
Bitcoin is an energy arbitrage - js4
http://www.jsfour.com/value-crypto-assets/
======
svara
> What this all tells us is that we can watch the relationship between
> Bitcoin’s price and difficulty to see situations where Bitcoin is
> overvalued. These situations would be times where the difficulty rate stayed
> the same while the price continued to go up.

That seems backwards. Miners will adjust their costs until marginal cost
equals marginal revenue. In other words, if the Bitcoin price goes up and the
hash power does not follow suit, that doesn't mean Bitcoin is overvalued, it
means that there's an opportunity to profit from running more miners.

~~~
js4
But the question is why aren't people taking advantage of the perceived
opportunity to profit?

The only time this would happen is if something about the underlying economics
changed --like energy got more expensive.

~~~
dia80
Limits to arbitrage, same reason GBTC the bitcoin trust trades at 100%
premium.

------
ejfinneran
"One of their functions, which Wall Streeters call arbitrage, was to try to
buy power at a low price in one place and sell it at a higher price somewhere
else."

[http://articles.latimes.com/2002/may/09/business/fi-
scheme9](http://articles.latimes.com/2002/may/09/business/fi-scheme9)

Worked great for Enron.

Also, China's energy is cheap because 75% of their grid is powered by burning
coal. He doesn't mention climate change at all in this article.

~~~
xyzzyz
> Also, China's energy is cheap because 75% of their grid is powered by
> burning coal.

What? Most Bitcoin in China is mined using cheap excess hydro power, using
coal power would most likely be uneconomical.

~~~
ForHackernews
I keep hearing this notion repeated, but I've never seen a citation.

Do you have any evidence that:

a) Most bitcoin in China is mined using hydroelectric power.

b) That the generation capacity in question is "excess" (i.e. it would not
have been put to productive use except for bitcoin mining)

It's also worth noting that damming rivers for hydroelectric power is
enormously damaging to the surrounding ecosystem, even if they aren't carbon-
emitting:
[https://en.wikipedia.org/wiki/Environmental_impact_of_reserv...](https://en.wikipedia.org/wiki/Environmental_impact_of_reservoirs)

~~~
scottnyc
Fully agree. Following suggest coal is still the main source of energy for
Chinese miners.

[https://qz.com/1055126/photos-china-has-one-of-worlds-
larges...](https://qz.com/1055126/photos-china-has-one-of-worlds-largest-
bitcoin-mines/)

[https://www.bloomberg.com/news/articles/2017-12-15/turning-c...](https://www.bloomberg.com/news/articles/2017-12-15/turning-
coal-into-bitcoin-dirty-secret-of-2017-s-hottest-market)

------
Dwolb
This is basically a post describing micro-economics (if I have capacity I’ll
continue to produce as long as my marginal revenue exceeds my marginal cost).
That’s fine and I agree those are the costs of Bitcoin.

I think the author is missing more pieces when it comes to fundamental value.

Namely, “I’ll pay x dollars to clear my transaction with the next block and
“My holding costs are y” in the context of switching costs (i.e. using USD
instead).

------
ForHackernews
This article seems silly to me, because it tries to conflate the wasted energy
that went into "mining" bitcoins with their value.

It's like an update of hoary old Marxist notions, but for cryptocurrency:
[https://en.wikipedia.org/wiki/Labor_theory_of_value](https://en.wikipedia.org/wiki/Labor_theory_of_value)

~~~
jerf
Yes, that was my thought too. For this to be arbitrage, we need to see buying
something one market where it is cheap and selling the _same_ something into
another market where it is expensive. BitCoin miners certainly buy the energy,
but where are they selling it? I can't take that $0.04 KW/h energy in the
BitCoins and use it instead of my expensive power. (If I could do _that_ , we
wouldn't still be arguing about whether BitCoin was valuable, there would be
an inarguable value to it.)

Manufacturing A that needs B where B is cheap isn't arbitrage, that's just
manufacturing where costs are lower. It lacks all the fundamental
characteristics of arbitrage and consequently all the effects. Unless _I_ am
grossly mistaken about what arbitrage is, the article is just wrong.

------
vec
So - and maybe this is a stupid question - how do I go about converting my
Bitcoin back to electricity?

Say 1 kWh costs $0.20 in the US and $0.04 in China. I am in the US, and I have
a machine that requires exactly 1kW to run. How does Bitcoin mining in China
allow me to run this machine for $0.04/hr? Or am I misunderstanding what
"arbitrage" means?

~~~
mlevental
you pay your light bill.

~~~
vec
I have $1. I use that $1 buy 0.0001BTC (not the actual exchange rate, but I
don't think it matters). That 0.0001BTC took just under 25kWh to mine in
China.

I go to my American electric company and purchase 0.0001BTC worth of
electricity. They, being a forward-thinking utility company, are happy to
accept my Bitcoin in exchange for 5kWh.

Am I missing something? Sure, $1 would let me get 25kWh _in China_ , but I
don't see how the existence of Bitcoin allows me to take advantage of Chinese
energy subsidies to get more energy _in the US_ than I could get for just the
$1.

~~~
mlevental
arbitrage opportunities aren't two way? that would make zero sense. you pay
less than a dollar to mine the bitcoin in china and then buy 1$ of electricity
in the usa.

~~~
vec
No, I pay almost exactly a dollar to mine the Bitcoin in China. If I could
mine it for substantially less than a dollar, then I could use 1kWh of Bitcoin
production to buy more than 1kWh in the Chinese energy market, independent of
international energy prices, which (assuming Bitcoin markets are even remotely
efficient) would drive BTC prices down until the local arbitrage opportunity
disappeared.

I still don't see how the existence of Bitcoin allows anyone, anywhere to
exploit the difference in energy prices to come out ahead of where they would
otherwise have been.

~~~
starshadowx2
If it costs you $1 to buy a bitcoin from somewhere with cheap electricity but
it takes you $2 worth of electricity to mine one bitcoin, it's a better deal
for you to buy the bitcoin. I'm not actually sure what this has to do with it
being an arbitrage though, but this is what I got out of the article.

    
    
       "This means that if I buy Bitcoin from a Chinese miner, what the miner is really doing is wrapping up the difference between my energy cost and theirs ($0.16 /kWh) into a security and selling it to me."
    
       "When I buy Bitcoin, as long as the energy used to mine the token is cheaper then energy I have access to, I’m getting a good deal. Which is the case almost every time thanks to subsidies and difficulty adjustment."

~~~
vec
That's roughly what I got out of the article as well, I'm just not sure it
actually holds water.

Sure, Bitcoin is less expensive to mine where energy is cheaper, so if I
happen to want some Bitcoin anyway I should try and purchase it from a miner
somewhere with low cost electricity. That still doesn't tell me why I should
consider buying it at any price. Let me see if I can demonstrate my objection:

Kangaroos aren't very common here in America. In order to acquire a one pound
box of kangaroo feces domestically, I would need to find a rare animal
collector to negotiate with and may expect to end up paying, say, $100. An
Australian, on the other hand, might well be willing to send me a box for
barely more than the shipping costs, leading to a total cost to me of only
$20.

I suppose I could choose to describe the shipper as wrapping up the difference
between their kangaroo availability and mine into a security, but that doesn't
by itself make paying $20 for a literal box of crap a "good deal".

Obviously Bitcoin at least appears to have some intrinsic value, since it's
currently being actively traded. And obviously energy prices serve to set an
upper bound on that value. I just don't see how energy prices could serve to
also set a lower bound and, therefore, can't be the source of that intrinsic
value.

------
thisisit
_Put in plain terms since minimum wage in the US labor market is $7.35, $1 USD
is “worth” hiring a worker for about 1 /7 of an hour. This means that for
1/7th of an hour you can get some “stuff” done. For instance you could hire
someone for 1/7th of an hour to pick 2 apples from your Apple tree so you can
have apples with dinner.

So really you could say that $1 USD is “worth” 2 apples. _

This is whole example is so contrived to arrive at a simple point.

If we follow your point then the difficulty adds some degree of inflation to
the price. I might mine x amount of BTC for y amount of power (hashes) but
tomorrow I will be able to mine x-t for y power. This means today's bitcoin is
more valuable than tomorrow's bitcoin.

There was an awesome derivative allowing people to bet on which might have
clarified this difference but sadly it is gone.

~~~
UncleEntity
> If we follow your point then the difficulty adds some degree of inflation to
> the price.

I think it's the opposite, difficulty is used to control inflation. Though we
could both be talking about different things -- monetary inflation vs price
inflation.

> This means today's bitcoin is more valuable than tomorrow's bitcoin.

Yep, all things being equal every time they mine a block every coin becomes
that much less valuable due to the increase in supply.

~~~
thisisit
We do seem to be talking about two different things. How do you figure
difficulty affects the price inflation?

------
zitterbewegung
This is an interesting way to try to figure out a way to value bitcoin based
on a cost of a resource. The only thing I could think that might be another
thing to consider is cost of moving money or the inability to do so.

~~~
notahacker
The important thing to remember is that cost of mining BTC (plus an
inconvenience and risk premium, which may be quite large) for the marginal
person looking to acquire it is the _ceiling_ on BTC value.

An awful lot of Bitcoin bulls are treating it as a floor.

Just because something was made at a certain energy cost doesn't mean you have
the ability to exchange it for _any_ quantity of energy, never mind an
equivalent quantity of energy at higher energy prices.

~~~
UncleEntity
> The important thing to remember is that cost of mining BTC (plus an
> inconvenience and risk premium, which may be quite large) for the marginal
> person looking to acquire it is the ceiling on BTC value.

Unlike what TFA claims there is no intrinsic value in a bitcoin but its value
is 100% _what someone will pay for it_...like all goods coincidently.

I think what they're doing is falling into the cost-of-production theory of
value trap.

> Just because something was made at a certain energy cost doesn't mean you
> have the ability to exchange it for any quantity of energy, never mind an
> equivalent quantity of energy at higher energy prices.

Which just goes to show it has no intrinsic value.

------
Spooky23
Bitcoin mining is an energy arbitrage. The value of bitcoin once generated is
about demand for moving cash-like instruments while bypassing capital
controls.

------
raverbashing
Just remember that those who last tried to arbitrage energy costs (Iceland
with Aluminium) went bankrupt

I'm also skeptical that the difficulty scales linearly, it might be that as it
gets more difficult it won't be as linear (we are probably getting to this
point)

Also, you're obtaining coins with mining but you also need to do that work
again to spend the coin obtained (or pay the fees, which are climbing).

~~~
TSiege
It seems like Aluminum smelting in Iceland is booming as far as I can tell,
and according to this Times article, in other regions with plenty of renewable
energy as well. It also seems like Iceland is pushing it's cheap electricity
to gain in other industries as well.
[https://www.nytimes.com/2017/07/01/us/politics/american-
comp...](https://www.nytimes.com/2017/07/01/us/politics/american-companies-
still-make-aluminum-in-iceland.html)

------
Glyptodon
I think this piece is more along the lines of establishing the supply curve
without taking into account the demand curve. So perhaps production is indeed
something of an energy arbitrage, but that's without accounting for demand.
Though maybe meaningful demand has to be assumed for for the premise of
functioning as a vehicle for arbitrage to hold at all?

------
westurner
In addition to relocating to where energy is the least expensive, Bitcoin
creates incentive for miners to lower the local cost of energy: invest in
renewable energy.

Renewable Energy / Clean Energy is now less expensive than alternatives; with
continued demand, the margins are at least maintained.

~~~
westurner
> In addition to relocating to where energy is the least expensive, Bitcoin
> creates incentive for miners to lower the local cost of energy: invest in
> renewable energy.

We have lots of direct and effective subsides for nonrenewable energy in the
United States. And some for renewables, as well. For example [1] average
effective tax rate over all _money making_ companies: 26%

"Coal & Related Energy": 0.69%

"Oil/Gas (integrated)": 8.01%

"Power": 29.22%

"Green and Renewable Energy": 26.42%

[1] "Tax Rates by Sector (US)" (January 2017)
[http://pages.stern.nyu.edu/~adamodar/New_Home_Page/datafile/...](http://pages.stern.nyu.edu/~adamodar/New_Home_Page/datafile/taxrate.htm)

------
LawnDart1
Hard to take him seriously when he thinks 1/6th of an hour < 1/7th of an hour

~~~
ForHackernews
Extra hard to take him seriously when he thinks inflation is a strange, novel
concept he needs to introduce to his readers.

> Yep you read that right. Holding USD means the cash will be “worth” less
> next year. This is because of a 3% inflation rate.

------
westurner
X-posting here from the article's comments:

The price reflects the confidence investors have in the security's ability to
meet or exceed inflation and in the information security of the network.

Volatility adds value for algo traders: say the prices are [1, 101, 51, 101,
51, 201]:

(101-1)+(101-51)+(201-51)=300

(201-1)=200

For the average Joe looking at the vested options they're hodling, though,
volatility is unfriendly.

When e.g. algo-traders are willing to buy in when the price starts to fall,
they're _making_ liquidity; which some exchanges charge less for.

Enigma Catalyst (Zipline) is one way to backtest and live-trade
cryptocurrencies algorithmically.

------
pravinva
No, no, no. The marginal revolution of the 19th century solved that question.
Value is not determined by what it cost to do something. For eg. You can dig
deep in south Africa to mine diamonds, but the bits of subterranean rock that
emerges along with it doesn't have the same value. Value is always subjective.
If you paint Monalisa it has a different value from the one in the Louvre

------
jpmoyn
Did this guy just finish up his first year of Econ? Pretty pseudo-intellectual
article if you ask me

------
merloen
This article is enormously confused, even by bitcoin standards.

~~~
merloen
Investopedia: "Arbitrage is the simultaneous purchase and sale of an asset to
profit from a difference in the price."

Deciding to mine bitcoin where energy is cheap is just bloody obvious.

> When I buy Bitcoin, as long as the energy used to mine the token is cheaper
> then energy I have access to, I’m getting a good deal.

So buying bitcoin from a base in Antarctica, where energy is scarce, is a
better deal than buying it in Dubai? That doesn't make any sense whatsoever.

~~~
Pharaoh2
He is talking about mining bitcoins, not buying bitcoins.

Most bitcoin hash rate comes from places with low energy costs... its just
basic economics.

The only reason this arbitrage is present is because the value of bitcoins is
higher than the cost to mine them at the moment. Since the capital investment
required to setup a (reasonable large)mining farm is rather high, it is
unknown if the investment will pay off over the long term. But a lot of people
are betting it will.

~~~
merloen
That's not arbitrage, just basic investment. Arbitrage is buying X at place A
and selling X at place B.

Energy arbitrage means buying energy where it's low, and selling where it's
high. The latter is missing here.

~~~
Pharaoh2
Yep, that was the whole argument of the article... I do really agree with the
article but at least we can agree on what the article is claiming...

------
tantalor
"Market" is not a fancy word.

~~~
droopyEyelids
It means as many things to as many people, and serves the same role in many
discussions, as the word "God."

~~~
mistercow
Can you give three examples of different meanings?

~~~
TeMPOraL
The physical or virtual place where people trade. An aggregation of people who
trade there. An aggregation of the previous into a generic "market". The
previous analyzed as system of feedback loops. Also, as used by some, a
benevolent supernatural entity with an invisible hand, who magically solves
all problems.

------
LawnDart1
Hard to take him seriously when he thinks 1/6 of an hour is less than 1/7th of
an hour...

------
fiatjaf
Old fallacies that keep coming back.

~~~
foepys
Those "crypto currency enthusiasts" are reliving the 19th and 20th in record
time. They are trying everything that has already been tried in the last 200
years and will eventually find out why today's rules are in place.

~~~
js4
Cryptocurrency aside, are any ideas new ideas?

------
kindfellow92
> If you take $10,000 USD in cash and put it in the freezer, in a year it
> would be worth $9,700 of today’s value.

> Yep you read that right. Holding USD means the cash will be “worth” less
> next year. This is because of a 3% inflation rate.

USD inflation is effectively dead ATM and has been since at least the early
2000s.

~~~
stu2010
How do you reconcile this with the extreme cost increases since the mid 2000s
in education, healthcare, and housing (rent, at least).

~~~
saalweachter
Those things are considered a problem because they are increasing _faster than
inflation_.

------
kindfellow92
> If you take $10,000 USD in cash and put it in the freezer, in a year it
> would be worth $9,700 of today’s value.

> Yep you read that right. Holding USD means the cash will be “worth” less
> next year. This is because of a 3% inflation rate.

This math is wrong. The value in today’s dollars will be 10,000 / (10,000 *
1.03) * 10,000 ~= 9,708.74

