Ethereum’s Deflationary Narrative Appears to be in Peril

Q2 2024 hosted Ethereum's highest quarterly inflation rate since the networks transitioned to Proof of Stake consensus through The Merge in September

Ethereum’s narrative of deflation appears to be coming under threat.

The second quarter of 2024 played host to the highest quarterly inflation rate on Ethereum since the network transitioned to a Proof of Stake consensus with The Merge in September 2022, according to a new quarterly web3 report from CoinGecko.

The report notes that 120,800 ETH were added to Ethereum’s supply ($421.3 million) after only 107,725 of the 228,500 newly issued coins were removed by Ethereum’s base transaction burning mechanism in Q2.

The trend saw Ethereum’s quarterly burn rate drop by 66.7%, with the network trending deflationary for just seven days in Q2 — down from 66 days in Q1.

Low gas fees drive low burn rate

Ethereum’s plummeting burn rate was driven by a spate of very low gas prices, with the network currently charging just 3 gwei for a typical transaction, according to Ultra Sound Money. Last month, fees dropped to their lowest level since 2020 by briefly tagging 1.9 gwei.

Ethereum’s supply is now inflating at a rate of more than 50,000 ETH per week for the first time since early December, after flipping inflationary in early April. The network’s supply has now inflated by nearly 293,000 ETH since The Merge.

The trend poses a double-edged sword to Ethereum, with low transaction fees both paving the way for greater network adoption and answering one of the main criticisms levied against the network since on-chain activity took off with the emergence of DeFi Summer in 2020.

However, many investors were attracted to Ethereum by its post-merge deflationary promise, with fee and transaction data from 2022 suggesting that ETH’s supply would quickly shrink after The Merge’s activation.

Burn rate slumps post-Dencun activation

The network’s inflationary turn in April notably came just a few weeks after the activation of Ethereum’s Dencun upgrade on March 13.

The upgrade slashed the costs associated with Layer 2 transactions by replacing gas-intensive calldata with binary large objects (blobs), leading to fee savings of more than 90% on most of the top L2 networks, according to GrowThePie.

Arbitrum, OP Mainnet, and Base each paid between $421,000 and $1 million in daily fees to validate transactions on the Ethereum mainnet amid a local high on March 5.

But Arbitrum’s Layer 1 costs have since slipped to between $1,000 and $10,000 daily during July, while Base and OP Mainnet are paying just a few hundred dollars each.