Ethereum – What Is It and How Does It Work?

Ethereum is the second-largest cryptocurrency by market capitalization, but its ambitions extend far beyond being a simple digital currency. While Bitcoin focuses primarily on being digital gold and a store of value, Ethereum is a platform for building decentralized applications (dApps) and smart contracts. It is essentially a "world computer" – a decentralized computational machine where anyone can run programs without intermediaries.

The History of Ethereum

Ethereum was proposed in 2013 by Vitalik Buterin, a 19-year-old Canadian programmer of Russian origin. Buterin noticed that Bitcoin's blockchain was too limited to support complex applications and decided to create a general-purpose platform.

Key dates:

• 2013 – Vitalik Buterin publishes the Ethereum whitepaper
• 2014 – Ethereum crowdsale (ICO) raises approximately $18 million
• 2015 – Mainnet launch
• 2016 – The DAO hack – $60 million stolen, leading to a controversial hard fork
• 2020 – Beacon Chain launch (preparation for Proof of Stake)
• 2022 – The Merge – transition from Proof of Work to Proof of Stake
• 2024 – Spot Ethereum ETF approved in the US

How Does Ethereum Differ from Bitcoin?

Smart Contracts – A Revolution in Agreements

A smart contract is a computer program stored on the blockchain that automatically executes when predefined conditions are met. No notary, bank, or lawyer needed – code is law.

Examples of Smart Contract Applications

Decentralized Finance (DeFi):

• Loans without banks (Aave, Compound)
• Decentralized exchanges (Uniswap, Curve)
• Algorithmic stablecoins
• Decentralized insurance

Tokens:

• ERC-20 – fungible token standard (e.g., USDC, LINK, UNI)
• ERC-721 – NFT (non-fungible token) standard
• ERC-1155 – multi-token standard

Other applications:

• Decentralized Autonomous Organizations (DAOs)
• Voting systems
• Supply chain management
• Blockchain gaming (GameFi)

Gas – The Fuel of the Ethereum Network

Every operation on the Ethereum network costs "gas" – a computational unit paid in ETH. Gas protects the network from spam and compensates validators for their work.

How Do Gas Fees Work?

Fee = Gas used × Gas price (in Gwei, where 1 Gwei = 0.000000001 ETH)

Since the EIP-1559 update (London, 2021), fees are split into:

• Base fee – set automatically by the protocol and burned
• Priority fee (tip) – an optional tip for the validator to speed up your transaction

During periods of high network activity, gas fees can rise to tens of dollars per transaction. This is why scaling solutions were developed.

Layer 2 – Scaling Ethereum

To address high fees and low throughput, Layer 2 (L2) networks were created – additional layers operating on top of Ethereum:

Rollups

• Optimistic Rollups (Optimism, Arbitrum) – assume transactions are valid unless challenged
• ZK-Rollups (zkSync, StarkNet, Polygon zkEVM) – use cryptographic proofs to verify transactions

Benefits of L2:

• Fees reduced by up to 95%
• Transactions in seconds
• Security guaranteed by Ethereum L1

For the average user, using L2 is almost identical to L1 – you simply need to bridge your ETH to the chosen L2 network.

Proof of Stake – Eco-Friendly Consensus

In September 2022, Ethereum underwent a historic transition from energy-intensive Proof of Work to Proof of Stake (The Merge). Instead of mining, validators now stake ETH as collateral and are randomly selected to create blocks.

How to Become a Validator

• Minimum 32 ETH required (~120,000 PLN / ~28,000 EUR at current prices)
• You must run validator software
• Honest behavior earns rewards (~3-5% annually)
• Dishonest behavior or downtime results in slashing (partial loss of stake)

Liquid Staking

Do not have 32 ETH? You can use liquid staking services like Lido (stETH) or Rocket Pool (rETH), which allow you to stake any amount of ETH while receiving tokens representing your stake.

How to Buy Ethereum in Poland

The process is nearly identical to buying Bitcoin:

1. Cryptocurrency exchanges – Binance, Bybit, Coinbase. Deposit via SEPA, BLIK, or card.
2. Polish exchange offices – Egera, BitBay, Quark
3. Brokers – XTB offers ETH as an investment instrument
4. DEXs – Decentralized exchanges like Uniswap (requires already owning crypto)

Wallets for Ethereum

Ethereum has a richer wallet ecosystem than Bitcoin because you need to interact with smart contracts and tokens:

• MetaMask – the most popular browser and mobile wallet, your gateway to DeFi
• Rainbow – an elegant mobile wallet
• Rabby – a wallet with built-in transaction simulation
• Ledger/Trezor – hardware wallets supporting ETH and ERC-20 tokens

DeFi – Finance Without Banks

Decentralized Finance (DeFi) is arguably Ethereum's most important application. DeFi enables:

Lending and Deposits

Platforms like Aave and Compound let you borrow and lend without a bank. Depositors earn interest while borrowers provide collateral.

Decentralized Exchanges (DEXs)

Uniswap, Curve, and SushiSwap enable token swaps without intermediaries. As a liquidity provider, you can earn fees from trades.

Stablecoins

Tokens pegged to the dollar (USDC, DAI, USDT) are the foundation of DeFi. They let you avoid volatility while using the blockchain ecosystem.

NFTs – Digital Ownership

Non-Fungible Tokens (NFTs) are unique tokens on the Ethereum blockchain representing digital ownership – artwork, music, domain names, in-game items. While the NFT market experienced a bubble in 2021-2022, the technology continues to evolve toward practical use cases (identity, tickets, certificates).

Ethereum and Taxes in Poland

Tax rules for ETH are identical to Bitcoin:

• 19% tax on gains (PIT-38 form)
• Swapping ETH for another token is a taxable event
• Interacting with DeFi (e.g., providing liquidity) may trigger tax obligations
• Staking rewards are subject to taxation

Tracking transactions in the Ethereum ecosystem is more challenging than with Bitcoin due to smart contracts, tokens, and DeFi interactions. It is worth using portfolio tracking tools – Freenance integrates with exchanges like Binance and Bybit, making it easier to monitor the value of your ETH and tokens in one place.

The Future of Ethereum

Ethereum has an ambitious roadmap:

• Danksharding – further scaling through data sharding
• Account Abstraction – simplifying wallet UX
• Verkle Trees – reducing node requirements
• Single Slot Finality – faster transaction finalization

Ethereum remains the leader in the smart contract space, though competition from Solana, Avalanche, and Sui is growing.

Summary

Ethereum is more than a cryptocurrency – it is a platform on which the future of decentralized finance and applications is being built. For Polish investors, ETH offers broader possibilities than Bitcoin: from staking and DeFi to participating in the growing Web3 ecosystem.

Before investing, understand the technology, learn about the risks, and start with small amounts. Monitor your investments in Freenance to maintain a complete picture of your financial situation – not just crypto, but also savings, investments, and liabilities.