What is BTC mining?

Preface

The price of BTC fell below $16,000 in 2022 and soon rebounded to above $16,000. Frequent price changes made investors hold cautious attitudes toward the entire market. Its price of around $15,000 is relatively the lowest one in recent years, which is eclipsed by a record high above $70,000 in 2021. BTC investors, along with many miners and mining farms, are seriously impacted.

Poor BTC Market Performance Results in the Gloomy Mining Industry

This is obviously a cold winter for the entire crypto industry. Reviewing the development and changes in the crypto-mining industry, we can find that history always repeats itself.

Many of us have been familiar with incidents happening in the crypto industry these years, such as the collapse of cryptocurrency prices, industrial migration, etc. BTC was the first and most representative cryptocurrency, whose price is closely associated with the prosperity of the whole crypto market since its creation. It has been true for the past ten years.

Under the circumstances, we could review the history and development of BTC mining, and the dramatic changes it has experienced in recent years, thereby finding some rules to predict BTC price trends. We hope this article provides useful information for you.

What is BTC Mining?

To understand what BTC mining is, we must first understand that BTC, a cryptocurrency, was created in 2008. Now, a whole set of algorithmic systems surrounding its overall economic model has been established. The algorithm stipulates that BTC is obtained through mathematical calculations, or “mining”, as we call it in a more vivid fashion.

Mining: A Behavior of Obtaining Token Rewards by Contributing Equipment Resources

Many more cryptocurrencies, not just BTC, can be obtained through mining, but BTC is the very first application of mining to obtain cryptocurrencies around the world. The machines used for mining are generally based on computers. Through special mining computers, miners get accurate answers as fast as they could to obtain cryptocurrency rewards, which could then be used to obtain additional income through trading and circulating on the market.

BTC Adopts Proof-of-work Mechanism

BTC adopted the PoW (proof-of-work) consensus mechanism to ensure the consistency and tamper-proof characteristics of the blockchain. The PoW mechanism has brought about the mathematical calculation problem in BTC mining, that is, computing power. PoW provides questions for nodes to solve through the computing power generated by the computer equipment. This process is called “mining”.

This means that the so-called “mining” does not actually involve mining with actual tools in fields. Mining could generate income, which refers to the process of running BTC nodes, updating ledgers, and recording the latest transactions in the ledger, thereby obtaining BTC block rewards.

This mining process is supported by the PoW mechanism. Due to the influence of BTC on the entire crypto market, the PoW mechanism has become one of the consensus mechanisms that various mainstream cryptocurrencies adopt.

Miners Contribute Equipment for BTC Rewards

BTC miners generate BTC tokens through mining to meet market demand while obtaining BTC rewards.

In the BTC mining mechanism, mining rigs are like human brains, and the speed of mining depends on the speed of the calculation process, or, in other words, the computing power of the mining rig. To mine, miners need to pay transaction fees and the electricity cost of running the mining rig. The transaction cost depends on the number of bytes in the market and transaction use. The higher the computing power, the greater the cost and the faster the generation of BTC.

How did Crypto Mining Occur?

In addition to BTC, many other cryptocurrencies also adopted the PoW-based mining mechanism. This mechanism was originally applied to cryptocurrencies by Satoshi Nakamoto, the father of BTC.

Then what is the reason behind such a mining mechanism? Satoshi Nakamoto created this mechanism in order to solve the security issue challenging the traditional financial system. Since most fiat currencies are issued by governments based on national credit endorsement, they are hence accompanied by issues of additional issuance and devaluation. Further, policies regarding currencies are deeply influenced by factors other than the market itself, such as governments and institutions.

Incentive Mechanisms Needed to Encourage Joint Participation in Maintaining Network Security in Decentralized Systems

BTC was created to establish a decentralized peer-to-peer payment network with no authority. The BTC mining mechanism involves utilizing decentralization technology to guarantee the release of BTC and value input. In a system that eliminates the intervention of third-party centralized organizations such as governments, banks, and institutions, the circulation and utilization of currencies have realized the peer-to-peer decentralized network through trading.

Due to the PoW mechanism, every transaction will be recorded in all nodes across the entire network. The first node that solves the question gains the right to update blocks and can obtain BTC block rewards. The incentive mechanism for miners participating in the network could be simply considered as a rewarding system by figuring out a mathematical problem.

Due to the decentralized feature of the network, the rewards a node gets will be synchronized with all other nodes on the network. This mechanism makes BTC far superior to the traditional financial system in terms of security. Further, users’ consensus on the PoW mechanism also helps ensure the efficiency of the mining mechanism.

Each node corresponds to a miner with centralized computing power. Miners are not only gold diggers, but also maintainers of the rules of the BTC mining system. More nodes mean that each BTC transaction will be recorded by more nodes, making the whole system more stable.

How does BTC Mining Work? What is the Halving Mechanism?

In the PoW mechanism, computing power on each node is utilized to calculate a mathematical puzzle. Therefore, the behavior of BTC mining can be summarized as four processes in sequence: establishing mining rigs, setting up nodes, contributing computing power, and settling rewards.

Compared with the complicated PoW mechanism and the node model, the process of BTC mining is relatively simpler.

Rewards are Easier to Get at the Outset

We often hear anecdotes about BTC on the Internet. For example, the first BTC transaction in the world took place when a developer bought two pizzas with 10,000 BTC, a British programmer lost a hard drive containing 50,000 BTC, etc.

Behind these anecdotes, we can see that, in the early days of BTC, people could participate in mining simply with personal computers, and could obtain much more generous BTC rewards than today.

With the rapid expansion of the crypto market in the past ten years, the mining of various other mainstream cryptocurrencies has become a global race for computing power.

Mining Rigs: Node Devices Providing Computing Power

The equipment used for mining is generally called a mining rig, which provides the required computing power for nodes.

The speed of mining depends on the speed of the calculation process, or the computing power of the mining rig. To mine, miners need to pay transaction fees and the electricity cost for running the mining rig. The transaction cost depends on the number of bytes in the market and transaction use. The higher the computing power, the greater the cost and the faster the generation of BTC.

Based on the PoW mechanism, it is impossible that BTC will ever be mined out. But increasing the computing power, regardless of how costly it is, the BTC in circulation will inevitably be in surplus, without considering external market demand. However, a scientific currency model should definitely consider inflation, deflation, and other relevant factors, otherwise, the impact of mining on the value of the currency itself will be difficult to control.

Halving Mechanism: An Economic Model to Fix Supply and Counteract Inflation

In the initial design of BTC, Satoshi Nakamoto added a restraining mechanism — the halving mechanism, in order to solve the problems of excessive supply and inflation.

Based on the BTC mechanism, a transaction block is generated every 10 minutes. Initially, every time a transaction block is generated, it rewards 50 BTC. Therefore, there were 7,200 BTC generated every day at the outset, but it halves about every 4 years until all rewards are released and the max supply reaches 21 million.

This does not mean that the halving mechanism is beneficial to miners. Conversely, it has a great negative impact on both miners and the market. Since the inception of BTC, its halving has occurred three times, specifically in November 2012, July 2016, and May 2020.

Every time the BTC halving took place, the BTC price dropped due to the influence of various leveraged contracts, resulting in depressed market sentiment. However, after each halving, additional capital and computing power will join, driving the price to rise and reach a record high.

The only exception happened after the third halving in 2020. Since 87.5% of the total BTC had been mined and put into circulation and the annual inflation rate reduced from 4% to 2% (a rate lower than the annual inflation rate of many fiat currencies for the first time), the halving did not have a significant impact on the price of BTC.

The subsequent price plummets in 2022 happened due to the ripple effect of the collapse of many other cryptocurrencies. This is a good demonstration that, besides BTC, there are many other crypto assets for investors to invest in. In the journey of its development, the crypto market will inevitably face various, but temporary, complications. This is what we can draw from previous BTC halving.

From Retail Miners to Large Mining Farms: the “Arms Race” of BTC Mining Rigs

Over ten more years of development, BTC mining requires much more powerful computing power, which makes it barely possible for ordinary miners to participate.

Crypto Mining Develops into a Hot Business, Lifting Up the Entry Barrier for Retail Miners

When BTC mining becomes a popular industry, it is no longer easily accessible for individual users. This is also true for the mining of many other mainstream cryptocurrencies. The industry is basically centralized by mining enterprises. Most individual users willing to mine choose to set up nodes and contribute computing power, thereby earning income proportionally. Alternatively, they choose to rent computing power from mining enterprises. However, such methods are never friendly to individual users as the cost is rather high.

This is because of, on one hand, the scarcity of BTC itself and the reward-decreasing mechanism. On the other hand, it is because BTC acts as a universal equivalent, leading to an increasingly high price of BTC.

It is much easier to mine BTC in the early days as only a few people participate in it. However, due to the low threshold that allows everyone to participate, a mining craze started soon after.

With the development of BTC and the entire crypto industry, more and more people join in mining, and the competition for mining rigs has also intensified. As a result, BTC mining becomes more difficult. This is the outcome of the PoW mechanism.

Technological Progress & Computing Power Race lead to Increasingly Sophisticated Mining Rig Specifications

Ordinary personal computers can no longer satisfy the higher mining demands. With the development of the semiconductor industry, the computing power of mining rigs improves, and dedicated mining rigs spring up one after another. There was a time when ordinary PC users found it difficult to buy a CPU from the market, and the price of graphics cards remained high, and even harder to get one. In recent years, the competition has become increasingly fiercer as technology is developing by leaps and bounds and cryptocurrencies are recognized by more people. Cloud computing power has been applied in mining rigs. The advancement of technology has made mining more popular. But on the other hand, the mining income has dropped a lot compared to before. The best bonus period has gone, especially for retail users.

In general, the BTC mining race has expanded to a global scale, with massive volume and scale, which has obviously driven the improvement of hardware equipment. The boom of the mining of BTC and various mainstream cryptocurrencies promotes the development of the entire crypto market. Now the mining industry has formed a typical structure of miners, exchanges, and project parties that serve a variety of investors.

From retail investors to big mining farms, the arms race around BTC mining can be said to be another explosion in production capacity since the inception of the information age.

The Computing Power Migration and Its Impact

During the process, when the BTC price rises and the global cryptocurrency market expands, miners and mining farms across the globe participate in this gold rush. Starting in 2016, miners from China began to play a dominant role in contributing computing power. In 2019, the computing power they contributed accounted for 70% of the whole BTC mining industry in the world, making China the highest source of computing power then. Correspondingly, many firms deployed their businesses in China.

If this industry continues to develop following this way, it will provide more career opportunities for Chinese practitioners. But things have changed in the past two years.

China’s Crypto Mining Ban Leads to a Drop in its Computing Power Provided

Opinions by some Chinese government officials were used as policies that guide the domestic mining industry. In 2020, the Chinese government put a ban on crypto mining in its territory, taking strict prohibitive measures on large mining farms and retail miners. It closely monitors electricity supply and Internet addresses, representing a devastating blow to the whole mining industry in China.

As a result, a man-made “mining disaster” led by the government took place. Many Chinese miners and mining farms have thus migrated their equipment and personnel overseas. This disaster lasted about a year, during which news on power and network outages in mining farms occurred occasionally. This is how the sensational computing power migration that affected the global crypto market happened. Many of us may have personally experienced it.

The impact of computing power migration is definitely great. At present, there are still some mining farms in China that have not migrated overseas. The computing power that China’s mining industry has contributed to global mining has dropped from about 70% at its peak in 2019 to about 20% in 2022. Many Chinese mining farms have migrated to Central Asian countries, such as Kazakhstan, which currently accounts for almost the same proportion of computing power as China.

The computing power migration in the past two years is regarded as the largest industrial change in recent years. Suffering from this change, the price of cryptocurrencies has more or less experienced fluctuations on a global scale. But fortunately, miners and mining farms from outside China quickly made up for the industry vacancies and maximized the impact of the mining disaster.

Status Quo of BTC miners

Except for the computing power migration, BTC miners suffered the most from the bear market in 2022. Due to the dramatic plunge in BTC price, the operating cost of mining facilities is even higher than the BTC market price, hardly making ends meet for miners and mining farms. Things got even worse for practitioners in the bear market.

Till now, BTC has gone through halving three times, making mining even more difficult. Despite that, miners could still make a profit benefiting from the high BTC price in a bull market. However, the collapse of the BTC price aggravated the “mining disaster”. The payback period of the latest mining rig S19 XP Hyd is as long as 20 years, and the income that most other mainstream mining rigs generate could barely support its operation cost.

Conclusion

The mechanism of BTC mining has been a huge innovation since its creation, making the peer-to-peer payment network possible. After 14 years of development, BTC has been recognized by the public, and the vision of a decentralized currency with no central authority has attracted a group of loyal followers. However, BTC’s overall network and PoW mechanism actually adopted ideas in the last century.

For example, the concept of PoW was proposed in the 1990s. The BTC mining industry has always been criticized for its inefficiency and high energy consumption. The entry barrier for nodes to participate becomes higher and higher, from accessible to everyone at the beginning to accessible to only those with exclusive mining rigs now. What’s worse, it does not bring sound profits.

Further, the migration of computing power and the risks of mining in the bear market also make BTC mining no longer accessible to anyone.