Ethereum (ETH) is experiencing slight but continuous inflationary trends, projecting that by the end of 2024, its supply could surpass previous records.
The escalation is partly due to increased usage of Layer 2 (L2) networks, which could influence Ethereum’s long-term functionality despite providing a remedy for high transaction fees.
Layer 2 Impact and Supply Trends
The integration of L2 solutions was initially celebrated for reducing the exorbitant fees associated with trading directly on Ethereum’s decentralized exchanges (DEX) or swapping non-fungible tokens (NFT). Nevertheless, this shift to secondary layers is now showing potential long-term impacts on Ethereum’s primary network performance.
Ethereum’s supply is unbounded and peaked at 120,532,000 ETH following the transition from a proof-of-work to a proof-of-stake model. This model change also introduced a mechanism where a portion of transaction fees are burned, temporarily reducing the total supply to 120.07 million in April 2024. However, since this low point, the supply has increased to 120.25 million ETH, adding 120,818 tokens in Q2 alone.
This inflationary pattern could see Ethereum break its supply record by the close of 2024, particularly as the rate of transaction fee burns has dropped by 66.7%, contributing to an annual inflation rate of 0.63%. Despite these dynamics, the Ethereum market has efficiently absorbed the new supply through ETF sales, liquid staking, and intelligent contract lock-ups.
User adaptation and price movements
As Ethereum users increasingly transition assets to more efficient L2 chains such as Optimism, Arbitrum, and Base, transaction activities on these platforms have surged. Optimism and Arbitrum, for example, reported significant net inflows, coinciding with an overall 37% increase in L2 activities over the second quarter.
The increased reliance on scalable applications, predominantly on Polygon and Base, has also led to substantial transaction volumes, with Base handling up to 26 million weekly transactions.
More than $12 billion is locked in bridges connecting Ethereum to various L2 projects, predominantly comprising wrapped ETH, ERC-20 tokens, and stablecoins.
Despite the robust network activity, Ethereum’s price has struggled to rally, even with the introduction of new ETFs. Since the ETHE ETF launch, Grayscale’s notable divestment of 24% of its holdings has pressured prices. Historical data suggests that Ethereum typically underperforms in August. Still, unique market conditions this year might lead traders to anticipate a rebound, with resistance anticipated around $3,800 and potential short-targeted surges toward $3,400.
The balance between managing high fees and maintaining scalability challenges Ethereum, even as the network adapts to an evolving cryptocurrency ecosystem. The ongoing adjustments in network economics and user behaviours will likely play a critical role in shaping Ethereum’s market position as the year progresses.