Bitcoin’s ‘Halving’ Poses a Threat to Miners, But It’s One That Could Resolve Itself

Bitcoin watchers held their breath over the weekend when the celebrated “halving” took place, abruptly chopping in half the incentive those who produce Bitcoin receive and raising questions about the impact the event would have on the 7-year-old cryptocurrency.

The halving, which is part of Bitcoin’s basic code and so entirely predictable, cut the reward for Bitcoin miners from 25 coins to 12.5. At $648 per Bitcoin, the price the currency stood at late Saturday as the halving took effect, the event sliced the dollar income for miners from $16,200 to $8,100. By mid-day Wednesday, Bitcoin’s price had climbed modestly to $662.

Some experts fear the reduced incentive will torpedo miners’ profits and could drive many of them out of the business. Bitcoin mining, which in the early days of the currency was akin to a hobby pursued by enthusiasts in garages and basements, has become a highly professionalized industry that relies on banks of computing power and tons of electricity. Using this computing horsepower, miners earn their fee by verifying new blocks of transactions on the Bitcoin blockchain.

“Profit margins for miners just got narrower. Mining is a CAPEX- and OPEX-intensive activity,” George Peabody, who follows Bitcoin at Glenbrook Partners, a Menlo Park, Calif.-based payments consultancy, tells Digital Transactions News. “Some gear that was profitable at 25 [coins] won’t be at 12 ½ .” CAPEX and OPEX refer to capital and operating expenses.

Anticipating the halving, at least one mining operation, KnCMiner, declared bankruptcy in May, arguing the reduced reward would not compensate the firm enough to absorb its operating costs, let alone leave any room for profit.

But some point out that much depends on how the price of Bitcoin changes in the coming weeks and months. If the price rallies significantly, that could more than compensate for the halving of the reward. That was the case the last time this happened, when the reward fell from 50 coins to 25 in November 2012. At the time, Bitcoin’s value was around $12.25. By February, the price had risen to about $30, more than offsetting the lost income.

One reason this can happen is the self-regulating mechanism built into Bitcoin’s code. The halving itself is meant to be a guard against inflation, and thereby it tends to moderate Bitcoin production. “The net effect is that the exchange rate will likely rise, enticing more miners” to enter the business, notes Ben Knieff, a senior analyst at Aite Group, a Boston-based payments consultancy. The code calls for a halving to take place every 210,000 blocks, or roughly every four years.

On top of that, Bitcoin is programmed to stop at 21 million coins, preventing any runaway production that could radically deflate value. “One of the most interesting aspects of Bitcoin is that the algorithm sets its own monetary policy,” says Knieff.

Still, the fact remains that mining is a capital-intensive business, and getting more so over time. As it is, miners tend to cluster in places where electricity is either very cheap or even free. Indeed, “industrial-grade mining farms” in places like China, Iceland, the Northwest United States, and the Republic of Georgia account for most Bitcoin mining these days, according to Coindesk, an online newsletter.

Meanwhile, the inexorable workings of the Bitcoin code roll on, rewarding some and taking a toll on those that can’t control costs. “At some point there will be another halving and another and another until there is no mining reward,” says Knieff. “I’m not sure anyone knows what would happen at that point, but right now it seems to be a problem for another generation.”