Bitcoin, especially its mining process, is often admonished as it “uses too much energy“. But the Layer1 Technologies company, supported by Peter Thiel, is trying to do the unthinkable thing – stabilize the power system, generate profits by producing less BTC, and make the U.S. a significant player in the Bitcoin mining industry. Like many American fairy tales, our story begins in the semi-arid lands of western Texas.
Texas: decentralized energy market
Unlike most of the United States, Texas has an unregulated power system that divides utility companies into three separate functions:
- Generation – power plants, solar, wind farms, etc.
- Transmission – power lines, which are regulated by the state of Texas.
- Retail power suppliers – customer service and electricity billing.
As a result, there is a complex market in Texas with private electricity generators that offer retail electricity suppliers different wholesale prices from different locations. Deregulation of power generation has led to a dramatic increase in natural gas production as well as renewable energy sources that provide a cheaper and more environmentally friendly solution for long-term energy demand.
It is important to note that any use of electricity is as clean as the energy system itself. Texas is a U.S. leader in terms of wind energy production, which reaches its peak power at night. The Lone Star State also produces an abundance of renewable energy from solar farms that provide maximum power in the middle of the day. However, the increase in renewable energy use in Texas over the past decade has had some side effects.
Energy consumption depends on the day, season, and year. Warm periods come, so people are increasingly using air conditioning systems, which are the largest drivers of retail energy demand in Texas. And this is no surprise. On a typical day, energy demand increases dramatically in the morning, decreases significantly during working hours, and then peaks in the afternoon when people return home after work. The afternoon peak unfortunately, coincides with a period of minimum energy production by renewable sources.
However, the excessive abundance of renewable energy from the sun and wind in the middle of the day undermines the electricity production economy, as net energy production (network load) continues to grow without being consumed. This leads to a situation known as the “Duck Curve,” where too much energy is generated which leads to it eventually being wasted or sold at a loss. Conversely, as demand increases at the end of the day, power generating companies tend to rapidly increase the volumes, usually at the expense of fossil fuels.
Further development of renewable energy sources – wind and sun – exacerbates the “Duck Curve” and creates a negative feedback loop. In addition, it is difficult to stop coal or nuclear power plants because the economy of both requires that they operate continuously, which in fact creates a certain price floor. This leads to the phenomenon where each additional unit of solar and wind energy reduces the profitability of renewable energy, which further contributes to negative pricing and creates instability in the power system.
This dilemma is compounded by the fact that transporting electricity over long distances results in significant losses, and it is not yet economically feasible to store enough energy reliably for night-time consumption. In the short and medium-term, we still have two solutions to this unique problem:
- Energy consumption during periods of overproduction to prevent reduction (waste) and negative prices.
- Stopping energy consumption at high demand to prevent the use of more expensive non-renewable energy sources.
Although it sounds simple, energy demand is inelastic, and the life cycle of human energy consumption usually does not coincide with peak production of renewable energy.
A demand responding mechanism
Bitcoin fixes this:
- Bitcoin mining consumes energy at a relatively constant speed
- From the energy point of view, a BTC mining operation is a flexible load, i.e. it is relatively easy to shut it down, as it does not require continuous operation.
Responding to demand is the process of reducing the consumption of energy at times of peak energy demand. When energy demand peaks, such as during the summer heat in Texas, energy costs can rise rapidly from $100-150 per megawatt-hour (MWh) to thousands of dollars per megawatt-hour. Layer1 benefits from this by negotiating long-term demand response contracts with ERCOT, the Texas power system regulator. In fact, Layer1 agrees to shut down at any time, receiving an annual bonus (19-25 MWh) depending on the expected power demand. Layer1 claims that this demand response agreement will effectively reduce their energy costs to under one cent per kWh.
The Cambridge Bitcoin Electricity Consumption Index reports an average cost of five cents per kilowatt-hour ($0.05/kWh) based on their most recent and several previous studies. While Layer1’s cost advantage of four cents seems small, in a market where electricity is the major expense, long term cost savings have a major impact.
Responding to demand helps stabilize the energy system by eliminating price spikes, leveling off energy demand and adjusting economic incentives – reducing negative pricing – to allow the continued growth of renewable energy sources. Now the Layer1 strategy has an obvious disadvantage: their mining devices work less frequently. However, in exchange for a guaranteed income, it can be an effective hedge for miners against BTC volatility.
The Future of Mining
Since Texas is deregulated, Bitcoin Mining projects do not require to provide many permits, which simplifies the purchase of land, construction of mining facilities, and commencement of work. For more complex operations, it would even be possible to contract with solar or wind farms as part of a project to receive government subsidies and become energy producers themselves. Almost all other U.S. states publicly subsidize utilities with natural monopolies and high entry barriers that discourage new power generation companies and retailers.
Because of Texas’ renewable energy potential and lack of market regulation, Bitcoin Mining could grow throughout the state. To this end, Bitmain launched its mining farm in Rockdale, Texas, in October 2019, which aims to provide mining capacity of over 300 megawatts. It is possible that other companies and entrepreneurs are already looking for partners and will establish similar businesses in the coming years.
The CoinShares report for December 2019 estimated the penetration of renewable energy sources into Bitcoin mining at 73%. Energy is a local source; its cost varies depending on geographic location, as some regions have abundant geothermal, hydro or other renewable energy sources. This makes Bitcoin ecologically dependent on where it is produced. It is worth repeating: electricity is as clean as the network that produces it.
If Bitcoin mining uses energy from natural gas or peak coal-powered plants – plants that only run when demand reaches a certain level – then it’s not exactly environmentally friendly. Even hydroelectric dams and wind farms have environmental consequences. There is no BTC price ceiling and, therefore, no limit on the amount of energy that can be used in Bitcoin mining. This is the nature of Bitcoin. The constantly moving altruistic goal of environmental slavery ensures that Bitcoin will never be left without ecological consequences. But the advantages of Bitcoin outweigh its disadvantages.
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