Ethereum 2.0 staking pools could pose a risk

Ethereum 2.0 staking pools could pose a risk

Key facts:
  • Staking is the practice of “staking” 32 ethers (ETH) to become a validator for Ethereum 2.0.

  • Platforms offering staking pools are getting a lot of power over ETH 2.0.

Ethereum 2.0 does not finish taking off and already has to face a big problem. It is about the concentration of power that staking pools can have, which could harm the decentralization of the network.

Ethereum Foundation researcher and developer Danny Ryan blogged an investigation of how staking pools can be a problem for ETH 2.0.

Unlike traditional staking, where becoming a validator node requires depositing 32 ETH in a special contract, the staking pool allows users to deposit much smaller amounts of ETH and receive dividends for it.

As Ryan points out, these types of tools are attracting many more people. Liquid staking pools, as will be detailed later in this article, even offer the possibility of withdrawing the investment when desired. This reduces the risk of losses in case the price of ETH falls.

However, they could end up wreaking havoc on Ethereum’s decentralization, since many validator nodes will be concentrated in a single entity.

A scenario where the majority of Ethereum 2.0 validator nodes are controlled by a single entity could end causing a feeling of mistrust among its users as it is not a decentralized network. This regardless of whether or not this entity has good intentions about the use of its staking power.

Now, given the incentives that staking pools have been showing, more and more ETH is being deposited on their platforms. This translates in greater voting power of these pools over Ethereum 2.0, since the validators are driven by the platform and not by the users. This voting power could be used to make decisions that harm the network or only benefit themselves.

Lido itself has ruled on how it will reduce a possible centralization or monopoly within its protocol, establishing limits and choosing validating nodes.

Ethereum 2.0 staking pools could pose a risk
Lido has accumulated much more ETH than any of the other staking pools. Source:

This problem, which points to a risk of centralization, lies in the form of governance, according to Ryan. Platforms like Lido have distributed governance, in which the holders of the native LDO token are the ones who vote for platform improvements. Nevertheless, the governance of Lido has already been criticized beforeas reported by CriptoNoticias, because it can be vitiated and act against the Ethereum 2.0 protocol.

Staking pools must self-limit

Given the risks exposed by Ryan, one of the proposals to avoid centralization risk scenarios is that each staking pool should set limits of not having more than 25% of all ETH in staking, advises the developer.

I recommend that Lido and similar staking products self-limit for their own good, and I recommend capital allocators recognize the pooling risks inherent in LSD protocol designs..

Danny Ryan, researcher and developer at the Ethereum Foundation.

According to the developer, the use of staking pools is not necessarily a bad thing within Ethereum 2.0. However, the abuse regarding the concentration of power within the staking pools can compromise the network, therefore, they require “self-control”.

Users want benefits, but they affect Ethereum 2.0

In Ryan’s words, “every individual who makes a rational decision to stake with the staking protocol is making a good decision for the user, but an increasingly bad decision for the protocol.” The staking pools They give a cheap way to enter Ethereum stakinghowever, the nature of its algorithm could affect it.

Users are in search of profitability, but it seems that Ethereum 2.0 will be hurt.

What is liquid staking and why can it cause problems?

The great one pointed out by the researcher Daniel Ryan are the liquid staking platforms, which differ from the “traditional” staking by offering synthetic tokens that represent deposited ETH and have a 1:1 ratio to ETH. ANDThis is the case of Lido that offers stETH for each portion of ETH deposited.

lido was accumulating more than 75% of all ETH in ETH staking between March and April. As stated by the platform itself, this was due to the incentives it offered. Approximately 4% return, and along with that, stETH holders could invest those tokens on platforms like Aave. Thus they could increase profitability by up to 6%.

In contrast, in “traditional” staking, 32 ETH are deposited, which cannot be withdrawn until the transition to Ethereum 2.0 is complete. liquid staking gives liquidity to users through these tokens that vary according to each platform. This allows the investor to withdraw their investment whenever they want, selling their tokens for some other digital asset or for fiat money.

In traditional staking, each validator node has a voice and a vote within the network. Instead, in the case of liquid staking, the user only receives profitability, but cannot make decisions within Ethereum 2.0, since this power lies with the staking platform, which runs the nodes.

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