Research

2020 BTC Halving Technical Refresher

Welcome to completely predictable inflation

By   Christopher Bendiksen


At this point you’ll be hard pressed to have missed the topic.

Bitcoin’s ongoing production rate is halving in May 2020 and opinions abound concerning what this means for the future of both the system and the asset.

For readers new to Bitcoin or unfamiliar with the technical mechanisms underpinning the system, the halvings can seem cryptic and strange.

For those that think of bitcoins as commodities: No other commodities have their production rates irreversibly cut in half from one day to another and without any influence by price on production rates.

Similarly, for those who think of bitcoins as currency: No other currencies have pre-determined monetary policies that are independent of economic factors. In all central bank monetary systems, committees set the price and production rate of money. In Bitcoin, the production rate is predetermined and unchangeable, and the price is set solely by market interactions.

What do these differences mean in practice, and what are people supposed to make of it?


Click here to read our analysis of 5 popular theories on the upcoming Halving.


The Halvings are Predetermined Events Where Ongoing new bitcoin Supply is Halved

Every day, an average of 1,800 bitcoins are created by miners. This corresponds to 12.5 bitcoins per new block found and new blocks are found every 10 minutes on average. When Bitcoin first launched in 2009, 50 btc were awarded per block. This was halved to 25 in 2012 and then to 12.5 in 2016.

This process repeats itself automatically every 210,000 blocks, or roughly every 4 years. 2020 is a halving year and we are about to witness Bitcoin’s third halving, taking the block reward from 12.5 to 6.25 btc.

Source: CoinShares Research


Bitcoin’s Supply/Demand Mechanics Differ from Those of Regular Commodities

Traditional commodities production is sensitive to price because there is significant elasticity in production capacities. By way of example, if commodity prices rise, production will increase as previously unprofitable supply turns profitable and enters the market. The increased supply then puts downwards pressure on price until a new balance is established. The opposite will happen if the price falls.

This is not the case with regards to the production of bitcoins. The production rate of bitcoins is pre-determined by the Bitcoin protocol and is almost entirely inelastic in response to changes in price. If the price of bitcoins increase, the mining difficulty will increase, the production rate will not. If price falls, the difficulty of mining will fall, and the same amount of coins will still be produced every day. It’s hard wired into the code.

The only elasticity of production is that which is caused by increases or decreases in hashrate in between difficulty adjustments. These happen every 2016 blocks, or about every two weeks, so even the short-term effects of changes in hashrate are temporary.

On longer time scales, the only available mechanism to reduce the production rate of bitcoins is the halvings, and their timings are dre-determined. When the halvings occur, the ongoing bitcoin production is cut in half from one block to another, and there is no way of increasing it ever again.

From a supply/demand point of view the effect should be fairly obvious. Every day, a certain amount of new bitcoins is added to the market. Mining is highly competitive and on average, miners have to sell the lion’s share of their daily 1,800 btc (or an average of $13.3m per day in 2019) production to cover costs, causing a persistent selling pressure in the market.

Demand has to match or exceed the ongoing flow of newly minted coins merely to keep prices stable. Assuming current demand for coins is sufficient to keep prices stable, a 50% reduction in new coins coming to market should create upwards pressure on the bitcoin price.

Something to consider in this context are flows into passive bitcoin investment products. Over the last quarter, inflows into products like Grayscale’s Bitcoin Investment Trust and CoinShares ETPs have averaged around 500 btc per day. On top of that we have inflows into services like Square's CashApp. At a daily average issuance of 1,800 coins, these inflows eat up a little more than 40% of new coins. After the halving, though, if flows remain steady (let alone grow, as they have for the last 4 quarters in a row), inflows will consume almost 85% of newly issued coins.


* At the time of writing, the Q1 2020 CashApp flows are not yet known and thus assumed to be the same as Q4 2019


Sources: Grayscale, Square, CoinShares Research


From a Technical Perspective, the Halving Itself is the Simple Part

Any industry veteran will tell you that there’s no magic surrounding the actual halvings––they just happen automatically with no action required by anyone. And let’s also keep in mind that this is the third halving so far, and one of dozens more to come. Both previous halvings went forward without any technical issues and no issues are expected this time around either.

The halving itself is simple to understand. At the time of writing there are approximately 1,800 bitcoins created each day. After the halving it will be 900. After the subsequent halving––expected around 2024––it will be 450, and this will continue until some time around 2140 when the last fractional bitcoin will be added to the total supply of almost 21m.

All halvings are prescribed by the protocol itself and thus already set in stone. Every 210,000 blocks we will have another halving until the issuance of new coins per block finally rounds to zero.


Will this time be different? Click here to read our analysis of 5 popular theories on the 2020 BTC Halving.




Disclosure

This material has been prepared by CoinShares and its affiliates for educational and informational purposes only and it is not intended to be relied upon as an offer or a recommendation, offer or solicitation to buy or sell a security nor is it to be construed as investment advice. Predictions, opinions and other information are expressed at the date of publication and are subject to change as circumstances vary. This information has been developed internally and/or obtained from third party sources believed to be reliable; however, no representation or warranty, express or implied, is made as to the accuracy, reliability, or completeness of such information. To the extent permitted by law, we do not accept or assume any liability, responsibility or duty of care for any use of or reliance on this information. Past performance is not a reliable indicator of future performance.

The CoinShares Astronaut is a trademark and service mark of CoinShares (Holdings) Limited.

Copyright © 2020 CoinShares Group, All rights reserved.


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