Chances are you hear the phrase “bitcoin mining” and your mind begins to wander to the Western fantasy of pickaxes, dirt and striking it rich. As it turns out, that analogy isn’t too far off.
Far less glamorous but equally uncertain, bitcoin mining is performed by high-powered computers that solve complex computational math problems (that is, so complex that they cannot be solved by hand, and indeed complicated enough to tax even incredibly powerful computers). The luck and work required by a computer to solve one of these problems is the digital equivalent of a miner striking gold in the ground — while digging in a sandbox. At the time of writing, the chance of a computer solving one of these problems is about 1 in 13 trillion, but more on that later.
The result of “bitcoin mining” is twofold. First, when computers solve these complex math problems on the Bitcoin network, they produce new bitcoin, not unlike when a mining operation extracts gold from the ground. And second, by solving computational math problems, bitcoin miners make the Bitcoin payment network trustworthy and secure, by verifying its transaction information.
How bitcoin mining
There’s a good chance all of that only made so much sense. In order to explain how bitcoin mining works in greater detail, let’s begin with a process that’s a little bit closer to home: the regulation of printed currency.
Bitcoin Basics: How Bitcoin Differs From Traditional Currencies
Consumers tend to trust printed currencies, at least in the United States. That’s because the U.S. dollar is backed by a central bank called the Federal Reserve. In addition to a host of other responsibilities, the Federal Reserve regulates the production of new money, and the federal government prosecutes the use of counterfeit currency.
Even digital payments using the U.S. dollar are backed by a central authority. When you make an online purchase using your debit or credit card, for example, that transaction is processed by a payment processing company such as Mastercard or Visa. In addition to recording your transaction history, those companies verify that transactions are not fraudulent, which is one reason your debit or credit card may be suspended while traveling.
Bitcoin, on the other hand, is not regulated by a central authority. Instead, Bitcoin is backed by millions of computers across the world called “nodes.” This network of computers performs the same function as the Federal Reserve, Visa and Mastercard, but with a few key differences. Nodes store information about prior transactions and help to verify their authenticity. Unlike those central authorities, however, Bitcoin nodes are spread out across the world and record transaction data in a public list that can be accessed by anyone, even you.
Bitcoin Basics: What Is Cryptocurrency Mining?
When someone sends Bitcoin anywhere, we call that a “transaction.” Transactions made in-store or online are documented by banks, point-of-sale systems, and physical receipts. Bitcoin miners achieve the same effect without these institutions by clumping transactions together in “blocks” and adding them to a public record called the “blockchain.” Nodes then maintain records of those blocks so that they can be verified into the future.
When bitcoin miners add a new block of transactions to the blockchain, part of their job is to make sure that those transactions are accurate. (More on the magic of how this happens in a second.) In particular, bitcoin miners make sure that bitcoin is not being duplicated, a unique quirk of digital currencies called “double-spending.” With printed currencies, counterfeiting is always an issue, but generally, once you spend $20 at the store, that bill is in the clerk’s hands. With digital currency, however, it’s a different story.
Digital information can be reproduced relatively easily, so with Bitcoin and other digital currencies, there is a risk that a spender can make a copy of their bitcoin and send it to another party while still holding onto the original. Let’s return to printed currency for a moment and say someone tried to duplicate their $20 bill in order to spend both the original and the counterfeit at a grocery store. If a clerk knew that customers were duplicating money, all they would have to do is look at the bills’ serial numbers. If the numbers were identical, the clerk would know the money had been duplicated. This analogy is similar to what a bitcoin miner does when they verify new transactions. If someone were to successfully double-spend their Bitcoin they would need to take over 51% of the mining power in the network. As Bitcoin grows, this becomes increasingly difficult and the upfront cost to achieve such a thing would be astronomical and nearly impossible.
With as many as 500,000 purchases and sales occurring in a single day, however, verifying each of those transactions can be a lot of work for miners, which gets at one other key difference between bitcoin miners and the Federal Reserve, Mastercard or Visa. As compensation for their efforts, miners are awarded bitcoin whenever they add a new block of transactions to the blockchain.
The amount of new bitcoin released with each mined block is called the “block reward.” The block reward is halved every 210,000 blocks or roughly every 4 years. In 2009, it was 50. In 2013, it was 25, in 2018 it was 12.5, and sometime in the middle of 2020, it will halve to 6.25.