An important question that needs to be answered to understand Bitcoin fully is:
“Where do Bitcoins come From?”
Most people know where fiat money comes from right? The government that issues the currency decides when and how much money to print. Huge bureaucracies are involved in monitoring economic growth, inflation, and a host of other factors to determine what the money supply should be. Government borrowing needs are also taken into account and the money supply grows in what is becoming a huge inflationary spiral. This is how money creation works in centralized government control.
The Bitcoin network has no centralized government controlling the creation and supply of Bitcoin tokens. Instead, Bitcoin miners use specialized computer hardware and software to solve cryptographic math problems, and they receive Bitcoins in exchange. Miners also receive smaller awards of Bitcoin for verifying transactions in the Bitcoin ledger. It’s a smart way to issue currency that controls inflation, and provides an incentive for people to mine Bitcoin, as well as supporting the transactional network.
Bitcoin mining was designed to be resource-intensive, with the difficulty of mining new Bitcoins increasing steadily to keep the number of new blocks discovered in the blockchain steady. The number of Bitcoins awarded to miners also drops by half roughly every four years. Eventually the entire supply of Bitcoin will have been mined, with the supply being capped at 21 million coins. The entire process of mining new blocks in the Bitcoin blockchain is based on a concept called Proof-of-Work.
What is Proof of Work?
A proof of work is a certain piece of data which is costly (in terms of time and/or resources) to produce. It is meant to satisfy certain requirements and it must be trivial to check whether data satisfies these requirements.
Producing a proof of work in a random process with a very low probability, requiring a large amount of trial and error before a valid proof of work is generated. Bitcoin uses a proof of work known as Hashcash, which was first proposed in 1997 – or roughly 12 years before the creation of Bitcoin.
Why Do We Mine Bitcoin?
The main reason for Bitcoin mining is to ensure that all the operating Bitcoin nodes reach a consensus which is both secure and tamper-resistant. This is the transactional side of the Bitcoin network. Mining is also the way in which new Bitcoins are created for use in the blockchain environment. Miners are paid the transaction fees for validating transactions, and they are also rewarded with the new Bitcoins released into the ecosystem when solving the “problem” to create a new block.
The combination provides the motivation for miners to continue confirming transactions, as well as creating new coins in a decentralized manner. Any miner can be the one to discover the new block in the random low probability search for a solution to each new problem.
The process adopted the mining term because of its resemblance to the mining of other commodities. It requires both time and the use of substantial resources to extract a valuable commodity, which is similar to the extraction of physical commodities from the ground, such as we see with mining gold and silver.
Bitcoin Mining Rewards
Each time a block is discovered on the Bitcoin blockchain the discoverer may award themselves a certain amount of Bitcoin, which is mutually agreed upon by every node in the network. The first block, called the genesis block, was created on January 3, 2009, and had a reward of 50 Bitcoin. The amount of Bitcoin being created is partially controlled by decreasing this reward by half every 210,000 blocks, or roughly every four years. Currently the reward for new block discovery is 12.5 Bitcoins, and this won’t be cut in half to 6.25 Bitcoins until 2020. All of the 21 million Bitcoins will be mined by 2040.
In addition to the discovery reward, miners are awarded the fees paid by Bitcoin users when they send a transaction. The transaction fee is an incentive for the miner to verify the transaction. In the future these fees will become increasingly important to miners as a means of compensation. This is because the number of Bitcoins created by each new block will dwindle, although this should be offset in part by the increased value of each Bitcoin.
Conclusion: Is Bitcoin Mining Profitable ?
In truth it really depends on how much you’re willing to invest into it. The profitability of Bitcoin mining depends on many different factors, and in fact there are Bitcoin mining profitability calculators which you can use to determine the profitability of mining in many different situations. They take into account factors such as the cost of electricity, the cost of your hardware, its hashing power, and many other factors to estimate what your return on Bitcoin mining will be.
Here’s a simple Bitcoin mining calculator you can play around with.
My own feeling is that as long as the price of Bitcoin continues to increase, mining will be profitable in the long-run. If you estimate your current return on mining and it looks like breakeven, or even as small loss, that doesn’t mean it won’t eventually be profitable. Consider that at the beginning of 2017 one Bitcoin was worth roughly $1,000. As I write this one Bitcoin is worth $9234.73 (Nov 26, 2017). So, even if you were mining at a cost of $2,000 per coin back in January (what looked like a huge loss then), your Bitcoin would be worth 9x more now, making for a huge profit.
One other consideration is the technical nature of mining with hardware. Consider if you have the knowledge (or are willing to learn) to setup your own Bitcoin mining rig. If you’re still interested in setting up your own mining rig and mining Bitcoin have a look at this post which details how to set up a mining rig and begin mining bitcoin.
If you don’t want to be bothered with the technical requirements another option is to avoid all the expensive hardware and technical requirements and use one of the cloud mining services that allow you to rent hashpower to mine Bitcoins. Many people have found this to be a good alternative to setting up their own mining rigs.
One final option is to simply buy Bitcoin and hold it, investing in the same way as you would with stocks or gold. That’s primarily what I do, and if you’re interested in learning how to buy Bitcoins here’s a perfect place to begin.