Bitcoin was created as a decentralized alternative to the banking system. This means that the operation can operate and transfer funds from one account to the other, without any central authority.
With a central authority, transferring money is easy. Just tell the bank you want to remove $50 from your account and add it to someone else’s account. In this case, the bank has all the power. Since the bank is the only one who’s allowed to update the ledger that holds the balances od everyone in the system. But how do you create a system that has a decentralized ledger? How do you give someone the ability to update the ledger without giving them so much power that they’ll become corrupt or negligent in their work?
Well, the rules of the bitcoin system, known as the protocol, solves this in a very creative way called “who wants to become a banker?”
Anyone who wants to participate in updating the ledger of bitcoin transactions, known as the blockchain can do so. All you need to do is, guess a random number that solves an equation generated by the system. All these guessings are all done by your computer. The more powerful of a computer you have, of the more guesses you can make per second, thus increasing your chances to win this game. If you managed a guess right, you earn bitcoins and get to write the next page of bitcoin transactions on the blockchain.
Here’s a more detailed breakdown of the mining process:
Once your mining computer comes up with the right guess, your mining program determines which of the current pending transactions will be grouped into the next block of transactions. Compiling this block represents your moment of glory as you have now become the temporary banker of bitcoin, who gets to update the Bitcoin transaction ledger, known as the blockchain.
The block you have created along with your solution is sent to the whole network so that other computers can validate it. Each computer that validates your solutions updates its copy of a bitcoin transaction ledger, with the transaction that you chose to include in the next block.
As you can imagine, since mining is based on a form of guessing for each block, a different miner will guess the number and be granted the right to update the blockchain. Of course, the miners with more computing power will succeed more often. But due to the laws of statistical probability, it is highly unlike that the same miner will do so every time.
After this stage is complete, the system generates a fixed amount of bitcoins and rewards them to you as compensation for the time and energy you spent in solving the math problem. Additionally, you get paid any transaction fees that were attached to the transactions you inserted into the block. So, that bitcoin mining in a nutshell.
It’s called mining because this process helps “mine” new Bitcoins from the system. But, if you think about it, the mining part is just a by-product of the transaction verification process. So, the name is a bit misleading since the primary goal of mining is to maintain the ledger in a decentralized manner.
Satoshi Nakamoto, who invented Bitcoin, crafted the rules for mining in a way that the more mining power the network has, the harder it is to guess the answer to the mining math problem. So, the difficulty of the mining process is self-adjusting to the accumulated mining power the network possesses. If more miners join, it would be harder to solve the problem. If any of them drop off, it will get easier. And, this is known as the mining difficulty.
Satoshi did this because he wanted to create a steady flow of bitcoins to the system. In a sense, this was done to keep inflation in check. The mining difficulty is set, so that on average, a new block will be added every ten minutes. This is just on an average, we can have two blocks being added minute after minute and then wait an hour for the next block. In the long run, this will even out to 10 minutes on average.
This type of self-adjusting mechanism created some arms race to get the most efficient and potent miners as soon as possible.
When bitcoin first started, there were not a lot of miners out there. Satoshi, the inventor of bitcoin and his friend Hal Finney, were some of the few people mining Bitcoin back at the time, with their personal computer. Using your CPU, meaning your central processing unit, or your computer’s brain was enough for mining Bitcoin back in 2009 since the mining difficulty was low,
As Bitcoin started to catch on, people looked for more powerful mining solutions. Gradually people moved to GPU mining. A GPU or graphics processing unit is an individual component added to computers to carry out more complex calculations. GPUs were originally intended to allow gamers to run computer games with intense graphics requirements. Because of their architecture, they became popular in the field of cryptography. For reference, the mining power of one GPU equals that around 30 CPUs.
Another revolution came later on with FPGA mining. FPGA is a piece of hardware that can be connected to a computer to run a set of calculations. They are just like a GPU but 3 to 100 times faster. The downside is that they are harder to configure, which is why they weren’t as commonly used in mining as GPUs.
Finally, around 2013, a new breed of miner was introduced- the ASIC miner. ASIC stands for Application-Specific Integrated Circuit. And these were pieces of hardware manufactured solely for mining Bitcoins. Unlike GPUs, CPUs, and FPGAs, they wouldn’t be used to do anything else. Their function was hardcoded into the machines. ASIC miners are the current mining standard. Some early ASIC miners appeared in the form of USBs, but they became obsolete rather quickly.
After about three years of this crazy tech race, We have finally reached a technological barrier, and things have cooled down a bit. Since 2016, the pace at which new miners are released has slowed considerably.
The idea is simple, miners group together to form a pool, meaning they combine their mining power to compete more effectively. If the pool manages to win the competition, the reward is spread out between the pool members, depending on how much mining power each of them contributed. This way, even small miners can join the mining game and have a chance of earning bitcoin, even though they get only a part of the reward. Today, there are over a dozen large pools that compete for the opportunity to mine bitcoins and update the ledger.
The profitability of Bitcoin:
Bitcoin Mining’s Profitability depends on a lot of factors. When calculating Bitcoin mining profitability, there are a lot of things you need to take into account. They are:
1. Hash Rate
A hash is a mathematical problem; miner’s computer needs to solve. The Hash rate refers to your miner’s performance, or how many guesses your computer can make per second. Hash Rate can be measured in Mega hash per second (MH/s), Giga Hash per second (GH/s), Terra Hash per second (TH/s) and even Peta Hash per second (PH/s).
2. Bitcoin Reward
This refers to the number of bitcoins generated when a miner finds a solution. This number started at 50 bitcoins back in 2019 and halved every 210,000 blocks, about every four years. The current number of bitcoins awarded per block is 12.5. The last block having occurred in July 2016 and the next one will be in 2020.
3. Mining Difficulty
This is a number that represents how hard it is to mine bitcoins at a particular moment according to the amount of mining power currently active in the system.
4. Electricity cost
How many dollars are you paying per kilowatt? You need to find out your electricity rate to calculate profitability. This can usually be found out on your monthly electricity bill. The reason this is important is that miners consume electricity, whether for powering up the miner or for cooling it down, as these machines can get hot.
5. Your Miner’s Power Consumption
Each miner consumes a different amount of energy. You’ll need to find out the exact power consumption of your miner before calculating profitability. And this could be found easily, with a quick search on the internet or through this list. Power consumption is measured in watts.
6. Pool fees
If you are mining through a mining pool, then the pool will take a certain percentage of your earnings for rendering their service.
7. Bitcoin’s price
Since no one knows, whats bitcoin’s price will be in the future is hard to predict if bitcoin’s mining will be profitable. If you are planning to convert your mined bitcoins in the future to any other currency, this variable will have a significant impact on your profitability.
8. Difficulty increase
This is probably the most important and elusive variable of them all. The idea is that since no one can actually predict the rate miners joining the network, neither can anyone predict, how difficult it would be to mine in 6 weeks, six months or 6 years from now. In fact, in all the time, bitcoin has existed, profitability had dropped only a handful of times, even at times when the prices were relatively low.