the price of payment networks
Centralized payment processors like visa and mastercard generate revenue by charging a small fee for each transaction executed on their respective networks. In most cases, this cost is included in the final price of the companies’ goods and services and is therefore not obvious to consumers. Due to its relatively simple transaction processes, centralized payment network fees remain relatively stable. Since traditional payment services see a single entity verifying all transactions on a private network, they can generally conserve bandwidth and ensure high throughput.
Blockchain networks like bitcoin and ethereum can be considered a decentralized equivalent of traditional payment networks like visa and mastercard. The decentralized nature of blockchains can offer key advantages such as openness, fairness, liveliness, and resistance to censorship because they rely on a global network of nodes to verify every transaction. decentralized networks can also have disadvantages compared to centralized providers. in particular, crypto transaction fees on specific blockchains may fluctuate in response to network congestion. Let’s explain how this works by breaking down the bitcoin and ethereum networks with respect to validators and nodes.
Reading: Bitcoin fees vs eth fees
who validates blockchain transactions?
In decentralized networks, anyone can access a transaction from anywhere with the right software, and validation nodes provide the structure and processing power to execute them. however, not all blockchains manage this system in the same way. for example, both bitcoin and ethereum initially used proof-of-work (pow) algorithms to reach consensus and validate transactions. this model requires validators to commit processing power to solve complex mathematical algorithms.
In short, the first validator that solves the algorithm receives all or some of the transaction fees collected from users. in the case of bitcoin, validators also receive block rewards (more on this later). Below, we explore how the bitcoin and ethereum networks manage transaction fees and the factors that influence their volatility.
bitcoin transaction fees
bitcoin transaction fees are a crucial part of bitcoin’s design. Specifically, these fees incentivize miners to validate transactions and support the “decreasing block subsidy,” which helps support network security and keeps miners incentivized. Decreasing Block Allowance works by allocating more bitcoin transaction fees to miners as block rewards fall over time.
Transaction fees charged by exchanges and brokerages are completely separate from the costs required to process transactions on the bitcoin blockchain. In particular, in 2010, a minimum transaction fee of 0.01 bitcoin (BTC) was established in the source code of the bitcoin network, but was removed a year later as transaction volume grew. Furthermore, as the market value of BTC has increased in dollars, the transaction fees of BTC have decreased. In other words, when the price of BTC in USD increases, transaction fees denominated in BTC decrease, and vice versa.
bitcoin block size
Bitcoin fees depend on the data volume of each transaction and network congestion. As of February 2022, each transaction block can hold 4MB of data. As a result, there is a limit to the number of transactions that can fit in a single block. also, fewer can fit in the same block if a transaction is larger (in bytes).
bitcoin transaction speeds
For bitcoin, btc transaction fees are calculated in satoshis (also called “sats” for short) per unit of data that a transaction will use on the blockchain (sats/byte). As a result, the more data a transaction consumes, the higher the transaction fees. In most cases, crypto wallets will show the cost of a transaction based on the speed of processing. again, these costs are separate from any fees charged by an exchange or brokerage.
For example, if you want your transaction to be approved immediately, the fee will be higher than selecting a slower transaction speed. when there is a delay in the network, miners have an incentive to validate transactions with higher fees first; they earn more by doing so. In other words: miners will target transactions with a high fee per byte ratio.
ethereum transaction fees
gas fees are the ethereum equivalent of bitcoin transaction fees. specifically, gas is the term used to describe the amount of ether (eth) needed to interact with the ethereum blockchain. Like bitcoin miners, these ethereum transaction fees compensate miners for the energy needed to validate network transactions. furthermore, ether’s transaction fees ensure that it is too costly for malicious actors to continuously spam the blockchain. In general, there are three components to ethereum transaction fees:
gas units (limits): The gas limit refers to the maximum amount of gas that a user is willing to pay for a transaction. pay more and the transaction will be processed faster. spend less and miners will validate it last, resulting in longer processing times. It’s important to note that different transactions require different amounts of gas.
base fee: the base fee is the minimum amount of gas needed to execute a transaction on the ethereum network. this base rate depends on network congestion. that is, the demand that a transaction be included in a block, regardless of the type of transaction.
tips: Users who want their transactions to complete faster can provide a tip. tips incentivize miners to confirm the transaction before others because they receive a tip in addition to the gas fee. Because ethereum miners can see which transactions offer a tip, they can choose the transactions with the highest tips to earn more money.
as the name suggests, the gas powers the entire ethereum blockchain; nothing could happen without him. however, the downside is that only those who are willing to pay high fees will have their transactions processed quickly during network congestion. this dynamic results in “gas wars” that effectively increase gas prices for everyone in the network.
the future of bitcoin and ethereum transaction fees
bitcoin transaction fees can often be lower than ethereum transaction fees. This is because ether can be used to implement transaction-intensive decentralized applications (dapps), while bitcoin is used only for payments. In other words, bitcoin was envisioned as a payment network, while the ethereum virtual machine (evm) introduced an operating system environment for blockchain developers. as a result, ethereum has become the de facto blockchain for dapp development, leading to periodic spikes in network activity.
ethereum has begun the transition to the proof-of-stake (pos) algorithm in response to this deficiency. this model is designed to speed up the speed of transactions and should dramatically reduce gas fees. however, there are always trade-offs between decentralization, speed, and security, a challenge often referred to as the “blockchain trilemma”.
Regardless of the network, both bitcoin and ethereum cost money. Historically, bitcoin transaction fees have often been lower than ethereum. however, ethereum transaction fees are projected to decline after the ethereum consensus layer upgrade (previously known as ethereum 2.0) is completed.