What is the Ethereum Blockchain’s Shanghai Hard Fork and why does it matter?

In March, Ethereum will undergo its first major upgrade – also known as a “hard fork” – since switching to a proof-of-stake system in September. Once Ethereum’s upcoming “Shanghai” upgrade is complete, 16 million staked ether (ETH) will finally be mined by the validators that help run the network.

While the main focus of Shanghai will be implementing Ethereum Improvement Proposal-4895 – the change that unlocks validator withdrawals – the update’s full list of changes has just been finalized, and it includes additional upgrades that are sure to be noticed by Ethereum app developers and many of the chain’s users.

The star in Shanghai is EIP-4895, which will free validators to withdraw the 16 million ETH they have so far “staked” to help secure the network.

When Ethereum changed its consensus mechanism from proof-of-work (PoW) to proof-of-stake (PoS) in its last major upgrade, called Merge, the network began using validators instead of miners to add blocks to the blockchain. Validators must stake 32 ETH with the chain to participate in the block validation process. Each stake ETH acts as a kind of lottery ticket: the more ETH a validator stakes, the more likely they will be chosen to “propose” the next block of Ethereum transactions and earn some network rewards.

Before validators agreed to participate on the PoS blockchain, they were made aware that their staked ETH and any accrued rewards would remain locked until a subsequent update of the chain. Validators have been staking ETH and earning rewards since December 2020, when Ethereum released its PoS “Beacon Chain” in its first step towards the merger. Now these validators will finally be able to withdraw their stake.

EIP-4895 is the main focus of the upgrade, given that stakers may want to start cashing out any rewards they’ve earned over the past two years – or simply gain more control over their money, given the uncertainty in the crypto markets in recent years.

However, in addition to accessing locked funds, the PoS blockchain has not been fully operational since its publication. Even though the blockchain is working properly today, players have had to commit to keeping their money locked up to keep Ethereum running. Now with the mechanism that will unlock the staked ETH, the full operation of a proof-of-stake blockchain will come to life, meaning that stakers can finally be in control of their money and decide what to do with their rewards.

If you are running a validator, there are two options to disable ETH when Shanghai goes live. The first is to set up a “withdrawal credential”, which will automatically remove the earned rewards you’ve earned from your validator. The other option is to completely exit the Beacon chain and remove all 32 ETH by having your validator voluntarily send a message that it is removing itself from the blockchain.

As for how fast you can access the ETH you want to unstake, “it depends on how many people want to unstake at a time,” Marius Van Der Wijden, a developer at the Ethereum Foundation, told CoinDesk. Only 16 partial withdrawal requests can be inserted into a slot (which happens every 12 seconds), and there is a single queue for both full and partial withdrawals on the blockchain. But the likelihood of all validators choosing to leave the blockchain is slim, given that efforts will enable a new chapter for Ethereum and those who trade on top of it.

As a new era of unlocked ETH begins, crypto traders are paying attention to how the market may move. Some traders believe there will be some selling pressure once the bet ETH is unlocked, while other traders say Shanghai will only encourage more betting.

The four smaller EIPs included in Shanghai are linked to gas fees – a type of tax that users pay to transact on the Ethereum blockchain. Gas fees can be expensive during times of high activity, and Ethereum developers are aiming to add mechanisms that will reduce high gas fees for those building on the blockchain.

EIP-3651 proposes to access the “COINBASE” address, a software used by validators and block builders, at a lower gas cost. (Aside: This is totally unrelated to crypto exchange Coinbase.) The code change could improve MEV (Maximal Extractable Value) payments as well as other user experiences according to Matt Nelson, a product manager at ConsenSys.

“This EIP corrects a previous oversight on the cost of accessing the COINBASE address and provides some additional benefits to users and developers that open up new use cases,” Nelson told CoinDesk.

Other EIPs in the package are:

Developers decided to keep the scope of Shanghai relatively small, mainly so that ETH withdrawals that are staked would be released as soon as possible. As a result, some other major changes to the Ethereum protocol were pushed back from Shanghai to the third quarter of 2023.

These include “proto-danksharding,” an admittedly ominous term that simply refers to a method of making the blockchain more scalable by dividing the network across multiple chains, or “shards.”

Also on the horizon are changes to the EVM Object Format (EOF), which include several small upgrades to improve the Ethereum Virtual Machine.