Dec 13, 2018
Bitcoin’s energy consumption is a necessity and might have a positive impact on the environment
If you want to listen to this article, there is a great reading from Guy Swann available as CryptoQuickRead on his podcast.
Bitcoin is accused of consuming enormous amounts of energy in the process of securing transactions (called “mining”). Alex de Vries, author of a commentary research article from May 2018, told the Independent that bitcoin (BTC) mining will use 0.5 percent of the world’s energy by 2018. According to his statements, he found out that the “Bitcoin network can be estimated to consume at least 2.55 gigawatts of electricity currently” which is comparable with the energy consumption of Ireland (3.1 gigawatts). On his blog “Digiconomist,” Alex hosts the Bitcoin Energy Consumption Index with regularly-updated figures.
Many people argue that Bitcoin’s energy consumption is steadily growing due to an increasing number of transactions or price appreciation. However, Bitcoin’s energy consumption is linked to the proof-of-work consensus mechanism securing the Bitcoin blockchain as a whole. A look into this mechanism allows one to draw assumptions about the future development of Bitcoin’s energy consumption. After explaining the proof-of-work mechanism and its relation to energy consumption, the crucial feature of the proof-of-work mechanism to secure the network is depicted. Finally, the assumption that Bitcoin is the way to reduce fossil fuel energy production is presented based on current research results.
Bitcoin’s proof-of-work consensus mechanism and its relation to energy consumption
Work is energy directed to a certain action and energy is “work done,” as stated by the French Mathematician Gaspard-Gustave de Coriolis. The work done can be stored in money such as bitcoin for future expenses. The Bitcoin consensus mechanism is based on proof of work in which energy is used to keep the blockchain running securely.
In the process of generating new blocks, miners solve a guessing game in which pooled transactions plus a “nonce” are inserted into an SHA-256 hash function in average time frame of 10 minutes until the result matches predetermined criteria defined by the protocol. In more detail, miners retrieve unconfirmed transactions from the mempool and bundle them into a new block. This block has several pieces of information in the block header. The miners then take the block header, add a random number called “nonce” and put it into the hash function resulting in a 256 bit number. Only results smaller than a certain limit are accepted by the network, which is again predetermined by the blockchain protocol and called “target” (e.g. the returned result’s first 32 bits must be zeros [simplified]).
The miners repeatedly insert the conglomerations of transactions bundled as blocks in the hash function until a result matches the criteria. The number of such trials per second is called “hashrate.” The first miner who receives a result that matches the predetermined criteria broadcasts the result to the network and receives the block reward which also includes the transaction fees of the transactions included into the block. This process is called “mining” due to the similar properties of bitcoin and precious metals. Satoshi Nakomoto, the fictitious name of the inventor of Bitcoin, supports this statement in one of his posts.
“In this sense, [Bitcoin is] more typical of a precious metal. Instead of the supply changing to keep the value the same, the supply is predetermined and the value changes.”
— Satoshi Nakamoto
If you want to read more about the mining process in detail, this is a great starting point:
The number of bitcoins issued per block is predetermined by the protocol. As a result, the supply of bitcoin is mathematically controlled and finite — in stark contrast to money issued by central banks.
Over time, the amount of new bitcoins issued per block decreases by 50%. This “halvening” occurs every 210,000 blocks, or roughly every 4 years. Currently, 12.5 bitcoins are issued per mined block.
The Bitcoin proof-of-work mechanism is set up so that the difficulty of finding a new block is adjusted every 2016 blocks and the average time for finding a new block is about 10 minutes. The difficulty is influenced by the hashrate provided by the network (the higher the hashrate, the higher the difficulty).
This means that there is a mining market with a fixed supply of bitcoins, as defined by the protocol, and a variable demand for computing power based on the difficulty determined by the overall hashrate. Due to the law of supply and demand, the predetermined bitcoin reward per block, the current bitcoin price, and the mining costs define the cost-efficient number of miners contributing to securing the network.
In an efficient market, the premium equals zero which means that the marginal return from burning a kWh of energy through proof of work equals the marginal mining costs. This results in the following formula where block reward includes transaction fees:
The automatic adjustment of Bitcoin’s mining difficulty leads to a dynamic, self-correcting system. Assume the bitcoin price and the block reward remains constant while the mining costs increase. For the above equation to hold, fewer people will mine which eventually lowers the mining difficulty. The same holds for the reverse: Assume the left side of the equation remains constant and the mining costs decrease. More Bitcoin miners will come online which increases difficulty.
In reality, however, perfect equilibrium does not occur since miners do not immediately switch off their equipment when they become unprofitable. Also, the increase in hashrate lags due to manufacturing and delivery time requirements. This leads to arbitrary advantages for existing hashrate owners when the bitcoin price increases.
One can conclude:
- The energy consumption for keeping the Bitcoin blockchain running is determined by the hashrate of the network and each miner’s energy consumption.
- The bitcoin reward is predetermined by the protocol.
- The overall cost-efficient mining power is defined by the market (bitcoin reward per block and bitcoin price).
Ultimately, mining bitcoins should be compared with mining precious metals or with the banking system. The following figure, taken from this article that retrieves information from Hass McCook, 2014 and uses updated Bitcoin mining including investment costs and running costs, shows this comparison. Additionally, a comparison with VISA is included based on the 2017 Visa annual report.
Most other studies use faulty methodology to calculate the future Bitcoin energy consumption. Extrapolations rely on the energy costs per transaction which is not the correct measure to calculate energy costs since these are solely dependent on the deployed hashrate. The hashrate, in turn, is independent of whether the block is full or not and the network is working at full capacity or not.
Additionally, most studies base calculations on the assumption that no transaction batching exists. (Transaction batching is a collection of several transactions which are then written on the blockchain as one transaction.) Exchanges, for example, collect “off-chain” transactions in a central database which are then collectively written on the blockchain as one settlement transaction. The same holds for the emerging Lightning Network and side chains like Liquid with the additional crucial feature of trustlessness. Thus, Bitcoin irreversibly becomes more of a settlement layer that secures exponentially more and more economic value.
Lastly, calculations are often made with very outdated data on mining power which fails to capture the increased efficiency of bitcoin mining.
Bitcoin’s energy consumption in the future
The future energy consumption depends on the number of miners and each miner’s energy efficiency.
The energy consumption per hash decreases together with the global trend of increased energy efficiency due to better chip design. A table adapted from Bitcoin Wiki shows the increasing energy efficiency of newer Antminers (a specific Bitcoin mining hardware).
In particular, the Mhash/J (millions of hashes per joule) increase dramatically. This means with a given joule of energy — 1 watt per second — the hashrate increases by more than 20 times from Antminer generation 1 to generation 9. The efficiency in terms of costs also raises dramatically. The same holds for the Bitfury miners as shown in the following tables:
Another study shows an increase in miner efficiency and reduced costs over time:
Although miners have become increasingly efficient and cheap, bitcoin mining has become unprofitable for those mining at the worldwide average electricity cost. This is due to the sharp increase in the bitcoin price in late 2017 that led to a high investment in miners which were largely delivered and turned on as prices dropped again in the beginning of 2018. The sharp increase in miners contributing to the network has resulted in an increased difficulty in finding new blocks which, in turn, reduced the expected return.
In 2018, the bitcoin price decreased but the mining hardware was already purchased and mostly running at costs when including the initial investment. Some miners were even destroyed as the basic operational costs exceeded the return (Saifedean, Bitcoin Mining: Energy and Security, 2018, Volume 1, Issue 3). Essentially, only the most competitive mining operators that have access to the cheapest energy could survive. This trend incentivizes the provision of cheap energy, which will be explained in great detail in the following sections.
For the total energy consumption to increase, the hashrate must increase dramatically (surpassing the increased efficiency). As explained in the above section, the following equation holds:
In this formula the time interval per hashrate doesn’t matter because the costs are calculated accordingly. Assume a hashrate per 10 minutes is used, then the costs per hashrate of 10 minutes is applied. This is the same as taking the costs for the hashrate for 1 second and then having 600 times more hashrates.
Let’s use an example. Assume the cost per hashrate for 10 minutes is 5, then the following holds: 1*5= 600* 5/600, where the right side of the equation is the costs per second (10 minutes are 600 seconds) because the costs per hashrate per second is 5/600.
Solving the equation for the total number of miners gives:
Holding everything else equal, a decrease in mining costs per miner per block increases the incentive to contribute in mining and therefore increases the total hashrate.
Now let’s look at the numerator: In the future, the amount of newly-minted bitcoins per block goes to zero, thus only the transaction fees serve as a block reward. Taking this factor by itself, a decrease in issued bitcoins per block should dramatically decrease the hashrate. However, in reality this has not been true. At the last reward halving in mid-2016, there was no considerable decline in hashrate, yet profitability decreased dramatically:
Eventually, a constantly-increasing bitcoin price incentivizes miners to continue to contribute to the mining process and secure the network. Many Bitcoin experts believe that bitcoin is undervalued and therefore expect the bitcoin price to increase dramatically (advanced research on the value of bitcoin: Delphi Digital Report November 2019, Bitcoin: A $5.8M Valuation). As a result, the bitcoin price development will influence the total hashrate in the future which will determine the energy consumption. Essentially, the hashrate contributing to the network is defined by the market and the market is unequivocal.
In summary, the hashrate is positively correlated with the bitcoin price because the incentive to mine increases. As a result, energy usage will be more efficient with increased hashrates due to increased competition that forces miners to optimize their power consumption. Finally, the hashrate will not go up indefinitely because bitcoin halving balances the incentive to mine even if the bitcoin price skyrockets in the next decades.
In addition, there are developments that make the Bitcoin blockchain more efficient. The developments include optimizations such as transaction batching and advanced cryptography, as well as additional layers on top of Bitcoin, like exchanges, bitcoin banks, side chains, and the Lightning Network.
The Lightning Network is especially interesting for scaling the amount of bitcoin transactions by reducing the average energy amount needed to secure one transaction of bitcoins. As a decentralized peer-to-peer payment system, using the consensus of the Bitcoin blockchain as a settlement layer to inherit its unique trust properties, the Lightning Network does not rely on an entry in the one commonly-shared ledger called blockchain and could theoretically handle billions of transactions per second.
Transactions performed on centralized second layers (exchanges like Coinbase, etc.) are also not placed on the blockchain and don’t consume the energy directly. In this case trust comes from the entity documenting the bitcoin transactions for its customers and maintaining a closed ledger about who owns how many bitcoins. These developments result in many more (if not unlimited) payments, without the need of placing them on the blockchain. That’s why an increase in bitcoin transactions decreases the average amount of energy needed to secure each individual bitcoin transaction to almost zero.
Why proof of work is a necessity
“Energy expenditure is a key to the safety and security of the network, allowing it to maintain an honest record of transactions and a predetermined fixed credible monetary policy.”
Saifedean, Bitcoin Mining: Energy and Security, 2018, Volume 1, Issue 3
Bitcoin is the first and only cryptocurrency with the unique feature of predetermined fixed bitcoin issuance and difficulty adjustment based on a sound consensus mechanism that makes the blockchain resistant to attacks. It is necessary to understand the underlying mechanism of Bitcoin to grasp its transformative value and explained below.
In order to have a consensus about which blockchain contains the common version of truth, a measure must be applied. In proof of work, the chain which has the most accumulated energy is considered the one chain everyone can rely on as the truth. The resource the decision is based on must be scarce and costly in order to make it resistant to attacks.
Bitcoin relies on the scarce resource of ready-to-consume energy. Thus, energy consumption is the essential feature for securing the Bitcoin blockchain. Bitcoin miners secure the network and the amount of energy consumed is directly related to the security of the network. Bitcoin is computationally expensive by design which is expressed in the wording “proof of work.” This implies resistance to forgery, inflation, and theft.
But how exactly does the securing mechanism of the Bitcoin network function?
The costs of an attack on the Bitcoin blockchain are directly related to the mining costs and the energy consumption. Assume an attacker aims to undo blocks to create a double-spend, which means that the same digital token is spent more than once. In order to do this, the attacker first needs to be in control of at least 51% of the hashpower and then spend the energy to run the hardware. Obtaining as much mining hardware to receive a 51% share is very unlikely due to delivery constraints especially when hashrate is increasing (Saifedean, Bitcoin Mining: Energy and Security, 2018, Volume 1, Issue 3).
In addition, an extrapolation shows that if someone would be able to order the needed amount of hardware, the costs would be above 6 billion USD (at time of writing). Also the daily energy costs to perpetuate the attack would be more than 4 million USD. This means that there are ongoing costs involved after having reached majority, namely the costs to perpetuate the attack which comprises the operational costs of constantly mining with at least 51% hashrate.
Moreover, through such an attack only the history may be rewritten to create a double spend. This skyrockets overall costs for performing an attack and undermines almost every utility of doing so. Importantly, as the consensus is determined by all participants running full nodes, and not only the miners, it is also not possible to change the consensus rules for one’s benefit.
To conclude, a majority hashrate cannot override consensus rules, confiscate any bitcoiner’s coins, or change the monetary policy (Saifedean, Bitcoin Mining: Energy and Security, 2018, Volume 1, Issue 3).
Apart from securing the Bitcoin network, high energy consumption incentivizes more features:
- The network only accepts non-fraudulent blocks which incentivizes miners to act honestly. In the event a miner acts fraudulently and proposes a block that does not fit the criteria, the mined block will be discarded by the network.
- Miners need to sell some of their mined bitcoins to finance their operational costs. This ensures a proper distribution and usage of bitcoins.
Bitcoin secures a censorship-resistant, permissionless, and trustless network for value exchange that is open and decentralized by means of proof of work. An alternative to Bitcoin must support these features in a more energy-efficient way.
So far, there is no better solution available than energy as proof of validity in form of proof of work. Proof of stake is not an alternative. Proof of work ensures that attacks on the network are too costly and the mechanism allows conflict resolution in the case of a chain split because energy is at stake. In addition, the proof-of-work mechanism minimizes trust since the valid chain — the one with the most accumulated work — can be proven easily by everyone. Neither of these aspects hold true with the proof-of-stake mechanism.
Further information on proof of stake and its flaws can be found in the Coinshares Bitcoin Mining Network report. If you want to deep dive into the differences of PoW and PoS, I can recommend to start with the following:
The stability and security of Bitcoin makes it an alternative to fiat currency. Due to new developments such as the Lightning Network that allows the processing of instant transactions with nearly unlimited scale, Bitcoin may eventually become a stable world currency used for daily transactions. This is particularly relevant since the US-Dollar is poised to lose its position as a global reserve currency.
Bitcoin might also overtake or at least complement gold as a world currency for several reasons as shown in the figure below. Two of the most important features that make bitcoin superior to gold are instant settlement and lower costs (the costs for bitcoin mining in comparison to gold mining are found in the last figure of the first section).
Some may argue that Bitcoin merely serves as store of value but a very good and widely-adopted store of value automatically becomes medium of exchange and eventually a unit of account, thus inheriting all important attributes of money.
A global world currency would eliminate currency risk due to a variation in exchange rates. This simplifies global trade. In addition, it could make the need for national monetary policy obsolete. This eliminates the artificial printing of money which otherwise leads to inorganic, risky growth and unnecessary costs imposed on society by political and special-interest groups.
Roger Garrison in The “Costs” of a Gold Standard summarizes costs under the paper standard more precisely as follows:
- costs imposed on society by different political factions attempting to gain control of the printing press,
- costs imposed by special-interest groups who persuade controllers of the printing press to misuse their authority (print more money) for the benefit of special interests,
- inflation-induced misallocations of resources as a result of misused monetary authority, and
- costs incurred by businessmen in their attempts to predict what the monetary authority will do in future.
Bitcoin is independent of any central party and therefore fully resistant to any kind of corruption.
Proof of work further allows for a decentralized network to enforces proper incentivisation and honest behavior, enables consensus among thousands of participants, and ensures the development of the network. In addition, Bitcoin serves as an alternative to the central banking system and is already used as an independent world currency with no jurisdictions or borders. These highly-sophisticated and crucial features justify the high energy consumption.
Moreover, Bitcoin may provide a more energy-efficient money supply than the current system: The yearly costs of banking, paper currency printing, digital minting, and auditing are more than 400 times higher than the current costs for bitcoin mining (see the figure in section one).
Why Bitcoin’s proof of work has a positive impact on the environment
A huge portion of energy consumed by Bitcoin mining already originates from renewable energy sources. A recent study conducted by Coinshares concludes that renewable energy makes up 78% of total Bitcoin mining energy use, while another recent study from the Cambridge Centre for Alternative Finance concludes a conservative overall ~28% use of renewable energy.
As is usually the case, the truth is probably somewhere in the middle. Either way, Bitcoin mining is already greener than most other large-scale industries in the world.
There are several reasons for the relative high share of renewable energy. First, Bitcoin’s optimization compulsion incentivizes the use and generation of the cheapest available energy. Second, bitcoin mining is not dependent on any specific location and can therefore easily happen where energy oversupply would otherwise be grounded and wasted. These arguments are outlined below.
Bitcoin’s objective function focuses on optimization as illustrated in the following figure. Every mining business aims to maximize hash power in order to receive the largest possible share of bitcoins issued. Additionally, the cost per hash, mainly driven by hardware acquisition and energy consumption, must be as low as possible. Thus, a miner is incentivized to have the most efficient hardware and cheapest energy available. This, in turn, creates a market demand for efficient chips and cheap energy.
As a result, the energy industry is incentivized to improve energy production, collection, and storage which lowers energy prices to eventually serve the demand of cheaper energy.
To elaborate on this idea: Miners have an incentive to create as many hashes as possible with given energy. For all miners contributing in the Bitcoin network, difficulty and block reward is the same but the hardware in use (investment costs and operating costs) and the energy costs differ. Therefore, it is necessary to keep both low in order to be competitive.
Energy from solar, water, wind, and terrestrial heat is freely and immediately available. Considering solar energy alone, the energy being radiated to the earth in one hour is larger than the entire human race consumes in one year (Saifedean, Bitcoin Mining: Energy and Security, 2018, Volume 1, Issue 3).
However, society is just beginning to further explore the harvesting of green energy, i.e. putting human time into the exploration and delivery of energy based on renewable resources. Currently the incentives to improve and optimize free energy harvesting methods are not driven by the markets but political pressure or government subsidies. Consequently, the use of coal and oil can be cheaper at this moment in time.
In addition, harvesting free and green energy is based on natural circumstances such as location and time. Utilizing these renewable energy resources and optimizing the methods and locations of harvesting and converting it to usable electricity is quite interesting for bitcoin mining.
As stated previously, bitcoin mining provides the immense advantage of being location independent. One of the important reasons for this location independence is that, besides energy and the right hardware, Bitcoin requires an extremely low internet bandwidth. The location of the mining hardware is not relevant to contributing to and profiting from the network. Mining hardware can literally be placed anywhere in the world. Due to this flexibility in location, energy production facilities are built around green energy sources that would have otherwise been left untapped.
On the other hand, once a mining facility is installed in a remote, low bandwidth area, almost nothing else (at least no other computational equipment) can be installed if bitcoin mining becomes unprofitable. Miners and energy producers in these areas sometimes don’t have options to pivot to profitable activities without investing in high-speed internet.
Additionally, these businesses constantly need to decrease their overall costs per hash to stay competitive and survive. Besides investing in the most efficient chips, one could only invest in the most advanced and efficient energy harvesting methods. As green energy is available for free, the harvesting process itself is the only cost factor which needs to be optimized in order to build out the competitive advantage.
Bitcoin mining already serves as start-up capital to finance many hydroelectric power facilities around the world which can be extended to finance further infrastructure development after they break even (Saifedean, Bitcoin Mining: Energy and Security, 2018, Volume 1, Issue 3).
Facilities with an oversupply may put their excess energy into bitcoin mining as is the case for hydropower plants in Canada. In China, excess energy is used for bitcoin mining with wind and solar plants using up to 30% of the oversupply which would otherwise be refused by the grid, grounded, and wasted.
Upstreamdata provides facilities to turn stranded natural gas sources such as methane into hashrate. ExaMesh tackles the problem of terminated green energy subsidy through linking windmills with ASIC miners to uphold their profitability. For example, due to canceled subsidies, windmills in Germany will not be profitable after 2020. But with ExaMesh, windmills merely need to use 20% of their energy to mine bitcoin and inject the rest into the energy grid to be profitable. The process of using green energy for mining is called “green mining.” Northern Bitcoin is one mining pool that mines exclusively with green energy.
Large bitcoin mining corporations in particular are focusing on cost-efficient hardware and the consumption of cheap energy. They could convert into energy companies or cooperate with energy corporations to improve their profitability in this highly competitive environment. These mining corporations would become the front runners in making green energy production more effective, supporting the transformation to a low-carbon economy and hence the Renewable Energy Directive set by the EU to achieve its 20% renewables target by 2020 and 27% by 2030.
Conclusion
“[…] bitcoin is providing a powerful market incentive to energy producers worldwide to increase their energy production. […] By giving a large financial incentive to anyone able to mine at an electricity cost below that of the market, Bitcoin makes the development of cheap sources of electricity, anywhere in the world, very rewarding.”
Saifedean, Bitcoin Mining: Energy and Security, 2018, Volume 1, Issue 3
Everything in our lives is related to energy. Transportation, manufacturing, cooking etc. requires energy. Thus, efficient energy production is essential to our everyday lives. Bitcoin incentivizes efficient energy production and therefore sets the correct incentives for the energy system as a whole.
In addition, Bitcoin is a serious alternative to the current financial system. Bitcoin has the features to be a qualified, stateless, world currency since it is censorship-resistant, permissionless, and trustless and since it provides instant settlement. The network is open and censorship-resistant through proof of work. Essentially, Bitcoin is a common good from the people for the people.
The correct incentivization inherent in the Bitcoin protocol and the importance of Bitcoin as an alternative to the financial system justify the massive use of energy for mining.
This article would have not been possible without the help of Stefanie von Jan
Thank you to all the contributors for their content, ideas and feedback:
Bitfury with special thanks to Alex Shevchenko
Munich Bitcoin Community with special thanks to Michael and Florian
Frank Gasser from ExaMesh
René Pickhardt
Joachim Wilcke
Vortex
