What happens when bitcoin mining rewards end?
Bitcoin transactions are currently subsidised by block rewards. What happens when those rewards drop towards zero, and the only income miners receive is transaction fees?
Bitcoin relies on economic incentives to secure peer-to-peer transactions. Bitcoin mining is rewarded with BTC to maintain honest consensus around the shared ledger. The majority of those payments come from block rewards, currently 12.5 BTC per block, as well as transaction fees.
The Bank of International Settlements recently published a report that criticised Bitcoin’s Proof-of-Work system on the grounds that it was not sustainable, calling it ‘doomsday economics’. The report argued that when block rewards fell enough in the future, miners would not be adequately incentivised to secure the network. Satoshi Nakamoto intended that transaction fees would gradually replace block rewards as adoption grew, but that was before the development of a highly sophisticated and complex mining infrastructure, or the block size debacle.
The price of security
It currently costs 12.5 BTC, or around $100,000 per block, to maintain the security of Bitcoin’s blockchain. On a daily basis, that’s $14 million to secure a $140 billion network – a ratio of 1:10,000. In other words, every day, another 0.01% of Bitcoin’s total market cap is put into circulation. That’s what is paid to miners, not taking into account transaction fees.
This is probably the best metric we can use. You could look at the cost of subsidies per transaction, but transactions vary in size and blocks may not always be full. What has the situation been in the past – and what happens in the future?
When the Bitcoin blockchain was first launched, it was an experiment. BTC was worth nothing; it cost miners electricity to secure the network, and it could easily have been attacked by an entity with sufficient processing power. We have to ignore this bootstrap phase.
As soon as bitcoin had value, block rewards of 50 BTC gave miners powerful incentives to secure the network. These fell over time, though bitcoin’s price rose exponentially. The ratio of rewards to market cap doesn’t change with the dollar price of bitcoin, of course. What matters is the size of block rewards and the number of bitcoins in existence. But we’ll give dollar figures for simplicity. Let’s take some key dates as a survey, with bitcoin’s price, total daily rewards (price * block reward * 144 blocks per day) and market cap (price * coins in circulation).
- July 2010: MtGox opens. Price: $0.06. $430 daily rewards to secure $204,000 market cap. Ratio: 0.21%.
- November 2012: Just prior to first halving. Price: $12. $86,000 daily rewards to secure $124 million market cap. Ratio: 0.07%.
- November 2013: Top of the bubble. Price: $1,200. $4.3 million daily rewards to secure $14.4 billion market cap. Ratio: 0.03%.
- January 2015: Bottom of the bear market. Price: $155. $560,000 daily rewards to secure $2.1 billion market cap. Ratio: 0.027%.
- July 2016: Post-second halving. Price: $660. $1.2 million daily rewards to secure $10.4 billion market cap. Ratio: 0.01%.
- December 2017: Bubble top. Price: $20,000. $36 million daily rewards to secure $335 billion market cap. Ratio: 0.01%.
- Today: Price: $8,000. $14 million daily rewards to secure $140 billion market cap. Ratio: 0.01%.
From this selective summary, we can see that at this point in Bitcoin’s history, decreasing block rewards make the most difference. At an earlier stage, new coins from block rewards had a larger impact, since they were far more as a proportion of existing supply. At the next halving, Bitcoin’s inflation rate will drop below 2%, and the daily addition to the supply will become a negligible amount.
An increase in transaction fees will offset this reduction in block rewards, to some extent. In a future article, we will look at what proportion of Bitcoin mining revenues transaction fees have historically contributed.