Miners Shouldn’t Worry About the Upcoming Halving

If you’re reading this, you’ve probably seen news segments mentioning “The Halving” when speculating about the rising price of Bitcoin. Today we’re going to dive into what that is, why it can mean bad news for miners, and also why it probably isn’t.

What is “the halving”?

By design, the Bitcoin protocol will only ever generate 21 million coins (contrary to what Jamie Dimon seems to think). When you hear about Bitcoin being “decentralized”, one of the ways that’s meaningful is that there is no single issuer of new Bitcoin. In the United States, the US Treasury is responsible for the creation and destruction of US Dollars, and is able to mint new bills and coins as it pleases. In Bitcoin, no single entity controls the coin supply (again, in contrast to Jamie Dimon’s understanding of how Bitcoin works). Instead, in addition to collecting tips (effectively fees) from Bitcoin users, miners are given the opportunity to mint new coins (and send them to themselves as a reward) every time they’re lucky enough to verify a “block” of transactions.

In 2009, miners were able to mint 50 new Bitcoin for every block they verified. In 2012, on the first halving at Block 210,000 that number dropped to 25. In 2016 it was reduced to 12.5, in 2020 it dropped again to 6.25, and in a few months miners will only be able to mint 3.125 new Bitcoin for every block verified.

The halving doesn’t cause price rises, but has been correlated with them

In Bitcoin’s early years, mining wasn’t an expensive activity, but it was also very niche, even amongst computer scientists and self-described “cypherpunks.” Anyone mining in Bitcoin’s first few years of existence were doing so out of a pure curiosity for the new technology; there was no expectation that they’d be able to profit in USD.

However, as Bitcoin matured and started to gain mainstream popularity, the price of Bitcoin in USD started to rise exponentially. Each time this has happened there has been a different catalyst, but historically it has always been correlated with the timing of the halvings. And, the price of BTC has consistently far more than doubled from pre-halving prices during each bull run, more than making up for receiving half the usual Bitcoin from mining activity.

Mining usually becomes more expensive over time

That said, as Bitcoin mining becomes more popular, mining becomes a more expensive activity. By design, Bitcoin has a mechanism to enforce an average “block time” of approximately ten minutes, meaning that the more miners there are operating, the more difficult it becomes for any of them to mine a block and claim the block reward. With these “difficulty adjustments” happening every 2016 blocks (typically around two weeks), miners need either more or faster machines (usually both) to maintain their mining pace. Therefore, as more and more players see the price of BTC rising and decide they want to join the fun, the price of mining becomes much more expensive.

At the same time, while it’s true that historically the price of bitcoin has risen dramatically in the year following the halving, these value increases do not happen overnight nor are they guaranteed at all. Additionally, it should be noted that the magnitude of the price increases at each halving has been decreasing each cycle.

It stands to reason that with mining costs continuing to increase and expected dollar gains to decrease each cycle, quickly slashing block rewards in half might be bad news for miners. In fact, after enough halvings, the amount of new bitcoin issued will be so negligible it shouldn’t even make economic sense for miners to operate at all based on block rewards alone.

How will miners be incentivized when block rewards are really, really small?

It’s long been expected that as block rewards become negligible, miners’ main source of revenue would instead come from transaction fees, especially as the number of bitcoin users and transactions continue to increase. However, few people expected that revenue alternatives for miners, like higher fees, would arrive in force as early as 2023.

How else can miners monetize?

It’s been well-documented that ordinals and inscriptions spiked Bitcoin fees so much in 2023 that fee revenue occasionally eclipsed block reward revenue.

Inscriptions, especially profile-picture and BRC-20 inscriptions, might be the most well-known consequence of Casey Rodamor’s ordinal theory that dominated the Bitcoin landscape in 2023. Though inscriptions were the main driver of higher transaction fees, other types of collectibles emerged from their discovery as well, and with them, other ways to monetize mining:

“Rare sats”

Originally defined in the early ordinals documentation, the “Rodamor rarity index” defines “uncommon”, “rare”, “epic”, “legendary”, and “mythic” sats according to their, well, rarity. Uncommon sats are defined as the first sat minted on every block, meaning that nearly all blocks contain an uncommon sat. It’s easy to think of these as similar to the first copper penny minted on each day, and for most people, about as interesting. 

It turns out that these “rare sats” can be quite interesting to collectors. At time of writing, there are several rare sats on auction at Sothebys with active bids in the tens of thousands of dollars, for a single satoshi (1 sat = 1/100 millionth of a Bitcoin).

Rare sats are minted as part of the block rewards, so miners will always have access to these special sats before anyone else. As long as there is interest in these, it makes sense to collect and sell them to collectors and artists as another source of revenue. Interestingly, the collection of uncommon sats has shined a light on the fact that several of the largest mining pools appear to be cooperating with each other to extract these sats. This only became apparent when on-chain sleuths started to notice that these pools were all sending the uncommon sat from each of their block rewards to be collected at the same address.

Custom blocks and non-arbitrary tokens

In 2023, Luxor Mining collaborated with the team behind the Taproot Wizards ordinal collection to mint a massive 3.96 MB Bitcoin block, just under the 4 MB limit. This is the largest block to date, and contains just a single transaction. This is the kind of transaction that miners won’t pick up in their normal operations, because they could get much more in fees from fewer “regular” transactions. The intention behind this particular collaboration was to make a statement about whether NFTs (ordinals) belong in Bitcoin at all. But this type of collaboration could also open another revenue stream for miners. For example, artists or others interested in creating custom blocks, could pay a premium on transaction fees to cover lost “typical” fees that would come from a more “normal” block. 

Beyond large digital art projects, there are other opportunities to monetize custom blocks or custom transaction picking:

BRC-20 mints

• A problem that occasionally shows up with BRC-20 mints is frontrunning. What happens is that a “mint inscription” will be sent to the mempool, a bot will see the transaction before it’s been mined and processed, and effectively snipe the transaction by sending a new one with a higher fee into the mempool. By default miners will pick the transactions with higher fees, so the “real” BRC-20 mints would become nullified, effectively preventing real users from using them. 
• To get around this, deployers of new BRC-20 tokens could use some kind of off-chain record-keeping or “whitelisting” to keep track of users who intend or are permitted to mint the tokens. Then, the deployers could collaborate with miners by paying fee premiums to ensure that the transactions belonging to whitelisted users go through, and not the sniped transactions.

Bitmaps

• Bitmaps are a metaverse protocol built on top of Bitcoin. The idea is that each Bitcoin block is a piece of digital “land”, in the universe that is Bitcoin. Each block looks different, based on the transactions inside that block. Bitmaps sparked a huge wave of user and developer interest during the ordinals waves of 2023, and because each Bitmap block (is that what they’re referred to as?) gets its unique properties from the transactions in actual Bitcoin blocks, miners have the power to create (at least partially) custom Bitmaps. If user and developer interest stays strong, miners could offer some form of Bitmap customization as a revenue-generating service.

Other NATs

• BRC-20 and Bitmaps are types of NATs, or non-arbitrary tokens. There are other types of NATs too (such as CBRC-20 and Runes, which launches on the same block as the halving), and certainly more will exist in the future. Miners will benefit by staying on top of NAT developments and offering services to capitalize on demand for custom mining.

In conclusion, the upcoming halving, while posing challenges, shouldn't be viewed as an existential threat to miners. By embracing new technologies, forging strategic partnerships, and capitalizing on emerging trends, miners can not only weather the halving but potentially emerge stronger, ushering in a new era of mining prosperity. Remember, the future of Bitcoin mining is not written in code; it's crafted by the ingenuity and adaptability of those who secure the network.

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