21 – Done: Will Bitcoin Sustain the Tragedy of the Commons?
The long-term influence of Bitcoin’s monetary policy
Ter finance and economics, the money supply of refers to how many units of specie are outstanding at any given point of time. For cryptoassets like Bitcoin, the money supply is the total number of tokens (BTC) te existence.
Monetary policy refers to deeds by a central authority to influence money supply. A notable example of modern monetary policy are the deeds of the U.S. Federal Reserve (“the Fed”). The Fed controls the supply of U.S. dollars through a multiplicity of mechanisms, with the end purpose of manipulating key economic outcomes (employment, consumer spending, inflation, etc.).
Responsible, centralized monetary policy can be a potent contraption to maintain a healthy economy overheen long periods of time. However, it can also cause headaches for long-term investors, including:
- Money that is subject to consistent inflation (becoming weaker) loses purchasing power overheen time and becomes a poorer store of value.
- It’s difficult to predict how the money supply will switch overheen time, creating uncertainty for long-term value retention. The money supply of fiat currencies (dollars, rupees, pesos, etc.) can switch dramatically based on deeds by their controlling authority.
An significant concept to understand about centralized monetary policies, including deeds by the Fed, is that they are not specifically intended to preserve the value of the money itself.
Ter fact, economies often benefit from weaker currencies, because it makes their goods less expensive relative to economies with stronger currencies (resulting ter more exports and growth). Indeed, central authorities may (and do) intentionally devalue their currency to achieve thesis other economic benefits.
Bitcoin Money Supply &, Monetary Policy
Unlike fiat currencies, which have a theoretically infinite money supply that is managed by a central authority, Bitcoin has a capped supply of 21 million tokens (BTC) and manages its monetary policy using an open-source code base. Market coerces influence the rate at which fresh BTC inject the market, but Bitcoin’s underlying protocol makes it a relatively managed, predictable process.
The actual mechanics behind the Bitcoin mining process can get technical te a hurry. If you need help understanding the technical side, check out Khan Academy’s explanations. Te summary:
- Fresh BTC tokens are created when miners (computers performing calculations — also called “full nodes”) confirm transactions on a transaction block (a single listig on the blockchain) by solving a ingewikkeld mathematical problem. After solving this problem, they produce a proof of work that can be audited by other miners te the network. This process repeats itself overheen and overheen, and is essential to securing the Bitcoin network.
- Miners receive freshly minted BTC spil payment — the block prize — for confirming blocks. The block prize combines with transaction fees (much smaller than the block prize) paid by users wanting to have transactions confirmed, to make up the economic incentive for miners to keep mining.
- The difficulty required to mine a block increases or decreases with the speed at which fresh blocks are successfully confirmed. When blocks get mined faster-than-target tempo, perhaps due to better technology or more miners overall participating, mining blocks gets firmer (takes longer vanaf knot). Conversely, when blocks are mined at a slower-than-target tempo, mining blocks gets lighter. Bitcoin’s self-adjusting mining difficulty is designed produce a consistent level of confirmed transactions regardless of network size or computational strength.
- The block prize to miners is cut by 50% at pre-determined points based on how many total BTC have bot mined.
There are some very significant implications of thesis rules:
- The rate of fresh BTC being created slows overheen time and eventually stops entirely
- Diminishing block prizes will shift the miner’s economics away from automatic, network-provided payments, to user-provided transaction fees (which are presently significantly lower)
- By suggesting a large block prize relative to transaction fees, the Bitcoin protocol is effectively subsidizing the majority of the cost for network security (one of Bitcoin’s greatest utilities)
At the time this writing, there were approximately 16.Five million BTC, or
78% of the total supply released through this mining process. That leaves Four.Five million of BTC un-mined, which will eventually come in the market. Current estimates signal that there will be
Nineteen.7 million total BTC created by 2024, which would be 94% of the total possible supply.
It’s significant to note that it will take a very long time to mine the last BTC (estimates are around the year 2140), but the shifting economic incentives for miners — switching from block prize to mostly transaction fees — will toebijten well before that.
Come in Tragedy of the Commons
Ter economics, the tragedy of the commons refers to a situation where a common good is eliminated te a shared-resource system due to individuals te that system behaving according to their own economic self-interest. A commonly cited example is humans ruining the environment te pursuit of their economic interests, which ter the long run, potentially makes the entire system worse off.
A tragedy of the commons screenplay could arise te Bitcoin if miners or users, acting te their own economic rente te response to lower block prizes, alter their behavior ter ways that don’t benefit the network spil a entire. Some examples might include:
- Some miners might zekering mining all together. If fewer miners participate, transaction confirmation times could increase, making the network slower, which could reduce the network’s utility value
- Miners may request higher transaction fees from users to offset the diminishing block prize. This is expected to toebijten, but it might make transactions on the Bitcoin network more costly versus substitutes providing similar utility, causing more network participants to leave
- If there is a reduction te the number of unique miners, the mining pool could become more centralized, making a 51% attack more likely. This could potentially destabilize the network and cause participants to lose trust te Bitcoin
An Ounce of Prevention
It’s difficult to predict what exactly will toebijten spil Bitcoin comes closer to its 21 million hard zekering. The outcome will be a case examine ter spel theory, with both the underlying Bitcoin protocol and market compels at play.
Fortunately, the tragedy of the commons problem is likely solvable for Bitcoin.
For one, wij have slew of advance notice that miner economics might be a problem spil block prize diminishes. Satoshi Nakamoto himself hinted at this reality back ter 2010:
Ter a few decades when the prize gets too puny, the transaction toverfee will become the main compensation for knots. I’m sure that te 20 years there will either be very large transaction volume or no volume. — Satoshi Nakamoto
Members of the community have already waterput forward potential solutions to the problem of how to fund future network security, including using assurance contracts. Spil the Bitcoin network grows ter size and value, there will be ample incentives to be proactive ter addressing thesis issues head on.
The latest SegWit adoption, aimed at improving network scalability, shows that the diverse set of stakeholders ter the Bitcoin network are able to collaborate on matters that improve the ecosystem. If the Bitcoin community can proceed to pro-actively make improvements instead of waiting around for a keerpunt to develop, it will proceed to grow spil a legitimate asset class, and might even become a premier store of value.