Sry, how does mining influence bitcoin prices again? Please be as precise as you can in counting and determining causes and effects!
Many economic types tend to focus on a one-size-fits-all theory for how an item gains value. Some, including myself, see it as going through phases in which several schools of thought hold credibility (labor theory of value
, subjective theory of value
, intrinsic theory of value
, etc). I'll discuss (kind of haphazardly) functional items and especially money, leaving things like music and toys for another time. If you already have an understanding of this, consider the first part to be confirming common ground to work with. All values will be in USD.Origins of value
For small markets, or those with very tight supply/demand dynamics, the marginal cost of production can have a very strong effect. Introduction of an item is almost exclusively dependent upon production cost, or energy input in the case of Bitcoin mining. If a new tool could make my job 100 times more effective, I would certainly consider using it. However, it if will take a decade to construct, I would have to possess sufficient vision to see how it would change things for the better, as well as the drive/passion to see it through to completion.
As market size grows, demand develops based mainly on utility value. If it's useful, it stands a good chance of being adopted, especially if it improves on what currently exists. When its existence becomes known more widely, adoption may accelerate or meet resistance, depending heavily on conceptual familiarity and functionality. If demand accelerates relative to supply, obviously the production cost will be negligible. If the demand remains constant, production cost equalizes at a level that provides enough supply to meet demand in addition to returning enough profit to keep the production operating. In the final case of demand declining, production cost sets the floor in value because it dictates supply.
When the market for an item matures, supply and demand fluctuate within a familiar and stable range. At that point, efficiency improvements related to production cost are rare and demand might have little space to expand, but plenty of room to contract.Relating to Bitcoin mining
If demand for Bitcoin remains consistent or rises, mining efficiency won't matter much thanks to difficulty adjustments. However, rising demand is dependent upon multiple factors and cannot be predicted with absolute certainty. On the downside in 2011, GPU mining costs were a primary factor in putting a floor under the exchange rate price. The mining operations were not as willing to sell so close to production cost which was largely in the $1-3 range at the time (now mostly in the $3-5 range).
With FPGA mining, production cost could reasonably be projected to have decreased to about $0.10 or an order of magnitude better than GPUs. This means that a mining operation has more competitive pricing leeway to work with, and will retain that flexibility until the majority of the market falls in line with comparable efficiency. Until then, FPGA miners would enjoy a greater profit margin. Input costs still need to be covered as well; because of that, any substantial rise in demand would be met with an equivalent rise in selling so long as sufficient supply can be produced.
The same will occur with ASIC mining, although without any really major advances possible in efficiency, it will be harder to maintain large margins. If it costs $0.01 or less to produce a Bitcoin, there has to be enough demand to justify $6+ as the rate. If bids increment in $0.01 intervals, that means 600+ buyers must be present for every Bitcoin. That's obviously a rather absurd scenario, and an oversimplification, but you can see how the supply leaves ample room for lower prices.
One major factor that would keep the production cost elevated is an expansion of the mining market itself, as reflected in the difficulty level. If 10x the participants started mining with ASICs, driving the difficulty up by the same factor, ASIC mining would cost $0.10+ per Bitcoin. FPGA would be at $1.00+, and GPU at $10.00+. That's where the ratio of different classes matters, with GPUs potentially falling off due to lack of competitive efficiency. FPGAs might put a floor under the exchange price until they're paid off or no longer profitable. Then ASICs would remain as the production cost floor.Pricing dynamic
Value floors can be either hard, as in production cost, or soft in relation to demand. As you can see from above, the production cost floor would be where miners start shutting down operations. The soft demand floor is where the perceived utility value picks up, and since that can be highly subjective, it can be anywhere above the hard floor. Since several dynamics are in play, with at least three strata on the production side, demand constitutes whatever buffer exists between the production cost and market rates.
I like to use gold for comparison - today, it costs about $1,200 to bring one ounce to market. The market currently values gold at about $1,600 per ounce. That $400 amount is exclusively demand side. If demand evaporates and the price declines below $1,200 there will be some producing operations that slow down or halt entirely. For this example, the price is also like difficulty in Bitcoin. Since gold mining is a mature industry at the equivalent point of Bitcoin ASIC mining, factors that affect the production cost are limited.
On the upside, competition for a share of the Bitcoin economy is likely to bring ASIC mining costs up rather quickly - maybe as fast as units become available, until the network is saturated. Depending on how long that transition takes, with GPU and FPGA mining all but gone, demand may not vary much and won't have an opportunity to test even the GPU hard floor. In the table below, each will bump up to the next level of estimated production cost.
If we assume 75% of the network is mining using GPUs and 25% are using FPGAs, then the average production cost would be $2.30 - the remaining $4.10 for the ~$6.40 rate today is from demand. Block halving with constant demand would be an effective doubling of demand, which should be reflected in the prices. Mining efficiency could absorb some of that, so the price rise might not double to $12 instantly.
The major factors are, not in any particular order and including ones that weren't explored in detail:
- Block Reward
- Mining Efficiency
- Difficulty (related to #2)
- Ratio of Miner Classes (CPU/GPU/FPGA/ASIC)
- Size of the Bitcoin economy (related to #1)
- External Influence (global markets & banking crises)