An article to understand the current status of BTC mining

Author | SatoshiLabs

As the price of Bitcoin continues to rise, the gap between its market price and production costs is getting bigger and bigger. Just like there are many factors that affect exchange rates, production costs can vary greatly depending on location, energy costs, software and hardware. Mining mainly depends on efficiency, while price depends on supply and demand.

Braiins, who run the world's first mining farm SlushPool and specialize in producing software to help miners improve efficiency, contributed this article to help understand the inner workings of the Bitcoin mining business. Read on to discover from the source how Bitcoin's fundamental value translates into miners' profits, as well as the current and future competitive landscape.

As with any asset, the cost of buying one Bitcoin carries a premium on top of the cost of producing one. Mining technology is highly specialized, expensive, and risky to set up due to the volatility of asset prices. Electricity costs also vary by location, making the industry highly competitive and profit margins much tighter for some than for others. At the time of writing, miners are experiencing a brief period of greatly improved profit margins as the dominant, hydro-powered Chinese competitors migrate machines between regions as the rainy season ends. This year, the migration has caused mining difficulty to drop by 16%, one of the largest drops ever, which shows the impact these massive mining operations can have; what does this concentration of computing power mean for other regions?

Supply shock: big investments on both the supply and demand sides

Funds such as Grayscale Bitcoin Trust are reportedly on track to hold 500,000 bitcoins by the end of the year, and are buying bitcoins faster than they are mined. So what impact does the emergence of these big buyers, including public companies such as Square and MicroStrategy, have on the mining industry?

As more institutions and private companies buy Bitcoin, this seems to have a positive impact on the BTC price, which in turn has a positive impact on miners. At the same time, due to the halving every 4 years, the role of miners in the market is decreasing, as new coins are issued as a smaller and smaller proportion of liquidity supply. This is good because it means that miners are less likely to crash the BTC price when they sell to cover their costs, and are less likely to suppress price increases when institutional and retail demand grows.

When we turn our focus back to the big companies involved in the mining industry themselves, competition is fierce, which makes the issue even more relevant. Since the beginning of the ASIC era in 2014, Chinese mining companies have had a large competitive advantage because the manufacturers were there and they were the first to get new hardware. Now that these big companies and investors have such a strong interest in Bitcoin, miners in Europe and America have gained better access to capital and formed closer relationships with manufacturers, which in turn has helped them scale their operations more effectively than in years past.

Ultimately, the emergence of institutional money has helped drive the redistribution of mining power in Western countries. So, from a mining decentralization perspective, this is very good. However, it also brings some other potential disadvantages, such as the introduction of KYC procedures tied to hash rate and the review of transactions from blacklisted wallets to make miners comply with government regulations. While this is inevitable to a certain extent, Braiins has been working hard to maintain the permissionlessness of mining and the censorship resistance of Bitcoin through the mining protocol Stratum V2 launched last year.

Mining Difficulty and Profitability

When large mining farms go offline, the total global computing power drops dramatically. To address this, the Bitcoin network has a mechanism that reduces the average hash rate required to mine a block, known as the difficulty, to ensure that blocks continue to be produced at roughly the same rate. Any reduction in the network's difficulty results in a proportional increase in mining revenue for the remaining miners. Typically, difficulty only drops after a significant drop in the price of Bitcoin, forcing inefficient miners to shut down ASICs (specialized mining computers) that are no longer profitable.

This time, this is not the case, because the price of Bitcoin has been rising, so miners are able to mine more BTC after the difficulty drops, and as a reward, the monetary value of these BTC has also greatly increased. This is a huge relief for miners who have been struggling with thin profits and high turnover since the halving in May 2020.

Since the bear market began in 2018, and especially after the halving, difficulty has increased much faster than price. As a result, the profitability of Bitcoin miners on a month-over-month basis is as follows.

Source: BTC Profit Calculator. BTC Profit Calculator; Monthly profit decreases over time as the difficulty to price ratio increases

Now the price has started to rise rapidly, and it has risen faster than the difficulty has risen. So, instead of continuing to decline over time, revenue and profit margins are increasing, which seems to be a good prospect for miners.

Monthly profit increases over time as price increases faster than difficulty (other variables held constant)

November was particularly profitable for miners because the rainy season had just ended in Sichuan, China. Miners operating there had to relocate their machines over the winter and spring to take advantage of cheap hydroelectricity. Unfortunately for other miners, this meant that much of the hashrate would be back online in the near future, so the difficulty reduction would be short-lived.

However, as long as prices do not fall back to October levels, rising prices will continue to boost miners’ profit margins in the coming months, even after all the hashrate that was suspended in Sichuan is brought back online elsewhere.

Open-source mining is becoming decentralized

As mentioned above, Bitcoin network hashrate is concentrated in China, in large part because leading hardware manufacturers such as Bitmain and MicroBT are based in China. This means that Chinese miners have immediate access to machines, lower shipping costs, no international taxes or tariffs, and better connections to support teams and ASIC repair services. This has raised concerns about centralization, especially in a country where the government is heavily involved in every industry.

At Braiins, we try to reduce concerns about mining centralization in several ways. It all started in 2017-2018 when Bitmain had both the AsicBoost and Antbleed hidden hashrate incidents. (For those who don’t know, I can summarize here that the hidden AsicBoost is a performance-boosting component in the Antminer S9 that can increase mining efficiency by about 13%. Antbleed is a hidden backdoor in the Bitmain firmware that allows Bitmain to remotely control and shut down the ASIC).

At the time, MicroBT was not that strong and Bitmain was dominant in the market, so these events were very worrying. The first thing Braiins did was to develop and launch Braiins OS in 2018 as the first open source firmware for SHA-256 ASICs with AsicBoost enabled publicly. Essentially this meant that anyone could get a 13% performance increase on their ASICs for free, while also being able to see our full source code and verify if there were any hidden backdoors.

Earlier in 2020, Braiins took another major step forward with the development of an enterprise version called Braiins OS+, which includes auto-tuning to further improve performance, making mining more competitive and transparent, offsetting the supply chain advantages that Chinese miners have benefited from for years. To demonstrate this, you can see how the cost of mining one Bitcoin varies, even with the same ASIC (Antminer S9), depending on the firmware it runs.

Original firmware for Antminer S9

Antminer S9 is equipped with Braiins OS+ automatic tuning firmware.

Since Braiins OS+ can help miners increase profitability without having to invest in the latest and most expensive hardware, its adoption is huge and continues to grow rapidly. This is important for two reasons in terms of concerns surrounding mining centralization.

Fewer machines are running Bitmain firmware, which has a history of hidden features and backdoors.

The new Stratum V2 mining protocol included in the operating system will eventually give miners the right to decide which blocks are included in a process called job negotiation, rather than having pools choose which transactions are included in the blocks, which gives more power to individual miners.

For most Bitcoiners who don’t mine but care about decentralization, this second point is the most important. To make the Job Negotiation aspect of the protocol usable, some changes need to be made to Bitcoin Core, but there are already thousands of miners using Braiins OS+ and Stratum V2, and once Bitcoin Core is updated, they can all help increase Bitcoin’s decentralization through Job Negotiation.

Overall, the mining industry is moving in a positive direction, and North America is becoming a new frontier for enterprise mining operations. China's share of the total network computing power is expected to decline in the next few years, and competition in the hardware manufacturing field has also led to positive developments in the mining industry. However, one area that has not improved much is the centralization of mining farms, as all major mining farms except Slush Pool are in China.

As demand for BTC continues to increase, and supply issuance decreases, the boom-bust cycle typical of all nascent technologies is playing out for Bitcoin. Miners who think in 4-5 year time frames and manage to survive the bear market will see fantastic profits in the coming months. Hopefully, the adoption of Stratum V2 will help reduce China’s share of hashrate, ensuring a more transparent and decentralized future for Bitcoin mining.