COINDESK RESEARCH NOTE Accounts: Simplicity by Design Christine Kim November 10, 2020 Contents Introduction 3 Background 5 Active Accounts 6 Smart Contract Accounts 8 Transaction Count and Transfer Value Supply in Smart Contracts Conclusion 14 Accounts | 2 INTRODUCTION Depending on a crypto asset’s use case and long-term value proposition, its technical design will differ from that of other crypto assets in important ways. One key difference between the technical design of Bitcoin, the world’s largest crypto asset by market capitalization, and that of Ethereum, the second largest, is their transaction models. On Bitcoin, the transaction model which dictates how transfers of value are recorded is based on a system of “unspent transaction outputs” or UTXOs. (More information about UTXO-based transaction models here.) On Ethereum, the transaction model is based on a simpler and more traditional understanding of record-keeping based on a system of accounts. It is the simplicity of an accounts-based model that makes it easier for developers on the Ethereum network to create and deploy decentralized applications (dapps). Bitcoin is primarily a peer-to-peer payments network. Its UTXO model has not proven to be an optimal base on which to build large numbers of decentralized applications (dapps). In this research note, we will give a brief overview of how an accounts-based transaction model works and how it differs from that of a UTXO-based model. Then we will apply this understanding to various accounts-based metrics including: • the number of active accounts, • total value transferred by smart contract accounts, • and percentage of coin supply held in smart contract accounts. Accounts-based metrics, like those based on UTXO data, can provide a wealth of information about the value proposition of a crypto asset. They are also useful tools in identifying and evaluating network trends about user activity for a crypto asset over time. This is not intended to be a mathematical paper. We will look at some simple formulas, but it is intended for those who are not statisticians. We aim to make the measurement and understanding of blockchain accounts accessible to everyone, as well as to underscore its importance to crypto assets and their potential role in investment portfolios. Accounts | 3 We will refer mainly to ether, as it is the largest and most liquid cryptocurrency that uses an account-based model. It is also the most often used as the gateway asset to access dapps and Ethereum-based crypto assets called ERC-20 tokens. When we use ether with lowercase, we are referring to the asset ETH, and when we use bitcoin with lowercase, we are referring to the asset BTC. Ethereum and Bitcoin with uppercase refer to the blockchain or the protocol. Dollars throughout are U.S. dollars. Accounts | 4 BACKGROUND Ethereum’s account-based model is analogous to how funds are tracked through traditional bank accounts. Each account on the network has a single balance of ether that gets debited and credited. Bitcoin addresses, on the other hand, contain UTXOs which can each hold different balances of BTC. When a user sends a transaction on Bitcoin, they are technically transferring UTXOs that contain BTC to another address. A common analogy for these two transaction models likens the account-based model to spending money from a debit card and the UTXO model to spending money with paper bills. A bank keeps an active record of the amounts held in all debit accounts and checks balance records before approving a transaction. On Ethereum, the blockchain performs a similar function and updates the balances of user accounts at the creation of a new block. The data stored within each block containing updated records of all account balances is called the blockchain’s “global state.” In a UTXO model, the blockchain does not need to keep an active record of the coins stored in all addresses before approving a transaction. The network only needs to verify that the transaction outputs about to be spent have not been spent before. In this way, UTXOs are likened to paper bills in a wallet that can be used in a transaction after being verified as legal tender and not counterfeit bills. Spending a bill may result in the buyer receiving additional bills and coins back into his or her wallet as change. In the context of Bitcoin, change from a transaction would be received in the form of new UTXOs. One of the primary motivations for building a blockchain with an accounts-based model rather than a UTXO-model is to simplify transfers of value on the network. There is no change generated from a transaction on Ethereum like there is on Bitcoin. There’s only one balance that gets debited or credited from an Ethereum account as opposed to multiple balances in the form of UTXOs from a Bitcoin address. These simplifications make it easier for a dapp developer to write code interacting with transactions made on the Ethereum network. In the next two sections of this report, we’ll delve into a handful of metrics based on account data and discuss what they reveal about Ethereum’s value proposition as a dapp platform. Accounts | 5 ACTIVE ACCOUNTS The total number of unique accounts on Ethereum can be a misleading metric. This is because the vast majority, like addresses on Bitcoin, are not actively used to send transactions on the network. Filtering out accounts that have not sent or received ether within the last 24 hours is one way to more closely track real user activity on the network. The total number of active accounts on Ethereum reached its peak in January 2018 around the same time ETH price hit its all-time high of $1,382. Historically, peaks in this measure have coincided with market tops, and troughs with market bottoms. This pattern is not unique to Ethereum. It can also be seen when comparing the total number of active addresses on Bitcoin with BTC price. In both cases, a higher level of user activity on the network (as measured by the number of active addresses) often signals growing user adoption for the crypto asset and therefore value in the hands of investors. Accounts | 6 A signal for growing user adoption Number of Active Accounts on Ethereum and ETH Price 600K $1,100 550K $1,000 ) 500K ETH price s d Number of active accounts n a $900 s u 450K ) o h D t S ( $800 U e ( g 400K e a r g e a v r a $700 Source: Coin Metrics and Glassnode e v g 350K a n i g v n i o $600 v m o 300K y m a y d - a 0 $500 d - 3 250K , 0 s 3 t , n e u c $400 i o 200K r c p c a H f T o $300 E r 150K e b m u $200 N 100K 50K $100 0K $0 2017 2018 2019 2020 2021 There are a number of other ways to filter account data so that real user activity can be more closely tracked. They include only looking at accounts holding greater than 1,000 ETH or less than 1 ETH. They also may employ heuristics similar to the ones used for Bitcoin addresses that link accounts to known entities such as cryptocurrency exchanges or mining pools. Because these metrics do not differ in application and methodology to Bitcoin addresses, we will not go into them further in this research note. More information about metrics related to active addresses, and subsequently active accounts, can be found in our report “Addresses: The Pseudonymity of the Blockchain” here. In the penultimate section of this report, we’ll take a closer look at data that is unique to blockchain accounts on Ethereum and discuss how it can be analyzed to reveal trends about user activity. Accounts | 7 SMART CONTRACT ACCOUNTS Over one fifth of Ethereum accounts are controlled by code and not by users. These accounts have a special name: smart contracts. The term “smart contract” was first coined by digital currency pioneer Nick Szabo in the 1990s. Szabo used the term to describe computer protocols that could carry out the terms of a legal contract digitally. As applied to Ethereum, smart contracts are accounts that contain code able to automatically execute tasks on the network such as the initiation of additional transactions. This code is part of the global state of the blockchain, which gets updated along with data about account balances at every block. The growing share of smart contract accounts It is easy to identify which accounts are user-controlled and which are controlled through smart contract code using blockchain data. Block explorers like Etherscan, used to track activity on crypto asset networks, frequently label smart contract accounts with a special icon and feature an additional tab of information revealing what code is attached to the accounts. Accounts | 8 How to identify a smart contract on Etherscan How to identify smart contract code on Etherscan Accounts | 9 All dapps are run by smart contracts on Ethereum. High-profile dapps such as decentralized finance lender MakerDAO and stablecoin issuer Wrapped Bitcoin often publicly identify their deployed smart contracts for the purposes of increasing user trust in their applications. All tokens created on Ethereum are also issued by smart contracts. In order to support trades of Ethereum-based tokens between different user accounts and smart contract accounts, there is a standardized design known as the ERC-20 that establishes a common set of rules for issuing these crypto assets. The ERC-20 standard was a key piece of technology that helped ignite the initial coin offering (ICO) boom of 2017 and 2018 during which token issuance on Ethereum became a fundraising tool for crypto startups and projects.