Over the past year, many speculators have been debating over how the Bitcoin price will be affected by the upcoming halving event in May. The main point of contention on this topic has been whether or not the event is already priced into the market.
For those who don’t know, a halving event in Bitcoin is when the number of new Bitcoin created about every ten minutes is cut in half. The event is programmatically scheduled to take place roughly every four years.
The fact that the next halving is expected to take place next month has many people wondering what the impact will be on the Bitcoin price. Recently, former Facebook executive Chamath Palihapitiya made the case that there’s a five to 10 percent chance a single Bitcoin is eventually worth millions of dollars due to the current economic climate.
Despite the price decline last month, Bitcoin has actually outperformed all other major asset classes over the past year.
In a recent “State of the Network” report from crypto asset analytics company Coin Metrics, data scientist Kevin Lu and other members of the Coin Metrics team explained their view that Bitcoin sell pressure is likely to grow in the coming months before eventually returning to a healthier state and paving the way for future price increases.
The report from Coin Metrics echoes another report from Blockware Solutions. Recently, Blockware Solutions CEO Matt D’Souza referred to the situation around the halving as a “perfect storm” for Bitcoin.
Bitcoin Mining Axioms and Inferences
The basis for Coin Metrics’s core thoughts around the Bitcoin halving are three Bitcoin mining axioms:
- Miners operate as profit-maximizing commercial enterprises with large economies of scale
- Mining is a competition with a fixed total reward that is split among all participants with a regular cadence
- Miner revenue is denominated in crypto while miner costs are denominated in fiat
In their report, Coin Metrics makes a number of inferences based on these axioms. The most relevant inference in the context of the halving is that miners are a continuous and significant source of selling pressure in the Bitcoin market.
“Miners represent the single largest cohort of natural, consistent sellers,” says the report. “Their selling pressure is significant because miners must sell the crypto that they earn to cover their fiat-denominated costs. And since their profit margins tend to gravitate towards zero, miners must sell nearly all of the crypto that they earn.”
The report adds that, while Bitcoin miner revenue is a small percentage of total trading volume, it needs to be remembered that these sales are net negative capital outflows that are unlikely to return to the market, which is not necessarily the case for other trades.
To illustrate the impact miners have on the Bitcoin market, Coin Metrics compare 2019 annual miner revenue, which was $5.5 billion, with the total Bitcoin holdings of Coinbase users, which they estimated at $6.8 billion. In other words, the sell pressure that came from miners last year (assuming that the majority of miner rewards are sold) is in the same ballpark as a hypothetical scenario where every Coinbase user sells the entirety of their Bitcoin holdings.
It should be noted that, due to the halving, Coin Metrics currently projects 2020 Bitcoin miner revenue to be around $3.3 billion, which would equate to roughly “half-of-a-Coinbase worth of selling” for this year.
Miners Exacerbate Bitcoin Price Booms and Busts
The report from Coin Metrics also covers how miners have a tendency to exacerbate large price swings in the Bitcoin market.
“Since miner variable costs are slow moving and fairly constant in fiat terms, miners are required to sell less of their block rewards to cover their expenses during periods of rising crypto prices,” says the report. “On the other hand, when crypto prices are falling, they are required to sell more. Under this theory, miners have a pro-cyclical effect on the market, in that they further exacerbate price increases. There are limitations to this dynamic, however.”
The report adds that the dynamics associated with the above-described phenomenon could be altered by the ability for more miners to hedge against future price movements or use their mining rewards as collateral for loans denominated in U.S. dollars or their local fiat currency.
Coin Metrics points out that the recent 16% decline in mining difficulty — largely caused by the sharp Bitcoin price decline in the middle of March — is a sign that inefficient miners are already capitulating before the halving has even taken place.
“It is concerning that miners are in a state of capitulation even before the halving,” adds the report. “Once the block reward halves, miner revenue will be cut in half while miner costs will remain constant, so we expect even more miners to capitulate in the months ahead.”
In their conclusion, Coin Metrics indicate that miner-led selling pressure for Bitcoin is already high and likely to increase in the coming months as the halving takes place. However, the blockchain data firm also sees a light at the end of the tunnel for Bitcoin holders.
“We expect miners to follow a cycle of decreased profit margins, increased selling, capitulation, and a culling of the least efficient miners from the network,” says the report. “Once this cycle is complete, the miner industry should return to a healthier state that is supportive of future price increases.”