How Does Bitcoin Mining Work?

Like Earth’s precious metals and gemstones, Bitcoin is a limited resource. When assets are scarce—like gold or diamonds—they can be very valuable, since demand far outstrips supply. Bitcoin’s original code ensured that only 21 million BTC will ever exist, and that means that its supply is known, fixed, and approaching its limit. As demand has increased over the years, so has each BTC’s value.

The analogy of precious metals and gems extends even further to BTC. These assets all enter the market through mining. Although digital mining is quite a different process than digging into the ground to find treasures, Bitcoin miners may argue that it is still reasonably profitable—and they get far less dirty doing it. BTC is collected by specific nodes on the network that run computer code in order to guess the solution to an ever-running cryptographic puzzle. The first node that completes this task adds a new block to the Bitcoin blockchain and earns BTC as a reward for their work. In this way, new BTC is created, and the miner can sell that BTC on the open market. (A more detailed explanation can be found below.)

So, mining is the process of running complex computer code that generates new BTC. But why is this important?

The reward associated with mining is the incentive for miners to maintain the Bitcoin blockchain, allowing it to grow and remain secure. Blocks added through this process contain the transactions of Bitcoin’s users, which means they are vital for ensuring that value can be transferred across the network. Further, miners can only add a block to the chain if all nodes agree on the validity of the transactions in that block, making the mining process a key feature of Bitcoin’s security.

The process of Bitcoin mining

The purposes of Bitcoin mining are simple, but the process of mining is more complex. Mining is the way by which Bitcoin utilizes Proof of Work (PoW) to secure its network. PoW relies on the concept that network participants must prove they are expending energy and computing power to reap rewards. Since they put their valuable resources into the network, they are more inclined to ensure it continues running smoothly—and honestly. Alternatively, in the Proof of Stake (PoS) model used by Ethereum and other networks, nodes put their digital assets at risk. The money spent on energy in PoW systems like Bitcoin can be considered the at-risk “stake” in a similar way.

All of Bitcoin’s nodes communicate with each other to validate transactions, and they collect fees for providing this service. However, miners additionally run software that plays a high stake, high frequency guessing game. Blocks contain a feature called a block header that includes multiple types of information including a number called a nonce.

The nonce is a randomly generated number that is unique in identifying the current block, but it is secret. Therefore, the mining process involves simply guessing a number (the nonce), incorporating it into a block header, putting that information through the SHA-256 hash function (which cryptographically turns the data into a string of letters and numbers), and comparing this to the “target” hash. The first node who produces a valid hash—one that is less than the target hash—mines the block and earns the block reward (BTC). The block reward is cut in half every four years in an event called the halving.

Put in different terms: mining bitcoin is a lottery. Participants (miners) buy tickets with a particular set of numbers (the nonce), and eventually someone will win the prize (BTC) which is decreased every four years (the halving). Bitcoin’s lottery is held every 10 minutes, and it automatically adjusts the difficulty of guessing a valid hash to meet this goal—no matter how many miners are actively submitting guesses.

Mining: not for everyone

Although the computational power required to mine bitcoin was initially minimal—it could be done on a personal computer—that is no longer the case. As a result of the growth of the Bitcoin network and a parallel increase in the number of miners, the computational power needed to mine BTC has multiplied. Miners turned to application-specific integrated circuits (ASICs) which were custom-built to run Bitcoin’s software and improve the chance of mining blocks. ASICs may improve an individual miner’s hashrate by tens of thousands of times compared with a CPU, but that also comes with a hefty price for both the hardware and energy to feed it.

Furthermore, because of the crowded mining space, many miners can band together in mining pools. This allows them to combine their computing resources and increase the chance of guessing a valid hash. When they collect rewards this way, they split the block rewards according to their contribution to the group.

Together, these solutions to the mining make the basis for Bitcoin relatively unattainable for the casual user. However, they bolster the network and allow for a healthy and secure chain.

Environmental impact of mining

Cryptocurrencies have faced scrutiny regarding their environmental impact, primarily due to the energy consumption associated with PoW mining, which often demands significant computing power and electricity. However, the industry is actively transitioning towards more sustainable practices by embracing renewable energy sources.

Many mining operations are strategically locating in regions with abundant renewable energy, such as hydroelectric power plants or geothermal sites. This shift reduces reliance on fossil fuels and lessens the carbon footprint of cryptocurrency mining. Moreover, some companies are exploring innovative solutions like harnessing excess energy from solar or wind farms that would otherwise be wasted. By utilizing renewable energy, the cryptocurrency industry can contribute to a greener future while maintaining the security and integrity of its networks.

Additionally, the development of alternative consensus mechanisms, such as Proof-of-Stake (PoS), offers a more energy-efficient approach to securing blockchain networks.

For more information on mining’s environment impact, check out Bitstamp’s “Impact of Cryptocurrencies on the Environment” article.

Conclusion

Bitcoin relies on mining to secure its network and create new BTC to incentivize the maintenance of the blockchain.

Mining is the basis for Bitcoin’s Proof of Work (PoW) system, and it involves a heavy computational process that attempt to guess a number (called a nonce) that gets put through a cryptographic hash function.

In recent years, mining bitcoin has become much more resource intensive, requiring specialized hardware (ASIC miners) and cooperative efforts (mining pools) to reap rewards.