What is Bitcoin mining?
There are three ways to obtain cryptocurrencies such as bitcoin:
- You can buy bitcoin (through SATOS, of course!);
- You can accept them in exchange for goods and services;
- And you can contribute to the mining process.
On this page, we will try to explain to you how this process proceeds. You may have heard a lot about mining, but what is it exactly? What do miners do, and why are they so crucial for the security of the network? In short, miners are individuals who verify network transactions and add them to the blockchain. Miners first gather a bundle of transactions in a block before they set their computers to the task, hoping that they will be the first ones to find the mathematical solution required for the block's publication. The first one to publish a block with a correct solution receives a reward in the form of new cryptocurrencies. That's why this process is also referred to as mining; it's the procedure by which new Bitcoins and other cryptocurrencies come into being.
Meet the blockchain
To understand mining, it's helpful to first understand what a blockchain is. Before we proceed with our mining explainer, let's first have a crash course in blockchain. When discussing Bitcoin or other cryptocurrencies, it usually doesn’t take long before someone mentions the word ‘blockchain.’ But what is a blockchain exactly?
Sometimes, people like to talk about blockchain as if it’s some magical technology that will solve every problem the world is facing. Unfortunately, this won't be the case. Blockchain is not even the most exciting innovation that Bitcoin brought along. A blockchain is namely nothing more than a chain of ingeniously connected blocks. Compare these blocks to a tray of data filled with, among others, transactions and the previous block's fingerprint. As every block contains a fingerprint of the last block, the entire history of the blockchain (i.e. the chain of blocks) is stored on every new block. If you change one small aspect of a previous block, you will also alter its fingerprint, which in turn also affects all the fingerprints of the subsequent blocks. If someone alters a transaction, it will immediately be picked up on, because the fingerprints of all subsequent blocks will be changed as well.
In technical terms, we refer to a block's fingerprint as a hash. A hash is a random string of letters and numbers of the same length. To generate a hash, miners employ a complicated mathematical formula containing all information stored in the block. For example:
Input BLOCK 1
Hash previous block: 00000
Pete transfers 1 BTC to Hank
Hank sends 2 BTC to Rita
Rita sends 1 BTC to Pete
Ingrid sends 1 BTC to Hank
Together, this information makes up the hash ‘6U9P2.’ This hash is then again used to generate the next block’s hash.
Input BLOCK 2
Hash previous block: 6U9P2
Hank transfers 1 BTC to Pete
Pete sends 2 BTC to Rita
Ingrid sends 1 BTC to Pete
Hank sends 1 BTC to Rita
The above information generates the hash ‘8Y5C9.’ Now, if we alter the information of the first block, we will also change its hash. Because the hash of the first block is used as input to generate the second block's hash, it will also affect this hash.
That’s how a blockchain works in principle! You now understand that it quickly stands out when someone attempts to revert transactions or to mess with the content of blocks. After all, such alterations affect the hash — i.e. the fingerprint — of the block that was cheated with, as well as all the hash of all subsequent blocks.
Now that we have finished our crash course in blockchain, let's proceed with our mining explainer. You can also check our dedicated blockchain page if you are interested in learning more about blockchain.
The basics of mining – Proof of Work
When your computer is busy mining, it's continuously attempting to calculate a hash, which offers the solution for the next block. In the previous example, we used hashes that were only five characters in length. We did this to make it more understandable. The Bitcoin blockchain, for instance, generates hashes using the SHA-256 algorithm. When you put information into this algorithm, it will always generate a string of 64 characters
At this point, you may start to wonder why this process is so complicated. After all, if you've obtained the hash of the previous block, and you have entered the transactions of the new block into the algorithm, wouldn't it just generate a proper hash automatically? Indeed, that's right! But there is another crucial game rule involved determining the mining's difficulty level.
Complications – the difficulty slider
To make life more difficult for miners, the protocol requires the first X characters to be 0 (zero). This is the ingenious part of the Proof of Work (PoW) mechanism that's applied in almost every cryptocurrency. It serves as the benchmark determining the difficulty level for generating the right hash and the proper solution.
At the time of writing, every hash needs to start with a minimum of 18 zeroes to be accepted as a valid fingerprint for the next block. The more computers participate in this process, the higher the difficulty level. This mechanism is the reason why mining a block takes about 10 minutes on average. The difficulty level is recalculated after every 2016 blocks. If more computers join the network, a solution will have to be found containing more than 18 zeroes. But if computers leave the network instead, the difficulty level will be adjusted downwards.
As you know, an algorithm generates a hash based on the input you provide. This input consists of, among other things, the transactions contained in the block, a timestamp, the fingerprint of the previous block and the nonce. This ‘nonce’ can be regarded as the solution or key that miners are desperately trying to find. Miners keep adjusting the nonce until the algorithm generates a hash starting with 18 zeroes. Therefore, the only thing that all these computers are constantly engaged in is the adjustment of a variable to check the algorithm's response. Miners will share the hash with the rest of the network as soon as they have found one containing 18 zeroes. The other miners may then verify the block, and if everything appears in order, it will be added to the blockchain.
The first miner to find and publish the right solution receives a reward in Bitcoin. Currently, this reward amounts to 12.5 BTC per block. With every 210,000 blocks, the reward is cut in half. The crypto environment also refers to this as halving. The next Bitcoin halving is planned for May 2020. The Bitcoin community has been eagerly awaiting this moment for a while now, as it always positively affects pricing. It's not particularly surprising, because it also halves the number of new Bitcoins appearing on the market.
Why do we call this Proof of Work?
You may have already guessed this, but if you use your computer to mine, then it's continually trying to find a solution for the next block. That is to stay; it's looking for a nonce that can be turned into a hashing algorithm output that starts with 18 zeroes (the difficulty level). Once your computer has found a mathematical solution, it will present it to the network. The network can then very quickly verify the validity of the discovered solution by entering it into the algorithm. If the algorithm then provides a hash starting with 18 zeroes, the solution appears valid, and the network will add your block to the blockchain. The solution discovered by your computer serves as evidence of the delivered work, i.e. the Proof of Work.
How can you start mining yourself?
Would you like to start mining yourself? There are two ways in which you can do this. You can choose to buy your own equipment and to build your own setup, but you can also outsource it to a cloudmining company.
If you opt for the latter option, there's nothing that you would have to arrange yourself. These companies have set up data centres in countries where electricity is cheap.
A computer that's continuously mining cryptocurrencies uses a lot of electricity and produces much heat. Cooling is of the essence here, to ensure that the expensive equipment does not fail due to heat. This is why countries like Iceland, where temperatures are often low, have become such popular destinations for these types of companies.
The main advantage of cloudmining is that it allows you to start mining cryptocurrencies even when you lack the expertise. There's no need to buy nor install any equipment, and you won't be bothered by the heat and noise produced by mining. But before you decide to team up with a cloudminer, we recommend you first to research your options thoroughly. There are plenty of scammers active in this market. These companies generally offer returns that are just a bit too good to be true. If they do, assume it's a scam.
Is the company transparent regarding its contact details and address? Have they listed photos of their data centre online? Can you find good reviews about them? If yes, then there's a good chance that you have found a valid provider.
Buying your own equipment
Would you rather arrange everything yourself? Then make sure to do your research and to reflect on the coins you would like to mine. Not every coin employs the same hashing algorithm, and you'll need different hardware for different algorithms. To mine Bitcoin and Litecoin as efficiently as possible, you will need an ASIC, but if you are mining Ethereum, you need a powerful GPU instead. There is even a slight difference between AMD and NVIDIA video cards. You cannot just have a look at eBay, purchase a powerful computer and get to work. Such was the case years ago, but nowadays you need specialised equipment to achieve any returns. You can use the website https://whattomine.com/ to experiment with the different types of hardware available and to find out what you’ll need to mine the coin you're interested in.
Besides the mining of established coins, there is also a more speculative form of mining. This is referred to as spec mining: the mining of cryptocurrencies that were just launched and cannot be obtained (or are difficult to obtain) through cryptocurrency exchanges. It effectively involves speculating on the future success of coins. As you are likely one of the few individuals mining these coins, relatively little processing power is required to obtain them. You do risk the possibility that the project will never gain traction, leaving you hanging with all your coins. Indeed, high risk, high reward.
Mining slowly became less profitable due to the increased competition among miners. Every block can only be added to the Bitcoin blockchain by one very fortunate miner, who will also claim the Bitcoins as a reward. When 10,000 people are mining simultaneously, it may take a while before you end up victorious. To spread the risks, people started to collaborate in so-called mining pools.
It involves a large group of people bundling their available computer resources to find the solution for the next block. If your mining pool manages to add the following block to the blockchain, all participants will obtain a reward, based on the amount of processing power put in by every participant. This way, you receive a much more steady and secure income than when mining individually. You do have to make sure that the administrators of these mining pools are trustworthy, however. It would be unfortunate if, after a couple of months, you find out that the owners of the pool have run off with all your mined cryptocurrencies.
Well, now that you have read through this content, you will hopefully much better understand the wondrous world of cryptocurrency. The most important advice we can give you is to do proper research before you decide to invest part of your savings in this. Investing in mining is even a bit more complicated than investing in crypto. After all, aside from the fact that you will need to know much about the coin you are mining, you will also need to be aware of the hardware required.