Cheap electricity made China the king of bitcoin mining. The government’s stepping in.

Rows of mining machines for litecoin, another digital currency, in Bitmain’s Ordos mine. Photo credit: Tech in Asia.

Outside the cicada-like whir of machines, the bitcoin mine is a desolate concrete lot full of plain-looking warehouses. We’re in Ordos, the famed ghost town of Inner Mongolia province where local farmers became rich off coal reserves hidden beneath the earth’s surface. Now, another kind of fortune is being mined.

Inside the warehouses, miniature block-like computers are hard at work. Green and orange lights flash in steady intervals. The machines hum as they furiously solve equations. They’re competing for the right answer as they apply mathematical formulas to data stored on the bitcoin blockchain, a global ledger of all transactions.

Like mineral gold, mining the digital currency isn’t free. For hardcore miners, the bottom line is cheap electricity.

“In the early stages of China’s mining industry, the cost of electricity wasn’t that important. As long as you had industrially priced electricity, you could mine,” explains Su Jiahai, head of mining at Bitmain, a Beijing-based company that owns several cryptocurrency mines in China, including the one we’re touring in Ordos.

Like mineral gold, mining the digital currency isn’t free.

That’s changed, he says. Today, Chinese mines not only seek out cheap electricity, but also stability and scale. So instead of siphoning surplus electricity from hydropower stations in Sichuan, say, during the rainy season, larger mines are now partnering with local governments for a steady but discounted supply of energy from the State Grid, China’s state-owned electricity utility.

In Inner Mongolia, for instance, Bitmain is partnering with the local government to access electricity from the State Grid for about four cents per kilowatt hour. In exchange, the profit from Bitmain’s Ordos mine is taxed.

The Chinese government has so far been hands-off in regulating this space. That may not last. China’s bitcoin mining industry seems to be following the well-worn path of other internet industries in the country, such as peer-to-peer lending and ride-hailing:

  1. The industry is allowed to develop unfettered by regulation, until companies reach a certain scale or something bad happens.
  2. There’s a crackdown as the government develops policies to rein in risky behavior.
  3. The remaining players are the industry’s largest — or else driven underground — and maintaining tight communication with the government becomes an essential part of the business.

In cryptocurrency mining, the bigger the business, the more incentive there is to play by the rules.

“If a company doesn’t want to worry about the stability of their electricity source, they make it public — they work with the government,” says Zhao Qianjie, (who goes by the name of Denver in English), vice president of BTCC, which operates a digital currency exchange and mining pool in China.

Already, there are large-scale mines that register themselves as companies before partnering with the government to buy land, construct factory buildings, use electricity, and mine in a “transparent and standard manner,” he says.

Outside Bitmain’s Ordos facility. Photo credit: Tech in Asia.

Changing times

The last few years have seen China’s growing prominence in the global bitcoin community. Cheap electricity is one factor. Demand in China is also high. In January, digital currency publication Coindesk estimated that about 85 percent of the world’s bitcoin trading volume came from China, though that percentage has likely dropped since Japan rolled out new bitcoin regulations in April combined with the Chinese government’s crackdown on domestic exchanges in February.

About 85 percent of the world’s bitcoin trading volume comes from China.

Over half of the world’s bitcoin mining pools, where miners combine resources to increase their odds of finding bitcoin, are in China, according to a report released by the Cambridge Centre for Alternative Finance.

“Even if electricity was cheaper outside of China, there are other problems,” Chandler Guo, an angel investor in cryptocurrency projects, tells Tech in Asia. Overseas labor tends to be more expensive and most mining machines are manufactured in China, he explains. Bitmain, for instance, is one of the top mining machine companies in the world. Canaan Creative (also known as Avalon), another well-known company in the space, is also Chinese.

“After the machines are made, miners in China can take them directly to Sichuan or Xinjiang [province] and start working. But if they have to go overseas, there will be delays on the way,” he adds.

The exterior of Bitmain’s Ordos facility is designed to prevent dust and other debris from entering the mine. Photo credit: Tech in Asia.

Finally, China has an enormous surplus of electricity that can be harnessed for mining. In 2016, for instance, overcapacity from hydropower stations in Sichuan and Yunnan amounted to a whopping 45.6 terawatt hours. To put that into perspective, the entire US generated 4,100 terawatt hours of electricity in the same year.* By partnering with these power stations, cryptocurrency miners get access to discounted electricity rates in exchange for a cut of the mining revenue.

Chinese miners aren’t the only ones capitalizing on surplus electricity either. A Russian company co-founded by Putin’s internet advisor is doing the same thing to drive down electricity costs, though Russia only has around 20 gigawatts of excess power to funnel into mining.

However, in China, electricity sharing between energy companies and mines still falls under a gray area — and is increasingly coming under scrutiny. In June, several mines in Sichuan were shut down due to lack of regulations around bitcoin mining.

“The legitimacy of selling surplus electricity is not clearly defined yet,” says Zhao. Though mines can partner with hydropower stations for discounted electricity rates, they can’t scale up their operations that way, he says.

“Surplus electricity is not a constantly stable supply,” he adds.

The media attention around bitcoin mining hasn’t helped either. The government might temporarily shut down the mine for investigation following a media report, says Guo. That alone can cost millions of dollars.

“This kind of business can’t stop. For everyday that a mining rig stops, it loses money,” he explains.

Guo at one of his personal bitcoin mines in Guangdong, southern China. Photo credit: Chandler Guo.

Size matters

On the way to Bitmain’s Ordos mine, I ask Su what he looks for when he surveys new locations. He’s like Bitmain’s real estate developer, scoping out places that fill the right criteria for a mine. It’s not quite “location, location, location” but there is a rough checklist: climate, cost of electricity, distance to a power station, and lastly, whether or not there are opportunities to partner with the local government.

For instance, “governments in northwestern China welcome the arrival of data centers,” says Su. Like bitcoin mines, “they can consume excess energy resources and increase tax revenue.” Some provinces offer discounts for cloud computing and big data companies too, he says.

In recent years, Guizhou province, which is also rich in hydropower, has been able to attract tech giants like Foxconn, whose enormous data centers benefit from the cheap electricity and cool climate.

The race towards scale is natural in the mining business.

This winter, Bitmain plans to move mining machines from its Yunnan and Sichuan mines to a new facility in Xinjiang, which is three times the size of the Ordos mine. It’s hard to imagine — the company’s Inner Mongolia mine has about 25,000 mining machines and consumes 800 megawatt hours per day. In comparison, a smaller mine in Sichuan province might only host several hundred machines and burn one megawatt hour per day.

Indeed, the race towards scale is natural in the mining business, even if the ethos of bitcoin is decentralization. Larger companies can haggle better rates by buying expensive mining machines in bulk. Negotiating with the local government is easier, when you can offer more tax revenue. Mining pools operate under the benefits of scale too — by combining forces, miners can increase their chances of earning cryptocurrency.

“Without a mining pool, a single miner’s hash is only a tiny part of the bitcoin network; thus making money is impossible,” says Zhao, referring to the computing power of a single mining machine. “Imagine that someone with only 0.01 percent of the total bitcoin network’s hash is competing with someone who has 10 percent.”

To keep the mine cool, Bitmain’s Ordos mine covers its windows with wet, corrugated cardboard. When the wind blows, the temperature inside the mine quickly drops. Image credit: Tech in Asia.

Of course, the days are far from over for the many small-scale and anonymous mines in China. Guo estimates that there are around 2,000 mines scattered around China.

Not all of them are bitcoin mines either. Despite bitcoin’s skyrocketing price, mining the digital currency has become increasingly competitive. Hence, other digital currencies, such as litecoin and ZCash, can sometimes bring miners a higher return.

“This year, it’s not just about mining bitcoin as the only cryptocurrency. If you only mine bitcoin, you can’t make money,” says Guo, who has turned his focus from mining to token crowdsale projects or ‘initial coin offerings’ this year. “You have to mine all kinds of cryptocurrencies. You mine the digital currency with the highest conversion rate.”

*This figure only includes utility-scale facilities in the US.

Currency converted from Chinese yuan and BTC. Rate: US$1 = RMB 6.67 = BTC 0.00025.

(Correction: An earlier version of this article incorrectly stated overcapacity figures from Yunnan and Sichuan province in 2016. It has been updated to 45.6 terawatt hours.)

Originally posted on Tech in Asia.

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