Binance released its highly anticipated proof of reserves (PoR) on Friday, providing blockchain-based evidence for the Bitcoin on its books. However, many in the crypto community question Binance’s approach, and aren’t fully convinced that they have the transparency they’re looking for. The Move to Proof of Reserves As Binance explained in its announcement, the exchange’s transparency system will add multiple tokens and networks within the next two weeks. For now, it solely validates its Bitcoin holdings. The company’s initial audit…
As far as the Bitcoin network’s components are concerned, the Bitcoin hashrate plays an integral part. Diving right into its essence, Bitcoin hashrate can be referred to as a parameter that calculates the number of calculations that the network can perform each second. Basically, it’s the feature that gives dimensions to Bitcoin’s architecture.
When Satoshi Nakamoto designed the world’s first cryptocurrency, he had to solve a basic problem of getting nodes that would maintain the system and have an incentive not to cheat.
So the solution was to get nodes to solve hash functions, which requires processing power and electricity. This would mean bitcoin miners have some skin in the game.
If they spent the money to mine bitcoins and then cheated by rewarding themselves more bitcoins than allowed for solving a hash, the other nodes would reject their block, they would not get the Bitcoin reward, and they would lose the money they spent on the electricity. What an elegant solution, right?
How Bitcoin Hashing Works
This cryptographic technique is how Internet servers have long prevented spam and distributed denial of service (DDoS) attacks.
Bitcoin employs a hash function generated by the U.S. National Security Agency (NSA) and published in 2001. It’s called SHA-256. It’s a computer program that takes any string of characters of any length and condenses them down into a 256-bit hash, a string of numbers. hashrate is computed in quintillion hashes per second (EH/s).
For Bitcoin, the implementation gives BTC miners a hash, and they have to guess the input that created it. Because the hash function is pseudo-randomizing, the only way to find the input is to make millions of guesses and put each guess into SHA-256 to see if the hash comes out.
Eventually, a bitcoin miner makes the right guess and unlocks the ability to place the next block of transactions on the blockchain and create new Bitcoin to award itself as payment for maintaining the network.
The software is coded to adjust the difficulty level based on the network hashrate to target a pace of one new block mined every 10 minutes.
How is the Bitcoin Hashrate Concentrated Globally?
Bitcoin’s hashrate is a good indicator of the network’s health. The higher the network’s hash power, the larger the number of miners required to commit a 51% attack. Therefore, if concentrated amongst a few firms, ownership of hash power can be a security risk hence a great concern.
A new BTC mining map created by the University of Cambridge recently highlighted that China accounts for 65% of the world’s hash power.
As per the map, China’s hash power dwarfs that of the second-placed nation, with the U.S accounting for merely 7.24% of the worldwide BTC hash power. Theoretically, this gives China substantial power over the BTC network. Practically, that can be true or false at the same time. For more clarity, please read our full guide on crypto trading.
The Relationship between BTC Price, HashRate, and Difficulty
Difficulty — or how challenging it is computationally to solve and validate a block on the blockchain — is set to adjust every 2016 block, or two weeks, to maintain a consistent 10-minute block verification time.
This has a close connection to the network’s hashrate. Normally, when the network sees a low level of computational power, the difficulty will drop, while in phases of intense network participation, it increases, working as a counterbalancing tool.
Historically, mining difficulty and hashrate increases have been shown to spike bitcoin prices. See below:
Buying bitcoin whenever prices move above hashrate values paves the way for massive price spikes followed by a gradual sell-off.
While this correlation is clearly evident, it is hoped that in the future, as hashrates reach a ‘peak’ and stabilize, the price will likewise decouple and stabilize.
The relationship between price, hashrate, and difficulty has historically generated a trend that some analysts refer to as a “miners’ capitulation cycle.”
This theory tries to convey that while BTC’s prices remain high and mining is cost-effective, both the hashrate and mining difficulty can surge upwards till they reach a threshold at which bitcoin miners are pressed and obliged to liquidate their coins. BTC Miners are obliged to cover their overheads — leading to an increased supply of bitcoins on the market.
The “capitulation point,” at which some can no longer afford to keep mining altogether, then involves a decline in hashrate (reflecting lower participation) and a subsequent reset in the network’s difficulty.
During the just-concluded Bitcoin halving, this theory was confirmed to be true. Bitcoin researcher Larry Cermak has pointed out (in the chart below) the dreadful BTC miners’ capitulation in case the current BTC prices hold.
The above data shows that bitcoin miners earned $8.7 million the day after the halving vs. $16.1 just before the event.
Those companies operating inefficient mining rigs that incur higher electricity costs will be most affected and possibly pushed out of the network.
However, new generation mining hardware is already replacing the older generation models, resulting in a rising hashrate, as can be seen below:
How Was Bitcoin’s HashRate Affected by the Recent Halving?
On May 12, 2020, bitcoin produced its 630,000th block and triggered the 3rd-ever halving event in the crypto’s 11-year history.
On that day, Bitcoin hit an impressive rate of 126 exahashes per second (EH/s), which many attributed to bitcoin miners scrambling to make the most of 12.5 BTC rewards just before they were cut in half.
BTC’s mining hashrate has been recently seeing major volatility in the months before the halving event as the mining sector braced itself for a major reshuffle. On May 3, 2020, the hashrate set a new all-time high of more than 142 EH/s.
While some predictions pointed to a drop in the hashrate as more bitcoin miners close shop due to the reduction in rewards, BTC miners defied the odds by plugging in newer, more efficient rigs to the network in an attempt to remain profitable.
Next-generation ASICs, capable of producing 100–120 EH/s, have already been unveiled by mining hardware giants like MicroBT and Bitmain. These include the AntMiner S17, S19, and S19 Pro models and the MicroBT WhatsMiner M30S — both hyped to be the most profitable BTC miners on the market.
As more of these newer model mining machines are introduced to the network post-halving, the Bitcoin hashrate is expected to stabilize, as bitcoin miners look for innovative ways to remain profitable.
Bitcoin is programmed by design to mine a block about every 10 minutes, on average. It maintains this harsh production rate by adjusting the “mining difficulty” in line with the network’s overall hashrate. Essentially, as the hashrate increases, that implies intensive mining activity on the network.
The BTC hashrate has shown a clear correlation to bitcoin’s price in the past and can be a useful indicator of investors and active traders’ price action. That said, hashrates can be misleading sometimes, as they create a lot of retail and speculative interest in the cryptocurrency market, which could be a limiting factor.
All in all, Bitcoin hashrate is a significant factor to consider, but it is up to you to figure out how you should integrate it into your trading strategies.
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