Ethereum Usage Deconstructed: Exploring the Driving Forces and Future Potential

Ethereum Usage Deconstructed: Exploring the Driving Forces and Future PotentialProfessional investors are beginning to embrace the idea that Ethereum could become the platform for popular applications in the future, yet for many, the investment case for its associated asset, ETH, remains largely unclear. Unlike traditional assets with well-defined valuation methods, most crypto assets, like ETH, lack well-known fundamentals

Ethereum Usage Deconstructed: Exploring the Driving Forces and Future Potential

Professional investors are beginning to embrace the idea that Ethereum could become the platform for popular applications in the future, yet for many, the investment case for its associated asset, ETH, remains largely unclear. Unlike traditional assets with well-defined valuation methods, most crypto assets, like ETH, lack well-known fundamentals. So, as the Ethereum community successfully piques investor curiosity by articulating their increasingly popular vision, it raises a key question: How does adoption translate into investment potential? What practical impact does adoption have on the long-term supply and demand for ETH?

Late last year, we attempted to answer these questions. We studied the mechanics of Ethereum, exploring how protocol rules and user interactions work together to influence the supply and demand equation for ETH. We eschewed analogies and ideological interpretations, focussing on measurable factors that directly influence ETH's value, along with the relative importance of each. The analysis led us to a key insight: The primary driver of ETH's value is the demand for Ethereum transactions not staking rewards, monetary adoption, financial collateral, or anything else. Interestingly, this boils down to how much users are willing to pay for the services Ethereum provides.

While we considered this a significant step forward, it also raised further questions. If transaction fees should be the focus of long-term investors, then which use cases on Ethereum are driving fee spending? Which categories of use cases will drive future fee spending? How sensitive is each Ethereum service to transaction costs?

This report aims to answer or bring us closer to answering these follow-up questions. We will present the results of a new model that classifies and aggregates Ethereum transaction data over time, allowing us to see how much users spent on different services (e.g., market swaps and stablecoin transfers), along with the key projects driving this activity. In other words, we will comprehensively analyze Ethereum usage, but through the lens of the money users actually spend.

Ultimately, we hope to further discuss a reasonable investment strategy for Ether. This time, by measuring the goals Ethereum users have been striving to accomplish, hopefully our answers will bring us closer to imagining, even estimating, its future use.

Ethereum Usage is Primarily Driven by Application Interaction and Token Transfers

Ethereum usage has changed significantly since its inception. Initially, it was primarily used as a venue for simple asset transfers, a foundational use case that remains important but has since been overshadowed by more complex interactions with applications and infrastructure.

In its early days, Ethereum was envisioned as a "world computer" a platform capable of executing any type of custom instruction and hosting globally accessible, unstoppable applications. To achieve these lofty goals, Ethereum developers prioritized flexibility and accessibility as protocol attributes, relying on the complexity of the masses to iterate the platform's design and deploy useful projects.

As such, it is perhaps unsurprising that Ethereum has evolved into a speculative playground, considering its global reach. It boasts a variety of custom digital assets and applications, along with an ever-growing list of auxiliary infrastructure components that shape the overall user experience. It attracts a substantial amount of user demand; the total fee spending in the first half of 2024 neared $1.5 billion quite substantial, but significantly lower than the $3.5 billion peak in the first half of 2021 during the bull market.

According to our data, Ethereum's utility began to expand consistently around 2018 (Ethereum's third year of existence). Transaction fees, once primarily used for simple transfers and managing primitive smart contracts, now extended to simple applications, digital identity systems, and business operations (such as on-chain withdrawals). This trend has continued with the increasing availability of functional applications, particularly in the finance and gambling space, such as Etherdelta, Idex, and Etheroll.

At this stage, users were no longer simply sending tokens, but participating in complex multi-step interactions that leverage Ethereum's automated execution and composability. Transactions would touch upon numerous applications at once, seamlessly checking instructions during the settlement process.

Since 2020, there has been an emerging trend towards adopting platform infrastructure, either created by general developers in response to user demand or by the Ethereum Foundation itself. These developments extend Ethereum, either re-adjusting how it works at its core. This includes things like protocol staking, MEV, bridges, oracles, and second-layer technologies, all of which have become integral to how the Ethereum machine operates and indicate a future pursuit of more advanced use cases.

On the surface, Ethereum's ability to consistently deliver higher utility through more complex transactions would be beneficial to the demand for ETH. However, the harsh reality is that a small subset of services consistently accounts for the majority of Ethereum usage, and these services are primarily centered around speculation or simple value transfers, not necessarily the kind of complex "real-world utility" use cases initially envisioned by Ethereum Foundation developers.

Now that we've looked at the overall picture, let's take a look at each primary usage category and which subcategories and/or specific projects are driving this activity.

Application Interactions are Primarily Led by Markets, Especially Uniswap

As the Ethereum ecosystem has evolved, the types of applications users engage with have become increasingly diverse. Yet, one category of applications has consistently reigned supreme: digital asset exchanges. Specifically, markets where users trade a long tail of crypto assets, including both collectible and fungible cryptos.

In those first two years, Ethereum was an experimental playground where developers tested the platform's capabilities through simple gambling applications like Etherdice and Rouleth. These early applications are significant because they demonstrated Ethereum's potential to handle more than just basic transactions, paving the way for later complex applications.

Today, over 90% of usage, as measured by transaction fees, is driven by markets. As shown above, this is a dramatic shift periods where games, phishing scams, and NFT applications took the lead periodically but since the summer of 2020, on-chain exchanges (often referred to as DEXes), primarily led by Uniswap, have more or less consistently been the dominant use case on Ethereum.

Uniswap alone consistently accounts for a significant portion of Ethereum transaction fees 15% in the first half of 2024. This is a testament to the core value offered by Ethereum and its user's desire for the ability to freely speculate on digital assets, such as ETH, application tokens, and stablecoins.

While NFT marketplaces saw a significant surge during the frenzy of 2021, their relative share of transaction fees has since plummeted. OpenSea accounted for nearly half (42%) of all application transaction fees in the first half of 2022, totaling over $500 million ($572 million). But demand dropped so drastically that OpenSea's usage in Q1 2022 alone ($433 million) exceeded the total of all other NFT marketplaces combined ($296 million) throughout the rest of the year (Q2 2022 Q3 2024).

Other exchanges, such as 1inch, 0x, and MetaMask, have also contributed significantly to financial services as a key subcategory of application usage, and the emergence of new entrants like Maestro indicates that competition in this category continues and that there remains an ongoing demand for user-friendly, liquid, long-tailed trading.

While Ethereum supports a wide variety of applications, markets especially Uniswap are the primary driver. Clearly, the ability to easily access and transparently trade assets within the same settlement system is a core component of user transaction utility.

Token Transfers Are Dominated by Ether and Stablecoins

Another longstanding foundational use case on Ethereum is token transfers, which continue to play a pivotal role in network activity. As the Ethereum ecosystem has expanded, the types of tokens transferred have diversified significantly, but in terms of transaction fee spending, Ether (ETH) and stablecoins have become the dominant assets.

As the first and, for a time, only major asset on Ethereum, Ether naturally accounted for the bulk of fee spending associated with token transfers. However, the introduction and eventual adoption of the ERC-20 standard in 2017 triggered a major shift, with a variety of new tokens minted within the Ethereum ecosystem taking on increasingly important roles. The standard outlined a way to easily create customizable tokens, triggering an explosion of digital assets during what is commonly referred to as the "ICO boom." The landscape of assets on Ethereum, and how much users were willing to pay to transfer them, was reinvigorated as more tokens were created and traded.

Stablecoins have since become a significant part of trading activity. Starting in mid-2019, Tether (USDT) began to emerge as a widely used trading pair and familiar exchange medium, but it wasnt until Circle launched USDC in late 2020 that the stablecoin category began to grow in influence. Stablecoin transfers have, at times, rivaled or even surpassed ETH in the Ethereum fee landscape.

While USDT and ETH remain the most important tokens in terms of transaction fees spent, the broader digital asset ecosystem has introduced millions of other tokens. Many of these tokens are associated in some way with specific applications or projects, contributing to the long tail of token transfer activity on Ethereum.

The resurgence of NFTs, largely fueled by the ERC-721 standard released in 2018, had the biggest impact in late 2021 and throughout 2022. However, as the hype subsided, so did the transactions associated with transferring NFTs