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When you hear the word “bitcoin,” you know that it is all about gaining more money. So, what is bitcoin mining?
Understanding Bitcoin
In 2009, an anonymous man created Bitcoin to offer people low-cost transaction fees when paying online instead of using conventional payment processes. It is a type of cryptocurrency managed by a redistributed or decentralized authority.
Computing power verifies all bitcoin proceedings. Governments or banks do not support or issue bitcoin. Though it is not commonly considered a legal tender, bitcoin has become popular worldwide.
The system running bitcoin involves a group of computers called “miners” or “nodes” that operate codes and a blockchain. A blockchain is a group of blocks; each block is an accumulation of transactions. Nobody can trick the system because the computers controlling the blockchain store the same transactions and blocks. Moreover, anyone who is part of the system can see trades happening instantaneously.
Private and public keys keep the balances of tokens. These are a series of letters and numbers connected via an encryption algorithm, which created them. A public key, which is similar to an account number, serves as an address issued globally. It is where others can send bitcoins. On the other hand, a private key, similar to a pin, is a secret key used to authorize bitcoin communications.
The Technology
Bitcoin uses virtual currency to make instant payments possible. Companies and individuals who participate in the network process the transactions. By solving mathematical problems to make blockchain transactions happen, they earn bitcoins as a reward.
You can think of these miners as the authority implementing the reliability of the network. Miners receive bitcoins at a fixed yet declining rate. All miners all over the globe can only mine 21 million bitcoins in total. Presently, more than 18 million existing bitcoins and below three million bitcoins are left for miners to collect.
Bitcoin Basics
As mentioned, mining involves solving mathematical puzzles to locate blocks, which are added to the chain. Bitcoin mining confirms and adds records to the network. Miners then get a reward, which is split per 210,000 blocks. In 2009, the prize was 50 bitcoins. In 2020, the reward was split by thirds, lowering the profit for discovering blocks to six bitcoins.
To earn bitcoins, you can use different kinds of hardware. However, some give more advantages than others. Note that computer chips, such as ASIC (Application-Specific Integrated Circuits, and high-tech processing units, such as GPUs (Graphic Processing Units), can yield more rewards. You call these mining processors mining rigs.
To solve a puzzle, miners have to execute a multitude of calculations every second. The amount of calculations a mining program performs per second is referred to as the hash rate. That means that the greater the rate, the greeter the puzzles it solves. As a result, you can earn more bitcoins.
Miners all over the globe differ in hash rates, so you must consider your hash rate to assess profitability.
How to Collect Bitcoins
As mentioned, miners get paid for doing the auditing work. That is to verify the validity of all bitcoin transactions. By confirming transactions, miners also help prevent double-spending.
Double spending happens when a bitcoin user illegally spends one bitcoin twice. With physical money, this is not an issue at all. When you hand a seller a $15 bill to buy a bag of chocolates, you lose your money, so you won’t use the same bill to buy another bag. With virtual currency, there is a possible risk that an owner duplicates a digital token, then forwards it to a marketer while keeping the original.
For example, you have a $15 bill and another one, which is fake. If you spend both bills, the one in charge of checking the serial numbers of both bills will see them having similar numbers. Therefore, one has to be a counterfeit. A miner’s job is to scan transactions and make sure users are using and spending their bitcoins legally.
Once a miner has confirmed an equivalent of 1 MB bitcoin transaction (block), the miner will be eligible to get bitcoins. Note that proving an equivalent of 1MB bitcoin transaction makes a miner earn bitcoins, which means not all miners who verify transactions get paid.
Therefore, to gain bitcoins, you must meet the requirements below:
- You must verify an equivalent of 1MB transaction.
- You must be the first to solve a mathematical puzzle. This process is called “proof of work.”
Dealing with Difficulties
The bitcoin system creates new tokens per ten minutes. That means the network wants a miner to win the prize every period. So, if more miners try to find an answer to the puzzle, the more chances the problem gets solved.
The network adapts by creating a puzzle that is more difficult to solve. The system will change the numerical value to make the problem harder. Note that a mining device uses a large amount of power, so your electricity bills may rise when you use it. That only means that slower equipment uses more energy, yet it lessens your probability of winning.
A slower mining device and increasingly challenging puzzles lower your chances of winning since faster equipment rules you out of the game. In addition, generating bitcoins becomes difficult throughout the years due to the growing popularity of cryptocurrency.
As people notice the potential gain of bitcoin mining, they start investing in expensive mining equipment. Some establishments have even arranged a considerable number of computers solely for bitcoin mining.
As more and more people try bitcoin mining, the complexity of puzzles also increases. The upward slope of difficulty is not suitable for miners because it reduces the probability of winning. Bear in mind that mining for bitcoins is not about effort but about being the one who first solves a puzzle.
Mining Costs
To purchase more powerful mining equipment, you will need to hand out more money. Before you earn a profit, you will have to get back the money you spent on the machine. Note that initial mining setups are expensive to buy and operate.
Some expert-built miners can compute more than 100 terahashes every second, which can cost you $15,000. You will need at least a year to start seeing an ROI (Return of Investment). Other equipment is cheaper yet has less computational ability. That makes it challenging for an individual who just joined the bitcoin system to earn and see actual returns.
Join a Mining Pool
In bitcoin mining, you need to work with other miners. Miners created pools to help lessen the cost required to mine. They modified the software to connect and allocate computational power to the advantage of miners. As a result, a pool increases a team’s ability to find an answer to a bitcoin puzzle.
Integrated computing power has a better probability of winning the race. The miners then share their profit by getting a payout depending on their work. This method means you can still generate bitcoins with basic equipment, even if you will not get the whole reward.
Types of Mining Pools
There are several different types of mining pools. The one you choose should depend on various factors. If you think you need to join the largest pool to increase your chances of getting a reward, well, it does not always work. Suppose you become part of the largest one, your opportunity to mine a block increases. However, it will also mean you have a lesser payout.
On the other hand, if you join a smaller pool, you will win less frequently. However, your earnings will be more. So, you might spend some time not earning at all, but you will get a considerable reward when the time comes.
Joining a pool is a great way to start in the business because it will only cost you less, yet you still get small payouts. Below are different types of pools.
Single and Multi-Crypto Pools
Some pools prioritize a single virtual currency (e.g., bitcoin). Others become available, yet they mine different types of coins depending on which currency is profitable. They consider several factors to do this, including the hash rate and the exchange rate between types of coins.
Local and Cloud Mining
Some pools mix pooled activity with cloud-based mining. That means you do not need to purchase mining equipment. Instead, you pay for a contract before joining the pool. That lessens your capital expenses, yet you must pay from your profits.
Payout Options
Pool payout comes in different ways. Some compensate participants right after successful submission. Commonly, pools pay based on a proportional framework, where they distribute the reward only when the group solves a whole puzzle.
An Illustrative Example
Understanding the details of bitcoin mining can be difficult. Here is an illustrative example of how hash rates work: You inform three of your teammates that you have a number in mind from 1 to 100. Then, you write it on paper and hide it somewhere others will not see it. Your teammates then must be the first to guess any number equal to or lesser than what you are thinking. Note that they can guess as many times as they want.
For example, you have the number 18 on your mind. Teammate A guesses 20. They lose because 20>18. If teammate B guesses 15 and teammate C guesses 11, then both answers are acceptable because 15<18 and 11<18. Teammate B does not get any credit even though their answer is closer to 18.
Now suppose that I ask millions of miners, and now what I have in mind is a hexadecimal number with 64 digits. Now you expect it to be complicated to solve.
If two teammates answer simultaneously, the analogy divides. In the Bitcoin world, simultaneous answers happen often, yet only one can have the winning answer. When miners present simultaneous solutions that are less or equal to the target, the network will decide which person to honor by a majority of 51%. Generally, the miner who verifies several transactions or does most work gets the reward.
The “64-Digit Hexadecimal Number”
Below is an example:
0000000000000000048fec712cb0120a94e26c5119607e9a962ac52e4df568ed
The example above contains 64 digits. As you see, the digits consist of not only numbers but letters as well. You may ask, “Why?”
First, to understand more about the pattern shown above, first, know what the term “hexadecimal” means. If you are familiar with the decimal system, it means the base is 10. In other words, every digit in a multi-digit number can have ten possibilities (0 to 9).
“Hexadecimal,” on the flip side, means the base is 16. Note that “hex” is the Greek term for six while “deca” is for 10. Therefore, each digit in a hexadecimal number can have 16 possibilities. However, the numeric system offers only ten ways to represent numbers. For that reason, the letters are added from a to f.
You call the 64-digit numerical puzzle “the hash.” In bitcoin mining, it is not necessary to calculate the value of the hash. So, what does this have to do with bitcoin mining?
In the illustration earlier, you can call the secret number the “target hash.” What miners do with their computers is to guess the “target hash.” Miners make guesses by generating “nonces” continuously and as quickly as possible. Note that nonce stands for “number only used once,” which is the secret to arriving at a 64-bit hex number.
A nonce has 32-bits, which is smaller than the hash (256 bits). Therefore, the miner who generates a hash equal or lesser to the hash target gets the award (6.25 BTC) for completing the block.
How do you guess the target? Target hashes always start with zeros (from eight to 63 zeros). Note that Bitcoin sets a maximum hash target. No target must exceed the number below:
00000000ffff0000000000000000000000000000000000000000000000000000
So, how do you increase your chances of arriving at the target before the other miners?
As mentioned, join a pool is a group of miners who merge their computing capabilities and split their profits. You can compare a mining pool to a club where members purchase lottery tickets and consent to share any prizes. Pools can mine a considerable quantity of blocks compared to individual miners.
In simple terms, bitcoin mining is simply a game of numbers. You cannot find answers by making predictions established on past target hashes. The level of difficulty of the latest block is roughly 17 trillion, which means the chance of a nonce generating a hash under the target can be one in a trillion. So, if you are working alone, your chances of winning are very slim.
The Legitimacy of Mining Bitcoin
Is mining bitcoins legal? The answer depends on where your location is. The idea of bitcoin threatens the superiority of other currencies and the control of the government over the markets. For that reason, bitcoin can be illegal in some places.
Nevertheless, bitcoin mining and ownership are accepted in several countries. Below are some countries that have not legalized bitcoin mining:
- Pakistan
- Nepal
- Ecuador
- Bolivia
- Morocco
- Egypt
- Alegria
Overall, bitcoin mining is pretty much permitted in most countries all over the globe.
The Risks
Mining bitcoins can have risks, which are often financial and regulatory. In general, mining any coin involves risking money. For example, individuals can labor and purchase as much computing equipment they want, spending hundreds of dollars without any actual returns. Therefore, if you’re going to mine, yet you reside in an area prohibiting the system, then think again. Additionally, it would be best if you researched the regulation and laws of your country before spending any money on mining devices.
Another potential risk is the increasing usage of energy needed by computer networks operating the algorithms. The risk grows as bitcoin mining also grows. While the efficiency of a microchip has also dramatically increased (ASIC chips specifically), the development of the system itself outpaces technological progress. For that reason, there are discussions on the impact of bitcoin mining on the environment.
Nevertheless, there are efforts to alleviate this negative impact by seeking green and cleaner energy sources for bitcoin mining operations (e.g., solar or geothermal), including the use of carbon credits. Furthermore, shifting to reduced energy-intensive mechanisms, such as PoS (proof-of-stake), which Ethereum plans to execute, is a new strategy. However, the said consensus mechanism also has inefficiencies and drawbacks.
Understanding What You are Getting Yourself Into
The goal of a mining pool is to normalize your opportunity of getting a reward so you will not have to keep on waiting for a slim chance of solving a puzzle. However, the idea will not always increase your rewards with time, especially when a block operator takes a portion of the compensation to themselves as a commission.
Eventually, in time, bitcoin mining will pay off. However, there is also no guarantee that it always will. It is like other types of investments, whether it be gambling, gaming, or investing. All will depend on a combination of luck, patience, and wise decisions.
