Bitcoin Halving: Why This Time Could Be Different

The fourth Bitcoin halving is almost upon us. This halving has the potential to bring some very interesting surprises. This halving means that the Bitcoin supply subsidy has been reduced from 6.25 BTC per block to 3.125 BTC per block. These supply reductions occur every 210,000 blocks, or roughly every four years, and are part of Bitcoin’s gradual inflation mitigation approach to an ultimately limited circulating supply.

Even though the limited supply of 21 million coins is not that much, the basic characteristics of Bitcoin. This predictability of supply and inflation rates has been key to driving demand and belief in Bitcoin as a superior form of money. Regular supply halving is the mechanism by which finite supply is ultimately implemented.

Over time, halving is the driving force behind one of the most fundamental changes in Bitcoin incentives in the long term. This means that miners are moving from being funded by newly minted coins from Coinbase subsidies (block rewards) to being funded primarily by transaction fee revenues. From users moving Bitcoin on-chain.

As Satoshi said in Section 6 (Incentives) of the white paper:

“Incentives can also be funded through transaction fees. If the output value of a transaction is less than the input value, the difference is a transaction fee that is added to the incentive value of the block containing the transaction. “Once a predetermined number of coins are in circulation, the incentive can be completely converted to transaction fees and no inflation at all.”

Historically, halvings have been associated with massive increases in the price of Bitcoin, offsetting the impact of miner subsidies being cut in half. Miners’ bills are paid in fiat currency. This means that if the price of Bitcoin rises, resulting in less Bitcoin earned per block, resulting in more income in dollar terms, the negative impact on mining operations is mitigated.

Considering past market cycles, with the price rising less than four times its previous high, the extent to which rising prices will buffer miners from the impact of the halving is an assumption that may not be consistently true. This halving will see the Bitcoin inflation rate fall below 1% for the first time. If the next market cycle plays out similarly to the previous cycle, with a much lower upward movement than has been seen historically, this halving could have a materially negative impact on existing miners.

This makes the fee revenue that miners can collect from transactions more important than ever, and will become central to sustainability from a business perspective as block heights increase and successive halvings occur. To make up for the decline in subsidy revenues, fee revenues would have to increase, or prices would have to increase by at least a factor of 2 every half-life. Most Bitcoin users may be optimistic, but the concept of the price doubling every four years is a vague assumption at best.

Love it or hate it, the BRC-20 token and the inscription have changed the entire dynamics of the mempool, increasing it from 0.1-0.2 BTC per block before fees existed to a rather volatile average of 1-2 BTC per block. Lately, it regularly surges beyond that.

New element this time

Ordinal numbers present a very new incentive dynamic for this halving that has not existed in any previous halving in Bitcoin history. Rarely sat. The key to ordinal theory is that satoshis in a particular block can be tracked and “owned” based on arbitrary interpretations of the blockchain’s transaction history, assuming a certain amount of satoshi was sent as a certain output. Another aspect of the theory is assigning rarity values ​​to specific satellites. Each block has a coinbase, so an ordinal number is generated. However, each block has different importance to the plan. Each common block generates an “uncommon” sat, the first block of each difficulty adjustment generates a “rare” sat, and the first block of each half cycle generates an “epic” sat.

This halving will be the first since ordering theory was widely adopted by a subset of Bitcoin users. No “epic” Sat has ever been produced while there is a material market demand for it in a large, developed ecosystem. Market demand for that particular sat may be valued at absurd multiples of the value of the Coinbase reward itself in terms of fungible satoshi.

The fact that a large market segment of the Bitcoin space values ​​that single Coinbase much higher than the others gives miners an incentive to fight over it by reorganizing the blockchain immediately after the halving. The only time this happened in history was during the first halving, when the block reward was reduced from 50 BTC to 25 BTC. Some miners continued to attempt to mine blocks for which they were rewarded with 50 BTC on Coinbase even after the supply was cut off, and soon gave up after the rest of the network ignored their efforts. This time, the incentive to reorganize is not based on ignoring consensus rules and hoping people will be on your side, but rather fighting over who can mine a completely valid block, as value collectors will attribute it to a single coinbase.

There is no guarantee that such a reorganization will actually happen, but there is a very large financial incentive for miners to do so. If that happens, how long it will last will ultimately depend on how valuable that “epic” might be in the market to pay for the profits lost from fighting over a single block instead of advancing the chain.

Each halving in Bitcoin history has been a pivotal event for people to watch, but this one has the potential to be even more exciting than past halvings.

How can the epic Saturday battle proceed?

I think there are a few ways this could happen. The first and most obvious way is that nothing happens. For whatever reason, miners have realized that the potential market value of the first “epic” mined since the adoption of Ordinals began has been reduced by the opportunity cost of wasting energy rebuilding the blockchain and giving up money that could be made by simply mining the next block. I don’t judge it to be worth it. . If miners don’t think the extra premium that an ordinal might bring isn’t worth the cost of giving up moving to the next block, they simply won’t do it.

The next possibility is a result of subtle economics of scale. Imagine if larger mining operations could engage in an “epic” reorganization fight over sat, risking more “lost blocks”. Larger miners with more capital can afford to take greater risks. In this scenario, we see some strange reconfiguration attempts by large miners who don’t even try to do small jobs, essentially minimizing disruption. This happens when a miner believes that there is a premium that can be earned for an ordinal number, but not a premium that is large enough to cause significant disruption to the network.

The final scenario is when the market develops a bid for an “epic” in advance and miners can have a clear picture that the fungible sat is worth much higher than the market value of the sat itself. In this case, miners may fight for that block for a long time. The logic behind not rebuilding the blockchain is that not only do you lose money and give up the rewards of mining the next block, you also continue to incur the costs of running the mining operation. With the market publicly telling us how much an “epic” sat is worth, miners have a very clear idea of ​​how long they can give up moving to the next block and net profit after the halving. Coinbase rewards using ordinal numbers. In this scenario, even if miners successfully mine this block without regrouping, the network may experience significant disruption until it begins to approach the point where guaranteed losses occur.

Regardless of how things actually play out, this will be a factor to consider each halving going forward, unless the demand and market for ordinal numbers disappears.