Energy Hungry Bitcoin

In May 2018, PricewaterhouseCoopers (PwC) released a report on the energy requirements of the bitcoin rage.  Bitcoin is a type of digital currency that relies on encryption techniques to regulate the generation of currency units and verify the transfer of funds.  Bitcoin operates independently of central banks, providing some the romance of a digital age Wild West.  Bitcoin is one application of blockchain technology, a peer-to-peer digital ledger or database of transactions involving something of value or importance.  Bitcoin is a financial platform, but blockchain technology can be configured to track exchanges of food, equipment or even animals. 

Blockchain processes require a large number of hash function calculations.  Hash functions accelerate table or database lookup by detecting duplicated records in a large file.  Hashing is used to index and retrieve items in a database because it is faster to find the item using the shorter hashed key than to find it using the original value. 

In the Bitcoin application of blockchain technology, cryptocurrency ‘miners’ serve as digital auditors by verifying previous Bitcoin transactions. Mining is also the mechanism used to introduce Bitcoins into the system.  Miners get paid transaction fees as well as a subsidy of newly created coins.  These transactions are taken as an input and run through a hashing algorithm.  Apparently, about every ten minutes or so a server finds an acceptable solution to the algorithm and a miner gets a reward from the Bitcoin system.

According to PwC, those hash functions require quite a lot of server time and considerable electricity.  According to Morgan Stanley Bitcoin requires 215 kilowatt hours of energy for each transaction.  The Bitcoin network is currently consuming 2.55 gigawatts of electricity, but could require as much as 7.67 gigawatts if the Bitcoin price remains near the current $8,000 price level and the network grows.  PwC analysts suggest this puts bitcoin on par with major countries like Ireland that require 3.1 gigawatts and Austria at 8.2 gigawatts.

The computing power required for the cryptocurrency network tends to fluctuate with Bitcoin’s price.  The Bitcoin price has moderated since PwC completed their study to around $3,200.  However, at least one analyst from Fundstrat Global Advisors has suggested that Bitcoin’s fair value is in a range of $13,800 to $14,800.  If the Fundstrat folks are correct Bitcoin mining will be hugely profitable and will continue to attract miners.    As long as Bitcoin provides a stream of revenue, people will be willing to run power hungry electronics to get a part of it.  Importantly, mining difficulty also has an impact on energy consumption.  Digiconomist reports that in the first six months of 2018, the number of Bitcoin transactions was cut in half but the mining difficulty doubled.  This meant that twice as much mining equipment and twice as much energy was needed to complete transactions.

Crescent Electric Supply Company recently completed an analysis of the energy costs of Bitcoin mining by state.  Louisiana is the cheapest state to mine Bitcoin due to lower electricity rate than other regions of the U.S.  Mining a single bitcoin costs $3,224 in Louisiana.  Hawaii is the most expensive venue with mining costs up to $9,483.

  

Digiconomist recently compared Bitcoin usage with that of another large payment system, VISA, which processed 111.2 billion transactions in 2017.  The VISA company reported energy usage of 674,922 gigajoules for its entire global operations.  This is equivalent to about 17,000 U.S. households.  VISA needs about 180 kilowatt hours to run 100,000 transactions, compared to 474 kilowatt hours for just one Bitcoin transaction. 

The intense energy requirements of blockchain technology have led many to question the sustainability of cryptocurrencies like Bitcoin.  There are a number of solutions that have been proposed to make Bitcoin more environmentally friendly.  In our next post we look at a few investment opportunities in energy for Bitcoin.

Neither the author of the Small Cap Strategist web log, Crystal Equity Research nor its affiliates have a beneficial interest in the companies mentioned herein.