Does Bitcoin Mining Energy Cost Affect Its Price?

Several recent reports have drawn attention to the massive amounts of energy used for bitcoin mining operations. The statistics are staggering. According to the Digiconomist website, a bitcoin country would rank 64th in the world for overall energy consumption.

Bitcoin’s annual energy consumption is estimated at 30 TWh. (Wikipedia defines one terawatt hour as equivalent to a sustained power of 114 megawatts for a period of one year). At a more granular level, about 10 American households could be powered for a single day with the electricity required for a single bitcoin transaction. (See also: Is Bitcoin Mining Still Profitable?)

Energy accounts for between 90% to 95% of bitcoin mining costs and plays an extremely critical role in determining profitability for the cryptocurrency’s miners. In turn, profitability is important to attract more miners and grow the bitcoin mining ecosystem as demand for bitcoin spirals. (See also: How does Bitcoin mining work?) Does the increased cost of bitcoin translate to higher future prices?

The relationship between mining energy cost and bitcoin price

Energy consumption for miners depends on several factors, from availability of cheap and abundant power to energy-efficient hardware to the difficulty of problems solved by machines to earn bitcoin rewards. For example, a hard problem is computationally intensive (as opposed to an easy problem) and will therefore require additional energy resources to solve. A Forbes post last year suggested that bitcoin’s currency (or the difference in its production cost and overall value) would become unviable unless the mining process became more energy efficient.

Over the years, bitcoin miners have cut down on energy costs by moving production to China, a country said to be responsible for 60% of bitcoin production operations. The majority of Chinese bitcoin mines are located in Sichuan province, where hydropower dominates.

Iceland, which naturally provides cooling Arctic air for overheated systems and uses geothermal energy, is also a prominent location for bitcoin mining operations. Chinese miners have not provided estimates for bitcoin production costs. But Genesis Mining, which moved its mines from China to Iceland, estimated that it cost the company $60 to produce a single bitcoin.

In a 2015 paper, Investopedia writer Adam Hayes estimated a cost-of-production model for bitcoin (of which energy was the main cost) and concluded that technological advances, in the form of faster and more energy-efficient hardware, would drive the market price of bitcoin .

“As actual mining efficiency increases, which is a likely result of competition, the break-even price for bitcoin producers will tend to fall. Low-cost producers will compete in the market by offering their product at lower and lower prices,” Hayes said. writing.

But it didn’t happen. An increase in bitcoin numbers was accompanied by a jump in bitcoin’s price. Why? The answer to that question is complicated.

Why an increase in Bitcoin production did not drop its price

To be sure, there have been significant improvements in hardware processing power and cost.

Even as energy costs have decreased, the difficulty levels for bitcoin mining have increased on an overall basis. With the exception of two cases, the level of difficulty has risen consistently over the past year. This increases the cryptocurrency’s hash rate and is necessary to ensure bitcoin’s security. Although this costs more energy, a significantly harder problem set translates to a more secure bitcoin network.

The halving of rewards for bitcoin mining from 25 to 12.5 has also ensured that mines have to work harder to earn the same number of bitcoins as before. Then there is speculation, which has played a prominent role in driving up prices for the cryptocurrency. Recent forks within the cryptocurrency have introduced new algorithms that require less processing power. For example, the recent Bitcoin Cash fork adjusts problem difficulty depending on hash rate, thereby enabling lower power consumption.

The net effect is that energy costs still make up the majority component of bitcoin mining costs, but exert minimal influence on its price. The energy costs associated with bitcoin mining operations ensure that it remains a significant barrier to entry into the industry.