The main reason a bitcoin halving attracts so much interest is that many people think it would raise prices. The fact is that nobody can predict what will occur.
We can refer to the three halvings of Bitcoin that have already occurred as precedents.
The first indication of how markets might react to Nakamoto’s unconventional supply plan came with the 2012 halving. The Bitcoin community was unaware of the potential effects of an abrupt decrease in incentives on the network until that point. As it happened, the price increased soon after the halving.
With CoinDesk blogging live throughout the event and Blockchain.com releasing a “countdown,” the second halving of 2016 was much anticipated. Every halving has sparked a lot of speculative discussion over the potential impact on the price of bitcoin.
The price fell by 10% to $610 on July 16, 2016, the day of the second halving, although it quickly recovered back to its previous level.
The market did finally react over the course of the year after the second halving, despite the fact that the immediate impact on the price of bitcoin was minimal. Some contend that the halving caused the increase, which happened later. According to theory, when there is less of it available, there will still be a demand for it, which will drive up the price. A year and a half after the second halving, the price of bitcoin increased by 284% to $2,506.
Examining the most recent halving, we can also observe that the price of bitcoin performed bullishly for a full year following the occurrence. It increased by about 559% this time.
Why do miners get these rewards?
A Bitcoin without block rewards would not function at all.
There are two components to make Bitcoin function, as independent researcher Hasu, who goes by pseudonym, explained it. “Who owns what, when?” should be addressed by the state of Bitcoin’s ledger. Hasu disclosed to CoinDesk.
Cryptography provides the answer to the first question, “who owns what?” Bitcoin can only be spent by the owner of a private key, which functions similarly to a secret access code.
The game theory that secures Bitcoin requires that a) miners have an incentive to mine honest blocks [and] b) miners have a cost to attempting dishonesty.
Hasu clarified, “The second half (‘when?’) is the big challenge and was unsolved before Bitcoin.” If not, it would be simple for users to “double-spend” their coins, which is the equivalent of producing money out of thin air.
Miner can attack the network
The network would collapse in disarray if there were no block rewards. According to Hasu, miners can attack the network in two ways: by preventing transactions from being completed or by double-spending bitcoin if they possess sufficient processing power. However, they have a significant incentive not to attempt it as well, as doing so would mean forfeiting their block rewards.
According to Dubrovsky, “the game theory that secures Bitcoin requires that miners have a cost… to attempting dishonesty and that miners have an incentive to mine honest blocks.”
Put another way, miners who break the rules will suffer financial losses.
It is more difficult to attack the Bitcoin network the more processing power miners allocate to the cryptocurrency. This is because an attacker would need to possess a sizable amount of processing power, or hashrate, in order to carry out an attack of this kind.
The more mining power that goes toward Bitcoin, the more money they can make in block rewards, and the more secure the network is as a result.
What happens when block rewards get very small or taper off entirely?
For this reason, the occasional drop in incentives could potentially cause problems.
Miners require a reason to carry out their actions. They must be compensated. After all, they are not using these pricy, energy-hungry PCs for their own health.
However, the block rewards will eventually decrease to zero as a result of this drop. The other way miners make money is through transaction fees, which users must pay each time they send a transaction. (In theory, these costs are optional, but in practice, if the network is busy, a transaction without one may take a long time to process; the user or their wallet software sets the fee amount.) As the block reward decreases, fees are anticipated to become a more significant source of payment for miners.
“The transaction fee will take the place of other payments for nodes in a few decades when the incentive becomes too tiny. Nakamoto remarked, “I’m confident that in 20 years, there will either be a very high transaction volume or none at all.
However, people studying Bitcoin have long entertained the notion that transaction fees could not be adequate. It indicates, among other things, that in order to maintain network security, transactions may need to gradually increase in cost.
It’s impossible to predict what will happen, but if we want a system that could last 100 years, we should be ready for the worst case.
Very expensive transaction
According to Dubrovsky, “Because Bitcoin cannot process huge quantities of transactions on-chain, this cannot really work without very expensive transaction costs.”
Furthermore, as was already mentioned, mining rewards are what attract additional processing power to Bitcoin, strengthening it against attempts to break the laws of the network. It’s uncertain if miners will be drawn to a future reduced block reward as much, even in the presence of fees.
Hasu stated, “I don’t think this halving will make Bitcoin significantly less secure, but we could find ourselves in hot water in eight or twelve years.”
A contributing factor in the issue is that the market is still determining the actual cost of fortifying the network against attackers, over ten years after the inception of Bitcoin.
“No one is aware of the ideal security configuration required to protect Bitcoin. As of right now, Bitcoin pays out approximately $5 billion year and no successful attacks have occurred, but there hasn’t been any price discovery. Bitcoin might be too expensive. According to Dubrovsky, the mining incentives should be decreased until an attack occurs, and then raised until the attack ceases, in order to determine the exact minimal degree of security required to prevent attacks.
This would be catastrophic for Bitcoin
He continued, “Of course, this would be disastrous for Bitcoin as it is now designed, but if rewards start to decline and the Bitcoin community does nothing about it, it could really come to some kind of scenario like this.”
Hasu expressed his “hopes” that transaction fees will ultimately be sufficient to reward Bitcoin’s security, but he believes it’s wise to prepare for the “worst case.”
It ought to be evident that there is now more motivation to attack Bitcoin than there was five years ago. It’s currently being discussed critically by [former US President Donald] Trump, [President of China Xi Jinping], and other international leaders. They may begin to perceive Bitcoin as a danger and may finally feel compelled to respond as its value increases. Anyhow, that would be the worst scenario,” Hasu remarked.
Though it may seem like a distant topic, this is an intriguing one to consider when considering Bitcoin’s future possibilities.