submitted their transaction with 50 Gwei may have to wait for their confirmation for a very long period of time. In this case the block size is capped at 12.5M gas and the only way to get into the block is to bid higher than other users.
EIP 1559 fee model example:
In previous block the 50 Gwei is the base fee and the network utilization is at 50% with maximum block using 12.5M gas limit, half of the size of the maximum gas limit. The spike of the new token release result in user submitting their transaction with higher miner tip. Seeing the high demand on the block space and a lot of transaction with higher miner tip, the miners produce a block that at the maximum cap limit of 25M gas.
This will result in one transaction to be included in a block, but this also cause the base to be increased in the following block as the current block is 100% full.
If the network activities remain high, the miner will keep producing full block, increasing the base fee with subsequent block. At some point the fee will be high enough to drive off some of the user causing the network starts to come back below to 50% network utilization and lowering the base fee. The base fee can be increase or decrease by a maximum of 12.5% per block. So it will take roughly 20 block around 5 minutes for gas price to get 10times of the base fee and 40 block to 100 times from base fee.
For example:
Below are the example of calculation done by excel.
This example demonstrate how network fee can be smoother out when EIP 1559 is implemented. This also shows that is swaps from high volatility in fee prices for volatility on block size, because the increments and decrements are constrained, the difference in the base fee from block to block can be easily calculated, this allows wallet automatically can set the base fee based on the information from the previous block.
To avoid the situation where miner can collude and artificially inflate the base fee for their own benefit, the entire base fee is burnt. The miner tip is always entirely received by the miner.
Another concept known as " Fee cap" is introduced in this EIP 1559.
This enable users to set their limit on how much they want to pay for particular transaction instead of just paying their current base fee. Transaction with a fee cap that a lower than the current base fee will have to wait until the base fee is lower and the max fee is set in a fee cap to be included in the block.
The fee change are also backward compatible, the legacy Ethereum transaction will still work in the new fee system although they will not benefit directly from the new pricing model.
Implication of EIP 1559
- One major impact is, less profit to the miner.
- wallet changes, no need to estimate the gas fee anymore. They just can set the base fee automatically based on the information form the previous block. This will simplify wallet interface.
Base fee burning
- Burning the base fee create a feedback loop between the network usage and the Ethereum supply.
- More network activities = more Ethereum burned = less Ethereum available to be sold to the market by miners.
- Making the existing Ethereum much more valuable
- Burning the base fee basically reward the users of the network by making their Ethereum more scarce instead of overpaying miners.
The fee burning mechanism, will it make Ethereum deflationary? This will be possible if the block reward plus miner tip is lower than the base fee burned, that would be the case.