What is an Ethereum Improvement Proposal? EIP-1559 Explained

Ethereum Improvement Proposal

An Ethereum Improvement Proposal (EIP) plays an essential role in how changes happen on Ethereum. Ethereum Improvement Proposal (EIP) specifies potential new features for Ethereum. An EIP contains technical specifications for the proposed changes. Network upgrades for Ethereum are discussed and developed through an EIP.

Anyone within the Ethereum community can create an EIP by following the guidelines included in EIP 1. A proposal should provide a brief technical specification, and the author of the EIP is responsible for building consensus within the community. Stakeholders in the community will debate whether it should be adopted as a standard or included in a network upgrade. Each network upgrade contains a set of EIPs that each client must deploy to maintain consensus with other clients on the mainnet.

Ethereum, the second-largest blockchain network, is expected to undergo an upgrade, called a “Hard Fork” on August 4th, 2021. One of the most awaited code changes in the “London Hard Fork” upgrade is Ethereum Improvement Proposal (EIP) 1559. EIP 1559 is an Ethereum Improvement Proposal is designed to reduce volatility in transaction fees.

What is EIP-1559?

On August 4th, 2021, the London Hard Fork will land on the Ethereum main net on block 12965000. This hard fork will bring five Ethereum Improvement Proposals or EIPs to the network, of which the most controversial is EIP-1559, which makes wholesale changes to the fee market on Ethereum’s main net.

These changes to the fee market will have two significant impacts on the Ethereum network for users. First, it will provide a more predictable fee with far fewer instances of gross fee overpayment for transactions on Ethereum. Second, the new fee market’s base fee burning mechanism will significantly reduce the issuance or inflation of Ether into supply, even potentially making the supply deflationary where the allocation per block is less than what is burned in fees.

Fees are measured in a utility called Gas which is paid in small denominations of Ether called Gwei. Users pay gas fees for the resources used for the transaction and execute smart contracts on the Ethereum network. Each block of transactions has a gas limit which determines how many transactions can fit into one block. The gas fees paid by the users in transactions are paid out to the miners in Ether for validating the block. If a user sending a transaction, you are a bidder, and miners are selling or auctioning gas to you, which is capacity on the network. These dynamics create the very complex and often unpredictable fee market that we have in Ethereum.

Ethereum’s fee market today is based on something called a first-price auction mechanism whereby users submit transactions with a maximum amount of gas that they’re willing to pay on a trade. The gas required can fluctuate drastically in short periods, leaving many instances where users have stuck transactions or have more often overpaid fees. Because of this opacity in the process, the overall volatility and lack of transparency in the fee market lead to excessively overpaid transaction fees in certain market conditions. More importantly, it makes fee calculation very imprecise and unpredictable.

EIP-1559 is flipping this entire fee mechanism by introducing a predictable base fee mechanism called a fixed price sale model. It presents a variable block capacity mechanism with a baseline block gas limit of 12.5 million to a max cap of 25 million gas per block. Then a base fee for transactions will be calculated based on network congestion or the deviation from that baseline 12.5 million gas per block capacity. With a max limit of gas to be consumed, users will pay a predictable base gas fee calculated based on the congestion of the network or, in this case, the fullness of the previous block when you were making your transaction.

Each new block that is full to the new max capacity will levy a 12.5% increase in the base fee to economically lever the network back towards that baseline of 12.5 million gas, effectively balancing peak congestion transaction demand and the stability of the network.

This itself now this base fee is an improvement from the first-price auction. It’s predictable and efficient so that users are less likely to overpay excessively in fees, and it makes it a lot clearer what fees should be paid. Participants can also include an optional fee as a tip with their base fee to speed up the process. The base fees paid will be burnt (removed from the supply) when those transactions are concluded into blocks which means that as transactions flow through the network and get validated, it will reduce the inflation rate of Ethereum supply.