What Is Bitcoin Mining and How Does It Work?

During Bitcoin's earlier periods, when it was less than $100 per BTC, crypto enthusiasts could easily use their work or gaming computers to mine the cryptocurrency without having to purchase it.

Now that a single BTC is above the price point of a luxury sedan, this is no longer feasible with standard computer hardware. In this overview, we'll dive into why this is the case, why miners are needed in the first place, and what lies ahead for the future of Bitcoin mining.

Bitcoin Mining Explained

When something is decentralized, it needs to be trustworthy because of an apparent reason — it doesn't have a central governing body. Likewise, as a decentralized cryptocurrency, Bitcoin would be worthless if its blockchain network couldn't be trusted to accurately execute transactions.

Thanks to mining, Bitcoin is not only trustworthy, but something substantially more important — it is trustless. This means that Bitcoin's blockchain network is inherently reliable because of how it operates. As a result, you don't need to put your trust in any organization or people — including individual miners.

To understand more about mining Bitcoin, we need to comprehend its constituent elements — blockchain and miners. A blockchain is a digital distributed ledger technology consisting of a network of computers. Each computer that validates this record (and new transactions) is called a node. Full nodes contain the entire history of every single transaction made on the Bitcoin blockchain.

How Does Bitcoin Mining Work?

Every node across the Bitcoin blockchain network runs software that verifies transactions for their authenticity. Therefore, each node has an option to participate in mining Bitcoin. The critical aspect of being a trustless network is its incentive structure. Because of the network's underlying incentive structure, each miner has a chance to receive a block reward for validating the legitimacy of transactions.

Whenever there is a transaction — for example, someone sends or receives 0.004 BTC — this becomes a new data point within the next validated block on the network. Then, it needs to be added and verified across all the blockchain nodes, creating a chain of verified transaction blocks. Bitcoin uses the Proof of Work (PoW) consensus algorithm for this purpose.

As total hash rate per second (TH/s) utilized on the Bitcoin blockchain keeps growing, Bitcoin's adoption rate increases.

PoW exerts computational power measured as hash rate, derived from a hashing algorithm, to resolve complex cryptographic problems for a new block to be added, which the transaction is a part of. Because of the computer power and output needed, it requires electricity, which is where the consensus mechanism gets its name of "Proof of Work." Upon completing the mathematical puzzle, the miner receives a block reward as BTC.

Correspondingly, the role of a mining node — miner — in the Bitcoin network is to:

Confirm transactions
Secure the blockchain network

For this valuable service, they receive block rewards, which are paid out in Bitcoin.

Total revenue generated by Bitcoin miners from January 2009 to June 27, 2021. Source: Statista.com

In a nutshell, Bitcoin mining is all about achieving consensus in cooperation with full nodes, which are responsible for collectively maintaining the blockchain's entire history of transactions. For example, if someone were to try and double spend 500 BTC by sending the amount to two people simultaneously, it would be rejected. After the first transaction is completed, the record would not match records from other nodes. The majority of nodes would then reject the second transaction.

Although there are no monetary rewards for nodes that don't opt to become miners, they still contribute to securing the network. After all, if there are more full records across the planet, it becomes that much more difficult to overtake the network and falsify a transaction. Bitnodes puts the node count at over 12,000 as of October 2021.

Why Was Bitcoin Mining Professionalized?

The key aspect to Bitcoin mining is mining difficulty — the amount of computational power (TH/s) needed to add new data blocks. This is one of Bitcoin's flexible features that make it so future-proof. Every 2,016 blocks mined (processed transactions), the blockchain network adjusts its mining difficulty based on the number of active miners. This translates to about every two weeks. The more miners, the higher the difficulty is.

For example, when miners took China's Bitcoin ban seriously, they started to migrate out of China into other, more friendly crypto nations. Correspondingly, Bitcoin's mining difficulty dropped significantly in May and June 2021 because there were fewer mining nodes plugged into the network.

During the great migration from China, Bitcoin's network difficulty precipitously dropped from July to August 2021.

Interestingly, the same setup is used by Bitcoin Cash (BCH) as well. When cryptocurrency communities hold different views on which aspects of the network to prioritize, cryptocurrencies often diverge into different network branches called hard forks. In the case of Bitcoin hard forks, there are about 74 active projects left. Befitting its name, Bitcoin Cash, emerged as a would-be solution better suited for daily transactions due to its nominal transaction fees.

In the earlier years of Bitcoin, mining was highly profitable because the network difficulty was much lower, meaning less powerful machines could participate. Today, network difficulty has increased drastically, so Bitcoin mining has become a professional operation utilizing expensive, specialized ASIC mining rigs. Bitcoin mining software such as CGMiner, BFGMiner, and MultiMiner are also needed.

Profitability and Price Volatility

One of the best Bitcoin mining hardware rigs is the Antminer S19. It has a 95 TH/s computational power. If we consider the cost of electricity at 0.1 USD/kWh and the cost of the machine itself at around $8,000, we arrive at the following profitability:

$19.44 per day, or 411 days to pay off Antminer S19

To find a more precise estimation, it's common to use a Bitcoin mining calculator, which can be found on many different websites. Due to its cheap coal and electric power, China was historically the most popular Bitcoin mining nation. Moreover, one has to account for Bitcoin's halving of block rewards. Since mining Bitcoin was banned in China, however, other countries are stepping up to fill the difficulty gap that was left by China.

When factoring profitability, it is important to understand about Bitcoin halving – an intentional deflationary mechanism hardcoded into Bitcoin's blockchain. In 2009, the block reward was 50 BTC. About every four years, or 210,000 blocks, the block reward is halved, which means that the current block reward, in 2021, is 6.25 BTC. After all the halvings are complete, there will no longer be block rewards for miners to take in as profit. Miners will only be able receive profits from the network transaction fees when someone sends BTC from one cryptocurrency wallet to another.

Bitcoin Mining FAQ

Why do Bitcoins need to be mined?

A decentralized network needs to be trustless. Bitcoin mining is a way to make this happen by incentivizing miners to secure the network and confirm transactions. For their inputs and work, they receive BTC as block rewards.

What do you mean by "mining confirms transactions"?

Miners compete with each other to confirm the validity of network transactions. This is the difference between the "pending" and "confirmed" state of received/sent BTC. Effectively, this means that miners have permanently added the transaction to the blockchain, to forever remain as a historical record. After validation, the new block is synced across all the nodes of the blockchain network to ensure it is valid according to the network's rules.

Is Bitcoin mining legal?

Bitcoin mining is legal in most of the world. The biggest countries in which it is restricted are China and India.

Bitcoin mining legality map, Source: Coin.dance

Bitcoin's Future Looks Bright

Outside of some setbacks delivered by China, 2021 was filled with good news for Bitcoin. Banks, large companies, and payment processors have started integrating Bitcoin into their offerings. Some large-scale mining farms have even become publicly-traded companies that allow investors to gain exposure to the crypto market indirectly by purchasing Bitcoin mining stocks on stock exchanges. Moreover, the devaluation of fiat currencies due to central bank money printing has made Bitcoin more attractive than ever. There will only ever be 21 million BTC in existence, which means that if its scarcity and demand continues to rise, the asset's price should as well.

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