It’s an easy comparison to make: Bitcoin mining versus gold and oil extraction. All – in the abstract sense for bitcoin – involve unearthing resources, all have had bumpy price histories, and all have been labeled as disruptive in their time.
Gold vs Oil vs Bitcoin
There are crucial differences between the three assets, especially when it comes to tracking what happens to supply after an increase in price. Twitter user @WallSt_Dropout produced a series of fascinating charts that help illustrate those differences perfectly.
First, oil. As the price of oil starts to climb, there’s a marked response in oil production. Why? Because now there’s extra incentive to invest in infrastructure/extraction capabilities.
As oil production begins to outstrip demand, there’s a drop in the price of oil. It’s now not as profitable to remove quite as much oil as before, so production eases off. As oil prices start to recover – thanks to restrictions in supply from the last cycle – the drillers turn their machines back on and produce more of the black stuff.
The same applies to gold. Beginning in 2008, monthly gold ore production is low, thanks to consistently low prices in the previous decade. As market forces begin to push the price of gold up – remember that financial crash? – production ramps up to keep track of prices. As gold prices take a dip in 2012, ore production levels off.
In bitcoin’s case, the opposite is true. In 2010, when the block reward for production was higher, prices were low. As prices have climbed, the rewards for mining have dropped off. There isn’t the same cyclical relationship between supply and demand found in oil and gold.
Bitcoin Is different
This is a key function of how bitcoin works. The bitcoin block mining reward halves every 210,000 blocks. At present the coin reward is 12.5 coins. According to Bitcoinblockhalf.com, by May 2020, the reward will drop to 6.25 coins.
How will miners make money after the block rewards end in 2140? Transaction fees. Gold miners don’t control the buying and selling of the product, whereas bitcoin miners charge transaction fees for the confirmation work they complete. It would be the equivalent of an oil platform charging individuals a small fee for the oil they use in their cars.
It’s a necessary part of the system. Think of it as miners creating a fixed amount of land every 10 minutes. People who want to make a transaction bid for a slice of that land. The sale of that tiny portion of land is what keeps miners mining.
As the Bitcoin inflation rate steadily trends downwards, the necessity of transaction fees to incentivize miners to keep mining will go up – in the far future.
Oil and gold are commodities that have no ‘real’ end date, i.e. there are still resources lying beneath the ground. Despite fears of peak oil and peak gold, companies keep finding more of the stuff as technology allows them to pinpoint their location and extract it with greater accuracy.
We already know how much bitcoin is left to be mined. Which makes bitcoin mining a very different proposition than mining other real world commodities.
Do you think it’s fair to compare oil with bitcoin? Let us know what you think in the comments below.
Images via @WallSt_Dropout
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Author: Matt Hussey