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What Is the Bitcoin Halving?

August 23, 2021

7m

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The Bitcoin halving is a highly anticipated event occurring every four years that leaves a huge impact on Bitcoin’s supply and demand dynamics. After the last halving of May 2020, BTC block rewards were halved from 12.5 BTC to 6.25 BTC. As with tradition, the halving led to a major bull cycle shortly afterward.

A block reward reduction of that size results in a 50% reduction in newly minted BTC entering the circulating supply. In a few words, this means less BTC in circulation, while — theoretically — the buyer-side demand will stay the same or even increase.

If the latter scenario pans out, then Bitcoin's value should increase based on nothing more than scarcity. However, let's not get too ahead of ourselves. First, let's take a few steps back and review the history of Bitcoin halvings to date, how prices reacted, and why Satoshi installed a deflationary mechanism into the Bitcoin algorithm to begin with.

TL;DR Explanation of the Bitcoin Halving

Bitcoin has a maximum supply of 21,000,000 BTC. This number represents the hard limit to Bitcoin supply; it is impossible to go higher.

However, at the time of writing, there are 18,374,925 BTC in circulation, leaving a disparity of 2,625,075 BTC to go until the supply hits that limit.  How will the remaining BTC enter into circulation until the max is reached? The simple answer: block rewards.

Bitcoin mining is the mechanism by which coin production happens. Miners make sure that transactions are valid, thus securing the network and making sure that it remains truthful.

Those transactions reach miners in bundles known as blocks. Every time a miner:

  1. Gets a block
  2. Correctly guesses the algorithmic equation keeping it locked
  3. Broadcasts the results to the rest of the network
  4. They're given a block reward for the labor

Over the past four years, the reward has been set at 12.5 BTC per block.

Now, here is the interesting bit: the BTC unlocked as a block reward is also being minted into the circulating supply for the first time ever — transitioning from the max supply amount into the circulating supply side.

So, as you might have already gleaned, when the block reward amount reduces from 12.5 BTC to 6.25 BTC, then the new Bitcoin emission rate drastically slows.

At this point, maybe you're wondering what supply reduction serves to do. Was it a ploy by Satoshi Nakamoto to make Bitcoin investors rich? If you've read the Bitcoin whitepaper, then you'll know that the answer to that is a loud and clear no.

Instead, Nakamoto envisioned a peer-to-peer digital currency that couldn't be mindlessly printed any time there was a little trouble, much like central banks around the world practice today. By inflating currency supplies, banks devalue those currencies, labor, assets — anything tied to the economy built around the currency in question.

Nakamoto's workaround was to install an unalterable mechanism by which, after every 210,000 blocks, the Bitcoin miner reward is halved, and with it, the network's inflation rate. Eventually, the Bitcoin network will have zero inflation — that is the point at which all 21,000,000 BTC are minted.

What Happened During the Last Halving(s)?

The current halving isn't the first one to happen, and it isn't the last. Every 210,000 blocks, the Bitcoin miner reward is reduced by half. Four years ago, the reward was set to 25 BTC per block, with that amount of Bitcoin hitting the network approximately every 10 minutes.

If you've ever looked at a historical chart of Bitcoin prices, then it is safe to say that you noted it more or less keeps going up year after year. Of course, there have been some major pullbacks (ahem...2018-2019 anyone), but zoom out enough, and the trend is there.

Prior to the 2020 Bitcoin halving, there were two other halving events in 2012 and 2016. Before each, a gradual BTC price buildup can be found, followed by periods of relative calm or decline immediately following the events, before BTC continued marching higher.

While it is easy to speculate that because the chart from 2016 to today looks eerily similar to those between previous halving periods, it is simply impossible to predict what will happen next.

The reason for that impossibility is a simple one — past performance does not indicate future results.

The Bitcoin network, its global user base, and overall hashing power are, however, at all-time highs & maximal dispersion. There are more users, miners, and transactions today than there were at any point during the previous Bitcoin halvings.

With that in mind, it seems reasonable to speculate that should those levels remain constant with steady demand, then the reduced amount of supply will result in a rise in prices. That's where the picture starts to become more complicated.

What we have here isn't a simple case of supply & demand because there are intricate forces at play. Amongst them is the mining case — a 6.25 BTC block reward is simply less than a 12.5 BTC block reward. Therefore, for some smaller mining operations, mining Bitcoin will be much less profitable, making it harder to stay in the game and forcing some miners out.

Also of note is the fact that while Bitcoin usage and familiarity are widespread now compared to 2009, it's still not in an adoption phase at a level that provides solid, predictable fundamentals. Amazon stock has fundamentals, and so does Apple. Bitcoin? We're not quite there yet, but things are certainly headed that way.

Rather than fundamentals, there are technical factors at play, but so is narrative above and beyond all. The stories we tell about Bitcoin, what it could be, where it might be headed, who is the latest hedge fund manager to make a bet on it — these create the rocket fuel behind each moonshot.

As such, Bitcoiners are a notoriously forward-looking type, filled with hope and expectation. And, to a large extent, that view has been fulfilled as Bitcoin has likely grown beyond even Satoshi's wildest dreams.

What Happens After the Bitcoin Halving?

So, where to from here? Ultimately, the day-to-day price action of Bitcoin doesn't have a whole lot of importance where the big picture is concerned.

The big picture is, we have on our hands the first-ever financial system that is deflating, rather than inflating, its supply, thereby keeping value locked into the network instead of diluting it.

As the COVID-19 pandemic kicked off in the United States, the Federal Reserve promised to provide an immediate $2 trillion economic stimulus and unlimited economic support as needed.

Unlimited economic support. In a limited economy, how is such support possible? Well, that's easy — by printing money.

Even before the COVID-19 pandemic, there was an average 2.04% USD inflation rate from 2000 to 2020. That translates to $1 from the year 2000 being worth $1.50 today, which is another way of saying that your dollar today is less valuable than it was in 2000 (a decline in buying power).

Because of the mechanics of the Bitcoin halving, the opposite is true for the Bitcoin network assuming demand and the hash rate remain steady. Instead of emitting BTC at a higher rate over time, the network intensifies the bottleneck on minting.

As of the May 2020 Bitcoin halving event, the network's inflation rate will drop below 2% to 1.8% — less than USD — before heading even lower to about 1.1% in 2024. It will eventually hit 0, but that won't be for another 122 years (around the year 2140).

This is the part where we're supposed to say Bitcoin will go up or down. And guess what? It's true. Bitcoin will go up or down after the halving takes place.

But, one thing that is constantly overlooked in recent analyses is that whereas other halvings took place under mundane conditions, the current Bitcoin halving event is happening with a global pandemic and widespread economic turmoil afoot.

Such extreme conditions are proving Bitcoin's case as an anti-inflation hedge that really works as a store of value. So, while the block reward is being reduced, Bitcoin's best use case is being proven to the world in real-time.

What does this mean for Bitcoin prices? There is a compelling case for optimism, but as usual, only time will tell.

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