Block Halving

What are Miners doing and how it affects Bitcoin’s price.

We all have been looking at the Bitcoin prices during the last one year and it has been very stable compared to what it had done in 2017. We all end up seeing a technical analysis of the Bitcoin price movement but what is the fundamental aspect behind Bitcoin which affects its price and the way the network functions?

Bitcoin is finite in supply which is capped at 20,999,999,9769 or to round off, it’ll be 21 Million. Currently, there are approximately 18.2 million Bitcoins already in circulation; the remaining will be generated by the year 2140. Satoshi Nakamoto must be a genius as he created a fundamental program that would affect the supply and demand of Bitcoin and encourage the miners to keep mining Bitcoin.

The Bitcoin blockchain works actually on time, hence we can predict that when the last Bitcoin will be mined in 2140. On average, every 10 minutes a block is mined, and the miner who validates the transaction first gets rewarded. The approx number of transactions in those 10 minutes is 3500 transactions or till it has reached 1 MB space, assuming that the transaction will occupy approximately 570 bytes.

As the miner is deploying his hardware, rent, electricity and other resources to keep the network alive, an award is given to him, it is a source of income which is granted in terms of newly generated Bitcoins which come into circulation. Point to note is that only the First miner (the fastest miner) gets the reward and not the others. Hence the supply is predictable and limited in nature whereas the demand will keep growing as more and more users start using Bitcoin. The first block reward was 50 Bitcoins after which it was halved to 25 Bitcoins and on July 6, 2016 it became 12.5 and now in 2020, between 14th to 18th May (approx.) it will be halved again and it will become 6.25.

Effect on Price

Whenever the halving takes place, we all observe a hype in the price of Bitcoin due to the drop in the supply of the newly generated Bitcoins through the miners. Let’s understand this with an example; 

Assuming the price of Bitcoin is 1,000 Dollars and suppose one miner is deploying $10,000 worth of energy to mine 1 Block in return he gets 12.5, he gets 2,500 USD as profit, but when the block reward halves and becomes 6.25 he will not get the profit of 2,500, but a loss of 3,750. 

Hence the miner community will tend to either stop mining or hold on to the newly mined coins (6.25 per block) with a hope that the prices increase. In both cases, there is a drop in the supply of Bitcoins. When we see this in action, the price slowly moves up keeping in mind the Demand-Supply theory of Economics. 

If it does not happen the miners will stop mining and the difficulty level of the network will come down making the cost of mining one block also reduced to a level where mining remains to be profitable. But the moment it becomes profitable new miners will switch on their machines again maintaining a balance in competition on the network. 

There is no evidence as such that a block reward halving will increase the price of Bitcoin but what we have observed is whenever the incident of block reward halving takes place, a few weeks prior and after the incident, the price and volume of Bitcoin has some notable activity. In 2012 after the block halving, the price of the Bitcoin went up to 1,000 US Dollars from 11 US dollars which were on the date of block halving. Similarly, in 2016 June, the price of Bitcoin was around $600 which continued to go up to 19,500 US Dollars in January 2018. Hence what we are hoping is that following this block reward halving in 2020, we will see a steady rise in the prices of Bitcoin, fundamentally, not based on technical analysis. 

On a macro level, we observe that mining block rewards affect the price of Bitcoin in the long run as the supply is suddenly reduced by 50% and the demand continues to grow. Currently, there are thousands of miners across the globe mining Bitcoin with capital intensive infrastructures especially in colder countries like Iceland and Northern China. Hence it won’t be a wise decision for them to shut down their machines because of the block halving but hold on to their newly mined Bitcoins and hope for the best to get the prices to reach a profitable level once again. 

What will happen after the year 2140? Will Bitcoins block mining stop? 
No. Bitcoins won’t stop. There will be an active and competitive market where miners will participate and validate new transactions. The only difference behind this is that the block mining reward coins will switch to a transaction fee based on the number of transactions. There would be no more new reward coins. The transaction fees today, representing a few hundred dollars per block, can potentially rise to many thousands of dollars or more per block, as the number of transactions on the blockchain grows along with a price rise in bitcoin