Hey, I’ve been a bit confused about how the supply of Bitcoin changes over time. After some reading, I’ve understood that Bitcoin has a finite cap of 21 million coins, which are mined by miners solving sophisticated mathematical problems on the network. However, I’m still a bit fuzzy on how the new bitcoins are distributed.
From my understanding, when a miner successfully mines a Bitcoin block, they’re rewarded with a certain amount of new bitcoins. This process, also called the ‘block reward’, was initially set at 50 bitcoins but halves roughly every four years in an event known as the ‘halving’. But as we’re approaching the cap, are miners still getting rewarded in new bitcoins? And if not, what’s their incentive?
Also, I’m not entirely sure what happens when all 21 million bitcoins have been mined. Since bitcoins can be lost if people lose their private keys or pass away without transferring their digital wallets, does this mean the actual number of bitcoins in circulation could well be less than 21 million and continue to decrease?
Finally, given that the supply of bitcoins is decreasing while presumably the demand is increasing, how does this impact the value of Bitcoin? Are there any factors that could offset this presumably deflationary effect? I’ve heard of the concept of ‘velocity of money’ in relation to traditional currencies. Does a similar concept apply to Bitcoin?
Sure thing! So, when a miner mines a new block, they receive a number of bitcoins as a ‘block reward’. This amount halved every four years, a process called the ‘halving’, from 50 bitcoins to 25, then to 12.5, and now it’s 6.25 bitcoins. As we get closer to that cap of 21 million, the rewards in new bitcoins do decrease, but miners also get paid in transaction fees, which is an incentive for them to keep mining. If people lose their keys or pass away without handing over their wallets, those bitcoins effectively disappear from circulation. This does mean the number of bitcoins in circulation could be less than the 21 million cap and could drop further. Now, concerning its value, you’ve got it right. If the supply of bitcoins decreases and demand increases, that’s likely to push the price up, this is basic economics. However, there are various other factors at play, like legal regulations and technological advancements. In terms of the ‘velocity of money’, that refers to how quickly a currency changes hands. It can apply to Bitcoin too, but with variables like coin loss, it gets a bit more complex.
Regarding what happens when all 21 million bitcoins have been mined, it’s true that miners will no longer receive a block reward. However, they will continue to earn transaction fees. As for the finite nature of Bitcoin, it indeed means that the actual number of bitcoins in circulation could be less than 21 million. In fact, it’s estimated that around 4 million bitcoins are permanently lost due to reasons like lost keys.
On the topic of Bitcoin’s value in relation to its supply and demand, it’s worth noting that one factor potentially offsetting the deflationary effect could be a decrease in demand due to a loss in confidence or a shift to other cryptocurrencies. While the ‘velocity of money’ concept can be applied to Bitcoin, there are nuances unique to cryptocurrencies that could make its interpretation different than traditional currencies. Think about things like Bitcoin hoarding for investment purposes which might decrease its velocity.
Adding to what Rahim475 and Volunteer462 have explained, it’s also worth considering the impact of scalability developments on Bitcoin’s value. For example, the introduction of the Lightning Network, a second-layer solution, aims to make transactions faster and cheaper. This could stimulate Bitcoin’s usage as a medium of exchange, not just a store of value, which could indirectly impact its value. Furthermore, another offsetting factor for the deflationary effect could be an increase in demand due to wider acceptance of Bitcoin as a payment method by retailers and other businesses. And remember, while the ‘velocity of money’ concept can apply to Bitcoin, it becomes complex due to Bitcoin’s unique characteristics, like its capped supply and the potential for coins to be lost.