A Hypothesis of Hashrate Equilibrium
Minimum Energy Cost Will Trend Above 50%
This article presents a novel hypothesis that the minimum energy cost of mining a given Proof-of-Work cryptocurrency will trend above 50% of the cryptocurrency’s market value. This idea is based on calculating the minimum energy production costs of Proof-of-Work blockchains from https://www.trinsicoin.com.
Spurred on by the war between BCH ABC and BCH SV, I took some time to calculate out the energy costs going into producing coins on both networks versus their market prices in a previous article.
Suffice it to say, BCH SV, while maintaining a comparable hashrate, was losing the war for market value mindshare.
When I ran the numbers for BCH SV at the market price of $44 but an energy production cost of $303 per coin it made me realize the ratio had gone negative: it cost far more to mine the coin than what it was worth on the market.
Now, fair enough, BCH SV is actively being buoyed by the coingeek.com mining pool at the behest of Calvin Ayre and thus the simple rational actor model of cryptocurrency mining is not valid.
In other words, rather than trust that hashrate would reflect mining profitability, in the case of BCH SV one has to believe that the invested parties are willing to burn cash to keep the hashrate high in order to win a protracted battle against BCH ABC for dominance.
What does Bitcoin’s energy cost/market value ratio look like?
Bitcoin Energy Cost/Market Value Ratio Over Time
On my first pass I used the same values currently on the Trinsicoin website, emulating the Ebang EBit 10 as the most efficient TH/s per kWh (18 TH/s @ 1.65 kWh) for the last 180 days.
In the preceding chart you can see that the energy cost has gradually been rising as a percentage of the total market price. All data was provided by Blockchain.info and the spreadsheet for the last 180 days is available: here.
Some coins, like Litecoin and BCH ABC, have recently dropped into a negative ratio (-8% and -9% respectively) as their energy costs have exceeded their market value.
But Energy Cost != Market Value
I’ve had so many vigorous debates about this.
To be short: I agree.
To be long: I believe that the minimum energy cost to create a Proof-of-Work coin has some bearing on its market value in a natural state.
Thus, some of those debates look like this:
That leads to three hypotheses:
1. Simple Rational Actor Model of Proof-of-Work Mining
I mentioned this briefly in the introduction, but it’s my position that Proof-of-Work cryptocurrency mining works on a model where miners are willing to mine if the coins they mine are profitable on the market.
In other words, if it costs $50 to make a coin and the market value is $51 then it is rational to mine the coin.
Note that this model does not include mining as an investment. Nor does it include consideration for the BCH SV-style “mine even when it costs more than its worth” rationality.
Thus, the natural state of Proof-of-Work mining is the simple rational actor model, while deviations from it represent artificial inflations.
2. Energy Cost Trends to 50% Or More of Market Value
In reviewing the long-term view of Bitcoin and other PoW cryptocurrencies I found it very rare for market value to far outpace the underlying energy cost to produce each coin.
Following the data it seemed that more “extra value” ranged in 20–30% of the market value (compared to the energy cost) consistently and that whenever the energy cost fell below 50% of the market value it corrected itself over time.
3. Energy Costs That Exceed Market Value Represent Artificial Inflation of Hashrate
Based on the simple rational actor model when a PoW cryptocurrency is no longer profitable to mine (e.g. the miner can’t sell to pay ongoing costs) the hashrate should lower over time.
If it doesn’t then it represents an artificial inflation or bubble in the hashrate.
Summary
- Under a simple rational actor model miners only mine when its profitable.
- Miners do mine when its unprofitable; as demonstrated by BCH SV there are complex reasons to do so (such as winning the hashrate war with a competitor) and thus bubbles can occur.
- Energy costs have a correlation with market price for the preceding reason; conversely, this fails during artificial inflations/bubbles.
- Energy costs that drop below 50% of the market value tend to trend back upwards over time.
