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"South Korea Mutual Aid Association staff had to invest in encryption basket case Bitcoin. It is the first case of a decision to invest in cryptocurrency among domestic pension funds."
This is big news. First, the Houston Fireman Pension fund last week and now this out of Korea. Institutions are warming up to Bitcoin despite the rampant energy FUD during Q2 and Q3. Let's dig into Bitcoin mining and discuss what it is, what it's not, and why smart money is learning that it is not actually going to boil the oceans. :)
Bitcoin Mining Basics
Some questions still remain like:
- If no one controls it, where do bitcoins come from?
- How are they created?
- Why would anyone bother keeping this incredibly long LEDGER of every transaction ever?!
These questions relate to what is known as bitcoin “.” This is the name given to the individuals and computers that find/create new bitcoins because similar to mining for actual gold, “miners” perform some amount of work before discovering the scarce asset of value.
Miners are the international network of computers that:
- bundle bitcoin transactions into the blocks (if the block gets filled, the remaining transactions will be added to the next block)
- Solve a cryptographic puzzle (the “Proof of Work”)
- send the blocks out over the network to be cross-checked and verified OR they will check other’s incoming blocks for accuracy
- propagate approved blocks across the network to let other nodes know and move on to the block of transactions
Miners are extremely important to the health of the network and the idea to include the process of PoW mining was one of Satoshi’s key innovative ideas. In short, they are responsible for new Bitcoin block generation and adding blocks to the blockchain but beyond that mining aids in:
- Securing the network and preventing corruption from malicious actors
- Minting new bitcoin into circulation in a predictable, predetermined manner
- Maintaining a historical record so that the chain remains auditable and transparent allowing global consensus to be reached
In order to actually do all this, bitcoin miners must try and solve incredibly complex cryptographic puzzles by essentially guessing random numbers and running them through a cryptographic function called a “” until they have guessed correctly, or until someone else has beaten them to it. This is a block selection process meant to be attack-resistant known as “Proof of Work (PoW)” and it is an ingenious way of deciding who gets to add the newest data to the blockchain in a decentralized manner.
Mining explained.
Once a miner has solved the puzzle and found the correct answer, they will send their work across the network to be checked by other miners. After all, the entire network must come to a consensus about whether or not this block (and the transactions inside) are indeed valid. The collective computing power by the entire network is called the collective "hash rate." When the hash rate is higher, that means there are more people/computers working to solve for the next block. Currently, hash rate is near all-time highs (discussed more down below).
Source: CoinMetrics
To reach consensus among the tens of thousands of distributed miners (nodes), Bitcoin uses the established rule that the longest/strongest chain wins, i.e. the chain with the most computational work behind it. This rule ensures that the proposed block has the required work performed. This is referred to as “Nakamoto Consensus” and as long as a majority of CPU power is controlled by honest nodes not cooperating to attack the network, they’ll generate the longest chain/most work and prevent attackers on the network.
Would-be attackers who act maliciously have their blocks rejected (because they do not agree with the current shared, global consensus) and lose out on the bitcoin reward. Not only that, but they also bear the cost associated with PoW mining, thus incurring the cost of electricity without compensation.
Why would miners run these huge computer farms just to solve a quirky puzzle? It’s because they get paid in bitcoin for every puzzle they solve that leads to the addition of the latest block to the blockchain. This reward is called a block reward. That’s how bitcoins are born.
Difficulty Adjustment
Approximately every ten minutes, a new block is produced and new bitcoins are created. This consistency and predictability in the monetary policy is part of the magic of Bitcoin. The Bitcoin system was designed so that it becomes progressively more difficult to “mine” bitcoins as more computing power is added to the network. This is known as the Difficulty Adjustment. It does not matter if 100 computers are mining or 100,000,000, the Bitcoin network will dynamically correct itself thanks to the Difficulty Adjustment so that, on average, a new block is produced every ten minutes.
Halvenings and Predictable Monetary Policy Issuance
This adaptive structure of the network allows for a very predictable supply schedule including predetermined “halvenings.” In May 2020, Bitcoin underwent its 3rd halvening in which the issuance rate of new bitcoins gets reduced by 50% or halved. These will continue approximately every 4 years until all 21 million bitcoins have been created sometime around 2140. After that, the miners will no longer get new bitcoin, but will sustain their operations through transaction fees for their work.
Bitcoin’s issuance rate over time.
PoW and Nakamoto Consensus combined provide security to the network and beautifully align incentives for the miners to keep the system running. This block-producing process deters attacks on the network by requiring extremely large amounts of computing power on behalf of the attacker. Since there is so much competition to solve the puzzle and earn bitcoins, a potential malicious actor hoping to “Double Spend” and steal bitcoin, or alter the Bitcoin blockchain in any way would have to spend an astronomical amount of money just to buy enough specialized mining computers and run them (electricity costs) just for the chance at solving the puzzle first. In addition, the beautiful irony is that if anyone DID corrupt the Bitcoin network, it would cause panic among the users and the price would crash thus making the new bitcoins that our bad guy just claimed, worthless.
Energy Use
As of Q4 2021, Bitcoin mining is global, billion industry. The map below illustrates how much each country participates in Bitcoin mining. The Cambridge Centre for Alternative Finance (CCAF) released a report in Q3 2021 illustrating that the U.S. has become the global leader in Bitcoin’s hash rate, accounting for ~36% of mining activity compared to less than 20% in May 2021. U.S. Bitcoin mining companies controlled a total of ~43 exahashes per second (EH/s) in August 2021. According to the report, China’s share of mining has “effectively dropped to zero”. The decline in Chinese-controlled mining, which once topped 75% of all hash rate in September 2017, is generally considered a net positive for the industry as a more geographically and politically diverse mining ecosystem is more robust and resilient than one centralized under one political regime.
Source: Cambridge Bitcoin Electricity Consumption Index
Finally, Bitcoin mining is oftentimes denigrated for its "wasteful" energy use, however, the cost to secure the network what gives it security. If there was no cost, then there would be no security. Even so, readers will often see headlines about Bitcoin using as much energy as a small nation. Well, that's because Bitcoin literally is a small, digital nation, facilitating commerce and settlement for millions of people. It is doing so without borders or a government but is a top 10 currency in the world. it makes perfect sense it would require that much security. Perspective is also important because even with its current energy usage, Bitcoin uses a small, small fraction of the energy required to mine gold, run the traditional financial system, or secure and protect the US dollar. Heck, it even uses less electricity than home clothes dryers in the US.
Bitcoin energy use versus similar products. Source:
Additionally, based on a recent report from the Bitcoin Mining Council and past reports from the likes of Coin SharesCambridge Alternative Finance, Bitcoin mining is already “greener” than most industries and vastly more so than the U.S. electrical grid. This is contrary to the many hyperbolic headlines concerning Bitcoin’s energy usage and provides a new perspective on the mining industry. Take a look at the numbers from each report and ask yourself, “Why should Bitcoin mining, specifically, be condemned when so many other industries are less scrutinized?”
Estimated renewables penetration inBitcoin mining
2019 CoinShares research = 73%
2020 Cambridge Alt Finance research = 40%
Recent NA Mining Council report = 53%
US power grid = 19%, via
