A Major Mining Operation

Since recovering from a brief plunge to $150 intraday in January, Bitcoin has moved in a trading range roughly between $210 and $270. Most recently the currency traded around $235. As we will explain further below, at what price Bitcoin changes hands may actually be relevant for the sustainability of its crucial infrastructure backbone. Here is an hourly chart of the action on the Bitstamp exchange over the past 10 trading days:


bit coin, hourly chartBitcoin hourly. Since the low at $150 in January, the crypto-currency has traded in a range between approx. $210 and $270, via bitcoincharts.com, click to enlarge.


This brings us to a very interesting video of a major professional Bitcoin mining operation in China that has recently been brought to our attention. As you can see in this video, the times when people could mine Bitcoins at home with a souped-up graphics card are long gone. These days entire floors of buildings stuffed with computing hardware are needed to “mine” a halfway decent amount of Bitcoins (many smaller private miners nowadays join pools which share the Bitcoin found by communal effort whenever a member of the pool manages to solve a block of the Bitcoin block chain).

The reason why such huge operations are necessary for Bitcoin mining these days is that the complexity of the calculations required to solve the mathematical puzzle that leads to the discovery of new Bitcoins continually increases the more miners are active.

The operation in China presented in the video consists of six sites, that have together managed to mine a little over 4,000 Bitcoins per month as of October 2014 and represent approx. 3% of the global network’s computing power. 3,000 individual dedicated mining machines per site manage to mine between 20-25 Bitcoins per day. Each site requires some 1,250 kWh in electrical power per month.

However, there are a number of other costs as well: rent must be paid, there are employees on the sites who need to watch for equipment breakdowns or other problems and if necessary perform repairs, and a lot of equipment in fact needs to be replaced on a regular basis. By now the operation has a huge graveyard of discarded hardware.

The rate of coin discovery has plummeted sharply over time due to the increasing complexity of the calculations (e.g. the Bitcoin mining rate of the operation presented in the video has plunged by 75% since its peak). When the value of Bitcoin began to increase sharply in 2012-2013, a great many people started mining Bitcoins, which eventually pushed computing requirements very quickly to levels that required the use of dedicated machines capable of very high so-called hash rates, and made Bitcoin mining an activity requiring industrial scale. The report on the operation in China is quite fascinating:


A large-scale professional Bitcoin mining operation in China


A Potential Flaw?

It is important to keep in mind that this mining activity is not just an idle waste of electrical power in order to solve mathematical puzzles. Rather, the miners are rewarded with coins for keeping the infrastructure that is needed for the functioning of the Bitcoin network going. The block chain technology on which Bitcoin is based ensures that Bitcoin payment streams are safe against tampering and that payments are properly recorded and allocated. It is essentially an endlessly growing transaction record that collects timestamps of transactions – a public database that is distributed all over the world via a peer-to-peer file sharing network. The details of the process are described here.

However, as the complexity of the calculations increases, the cost of mining coins increases accordingly. Both the hardware needed for mining has become a lot more expensive and electricity costs keep surging as well. It is therefore not unimportant at what price Bitcoin is trading. As the WSJ reported when margin calls forced numerous traders to sell in January and Bitcoin fell to a new low for the move:


“As the price of Bitcoin falls against the dollar and other fiat currencies, it induces miners to shut down operations, because they can no longer cover costs such as equipment, rent and electricity quoted in those traditional currencies. The problem was made more acute by what had been a yearlong, exponential buildup in mining infrastructure – machines comprised of highly specialized, super-powerful computers – which made competition for Bitcoins tougher. Bitcoin’s core software algorithm periodically adjusts the difficulty of its mathematical puzzle to keep it in line with the amount of computing power in the network. That way, new Bitcoin payouts are kept to more or less a 10-minute schedule regardless of how well equipped the miners are to solve the puzzle.

On Monday, CEX.io, a company that mines Bitcoins on behalf of clients that rent out its computing power, announced that it would temporarily halt this “cloud mining” operation, citing “the recent Bitcoin price drop, as well as the upscaling of the mining difficulty.”

And on Tuesday, CoinTerra Inc. confirmed that it had been forced to default on a bond payment after being shut out of a Utah data center in which it had run a Bitcoin mining operation that once accounted for around 3% of the total Bitcoin network. The facility owner, C7 Data Centers Inc., has sued it for non-payment of fees.

These and other developments have for the first time led to an unprecedented sustained decline in the hashrate, a metric that measures the overall computational power of the total Bitcoin mining network, and for the first time, a downward adjustment in the algorithm’s difficulty function. Over the prior year the hashrate had increased 30-fold to the point the total computational capacity of the network was 13,000 times that of the world’s 500 largest supercomputers combined.”


(emphasis added)

There is an evidently an equilibrating tendency built into the system due to the fact that the hash-rate can decrease as well as increase – if the network’s size decreases, downward adjustments in the difficulty level will lower costs for the remaining miners. However, the market price of Bitcoin as such is independent of this. Bitcoin miners have no influence on the subjective evaluation of Bitcoin of market participants or whether traders are forced to sell due to margin calls. We would assume that there is some price threshold at which it will become very difficult to justify the cost of mining for many of them, even though the hash-rate will decline further the more miners are throwing the towel.

Bitcoin experts are seemingly unperturbed by this, but we are not quite sure what to make of the comment by the Bitcoin Foundation’s chief scientist Gavin Andresen below:


“Gavin Andresen, who as the Bitcoin Foundation’s Chief Scientist leads a team of mostly volunteer software developers who maintain Bitcoin’s core code, said he’s not worried about depleting the mining stock, known as hashing power. “A lot of hashing power is not going away,” he said. “These are people who basically have free power and who are running industrial miners that they are going keep running no matter what the price.”


(emphasis added)

Industrial-scale mining operations definitely do not have “free power” at their disposal. As the video on the mining operation in China above shows, their power costs are in fact quite daunting. It seems highly unlikely that industrial-scale miners will continue mining Bitcoin “no matter what the price”. If their mining activities begin to lose money, they will stop.

As noted above, if lower Bitcoin prices drive a large enough number of miners out of business it is of course possible that the associated decline in hashrates will be sufficient to restore the profitability of the remaining miners. This could keep enough computing capacity around to ensure that the network continues to operate flawlessly. From what has recently happened we can however already conclude that prices in the $200-$270 range are no longer high enough for all miners – and obviously, those affected thus far were in fact running large scale industrial operations.



The rising cost of Bitcoin mining, which is an activity necessary to keep the Bitcoin network up and running, could turn out to be a potential flaw of the crypto-currency. It is too early to come to a definitive conclusion with respect to this though. We will have to wait and see what actually happens should prices stay at current levels or go even lower. That may of course not happen, but we suspect that that we will hear of more mining operations closing down before the shakeout is over.



Our knowledge of the technical aspects of Bitcoin is quite limited – we are mainly interested in its economic aspects. The fact that it originated in the marketplace and that it is a decentralized system are the characteristics that interest us most. We have been made aware that the explanation forwarded by former Mt. Gox CEO Mark Karpeles for the company’s bankruptcy is subject to considerable doubt (we mentioned it last week as an example of Bitcoin-related fraud that has harmed the currency’s reputation). Mr. Karpeles has blamed the so-called “transaction malleability flaw” that was allegedly exploited by a group of unknown hackers for the disappearance of the Bitcoin deposits administered by the company. However, many people seem to think an inside job is the far more likely explanation. More color on this can be found here and here. Police detectives investigating the case in Japan are reportedly leaning toward the inside job explanation as well by now.


Mark KarpelesFormer Mt. Gox CEO Mark Karpeles

Photo credit: AP


It was reported in April of last year that Mr. Karpeles was unwilling to show up in a US court in person on occasion of the company’s US bankruptcy hearing. The judge however insisted that he had to make himself available for questioning since he had filed the case. We couldn’t find any recent updates on this story, but it has in the meantime been insinuated by Ross Ulbricht’s defense team (Ulbricht is alleged to be the “Dread Pirate Roberts” who ran Silk Road, the illegal drug market place that initially caused interest in Bitcoin to rise sharply) that Karpeles was in fact involved in Silk Road, and may even have been its actual proprietor (not surprisingly, Karpeles denies this vehemently).




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8 Responses to “Professional Bitcoin Mining in China”

  • VB:

    Oh, and how could I ever forget the anonymity issue!

    As we all know, cash is anonymous. Bitcoin is not. It’s something completely weird. The technical term is “pseudonymous” but this is just obfuscating the issue.

    On the one hand, every single Bitcoin transaction you ever make is publicly visible to anyone in the world. Think about it. Do you really want the world to know that you bought dildos? On the other hand, it doesn’t say “Joe Shmoe bought dildos”, it says “at this date/time, address X transferred Y bitcoins to address Z”. However, once the addresses are linked to real identities, the whole world knows (forever!) who bought from whom.

    Theoretically, you are supposed to generate a new address for every transaction. In practice, this doesn’t always happen. Chances are that the shop selling dildos has just a single Bitcoin address published on their site – because constantly changing it would be too much trouble. And chances are that if a dildo costs 0.1 bitcoins, you don’t have exactly 0.1 bitcoins laying around – you have, let’s say, 0.3 of them. When you conduct the payment, you broadcast a transaction that says “send 0.1 bitcoins to the well-known dildo-selling address and another 0.2 bitcoins to another address, which happens to be yours”. So, you now have 0.2 bitcoins left – at that new address, which however is trivial to associate with the person who bought dildos.

    If you later see some great post on Facebook, Twitter or Reddit and decide to tip the poster via ChangeTip some amount of bitcoins saying “Great post, here is a tip of 0.01 bitcoins”, you will be paying out of these remaining 0.2 bitcoins (again sending 0.01 bitcoins to the tippee and 0.99 bitcoins to a new address of yours) but now you have revealed to the world your real name (or at least on-line persona, which can be pretty trivially linked to your real persona) as the owner of the 0.2 bitcoins left from purchasing dildos.

    Presto, now the whole world knows (forever!) that you have purchased dildos in the past.

    And if you ever use any of your bitcoins to purchase anything illegal (like drugs), and the law enforcement happens to seize both the drug selling site’s computer and yours (and, therefore, link their Bitcoin receiving address and yours with the respective identities), they’ve got an undeniable proof of your illegal activities.

    Yes, yes, I know. You can use stealth addresses (if the payee’s wallet software accepts them, which most don’t) or coin mixers (provided that they do the mixing properly, which many don’t, and they don’t steal your coins, which some would, and they aren’t run by an adversary snooping on you, which some of them probably are) – but preserving anonymity when transacting in Bitcoin is HARD and it is awfully easy to slip up and make a mistake.

    Just for the lulz. Pater has a Bitcoin address for donations at the bottom of every article. Of course, it never changes – that would be too much trouble for him to bother. Well, because of that, the whole world can see that he has received a grand total of 17 donations in Bitcoin, amounting to 1.04018381 bitcoins, which at current market prices is worth about $247. Also, he hasn’t spent any of them on anything – hasn’t even sold them on an exchange for dollars or euros to pay for the expenses of his site. You can even see the exact dates on which the donations have been made. Proof:


    Now, this is a pretty innocent bit of information – but do you feel comfortable making ALL your monetary transactions similarly visible to the whole world? Yes, credit card transactions aren’t anonymous, either – the credit card company sees much more, like immediately who has paid how much for what – but at least the information isn’t broadcast to the whole world to see.

  • numeflua:


    “The rate of coin discovery has plummeted sharply over time due to the increasing complexity of the calculations (e.g. the Bitcoin mining rate of the operation presented in the video has plunged by 75% since its peak).”

    This seems to imply that the rate of coin discovery, i.e., rate of money supply growth is dependent on the hash rate. It’s not. The rate of money supply growth is fixed by algorithm regardless of the hash rate. We know how many bitcoins there will be in the world on, say, May 5, 2034 regardless of how many people are mining.


  • numeflua:

    re: hash rate

    You have to remember that the hash rate has increased about 12x over the last year:


    This is the most exponential of exponential rises. Humans aren’t very good at dealing with large numbers. Here it is over the last two years:


    That’s an increase of 12,000x.

    The latest “slowdown” in the hash rate is not really a decrease, but rather, it’s simply not rising as fast as before. And that’s coming after the price is down about 80% from its high.

    “The rising cost of Bitcoin mining, which is an activity necessary to keep the Bitcoin network up and running, could turn out to be a potential flaw of the crypto-currency. It is too early to come to a definitive conclusion with respect to this though. ”

    The rising cost is also proportional to the rising hash rate. In other words, as the cost of mining across the ecosystem increases, the system is more secure. It’s not simply an increasing cost necessary to tread water as the above sentence seems to imply.

  • snowiegeorgie:


    Thank you dramatically and bountifully for your posts.

    I have a lot of objections to BitCoin which I will not enumerate here.

    You say BitCoin can be stopped cold by Governments ? Indeed it can.

    It can be stopped cold by an F5 solar flare ( sorry about the tornado borrow here, I do not know of a solar flare grading system).

    All electronics in the North American region stopped dead for 60 days ! I digress. I am keeping your commentary as you have stated comprehensively, completely and clearly why BitCoin is a dud.

    I can quote your objections ( with attribution, of course ) to friends and family who ask about this strange little idea.

    I’d love own one BitCoin — just to have — the way men would buy a share of Playboy stock ( several decades ago ) just to get the share certificate. Well, I would like to have a single BitCoin if I could get a FORMAL and FRAMED Certificate of Authenticity for that strange little coin.

    Still, who would believe a paper certificate anyway ?


  • jks:

    VB, you don’t have to have the blockchain to trade bitcoins. You must have it to mine, though. Cash fiat currency transactions don’t allow chargebacks either, so I don’t see this as a flaw for bitcoins.

    I’ve often thought that having a fixed amount of bitcoins is a system flaw since who will do the network work after the last bitcoin is mined? I suspect that this feature will be changed to allow a small amount of “inflation” so that miners can always be paid.

    • VB:

      jks, I’ve heard all the arguments. And if you are a convinced member of the Bitcoin cult, I am aware that I cannot change your mind.

      Cash I use only for very small transactions. For everything big and for every case when I have no clue who the vendor is (e.g., if he’s in another country), I use a credit or a debit card and I am protected. And paying in cash is SO much easier than paying in Bitcoin that it is not even worth the comparison.

      In my opinion Bitcoin has absolutely no future for the consumer. Too difficult to use, too difficult to understand, too difficult to secure, too prone to scams. Maybe it (or something like it) has a future in international money transfers between money transferring businesses, without the consumer even being aware that Bitcoin is the underlying money transfer protocol. Maybe.

      The mining fee issue is another major problem I forgot to address – but, as I said, I was only scratching the surface. Currently the miners are paid approximately $15 per transaction, with only about 0.5% of that coming from transaction fees and the rest coming from the block rewards. Well the block reward will be halved in about a year and will continue to decrease logarithmically until it eventually reaches zero. Who will pay the miners then? Because they certainly won’t be working for free. The only alternative is to increase the transaction fees. Do you seriously believe that anyone would pay $15 per transaction?! That’s more than the existing money transfer businesses charge, for instance Western Union.

      Oh, and don’t forget about inflation. Due to the block rewards, the supply of Bitcoin is currently inflating at about 10% annually! That more than any of the major fiat currencies. And all this supply influx is almost instantly converted into fiat by the miners, because their expenses are in fiat, not in bitcoin (not to mention the horrendous price volatility which makes keeping bitcoins impractical). This puts tremendous downward pressure on the price. It will take about a decade until the Bitcoin inflation drops to a more reasonably level like 1%.

      Oh, wait, there is also the distribution issue, where early adopters were compensated exponentially better than the later adopters, making the whole thing look more like a pyramid wealth distribution scheme. I understand why Satoshi had to do that (otherwise there would have been no early adopters and the whole thing would have never taken off the ground) but it does seem hugely unfair to the average person on the street. If you thought the fiat wealth distribution was unfair with the 1% controlling 50% of the assets globally, just wait until you see how this is in Bitcoin, where a handful of individuals control 90% of the assets.

      Oh, and don’t let me even start on the cryptography side. Why the secp256k1 curve?! There is absolutely no good reason for it to be used; there are much better curves like the Bernstein curve…

      Basically, Bitcoin was invented by a computer geek of libertarian penchant, who, however, was only an informed amateur in cryptography and a total ignoramus in economics… It is an interesting solution in search of a problem. And the speculative bubble from zero to $1200 in just a few years has only attracted all kinds of criminals, scammers, and other scum, who pray on the gullible get-rich-quick dreamers.

  • VB:

    There are so many things that are economically and technically wrong with Bitcoin, that I don’t know where to begin with… The more I study it, the more dismayed I am.

    In no particular order:

    – While it is true that the difficulty adjusts with the total hashing power of the Bitcoin network of miners, this adjustment happens only every 2016 blocks (and is based on the average hashing rate of the network during these 2016 blocks). If there is a sudden drop out of many miners (e.g., because the price craters due to some external event), it might take forever for 2016 blocks of transactions to be mined, so that the difficulty could adjust down to reflect the reduced number of miners. Essentially, the transactions will grind to a halt. Not to mention that a 51% attack would become much easier than it is now.

    – The vast majority of mining power came on-line in 2014, while the price was above $500. With the price where it currently is, these miners are dropping like flies.

    – Nobody involved in Bitcoin seems to have a good explanation of what will happen if mining becomes uneconomical. Many fanatics claim that “it cannot happen” but fail to provide convincing arguments. The general “feeling” seems to be that as miners drop out, difficulty adjusts down, making it cost less electricity to mine, and making it possible for miners to get back in. However, I am not convinced that this will happen in reality. One just has to look at the fate of an altcoin, Auroracoin, to see what happens when the miners quit en masse. Essentially, transactions freeze and the network dies, taking the currency with it.

    – Way too many scams and hacks. Literally every day. On one day three Bitcoin exchanges were hacked and coins were stolen. I have a hard time thinking of a Bitcoin-related company that isn’t an obvious scam or isn’t using a stupid business model. Maybe Bitpay and Coinbase, but the latter is a bit iffy.

    – It strikes me as unbelievably stupid that every Bitcoin node must carry of copy of the forever-expanding blockchain. While this ensures resiliency and decentralization, it is incredibly wasteful. There are talks about “pruning” the blockchain but I have yet to see it materialize. In addition, people embed all kind of crap in the blockchain – Satoshi’s paper, cartoons, ASCII art, Wikileaks dumps, Bible verses, and what not.

    – There is a limit of how large a block can be (1 Mb), which puts a theoretical limit of 7 Bitcoin transactions per second. (The real limit is about 2.5-2.7 per second.) There is talk about lifting this limit, but, first, it was put there for a reason (to thwart denial-of-service attacks) and, second, it would create a hard “fork” in the currency and if not everybody accepts the change, lots of bad things can happen (like two parallel blockchains and you can spend the same amount of coins twice, once on each chain; 51% attacks, etc.). For comparison, a real money transfer network, like Visa, processes tens of thousands of transactions per second.

    – Bitcoin does not allow chargebacks – meaning that once you have paid, the vendor can run away with your money and fail to deliver. No customer protection. They are talking about solving this with a reputation-based system, notaries, multi-signatures needed to perform the transaction and what not – but it is against the spirit of Bitcoin and leads to centralization and the necessity to trust third parties (something which Bitcoin tried to get around).

    And so on and so on… this is only scratching the surface. Bitcoin is a fascinating technical idea but is plagued with practical problems. I don’t think that it has a future. In fact, it can be stopped very easily by governments – by essentially closing down the bitcoin-to-fiat centers. Since there is no real Bitcoin-based economy (Bitcoin is used only as a medium of exchange and no business dares to hold it, because of the price volatility), its success (at least for now) depends on it being able to be exchanged to fiat currency at will. If this is stopped, Bitcoin is dead.

    • numeflua:


      I won’t rehash (no pun intended) every last argument of yours, most of which are not very compelling to me, but I will argue about the chargebacks.

      Cash has no chargebacks. If you pay with cash, you will be reliant on the merchant’s good will and reputational desire to get your money back. The entire system of chargebacks (credit cards, banks, etc) is built on top of the cash system. Credit cards wouldn’t exist if cash didn’t exist first.

      Bitcoin is cash for the internet. Yes, there are no chargebacks. But you can build chargebacks on top of Bitcoin just like with cash. There will be a VISA of Bitcoin. Of course, this creates reliance on a trusted-third party thereby defeating one of the big advantages of Bitcoin, but Bitcoin doesn’t have to be used for every single transaction just like cash doesn’t need to be used for every single transaction.

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