What are Gas Fees? A Complete Guide

What are Gas Fees? A Complete Guide

Gas fees are payments on Ethereum for transaction processing and smart contract execution, ensuring network reliability and security. Read on to know...

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You fill your vehicles with gasoline for them to operate and take you to places, right? Similarly, the Ethereum network requires fuel to do operations and in technical terms it is called ‘gas.’ Now, you must be wondering why it has such a generic name. Well, what is gas in cryptocurrency is what we will be learning about now. 

When you go out for lunch or dinner, you have to pay the restaurant the charges for the food, plus some extra fees for their hosting. Similarly, for any operations that you desire to perform on the Ethereum network, you need to pay up some gas as the fee. The gas fees the blockchain network charges are used to reward the users who helped in verifying your transactions and supported all your operations on the chain. 

But how are gas fees calculated, and what is its significance? Let’s find out!

What are Gas Fees?

If you’ve just conducted a transaction on the Ethereum blockchain, you must be aware of what gas is in cryptocurrency, also known as gas fees. If you’re wondering what gas fees are and why gas fees are sometimes so costly, we have got you covered. Today, we’ll go through the fundamentals of gas fees – what gas is in cryptocurrency, how they’re determined, and what the future of Ethereum-based transactions looks like.

The amount of gas fees for blockchains like Ethereum varies according to the magnitude of network congestion. This implies that the gas fees on blockchain will increase as more people use the network. And because the ethos of Web3 is built around democratization and inclusivity, this basic scaling problem largely calls those guiding principles into question.

Individuals must pay gas fees on blockchain to conduct a blockchain transaction on the Ethereum network. These fees reimburse blockchain miners for the processing power they expend confirming transactions on the blockchain. Usually, they receive payment in the native cryptocurrency of the blockchain, in this case, Ether. While paying for gas is a must for blockchain transactions (you can’t do them without it), the gas price is extremely volatile and depends on various variables.

Block time and transaction throughput are the key components for each blockchain, determining how quickly new blocks are generated (how many transactions a single block can process). In general, there will be less competition for block space if the blocks are generated faster. If that’s the case, the more transactions they can carry,  the lower the gas fees will be. All network users benefit from lower transaction fees as a result.

How Does Gas Fees Work?

For the operations and maintenance of a blockchain network, a huge number of participants and their hardware support is required. Ethereum works on the principle of a digital ledger of transactions distributed to a large network of computers. Now, validators are in place to verify and add the transactions that the users perform on the blockchain as blocks of transactions. This requires a lot of energy and time. Gas fees is the cost a user pays to the blockchain network for providing them the support and efficiency while using the network. So, gas fees work in a way where the charges are decided based upon the kind of transactions the users need to perform on the network. The gas fees are paid in the native currency of Ethereum blockchain and goes directly to the validators. 

In August 2021, the gas fees mechanism of the Ethereum network was updated and it now makes use of a new formula to find out the gas fees. This upgrade to the mechanism is called the London upgrade and has implemented a new method to how gas fees work. The formula used after this upgrade is:

                       Total fee = Gas units (limits) x (base fee + tip)

Each transaction to be completed on the ETH network requires a basic amount of gas. This is called the base fee for that particular transaction. When the number of users engaging on the network at a time is high, the base fee can go high as well. 

The gas unit is the amount of gas you are willing to pay to a user for verifying and adding your transaction. It needs to be more than the base fee so that the nodes in charge are attracted towards and willing to accept your offer. The block size on the Ethereum network is variable from 15 million gas to 30 million gas. The base fee for a transaction is calculated based on how the block size compares to the 15 million gas minimum target. With each block, the base fee tends to increase by 12.5 percent each time the 15 million gas limit is crossed for a transaction.

Finally, tip is the excess gas you pay to the node as an extra reward for their service and it is generally considered to be lucrative for the nodes. 

We do hope this tells you how gas fees work on Ethereum.

How are Gas Fees Calculated?

How are gas fees calculated

Source: Ethereum Yellow Paper | Cost in gas per instruction on the Ethereum network

Now that we know gas fees are calculated with the help of size of the transaction and the congestion on the network, there is a certain procedure to find out the actual gas fees to be paid. We must first comprehend the idea of gwei in order to grasp how gas fees are calculated. The cost of gas is measured in gwei, a very tiny unit of Ether (1 gwei = 0.000000001 ETH). For instance, a gas fee of 30 gwei would be equal to 0.000000030 ETH.

Post the London hard fork of Ethereum that happened in August 2021, Ethereum gas fees calculations have changed a bit. Here’s how gas fees are calculated on the Ethereum network:

Gas units (limit) x (Base fee + Tip) equals the total gas fee.

Let’s dissect this a little more.

How are gas fees calculated on Ethereum
Source: Ethereum EVM Illustrated | How are gas fees calculated on Ethereum? 

An Ethereum user’s gas limit is the most they are willing to spend in gas (or energy) to complete a blockchain transaction. Most wallets and platforms set the gas limit for a standard Ethereum transaction at 21,000 gwei, and the network also allows users to manually alter this value at any time. Users frequently raise their gas limits dramatically during gas wars, in which numerous users compete to control the priority of a transaction in the following block.

Nevertheless, the Ethereum network will only consume the precise amount of gas required to complete the transaction. Your wallet will be credited with any excess between your gas cap and the actual quantity of gwei required. Setting your gas limit too low, on the other hand, will probably result in transaction failure and wasted gas payments that you’ll never be able to recover.

The base fee comes next. Each block now has a base cost that changes based on the network congestion level, which was also added as part of the London upgrade. Each base fee is burned or removed from Ethereum’s supply circulation as a part of its deflationary mechanism to counteract the issue of new ETH. Users are therefore urged to include a priority charge (tip) with each transaction to make up for the money miners would have previously received.

Here is an example of a basic gas fee calculation keeping everything in mind. Consider Charles’ request to mint an NFT for 1 ETH.

1. There is a 21,000 unit gas cap, a 50 gwei base price, and a 15 gwei tip for Charles.

2. The formula for calculating gas is 21,000 (the gas limit) x (50 (the base price) + 15 (the tip)), or 21,000 x (50 + 15). This results from a total gas fee of 1,365,000 gwei, or 0.001365 ETH.

3. Charles will debit 1.001365 ETH from his wallet for minting the NFT. One Ethereum will be transferred to the NFT project wallet, while 0.000315 Ethereum will be paid to the miner as a tip, and 0.00105 Ethereum will be destroyed as the base fee. 

Users have complete control over the maximum fee they’d like to pay, including the basic and priority fees, by setting a maximum fee for the transaction.

However, although this strategy improves price predictability, congestion-based pricing remains a problem. The Ethereum team, led by Vitalik Buterin, is busily developing a new, scalable version of Ethereum, which seeks to solve the issue of congestion-based pricing.

Making Gas Fees Affordable on Blockchain After “The Merge”

The Ethereum 2.0 upgrade or Merge will take place in September 2022, the Ethereum team finally revealed in an announcement after repeated delays. The proof-of-stake consensus model will replace the proof-of-work consensus in Ethereum 2.0, which is intended to increase scalability, security, and efficiency. As stated by the head of Ethereum team, Vitalik Buterin, Ethereum is working relentlessly to reduce the network congestion over the main chain. The proof of stake consensus mechanism is expected to bring a change in the high gas fees charged by the platform and lessen it, as Ethereum enthusiasts across the world are hoping. 

This will greatly increase transaction throughput (Ethereum 1.0 can process about 30 transactions per second, whereas Ethereum 2.0 claims to complete 100,000 per second), and it will greatly cut gas costs by lowering the computational power required for each transaction. Users have been relying heavily on Layer 2 protocols in place of the much-anticipated upgrade to enable faster and less expensive transactions. The layer 2 protocols are able to process all the transactions like the main chain but have significantly lesser traffic. This helps the users get their transactions processed faster and that too by paying less gas fees. 

1. Layer 2 Protocol

First of all, you need to understand what is layer 2 protocol. It is a new blockchain layer that operates on top of an already existing blockchain network. It helps to improve the scalability and efficiency of the network through taking up part of the traffic for processing. Once done processing the workload, a layer 2 protocol reports back to the main network to record the final work. In order to increase transaction throughput and lower gas fees, blockchains like Layer 2 protocols (L2), alternative scaling frameworks, are built on top of already-existing Layer 1 blockchains such as Ethereum. Sidechains and rollups are the two Layer 2s that are most widely used and trusted by users to avoid high gas fees during peak times on the Ethereum network. 

A great example of a layer 2 protocol is ‘The Lightning Network’ of the Bitcoin blockchain. It is built on top of the existing Bitcoin blockchain to improve the transaction speed of the main chain. Polygon is similarly a layer 2 solution built to help scale Ethereum.

2. Sidechains

A side chain is an independent blockchain network linked to a parent blockchain by a two-way bridge. Sidechains enable secure token transfers back and forth between blockchains through smart contracts. Although sidechains are linked to the main blockchain (mainnet), they run on their own consensus methods.

For instance, In addition to lengthening block times and dramatically lowering gas costs for Bitcoin, sidechains like Rootstock (RSK) also enhance the blockchain’s functionality. The RSK blockchain expands the use cases for Bitcoin by giving the network scalability smart contract capabilities.

Users familiar with Ethereum frequently utilize Polygon as a rapid, affordable, and scalable substitute which is a layer-2 scaling protocol built over Ethereum. Polygon, unlike Ethereum, runs on a proof-of-stake consensus, allowing for faster transactions, higher transaction throughput, and lower gas fees. Additionally, gas is paid in MATIC, the native currency of Polygon, which is much more affordable than ETH and results in payments of pennies rather than hundreds of dollars.

In light of this, DeFi and bulk-NFT trading have chosen Polygon as their preferred blockchain. Despite all the benefits, it’s vital to remember that sidechains, like Polygon, have their own unique set of problems with downtime and security.

3. Rollups

Rollups are scalability solutions that group together (or rollup) several blockchain transactions at once, storing the transaction information on the primary blockchain (on-chain) while carrying out the actual transaction on a different chain (off-chain). Rollups also offer higher throughput and cheaper gas costs depending on off-chain execution while validating the transactions on-chain. There are two primary categories of rollups at this time: optimistic rollups and zero-knowledge proofs (ZK proofs). Although each method has benefits and drawbacks, they demonstrate great promise.

You ought to now have a solid understanding of what is gas in cryptocurrency and how gas fees are calculated. Gas fees will never go away completely, and there is still plenty to be observed from the launch of ETH 2.0.

Why Do Gas Fees Exist?

In essence, gas fees contribute to the safety of the Ethereum network. A price is imposed on each computation performed to stop malicious users from spamming the network. Each transaction is needed to limit how many computational steps of code execution it can use to prevent unintentional or malicious infinite loops or other computational waste. “Gas” is the basic unit of computing.

Another legitimate reason for the existence of gas fees is rewarding the nodes who help in running the Ethereum network. Stakers continuously participate in the network and take up transactions to verify and add to the blockchain. Therefore, part of the gas fees is directly transferred as reward to nodes who add blocks to the chain. Without any such incentive, the Ethereum chain will have zero participants to verify the transactions and the blockchain network will become stagnant. Therefore, gas fees work as an incentive to keep the network up and running. 

Even if a transaction has a limit, any gas fees not utilized in the transaction are given back to the user (i.e., the maximum fee minus the basic fee plus the tip).

What is Gas Limit?

What is Gas Limit?
Source: Freepik

The term “gas limit” describes the most gas you will ever use in one transaction. Smart contract transactions that are more intricate demand more computing labor, necessitating a higher gas cap than a direct payment. The typical gas limit for an ETH transaction is 21,000 units.

For instance, if you set a 50,000 gas cap for a straightforward ETH transfer, the EVM would use 21,000 of that cap before returning the remaining 29,000 to you. The EVM will use your 21,000 gas units in an attempt to complete the transaction, but it will fail if you set a gas limit that is too low, like 20,000 for a straightforward ETH transfer. The EVM then undoes any modifications, but because the miner has already expended 20,000 gas fees, blockchain has used that gas already.

Moreover, the gas limit of a transaction is the amount of work that the network thinks will be required to validate the transaction. It is generally calculated based on the type of transaction and the urgency of the user to add it to the blockchain. Gas limit multiplied by the gas price provides the total cost of the transaction without the extra incentive to be paid to the validators. This means that a higher gas limit indicates a higher transaction cost for the users.

Difference between Ethereum Vs. Bitcoin Fees

Gas FeesBitcoin Fees
It is the transaction or support fees charged by the Ethereum network from any user to perform any operation on the network.It is the transaction or support fees charged by the Bitcoin network from all the users for performing any kind of operation on the network.
Gas fees are calculated by adding the gas units, base fee and the tip for the node that verified the transaction to be added to a block.The Bitcoin transaction fee does not rely on a particular formula. It is calculated based on the data volume of the transaction and the transaction speed that the user desires.
The average gas fees for all Ethereum transactions is not easy to calculate. It keeps fluctuating as the network congestion keeps changing. Average Bitcoin transaction fee in 2022 was around 0.000044 BTC or about $0.957. This average kept ranging from $1 to $5 in 2022 and was at its peak in 2021 when the cost was about $60.
The gas fees have risen ever since the London Upgrade and the Ethereum Merge. This is because of the extra audience that the Ethereum network has generated due to these events.It is seen that with the growth in the price of BTC, the Bitcoin transaction fees have dropped. 
The gas for each Ethereum block ranges from 15 million to 30 million. Based on how much gas will be required for addition of a transaction, the gas fees are calculated.The average block size on the BTC blockchain is about 4mb. The transaction size also determines the transaction fees to be paid by the users.

Why Can Gas Fees Get So High?

The popularity of Ethereum is to blame for the high gas fees. Any activity on Ethereum requires the use of gas, and the amount of gas available per block is restricted. Calculations, data storage or manipulation, or token transfers are all subject to fees and require varying amounts of “gas” units. The Ethereum blockchain has experienced a recent surge in popularity. It is used to mint NFTs, enable smart contracts in DeFi, and conduct Ether transfers. Additionally, all ERC-20 coins supported by the Ethereum blockchain, including Chainlink and USD Coin, clog the network.

Gas is used during every Ethereum activity. The gas model is an auction-based system where customers can outbid one another to speed up transaction completion. Because it is more profitable, miners are encouraged to choose transactions with the highest gas prices first. According to the laws of supply and demand, gas prices increase as Ethereum’s network becomes a host to a greater number of dApps, NFTs, and users.

However, it should be noted that the cost of a particular transaction is not determined by the gas price alone. We must multiply the amount of gas consumed by the transaction charge, which is expressed in gwei, in order to determine the transaction fee.

Why Generate a Gas Fee and Why is it Important?

A blockchain network is managed by the participants of that network and the blocks are added by chosen nodes. So, the gas fees are important for these nodes to keep supporting the blockchain and add the blocks to the Ethereum chain. Ethereum network is one of the most versatile and most used blockchain networks in the world, and the gas fees are generated to keep the morale of the participants high and keep the network going. What’s more, the gas fee is required in order to make sure that the whole network does not have any loopholes because of the lack of support from the participants, due to insufficient incentives.

As we discussed earlier, the gas fees Ethereum charges are as important for it to function as fuel is for a vehicle to run. 

👉Interested in deep diving more on this topic? Check our detailed guide on Transaction Fees in Blockchain.

What Initiatives Can Be Taken To Reduce Gas Costs?

Once Ethereum undergoes its Merge upgrade, the platform will be able to execute thousands of transactions per second and scale globally once the scalability improvements have resolved some of the gas pricing difficulties. Currently, the main attempt to significantly reduce gas costs, enhance user experience, and increase scalability on the Ethereum network is layer 2 scaling solutions. Post the upgrade, Ethereum developers are working toward introducing sharding, whereby large datasets are broken into smaller manageable parts, which help boost performance and scalability. 

Ethereum layer 2 initiatives are supported by the concepts of rollups, mainly Optimistic rollups and ZK rollups. The main concept behind rollups is the use of scaling systems. They help to reduce the gas fees and at the same time increase the transaction processing speed. They combine a number of transactions into one transaction and then feed them to the Ethereum mainnet. Optimistic rollups check that each transaction is valid and is not trying to fool the blockchain network. This therefore reduces the spamming of mainnet and thus improves the transaction processing speed. 

On the other hand, ZK rollups (zero knowledge rollups) use a special cryptographic algorithm to conduct false proofs for all the transactions. ZK rollups therefore require an activation fee which is much lesser compared to the gas fees required. 

Both these initiatives have their own upsides to reduce the gas fees and therefore make the transactions more affordable on the Ethereum mainnet.

What Strategies Can Be Taken To Reduce Gas Costs?

You can set a tip to denote the priority level of your transaction if you want to save money on gas for your ETH transaction. Because miners get to retain the tips you pay, they are likelier to “work on” and complete transactions that give a larger tip per gas. They are less likely to complete transactions with lower tip settings.

Another strategy that can be used to pay less gas fees on Ethereum is to make use of layer 2 networks instead of the main Ethereum network itself. The layer 2 network is a secondary framework which is built on top of a primary blockchain. Layer 2 blockchain networks share the load of the main chain and take up the processing work for a certain number of transactions, which they later report back to the main chain. 

A layer 2 framework usually has lesser congestion and performs the transactions faster than the main network. This reduces the gas fees that the users have to pay to the network. 

Conclusion

There is no doubt that a few other chains could gain a sizable number of users and volume due to the high transaction costs issues Ethereum was facing recently. However, it’s difficult to predict how much of this will be a short-term play and how much will be a longer-term user acquisition at this stage. It is important to remember that not all of these chains are completely decentralized and permissionless, and Ethereum will continue to remain a forerunner in the decentralization race with its upgrades promising to make the network more economical and energy-efficient. 

Frequently Asked Questions (FAQs)

1. What are Gas Fees? 

Gas is the payment made to miners for supplying the processing power needed for each transaction to be processed on the Ethereum blockchain. Gas fees also contribute to the safety of the Ethereum network. Every transaction should have a cost attached to avoid spamming or unintentional infinite loops.

2. How are Gas Fees Calculated?

You should use 21,000 units of gas if the transaction is straightforward, such as transmitting ETH or an ERC-721 token to another address. Go to the contract you want to work with and start looking through the transactions that have been made. Following EIP-1559, a transaction creator’s overall charge is computed as follows: (base fee + priority fee) x units of gas utilized.

3. Who Gets Gas Fees?

The Ethereum network is supported and protected by those who receive gas fees. Gas fee payouts go to Proof-of-Work (PoW) miners on the Ethereum protocol on the execution layer of Ethereum (formerly known as Ethereum 1.0). Gas fees are allocated to individuals staking ETH to support this revised Proof-of-Stake (PoS) variant of Ethereum on the consensus layer of Ethereum (formerly known as Ethereum 2.0). The two layers of Ethereum will merge during the Merge event scheduled in September this year. 

4. Why is it Called Gas Fees?

Gas fees, despite their name, have nothing to do with the use of liquid fuels or the environmental effects of mining. Instead, it is the compensation miners receive for adding or processing transactions.

On the Ethereum blockchain, “gas” is the fee or pricing value needed to complete a transaction or contract. The gas is used to distribute Ethereum virtual machine (EVM) resources so that decentralized applications like smart contracts can self-execute in a safe but decentralized manner. It is priced in small fractions of the cryptocurrency ether (ETH), also known as gwei and occasionally termed nanoeths.

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