Fundamentals of Bitcoin Mining

Server_01_Black

Mining Rewards

Currently, miners are getting a reward for mining. This started at 50 bitcoin and halves every 4 years. It is currently at 25 and should fall to 12.5 sometime around the end of 2016 or beginning of 2017. This process of halving continues until there are about 21 million bitcoin in existence. After that, miners do not get rewarded with blocks for mining. However, there is a transaction fee built into the system. It is currently very low since the miners get rewarded with new bitcoin instead of the transaction fees. In the future, transactions are going to cost money. This cost will have to be competitive with other services in the market. Learn more about the Costs of Bitcoin paid through inflation and transaction fees.

Energy Costs

The cost of energy to mine coins will be factored into the equation to figure out the price of a bitcoin. The amount of energy to provide the equivalent amount of computer power decreases over time. For example, the AntMiner S1 has a Power efficiency of 2 W/GH/s on wall. That is, it costs 2 watts of power to process 1 gigahash in one second. The AntMiner S5 has a Power Efficiency of 0.51 W/GH/s. This is about a half a watt of power to process 1 gigahash in one second. Another word for W/GH/s would be a Joule. Over time, we will use lesser and lesser energy to provide the same amount of processing power. This fact makes it so the costs to maintain the Bitcoin network do not grow exponentially. I would not be surprised to see rates of 0.01 W/GH/s in a few years from now. Moore’s law states that processing power doubles every 18 months – the processing power for ASIC miners for Bitcoin doubles every 6 months. This time for doubling is shrinking. We could see doubling of processing power every month at some point in the future. Most people predicted that Moore’s law would slow down, but this might not be the case. However, there are some physical limitations in our universe that will prevent us from further increasing processing power. I would say the most extreme limitation is the speed of light.

Processing Bitcoin a Waste of Energy

Does all the processing and effort done by the miners just waste resources? It does create the market for the software & hardware jobs in engineering and manufacturing surrounding Bitcoin mining. The results from the work that mining accomplishes is more valuable than what the mining costs. This work would be done by expensive bankers if it was not done by the computer hardware. Computers can solve problems more efficiently than people in a lot of cases. Financing may well be one of them. Obviously, individuals will need to have control over the system and they will. The energy & resources consumed in the Bitcoin network is much less than the energy & resources that are consumed with the old-fashioned method of banking & finances. This energy can be reused as a method of heat in cold climates. I personally use miners to heat an addition to my home.

Mining Causes Heat

This heat needs to be put to use for it to be efficient. It would be useful in colder parts of the world. A mining community could exist in a colder part of the world. Heating the community would be profitable. I have two AntMiner S5s running in my spare room that is semi-attached to my house. I think it might have been an addition that was put there in the 1960’s, but it gets ice cold in there during the winter months. I use it as my little hobby/work room and the miners now provide, basically, free heat. I know it is not profitable with the current prices to mine bitcoin at home anymore. I did it as a hobby/educational scientific & engineering research type of a project. I will hold onto the bitcoins until they, hopefully, reach much higher prices. If they ever reach the peak of $1150 again, it will be fairly profitable for me to mine bitcoins. But, then again, I could have used that money to just simply buy bitcoins and that would have been more profitable in the hypothetical scenario where the value of a bitcoin again reaches $1150. I did buy them with a credit card on a 0% APR promotion so I would not have been able to purchase the bitcoins directly with my credit card as I can with the mining hardware. I will also be able to, hopefully, sell the miners in May when the warm weather approaches. This makes mining profitable for my specific case.

Typically, the only profitable mining can be done by large data centers with very cheap electricity. The cheapest electricity is in China – that is where most mining is done. KnCMiner is setting up mining facilities in the arctic where cool air is free and the electricity will be generated by solar and/or wind. That type of bitcoin mining that is going to survive for a very long time. The others will die in a process of selection of the most fittest mining operations.

Cloud Mining & Exchanges

Miners can potentially make more money by selling 12 month contracts because they can sell the hashing power at current rates and by the time 6 months has passed, the company can buy twice the hashing power for the same price in terms of processing and electricity. Note that Moore’s law states computational power on standard chips doubles every 2 years.

Cloud mining is when a mining company sells the shares of their mining hardware. This is done by selling Gh/s, that is Gigahash per second. People make bids to buy or sell a certain number of Gh/s at a certain price. When someone owns the shares they get the earnings that were made from the last block that was solved. The mining company will subtract the maintenance fees from the earnings. Once the maintenance fees are higher than the earning for 10 consecutive days, they will retire the old hardware. They have generations of hardware for sale and the latest hardware gets the most earnings for the least maintenance fees. The profits made from the shares can be used to purchase more shares. And the shares that are owned can be listed in the exchange as for sale and at a higher price than what they were purchased. This may maximize the amount of earnings. However, the prices of the hardware and bitcoin may decline and it is possible to lose money between the buy/sell price and the amount of earnings versus maintenance fees.

Hash Rate

The hash rate has grown to be very powerful and a lot of companies have been dedicated to hashing Bitcoin. The network is currently at about 300 Terahertz (300,000,000 hertz). Hertz means cycles per second. I would not be surprised to see this number get very large. It is growing at an exponential rate. It could soon be measured in petahash, exahash, zettahash or yottahash. Those are real words, too! petahash means 100,000,000 cycles per second. Yottahash means 100,000,000,000 cycles per second. The Bitcoin network is currently around 300,000,000 GH/s.

Mining Bubbles & Crashes

Mining is directly affected by the price of bitcoin. When the price of bitcoin drops, old mining equipment becomes unprofitable and thus the operators turn it off. This in turn, makes it more profitable for the newer mining equipment since there is less competition. The rewards are assigned to the miners based on how much processing power they supply. There is a difficulty factor that can go up or down based on how much mining power there has been in the last couple of weeks. When the price of bitcoin falls, the miners make less money and the old equipment gets removed from the market. The efficient miners with the new equipment remain profitable. This process will help the mining market progress. When bitcoin price raises, people invest making faster and more efficient mining equipment.

The mining equipment that uses the least amount of electricity will make the most profits as long as the price of building hardware to get the low electricity outweighs the profit. There is an equilibrium between all of these factors where the only outcome will be a balance between the hash rate, difficulty and price. The difficulty is a factor that makes the network as secure as possible with the amount of processing power that is currently possible. The more processing power that is contributed to the Bitcoin network, then the more secure it is. This balance should make minor spikes and drops in the hash rate over time.

During price drops, there will be less hashing and the network will be less secure, but the network will be worth less. It will always remain unprofitable for someone to attack the network. Even if the hashing power drops, then the intruders could not make a profit at the current rate of the bitcoin. It is not a trivial task to intrude on the network. It would take a significant amount of resources that nobody currently has. Someone would need the processing power of 15,000 times higher than the world’s 500 supercomputers combined. And, if they did accomplish this, then the price of bitcoins would be worthless anyhow, so they wouldn’t make any gains. If a very powerful entity or group of entities could make huge profits by shutting down the Bitcoin networks, then it would be profitable for them.

However, that would cause a fork and the developers would make efforts to stop the counter network from intruding on the newly created network. The act of taking down the Bitcoin network would be an act of cyber warfare. People from many nations have their wealth stored in Bitcoin. It is the duty of nations to protect its’ citizens from wide scale attacks. It would be the same as if a nation attacked the computer networks of businesses in a nation. The attacked nation would have the right to respond militarily. I think in the distant future, an effective attack on the Bitcoin network would be construed as an act of war against many nations. There will be terrorists and criminals that could attempt to attack the network, but that would be the same as terrorists and criminals attacked a bank. The Bitcoin network should be resilient against attacks from terrorists and criminals. Terrorists and criminals would never acquire the resources to launch an effective attack against the Bitcoin network. They would probably be able to more easily steal or buy a nuclear bomb from a nation.

It is the duty of nations to protect its’ citizens assets and interests. Citizens from many nations have vested interest in Bitcoin. An attack on the Bitcoin network by individuals will be regarded as an act of terrorism against all the countries who have citizens that are vested in Bitcoin. Nations would be obligated to protect the Bitcoin network. If a nation attacked the Bitcoin network, it will be viewed as an act of cyber-warfare against many nations at once. People argue that the Bitcoin can’t be legitimate because there is no nation that backs it. However, there are many nations that back it. It already has more backing by more nations than any other currency.

Colonizing the Poles

Another claim could be made that the profitability of mining bitcoin could be used to economically colonize the north and south pole. Portable homes that generate profits from the heat they generate could be airlifted to places in the north and south pole. There could be communities built around technology. And, even further craziness, this could lead to advancements in space travel and colonizing other planets such as mars. Heating would be expensive on mars. Maybe some complex mathematical models can be simulated with the technology that is created as a result of Bitcoin. I’m not claiming that this wouldn’t happen anyways, but Bitcoin is going to speed up the process. There is evidence that you can see by measuring the rate at which processing power grows. The amount of processing power on a chip typically doubles every two years. The processing power on Bitcoin mining power doubles every 6 months. The Bitcoin network has more 15,000 times more processing power than the world’s 500 most powerful supercomputers combined. That is extremely impressive and it is something that our has not seen before! These chips are very specific purpose for Bitcoin mining, but the advancements in technology will help to solve complex mathematical models. To name a few of the fields this will benefit:

  • genetic sequencing,
  • modeling the changes in the universe over time,
  • artificial intelligence,
  • quantum computing
  • and, many more…