The next 5 years are critical and the next 12 years are defining.
Everything hangs on the next 4 and a half years, or more specifically, the next two halvings. Within 12 years, we will know if Bitcoin is a failed experiment or a thriving parallel economy ecosystem. There is no real in-between.
Originally, Bitcoin was designed as a carefully balanced incentive system between three groups of people:
- Miners (who provide network security for revenue)
- Nodes (developers upgrade the protocol and nodes then decide the dominant version)
Users provide two wildly different use cases:
Store of Value (SOV) — or HODLers. Users who believe in the long term value proposition compared to traditional investment vehicles, or even dislike the fiat currency supply growth and/or price inflation.
Medium of Exchange (MOE) — or people who transact in Bitcoin. This could be many individual use cases, ranging from product purchase to exchange speculation.
The MOE aspect is directly represented as a positive effect for miners — they receive the transaction fees. This was originally envisioned as the way to transition from coinbase rewards (inflation) to a fee economy. Very soon, people realized on-chain transactions do not scale well and that we need to think about other options.
Enter Lightning Network and Liquid.
Breaking the balance
Lightning Network and Liquid sidechain directly break the carefully designed balance by (in big part, but not entirely) removing the MOE aspect of transacting on-chain.
It means a shift to moving large amounts of small transactions off-chain through Lightning and many transactions of any amount between exchanges through Liquid. You still have to settle them on-chain occasionally, but this eliminates thousands of “unnecessary” on-chain transactions.
This is a shift away from the MOE on-chain aspect and with adoption (which is only logical for users and exchanges as it lowers their transaction costs) it works directly against the balanced incentives.
What is the ideal future for users in this case? The only Bitcoin on-chain transactions left will be large transactions between individual users or to/from exchanges. Those transactions are scarce in comparison to regular, smaller transactions.
Logically, this erodes the on-chain MOE aspect of Bitcoin value proposition. What very few people seem to be asking themselves is: how does this translate to the rest of the ecosystem? What will happen in twelve years, when the coinbase reward is down to 0.78 BTC from 12.5 BTC now?
Visions of Bitcoin in 10 years
Mining is in the first place a USD based business as long as you have to pay your bills in fiat. Bitcoin is fairly easy to sum up with a simple 2x2 from the miners perspective:
Let us explore these visions in detail.
- High asset price, many on-chain transactions:
In this scenario, Bitcoin is a wild success both as an SOV and MOE. It could be a wide range of futures — parallel economy, hyperbitcoinization, global sovereign debt crash, etc.
As immature as it is, currently, Bitcoin is in this box from a miner perspective. Mining margin in form of dollars is bountiful and all Bitcoin blocks are full. The problem is most of the revenue is financed by inflation and despite blocks being full, fee sourced portion of the revenue is only about 5–6% of the total block reward.
In ten years, the price has to rise significantly to support the current rate of growth in the mining ecosystem (hashrate is rising by ca. 10% per month in 2019) to offset the lower inflation.
If blocks remain full, they will keep supporting the ecosystem growth even if transaction fees are low in satoshis per byte due to high BTCUSD price.
- High asset price, few on-chain transactions:
Bitcoin has become a successful investment vehicle, but it is either unused as a payment mechanism, or off-chain transactions are so proliferated, their settlement on-chain is negligible in comparison. Transaction fees remain very cheap, but it’s still cheaper or easier to mostly transact off-chain.
In this scenario, mining bitcoin becomes a business not unlike mining gold, with relatively predictable revenues and profits. Miners are strategically located near the cheapest sources of electricity in the world and Bitcoin mining becomes a generational business with slow, predictable growth over decades.
- Low asset price, many on-chain transactions:
Bitcoin has failed as an investment vehicle (or it is artificially suppressed/manipulated), but Lightning Network and Liquid have not been adopted en masse. In this scenario, Bitcoin is most likely a parallel (grey?) economy and is mostly used for borderless transactions. This implies a wild seasonality in transaction handling (for example low activity over weekends or during holidays).
Miners have to adapt to this and presumably turn parts of their farms off and on with lower and higher margin due to seasonal pressure on the mempool.
Bitcoin mining is more akin to copper mining with its inventory handling (ASIC’s) and price shocks (mempool backlogs).
There is extreme competition over low electricity prices between miners and I would expect industrial sabotage, arson, DDoS attacks and other nefarious practices to be the norm.
- Low asset price, few on-chain transactions:
Price has not appreciated and that has either in turn discouraged commodity use cases, utility as a MOE has been regulated away from too many users, or there just aren’t enough on-chain transactions in comparison to off-chain (not enough on-chain settlements happen).
Miners are not incentivized to mine due to lack of margin. Electricity rate competition is fierce. Many ASICs are turned off, dirt cheap and ready to sell to the highest bidder. ASICs become a buyers market.
From there, there are three scenarios, which we should explore in detail:
- The low asset price and few transactions were simply caused by low adoption or overregulation. Bitcoin is slowly dying as a failed experiment.
- If the price has truly been artificially suppressed, all that needs to be done is a large purchase of ASICs to either become the “owner” of the network or to 51% attack the network. Realistically, one does not even have to 51% attack the network right away, but instead buy a (significant) minority of the network and be able to mine at a loss — this margin erosion translates to the rest of the network, which then turns off their miners and the attacker becomes a majority miner over time. This could be done with the intent of killing the network (not profit driven) or with the intent of later pumping Bitcoin like a shitcoin with centralized supply and mining “ecosystem”.
This is how you kill Bitcoin.