When you have ever sent out Cryptocurrency, you may have noticed that the transaction fees on cryptocurrencies are not necessarily the same all the time. You could send Bitcoin for only a few cents or dollars on a given day, while sending it at a busy time of day could cost a lot more than sending on a day when there are fewer transactions. The same is true for Ethereum and virtually every other blockchain network; it is possible for the fees to change in a matter of minutes.
For new users, the inconsistent fee structure often causes confusion. Unlike traditional banking where fees tend to be fixed and are set by banks, the fees associated with cryptocurrency transactions are determined by the condition of the network (i.e., blockchains). There are numerous factors that can affect how much users will be charged for a transaction, such as the number of transactions and how congested the network is, the size of the transaction; how much incentive there is to validate a transaction; and the design of the blockchain itself.
Understanding what causes transaction fees to change is important for any person using digital assets. It gives people the ability, in addition to knowing how to reduce their transaction fees, to know when is the best time to make a transfer and allows people to ultimately understand how blockchain networks function. In this guide, we will discuss the main reasons for fluctuations in crypto transaction fees and what steps can be taken to reduce the fees you incur.
What Are Crypto Transaction Fees?
Every cryptocurrency that a user makes will be subject to transaction fees, meaning that people who use these cryptocurrencies will have to pay them. When making this payment, the user will have to grant the miner or validator (depending on how the transaction was processed) the funds necessary for that process. By providing this payment, the user is allowing their transaction to go onto the blockchain.
The transfer of cryptocurrency from one wallet to another often involves a transaction fee being identified before it is added to the blockchain. The fee helps provide incentive to the members of the network to rapidly process your transaction and to do so in a trustworthy way.
Transaction fees paid by users are collected by the miners or validators that operate, maintain, and secure the blockchain network. Transaction Fees are not paid or collected by the wallet provider(s).
Network Congestion Is the Biggest Factor
Network congestion is one of the main reasons for changes in transaction fees.
Every Blockchain has a capacity to process a number of transactions in a time frame. When there are only a few people using the blockchain to create their own transactions, there will be much more open space available, and transaction fees can remain quite low.
However, when there are a large number of users sending their transactions, then there will be many thousands of transactions that will compete for limited block space. Because miners and validators generally will only select and prioritize transactions that offer high fees, so it is common for users to increase how much they are willing to pay as a way to get their transactions confirmed quickly.
As long as users are competing for space on the Blockchain, the higher the transaction fees will be charged until there is a decrease in activity back to normal levels on the blockchain.
Limited Block Space Creates Competition
Blockchain networks are not designed to grow like conventional payment ecosystems through the addition of more hardware resources (servers, etc.), as these networks have a capped upper limit on the amount of data per block (e.g., Bitcoin) while other blockchains like Ethereum limit how much data can be transmitted through the network based on the amount of gas consumed during the process. Consequently, because there can only be a finite number of transactions included in a given block, when there is more demand than there is available space in the block, all parties will compete for the chance to be included. This limited pool of space available within blocks creates a dynamic market for pricing network fees as there will be variations in the market due to fluctuations in demand.
Transaction Size Matters
There is a common misunderstanding among some users about how transaction fees are calculated. A large number of people have the misconception that fees are based on the total cryptocurrency being sent – this isn’t always correct. Fees for many networks such as bitcoin (BTC), are originally calculated using the amount of transaction data being sent (in bytes) rather than the value of crypto being sent.
For instance, if your bitcoin transaction uses multiple wallet inputs, or you’ve created complex scripts, the transaction will take up more space in the block and will, therefore, be charged at a higher rate.
So, sending a small amount using bitcoin could potentially cost more than sending a much larger amount, due to how complicated a transaction was created.
Different Blockchains Have Different Fee Models
We don’t know when the blockchain will be finished. The only thing left is how to calculate fees. Some are calculated differently and all together there is a very competitive fee market which is based mostly on size of transaction. Bitcoin is basically a fee market for all transactions. Ethereum uses a gas (computing resources) system for all operations (such as buying ETH with credit cards) performed by each smart contract. If you are interacting with many different smart contracts like buying and selling NFT’s or Interacting with Decentralized Finance you will have a larger amount of transactions which will cost you more gas and a higher transaction fee. Other blockchains such as Solana, Avalanche and Polygon have been designed/engineered to be able to process a higher transaction volume than other blockchains, thus their fees are much lower than those of other blockchains. The architecture of each blockchain network is very helpful in determining how transaction fees can fluctuate over time.
Miner and Validator Incentives
To keep the blockchain secure, miners (or Validators) need to be properly remunerated for what they do for the blockchain.
In a Proof-of-Work network, miners use specialized equipment that consumes a lot of electricity to secure the network; they receive rewards in the form of transaction fees and block rewards as an offset to their operating costs.
In a Proof-of-Stake network, Validators stake their cryptocurrency to validate transactions; thus, they earn rewards through transaction fees and block rewards.
Because transaction fees fluctuate based upon the supply/demand factors of the marketplace at any given moment as well as the prevailing conditions of the network today, transaction fees are a good example of how the market determines price for various goods and services.
Market Activity Influences Fees
Cryptocurrencies may be the most active trading markets in terms of volume in the world. Large price increases or decreases, launches of new tokens and NFT collections, and opportunities in decentralized finance can cause spikes in activity with millions of users trying to transact at the same time. When there is a surge in transaction demand for a blockchain network, the amount of congestion on that network can cause transaction fees to be much higher than normal. In contrast, during periods of low transaction demand, the transaction fees will be significantly lower. As a result, the high fees that are charged during major crypto trading events tend to decrease when trading volume returns to normal levels.
Smart Contract Complexity Can Increase Costs
On programmable blockchains like Ethereum, fees to send a transaction on the blockchain are affected by demand on the network and how complex the computation is for that transaction.
For example, sending money between crypto wallets doesn’t need much processing power, while trading on a decentralized exchange or earning interest on money through a decentralized lending application generally involves executing smart contracts, which takes much more computational work to complete.
Thus, the more computational work needed, the more gas you use, and therefore, the more you will pay in fees to send your transactions.
As a result of this fact, users who participate in decentralized finance typically pay higher fees than those who just send money from one wallet to another. That is because the various decentralized finance applications all require a large amount of blockchain resources to operate; therefore, they generate significantly more transaction costs than sending money between wallets.
How to Reduce Crypto Transaction Fees
There are numerous ways to lower transaction fees even though users have no control over congestion on the network.
One common method is to send transactions at times when there is less activity on the blockchain, such as weekends or during off-peak times. Many wallets also offer users the ability to select between transaction speeds that are slower, standard and priority, allowing them to reduce their costs if they can wait for confirmation to be completed at a later time.
Another way to greatly reduce transaction costs is to use either an alternative blockchain network or Layer 2 scaling solution. Both methods are able to process transactions in a much more efficient manner than a typical blockchain while maintaining a high degree of security.
Will Crypto Transaction Fees Become Lower in the Future?
Many blockchain devs are working hard to increase develop that will reduce transaction fees using new technological advances. Options include layer 2 solutions, rollups, sidechains, sharding, etc doto increase the number of transactions while maintaining decentralization and security. They allow many transactions to get processed at the same time (therefore, they reduce congestion, creating a lower fee).
Also, as there is an increasing number of blockchain platforms being created, many are competing with one another to create faster and cheaper networks. Adoption is at an all-time high. Therefore, as Adoption continues to grow at such a rapid rate, expect continual improvement in scalability and affordability of transactions.
However, for periods of exceptionally high transactional demand, expect that increasing transactional fees will be a continual (however, temporary) fact of life for decentralized blockchain systems.
Conclusion
Transaction fees on cryptocurrencies fluctuate since blockchains are decentralized marketplaces and users compete for limited computational resources. The maximum price of a transaction is determined by multiple variables: network congestion, available block space (a component of the blockchain), the volume of the transaction, the complexity of any smart contracts tied to the transaction, and overall market activity.
Users should not perceive these fees as a disadvantage but should understand them to be an integral part of ensuring the security of decentralized network transactions, the ranking of transaction priorities, and the efficient allocation of limited resources. By understanding the reasons for price fluctuations, users will be able to identify when it is most advantageous to execute transactions and take advantage of lower-priced networks and make better decisions regarding their digital assets in an increasingly integrated blockchain ecosystem.
