As the first cryptocurrency to hit the mainstream, Bitcoin has attracted a huge amount of media and investor attention since launching in 2009. But there are still many misconceptions around how Bitcoin is actually created and maintains its security. Mining is integral to this process, but unfortunately, it’s often poorly understood by the general public.
Today, we’ll look at how Bitcoin mining works and its implications for investing in Bitcoin. It’s worth noting up front that the process is fairly similar across cryptocurrencies in general. Though each has its quirks, this guide can be seen as a broad primer for those pondering questions like “How does cryptocurrency mining work?”
Bitcoin mining explained
To understand mining for Bitcoins, you first need to understand Blockchain. Blockchain is essentially a large-scale logbook, which stores all of the information about all of the Bitcoin transactions which have ever taken place. It’s also what prevents fraudulent transactions from taking place; before a new transaction can occur, Blockchain must verify the authenticity of the Bitcoin.
These transactions are encrypted in complex equations, which must then be decrypted and recorded on the Blockchain for the transaction to be complete. The difficulty of these equations is also artificially heightened as a fraud deterrent via a technique called “hashing”.
So, how are bitcoins mined? Well, as the Blockchain for Bitcoin isn’t “stored” in any one central database, this is a very demanding task, both in terms of computing power and electricity required. So the Bitcoin mining process is relatively simple to understand, if not always a simple process to execute. This is where miners come in — essentially, they lend their computing power to the Blockchain so that these transactions can take place. How does mining work? You need a powerful computer and a knack for tech.
The reasons people mine are complex. Some do it out of the goodness of their hearts because they’re interested in new technology, or they subscribe to an ideological position that has grown out of the popularity of cryptocurrency. But most are simply Bitcoin harvesting. When a transaction’s hash is solved, Bitcoins are handed out as a reward — either as a tip from the person carrying out the transaction or from new Bitcoins effectively being “unlocked”. The process is similar across most other cryptocurrencies, so this also illustrates how cryptocurrency mining can be explained.
Ultimately, the purpose of Bitcoin mining is twofold:
1. Solving the complex equations involved in verifying transactions, which in turn ensures the integrity of the Blockchain.
2. “Unlocking” new Bitcoins, which are then passed into wider circulation.
But these rewards aren’t distributed evenly — rather, they’re sent to the individual miner or miner collective that was the first to solve the hash. As you might imagine, this breeds quite a bit of competition in the mining community.
The Bitcoin mining arms race
Bitcoin mining hasn’t fundamentally changed in concept since 2009, but the scope of it has. Solving more complex problems at an increasingly rapid rate is the name of the game — and that means investment in increasingly powerful computers. The prevalence of Bitcoin mining has led to occasional shortages of common PC parts, like graphics cards worldwide, as miners seek to give themselves additional power.
The mining process isn’t carried out by people sitting at their computers, waiting for transactions to pop up for them to process, either. Though there were undoubtedly operators like this back in the early days of cryptocurrency, that would be far too time-consuming today. Rather, most miners use some kind of automated software or bots to process day-to-day transactions. Similarly, very few miners operate in isolation. Many belong to loose or formal co-operatives who pool their computing power and split the rewards.
It’s a demanding and expensive process for those involved — high-end computer parts and electricity bills both attract sky-high costs. But many feel the rewards can be worthwhile, particularly if you’re working with a team of people that you trust. Cryptocurrency is still a frontier environment in many ways — for keen-minded entrepreneurs, there’s always a way to make that work to their advantage.
The future of Bitcoin mining
Bitcoin mining has an interesting future ahead of it. There’s an intense pool of competitors already undertaking mining, competing for a limited pool of resources — and as the Blockchain grows, the processing power required to solve hashes will continue to grow too.
There’s also the added wrinkle of Bitcoin undergoing “halving” periodically. Around every four years, the amount of new Bitcoins unlocked (and in turn, the potential financial reward) has halved to stagger the release of new currency. Nonetheless, many remain committed to the cause, and as Bitcoin has arguably established the most media and investor-friendly reputation, there’s likely to be ongoing interest for years to come.
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What does “mining Bitcoin” mean?
Mining Bitcoin has nothing to do with real-world mining or equipment — rather, the term “mining” has been adopted to refer to the process of solving the complex algorithms attached to bitcoin transactions. As all Bitcoin transactions are stored in a single, decentralised ledger — known as the Blockchain — a great deal of computing power is required to maintain the integrity of transactions carried out via Bitcoin. Miners essentially provide their computing power to help solve these algorithms and maintain the Blockchain. Additionally, this process enables new Bitcoins to be unlocked and then circulated into the crypto community.
Why do miners do this?
Though there’s a component of the mining community that’s driven by altruism and excitement about new technologies, it would be fair to say that the bulk of miners are looking to make a profit from Bitcoins. When you contribute to the mining process, there’s also the possibility that you’ll be rewarded with Bitcoins — either in the form of a tip from those carrying out Bitcoin transactions or from unlocking new coins. However, competition is very fierce.
Is mining worthwhile?
From an investor’s perspective, buying cryptocurrencies directly has tended to prove more profitable than navigating the murkier waters of mining. But that’s not to say people haven’t had success with it — particularly in the early days of Bitcoin. It was easy enough then to carry out mining without a dedicated bank of computers. Today in crypto investor circles, it’s often viewed as rather akin to the Gold Rushes of the past; the initial investment tends to be steep and risky, but the payoff can be spectacular.
How are bitcoins generated?
More Bitcoins are periodically unlocked at a decreasing rate as more transactions take place and miners solve the relevant hashes involved: once certain targets are hit, new Bitcoins are placed into circulation. Only a finite amount is ever planned to exist — around 21 million. At the time of writing, there are close to 19 million already in circulation.