Bitcoin’s markets have long been considered one of the most volatile markets for any asset class. Double-digit growth figures are highly common, only to fall again after a few days. One party that has stayed constant in the BTC markets and provides a price floor are miners of Bitcoin, who bring new Bitcoin into existence by computing complex calculations on the blockchain.
As time has passed, mining has become more and more difficult and expensive, with the price currently not being profitable enough to mine in any sort of short term time period. This has led to not only the guzzling of large amounts of power, but also the price of Bitcoin being largely dependent on miners. Miners also rely on a good price to remain profitable.
Late last year, the price of Bitcoin crashed to a low, leading to many miners leaving the chain as it was simply not profitable enough. However, to the dismay of naysayers, it did not enter a death spiral and fade out of existence. This is due to a particularly smart algorithm that was implemented for this very purpose.
Why Mining Is Important
Mining is a process by which the network of Bitcoin is secured, among other things. The role of miners in the network is to package transaction into groups, known as blocks, and attach them to the rest of the chain. The chain, in this case, is a long string of blocks which each have specific block headers.
To attach a new block to the chain, miners are required to do complex computations that connect the header of the new block with the old ones by using cryptography. These require a lot of computational resources and expensive equipment and cooling to do profitably.
Mining still remains as one of the most important parts of the Bitcoin blockchain, as it both confirms and validates the transaction and provides a large amount of security to the chain. Added to this, it is the primary method of enforcing consensus and bringing new coins into circulation.
The security only grows as the number of discrete miner nodes grows, mainly due to geographical redundancy. However, as the number of miners grow, the network has to adapt so as to not produce blocks too quickly or create too many coins, as these are both negative outcomes for the chain. To address this, a feature known as mining difficulty was baked into the Bitcoin protocol.
Mining Difficulty To Fix Block Overproduction
Mining difficulty is essentially a variable that decides how ‘easy’ it is to mine blocks on the Bitcoin blockchain. The ‘ease’ refers to the amount of required computational energy to solve for a block. The difficulty algorithms is integral to the continued existence of the Bitcoin blockchain.
The mining difficulty of the network is changed every 2016 blocks, which adds up to about 2 weeks. Every 2 weeks, the difficulty changes depending on the amount of hashpower on the network as a whole. If there are more miners, the difficulty is automatically adjusted upwards to make it more expensive for new individuals to join the network.
On the contrary, if miners start leaving the network, as they did in late 2018, the difficulty is adjusted downwards, making it cheaper for newer miners to mine on Bitcoin. This creates a sort of time-delayed spring effect on the price of the coin, along with a generally stable hashpower.
The adjustment of mining difficulty also prevents more or less Bitcoins from being produced. Every time a block is mined, a set number of Bitcoins are released into the network. Currently, this number sits at 12.5 BTC per block, which means that 12.5 Bitcoins are added to the network every 10 minutes or so.
If the mining difficulty is reduced and there is a large amount of hashing power, blocks may be produced too quickly, flooding the network with new Bitcoins. This would reduce the value of each coin and dilute the network. At the same time, the mining difficulty adjustment is the only thing that keeps the network alive when miners begin leaving.
The Saving Grace Of Bitcoin
Bitcoin has been subject to many price crashes over the 10 years of its existence. Miners have also left the network en-masse due to the massive price drops and reduced profitability. If the mining difficulty stayed high during the exodus of miners, the network would have simply stopped working. Similarly, if the difficulty had not increased when new miners were added to the network, there would have been a dilution in the value of the coin due to increased supply.
It has only been able to survive the crashes with such reliability because of the difficulty adjustment algorithm. The system represents the creation of a complex mechanism to protect the outcomes of another, more complex mechanism.
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