Not quite six months ago, ether was at the forefront of the cryptocurrency market’s recovery as investors anticipated the availability of “staking” due to a significant technological advancement.
The price of ether is now declining amid growing concerns that the Securities and Exchange Commission may crack down on it, even though the majority of people have barely grasped the concept.
In a $30 million settlement with the SEC on Thursday, one of the biggest cryptocurrency exchanges in the world, Kraken, ended its staking program. The SEC claimed the business had failed to register the offer and sale of its crypto staking-as-a-service program.
Brian Armstrong, the CEO of Coinbase, forewarned his Twitter followers the previous evening that the securities regulator would wish to more generally end staking for U.S. retail users.
Gary Gensler, chair of the SEC, said on Friday morning’s “Squawk Box” on CNBC, “This should put everyone on notice in this market.” “It doesn’t matter what you call it—lend, earn, yield, or if you offer an annual percentage yield. The platform controls it if someone is taking [customer] tokens and transferring them to it.
Staking is frequently viewed as a driving force behind the widespread acceptance of cryptocurrencies and a significant source of income for exchanges like Coinbase. Not only could a crackdown on staking and staking services hurt such exchanges, but it may also hurt Ethereum and other proof-of-stake blockchain networks. It helps to have a fundamental understanding of the activity in question to comprehend why.
What you need to know is as follows:
Staking – what is it?
By locking tokens up on the network for a while, staking allows investors to earn passive return on their cryptocurrency holdings. For instance, you would stake your ether holdings on the Ethereum network if you made that decision. In the end, it enables investors to use their cryptocurrency if they have no immediate plans to sell it.
How does staking function?
Staking is sometimes described as the cryptocurrency equivalent of a high-interest savings account, but that comparison has a significant fault because financial organisations are not decentralised, while crypto networks are.
The income you receive by staking is not the same as the interest you receive from a high annual percentage return provided by a centralised platform like those that had issues last year, such BlockFi and Celsius, or Gemini just last month. These products were more analogous to savings accounts in that consumers would deposit their cryptocurrency with centralised organisations who would then lend the money out while promising to pay the depositors interest (up to 20% in some situations). Network-specific rewards differ, but generally speaking, the more you stake, the more you make.
In contrast, when you stake your cryptocurrency, you make a contribution to the proof-of-stake system that maintains the functionality and security of decentralised networks like Ethereum. You also become a “validator” on the blockchain, meaning that, if chosen by the algorithm, you process and verify transactions as they are made. The selection process is semi-random, and your chances of being selected as a validator increase the more cryptocurrency you stake.
If you as a validator behave dishonestly or insincerely, the lock-up of your cash can be destroyed as a type of collateral.
Only networks using proof-of-stake, such as Ethereum, Solana, Polkadot, and Cardano, are applicable to this. A separate method is used to confirm transactions in a proof-of-work network like Bitcoin.
Serving as a staker
The procedure of authenticating network transactions is simply impracticable on both the retail and institutional levels, therefore investors won’t typically be staking themselves.
This is where cryptocurrency service providers like Coinbase and Kraken, who were before, come in. Investors can entrust the staking service with their cryptocurrency, and the service will carry out the staking on their behalf. When employing a staking service, the networks (like Ethereum or Solana) and not a third party decide the lock-up period (like Coinbase or Kraken).
It also involves the SEC, which said on Thursday that Kraken should have registered the offer and sale of the crypto asset staking-as-a-service programme with the securities regulator.
Although the SEC hasn’t formally said which crypto assets it considers securities, it often considers it suspicious when someone makes an investment with the assumption that they will profit from the labour or other efforts of others.
According to Oppenheimer, Coinbase holds 15% of the market for Ethereum assets. Retail stake participation in the sector is at 13.7% and rising.
Proof of work versus proof of stake
Only proof-of-stake networks like Ethereum, Solana, Polkadot, and Cardano support staking. A separate method is used to confirm transactions in a proof-of-work network like Bitcoin.
Simply put, the two are the protocols employed to protect cryptocurrency networks.
In order to validate transactions by resolving extremely difficult mathematical puzzles, proof-of-work requires specialized computational hardware, such as top-tier graphics cards. Rewards are given to validators for each transaction they approve. It takes a lot of energy to finish this process.
After a significant switch from proof-of-work to proof-of-stake, Ethereum’s energy efficiency increased by over 100%.
Staking has a different source of return than conventional markets. The protocol itself pays investors to run the computer network rather than human intermediaries offering rewards.
Despite how far crypto has come, it is still a new sector with many technological dangers, with potential code defects being a major one. There is a chance that investors could lose some of their staked coins if the system doesn’t function as intended.
Volatility has always been a somewhat appealing aspect of cryptocurrencies, but it also carries significant concerns. A simple price decline is one of the largest risks stakeholder investors face. Smaller projects may raise their prices in response to a significant fall in order to increase the appeal of a possible opportunity.