February 7, 2020
It is one of the most hotly discussed topics in the entire crypto space: In May 2020 the next halving of the Bitcoin block reward is due - an event that Bitcoin miners are looking forward to very positively, almost euphorically. But why actually? Isn't that a contradiction?
Without mining: no bitcoin
Bitcoin mining is an integral part of the Bitcoin ecosystem and the core of blockchain technology. Bitcoin miners keep the entire network running by checking or validating transactions and thus securing the blockchain. They are rewarded for the work and computing power made available for this with the fresh bitcoins that are created every 10 minutes, as well as the transaction fees incurred in the entire network.
However, if the number of newly created Bitcoins halves every 4 years, how can mining remain profitable in the long term? Is it possible that Satoshi Nakamoto's calculation is not working at all?
How are all hungry miners supposed to be fed when the “fresh Bitcoin cake” shrinks by half every 4 years?
Before going into the exact details, an important principle remains to be emphasized, which the crypto community must admit and accept without objection:
Bitcoin mining MUST remain profitable in the long term, as the entire network, its stability and security depends on the willingness and work of the miners.
Or in short:
Without sufficient rewards for miners, there is no mining. And without mining, there is no Bitcoin.
Conversely, this also means that the dwindling amount of newly created Bitcoins that are paid out to the miners must somehow be absorbed in order to ensure the survival of the network, which leads to the following question:
So how does the “shrinking Bitcoin pie” get richer?
This happens through a self-regulating mechanism, which in the past was more than clear, especially with the Halvings, and which essentially comes into play through two factors.
Probably the clearest and currently most decisive factor is of course the Bitcoin price itself:
As described in our article from December 18, 2019, the Bitcoin price results exclusively from supply and demand. This shortage of supply with increasing demand led to Bitcoin rising 10 to 500 times in the past Halvings.
And so from May this year, the amount of newly created Bitcoins in circulation will be drastically reduced (according to the stock-to-flow model by up to 63 million US dollars per week)
(For comparison, the halves in 2012 and 2016 only took $ 302,400 and $ 8.19 million a week out of circulation, respectively.)
Although the halving is still more than three months away, some similarities and parallels to the past can already be seen today:
After rising to $ 20,000 in December 2017, the low of $ 3,152 followed in mid-December 2018, around 519 days before the next Bitcoin halving.
Remarkably similar, the Bitcoin hit its lowest point before the second halving, around 544 days before the halving.
Even more: the current price increase since the bottom is already 3.1 times. For the second halving, Bitcoin gained 3.3 times after the then low.
Another factor that currently still appears to be negligible is the transaction fees, which will play a decisive role for the entire Bitcoin network, especially in the long term: Every Bitcoin transaction incurs a very small fee that is of little relevance to the individual , but in the masses and with increasing adaptation it will be an important source of income for Bitcoin miners in the future.
This is the only way to ensure that Bitcoin Mining can remain lucrative even after the last “fresh Bitcoin” was mined in 2140.
Because one thing is certain: Inversely, insufficient remuneration for Bitcoin miners would mean no mining. No mining means no functioning Bitcoin network.
In this sense, it can already be seen today that the exact composition of the reward for miners is slowly shifting in favor of the transaction fees:
Although the block reward or “fresh Bitcoins” is still the main source of income for miners (blue in the figure), the transaction fees (orange in the figure) are slowly starting to play a role with the ever-increasing use of the Bitcoin network barely noticeable before 2017:
So Satoshi's calculation works!
One thing is also clear: the misconception that Bitcoin mining would become less profitable over time due to the halvings is not only wrong, but also illogical at its core.
First of all, the principle remains to be emphasized that as long as there is Bitcoin, mining MUST remain profitable. If it weren't for that, there would be no Bitcoin.
And so the past 11 years have shown not only that, but also exactly how the self-regulation mechanism developed by Satoshi Nakamoto works and Bitcoin can assert itself today more than ever as an inflation-protected and sustainable currency.
Blog post from January 16, 2020Continue reading
Part 2 of the big year in review series from December 18, 2019Continue reading
Part 1 of the big year in review series from December 11, 2019Continue reading