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Ethereum Gas Fees: What Are They and How Do They Work?

If you’ve done any research on Ethereum and its associated cryptocurrency ETH, there’s a good chance that you’ve come across references to Ethereum gas fees.
ETH is one of the most popular cryptocurrencies, second only to Bitcoin, and gas fees have long been a hot topic in the community.

But what are gas fees, and why are they talked about so much by ETH traders and others using the Ethereum blockchain?

To understand these fees, you need to understand the mechanics of how the Ethereum blockchain works, including some history of the platform and the plans for its continued evolution.

This post will explain what crypto traders need to know about gas fees as simply as possible.

What is an Ethereum gas fee?

Gas fees on cryptocurrencies are not too different from the ones drivers pay at the pump. The term gas is used because these charges serve to “fuel” the work that is required to make the Ethereum blockchain continue functioning.

In essence, “gas” represents the amount of computational power required for a user to carry out some type of interaction with the network, such as completing a transaction or executing a smart contract.Gas fees are paid in ether (ETH), Ethereum’s native currency.

A more general term for gas fees might be “transaction fees” or “execution fees.” However, since such terminology could also refer to other types of charges, most Ethereum-specific resources and Ethereum users stick to the term “gas” for the fees that drive Ethereum.

Many other types of financial transactions also require a surcharge. Even using your credit card typically has a transaction fee; you just don’t think about it because merchants usually eat these small costs (which is why some businesses offer a discount for paying cash).

But if the point of a cryptocurrency is to be decentralized, why do you have to pay a transaction fee?

To explain why gas fees are needed to make the “engine” of the Ethereum blockchain run, let’s review some blockchain basics.

Why are Ethereum gas fees necessary?

The decentralized nature of cryptocurrency has some big advantages, but it also creates practical problems that must be overcome for crypto holders and users to trust that their funds and transactions are safe.

Validation is one of the key challenges, as there is no centralized "ledger" for tracking each user's holdings and transactions. Therefore, a system must be implemented to verify the authenticity of trades and ownership of coins or tokens for each user on the network.

The system a blockchain project uses for validation is called a consensus mechanism or consensus algorithm because it ensures all parts of the distributed computing network that make up a blockchain are in agreement about each user’s holdings and transactions.

However, the work of validation itself requires computational power. This is where gas fees come into play.

Up until the latter half of 2022, the Ethereum blockchain used a proof-of-work (PoW) consensus mechanism. Under PoW, miners received gas fees as compensation for validating transactions.

In September of 2022, after years of preparation and delays, Ethereum transitioned to a proof-of-stake (PoS) consensus mechanism. Under the new validation system, gas fees are now given as rewards to users who stake ETH in their wallets and serve as validators.

In short, validation of the Ethereum blockchain takes work, and like all essential work, those who get it done need to be compensated. Gas fees ensure that the critical work of validation continues for the benefit of all users.

How are Ethereum gas fees calculated?

If fees play such an important role in making the Ethereum blockchain work reliably, why are they a topic of discussion and controversy within the Ethereum community?

Gas fees probably wouldn’t be seen as a pain point if they were only a nominal, consistent, predictable surcharge on every ETH transaction. Unfortunately, they are anything but.

The three main benefits of blockchain projects are decentralization, security, and scalability, but that it’s usually necessary to compromise one of these things to an extent for the sake of the other two. This is called the “Blockchain Trilemma.”

In order to maximize the advantages of decentralization and security, the Ethereum network compromises somewhat on scalability — its ability to cope with an increase in the number of users and transactions.

Currently, Ethereum can only process somewhere in the neighborhood of 14-15 transactions per second. For comparison, major credit card provider networks can process thousands or tens of thousands of transactions per second.

The limitation on how many transactions the network can process at once means that as the number of users and transactions increases, competition for the computational resources needed for validation increases as well.

Furthermore, not all transactions are created equal. Some transactions require more validation “work” than others. Smart contracts, for example, are particularly complex transactions to execute.

Whenever demand for a resource goes up, the cost of that resource goes up. This means that gas fees can vary widely and spike drastically depending on transactional demand (and that’s why gas fees can become a source of frustration for some).

The good news is that the situation has improved. Ethereum’s “London Upgrade” in 2021 introduced new mechanisms to calculate gas fees, such as a fixed per-block base fee, that somewhat reduced unpredictability.

Gas fees are calculated in gwei — defined as one billionth of an ETH. The current formula to calculate gas fees is:

Gas fee = Gas units (limit) X (base fee + priority fee)

Let’s break that down.

The minimum amount of gas units you must spend on any Ethereum transaction is 21,000 gwei.

The base fee goes up by 12.5% per block each time the size of the previous block exceeds 15 million gas, which is what makes gas fees rise exponentially when there is a large amount of network traffic.

The priority fee can be thought of as a tip that users offer as an additional incentive to get their transactions done faster.

The limit, set by the user, is the maximum amount the user is willing to spend to get the transaction done. If it’s set higher than necessary, any excess will be refunded. But if it’s too low, the transaction will fail and the user will still pay the fee.

Can you avoid Ethereum gas fees?

By now, the core components of Ethereum blockchain functions should be clearer, and gas fees aren’t going away. For every transaction that takes place, someone is going to be paying a fee of some amount.

However, conducting ETH trades on certain crypto platforms can allow you to bear responsibility for fee payment For example, Binance.US has eliminated transaction fees for its users on ETH transactions made through the Buy and Sell tool.

Outside of this, there are some strategies you can use to avoid paying any more in gas fees than you have to.

Since network “traffic jams” spike gas fees, you can lower your fees by scheduling transactions for times with less congestion. There are several online calculator tools that show you current gas fees. Most crypto wallets also allow you to preview the estimated fees you’ll pay for a transaction.

But what does the future hold? Does the increasing popularity of Ethereum inevitably mean that gas fees will continue to get more and more onerous? Actually, there’s good reason to think that gas fees will become less of an issue in the future.

Although Ethereum’s shift to PoS (called “the Merge”) didn’t do anything to directly address gas fees by itself, it laid the technical groundwork for future upgrades that could alleviate the issue.

Transitioning to PoS was necessary for Ethereum to eventually enable “sharding.” Sharding means splitting the Ethereum network into “shard chains” to distribute the transaction validation workload — in theory, up to 100,000 transactions per second.

This massive increase in transaction bandwidth could go a long way toward putting gas fee frustrations to rest. The Merge occurred on September 14, 2022, successfully demonstrating that Ethereum was capable of sustaining a PoS system, effectively transitioning us from Ethereum 1.0 to 2.0.