Bitcoin Mining gets harder and hosts more: Here's why

10 August, 2019

Malta's Consumer Claims Tribunal heard a case earlier in 2019 involving a consumer who filed a complaint against a computer hardware provider after the Bitcoin mining machine he purchased failed to turn a profit. The complainant indicated that the machine consumed too much electricity. As such, the consumer was looking for a refund of some €2,000.

When all was said and done, the tribunal ruled in favor of the consumer. He was to receive a refund equal to the difference between what he spent on the machine and what he actually made mining Bitcoin. Once payment was made, the machine would be returned to the seller.

This case perfectly illustrates how Bitcoin mining has changed over the years. What began as an enterprise that hobbyist could engage in has become something accessible only to individuals or corporations with plenty of money to spend and unlimited access to electricity.

Controlling the mining rate

Mining coins as quickly as possible was the goal when Bitcoin was first released a decade ago. But Bitcoin's creator knew things couldn't go on like that forever. He knew that the pace of mining would gradually have to be slowed in order to protect Bitcoin's value. Thus he built mechanisms into the code to artificially control mining rates until the very last coin is eventually mined.

Without getting into all the technical details, mining coins becomes progressively more difficult as Bitcoin's blockchain grows. This should be obvious if you understand how blockchain technology works.

Blockchain takes its name from how data is structured. Bitcoin's blockchain is essentially a distributed ledger that continually adds new records with every Bitcoin transaction. A transaction sends data across the Bitcoin network where it can be picked up by miners operating nodes. That is where the real work begins.

Mining software must complete a complicated mathematical formula after decrypting transactional information. There is only one right answer to the problem. Assuming all of the nodes on the network come up with the correct answer, the transaction in question is considered legitimate. It is finalized and added to the ledger.

Understand that finalized transactions are made permanent once they become part of the blockchain. They cannot be modified or reversed. They cannot be deleted, either. That means the ledger just keeps growing. Moreover, computer nodes have to account for all previous transactions in order to finalize the transaction currently being worked on. So as the ledger grows, the amount of work necessary to finalize transactions increases.

Reducing coin value

It should also be obvious that the value of the work being done by Bitcoin miners decreases commensurate with the amount of effort it takes to get the work done. Of course, that would not be the case if mining rewards increased. But they do not. In fact, rewards decrease over time.

Bitcoin is set to halve in 2020. That means miners will earn half as much as they now earn for doing the same amount of work. They are relying on organic price increases and better hardware to keep themselves in the game.

Why would Bitcoin need to be halved? There are two reasons, beginning with the need to slow down the pace at which coins are mined. Bear in mind that the total supply of bitcoins is not unlimited. In fact, it is quite limited at just 21 million. The last coin is set to be mined sometime in 2140.

Bitcoin's creator knew he had to control the pace at which coins were mined if he was going to protect their value. If mining occurred too quickly, a flood of coins would cause value to fall. Then there would not be enough miners to do the work. The entire system would collapse under its own weight.

The second reason for halving Bitcoin is to artificially prop up prices. Halving reduces supply which, at least in theory, increases demand because there are fewer coins to be had by the same number of people. This maintains price stability over the long term.

Enormous energy consumption

All of this points back to the Malta case discussed at the start of this post. The man who filed the complaint cited tremendous energy costs as the reason behind his failure as a miner. He had purchased a mining machine that ended up costing him more than he was earning due to its intense energy demands.

The dual goals of controlling mining rates and maintaining price stability are only possible by progressively making it harder to mine coins. The harder the job becomes the more robust computer equipment has to be. Each successive generation of mining equipment consumes more power.

Just how much energy does Bitcoin mining consume? According to a brand-new tool known as the Cambridge Bitcoin Electricity Consumption Index (CBECI), the total amount of energy needed to maintain Bitcoin's network on an annual basis is more than the entire nation of Switzerland requires. If you prefer hard numbers, it is 64 Twh. Switzerland consumes roughly 58 Twh annually.

Like building a pyramid

It is hard to imagine just how much energy Bitcoin mining consumes if you have never tried it yourself. A good visual is imagining the amount of physical energy needed to build one of the great pyramids of Egypt. Imagine being a foreman responsible for managing all of the laborers on a pyramid project.

Laying the first few layers of the pyramid's foundation still requires a lot of work, but it is manageable. Yet each successive layer adds more height and increases the angle of the pyramid's slope. Simple mathematics proves that more energy is required the higher you go.

In short, it takes a lot more energy to get the final few stones to the top of the pyramid as opposed to laying the entire first layer. The task is so difficult that we cannot reproduce it today - even with modern machinery. But somehow the ancient Egyptians managed to do it with manual labor.

Bitcoin mining exists in a very similar environment, albeit a digital one. It was easy to mine Bitcoins during the first couple of years, when both users and transactions were few and far between. Things have gotten progressively more difficult ever since.

Mining and the economics of scale

Making money as a miner today means relying on the economics of scale. Amazon is a clear example of how the economics of scale can overcome huge problems.

Imagine trying to do what Amazon does from a single storefront in the middle of town. It just wouldn't be possible. Not only would a single storefront not afford the space necessary to be a giant global retailer but trying to operate everything from a central location would be too costly and terribly inefficient.

Amazon has met the growing needs of its industry by gradually scaling up to meet demand. The company is so large now that it can utilize a whole host of resources to maintain operational efficiency and cost-effectiveness. And because they are so efficient and cost effective, they can offer consumers extremely low prices. They do what they do because they are large enough to do it.

Single Bitcoin miners, like the man in Malta, are like individual brick-and-mortar retailers in downtown shops. They are attempting to compete with much larger operations capable of mining more efficiently and at an overall lower cost. And as it gets more difficult to mine, those smaller operations are finding it more difficult to turn a profit.

The end result is that Bitcoin mining is slowly being consolidated in the hands of fewer and fewer operators. Large mining pools and corporate miners with the resources to take advantage of the economics of scale can still make it work. They can still turn a profit despite soaring energy consumption and higher hardware costs.

Not necessarily as intended

It would be interesting to sit down with Bitcoin's creator to figure out what he thinks about the current mining atmosphere. He got exactly what he wanted in terms of controlling mining rates and maintaining price stability. But one wonders if he envisioned the consolidation we are now seeing in the marketplace.

Did he know that mining would eventually become unaffordable for small operations? If so, did he intend for it to be that way? And if not, what prevented him from seeing the future we are now living in?

It could be that Bitcoin's creator never intended mining to be so costly. But there really was no other way to go. Building mechanisms into the code to make it harder to mine coins over time automatically creates more work. It has to. If mining is no harder as time marches on, controlling mining rates and prices just isn't possible.

As for the miner in Malta, he is still waiting for his refund. The tribunal that ruled in his favor has contacted the seller and reminded him of his obligation to make payment. Hopefully it will be settled in the near future. It is a safe bet the miner wants to put it all behind him and get on with life.