Updated: Aug 2
You’re probably no stranger to cryptocurrencies, but have you ever considered the environmental impact of Bitcoin and other cryptocurrencies?
As we saw in our previous blog post, our investments make up one-third of our carbon footprint. So how should we evaluate the environmental impact of our investments in cryptocurrencies?
We will explore how cryptocurrencies came about, their impact on the environment and whether or not a future of cryptocurrency is one we should be concerned or excited about.
What are cryptocurrencies, how did they come about and why Bitcoin?
In the wake of the financial crisis, cryptocurrencies arose in prominence because they bypassed the need for funds to be filtered through a third party, like a bank or credit card company (Source: Medium).
Cryptocurrencies, such as Bitcoin, are digital currencies not backed by real assets or tangible securities. Gold, oil, and cash, for example, exist in the world and have real limitations in their obtainment and distribution, which establishes their price. Cryptocurrencies, on the other hand, are created by solving complex computational problems and are traded between consenting parties with no broker and tracked on digital ledgers. Instead, they are secured by ‘public keys’ and ‘private keys’ and different validation methods like Proof of Work (PoW) and Proof of Stake (PoS) (more on this later!). The public/ private keys differentiate between transactional information available to all in comparison with information only known to the user. Cryptocurrencies threaten the dominance of ‘fiat currencies’, that is, ones backed by faith in a government and minimise transaction fees charged by third parties (Source: Investopedia).
Bitcoin was established in 2009 by an individual or group under the pseudonym ‘Satoshi Nakamoto’. Bitcoin’s notoriety has come about because it was one of original cryptocurrencies and was the first blockchain-based cryptocurrency. Blockchain is a public registry of who owns what and who transacts what. This raises trust in users and makes it almost impossible to forge transaction histories (Source: Investopedia). For more on blockchain, you can watch blockchain expert, Bettina Warburg’s explanation here.
As of March 2021, there were over 18.6 million bitcoins in circulation with a total market cap of around $927 billion (Source: Investopedia).
So how does Bitcoin really work and what does it have to do with the environment?
Mining is the method by which cryptocurrency is released into circulation. It’s comparable to the process of minting currency. Miners compete to solve complex computational puzzles. Powerful computers make trillions of guesses to complete ‘blocks’ of verified transactions that are added to the blockchain. ‘Blocks’ of Bitcoin are equivalent to 1 MB (megabyte) worth of Bitcoin transactions. When a block is found, a miner broadcasts this solution to the network. Other miners verify that solution is correct and get paid fees to do so. Verifying one block is the easy part. In order for a miner to be rewarded with Bitcoin, they must be the first to arrive at the answer. This is known as Proof of Work (PoW) (Source: Investopedia).
Proof of Work (PoW) is the decentralised consensus mechanism that prevents anyone from taking advantage of the system and prevents the same unit of currency from being spent twice. Traditionally, when a transaction has taken place, we no longer possess that quantity of money when exchanging it for a good or service. When we spend cash, for example, that cash gets handed over to someone else and we no longer have it. With digital currency, however, it could be easy for hackers to upend the system or for the same quantity of money being spent twice. Proof of Work (PoW) prevents this from happening as the incurred cost associated with finding a solution, verifying it, and adding it to the blockchain singlehandedly would be greater than the reward of doing so. It’s too resource-intensive to overtake the network. See Proof of Work (PoW) explained simply here.
It’s clear that the process by which Bitcoin is legitimised is also the environmental downfall of the currency.
Historically, Bitcoin was mined with ordinary computers as the solutions to obtaining coins were simpler. As the currency is mined, however, it becomes more and more difficult to retrieve the same quantity of Bitcoin and thus more energy-intensive computers with large cooling fans are necessary to bring it into circulation. While there is a limit to Bitcoin at 21 million coins, there will still always be a need to legitimise transactions to uphold the integrity of the network and the total number of circulating Bitcoin shows no slowing down anytime soon (Source: Investopedia).
Due to the increased difficulty of mining Bitcoin, the reward for mining is halved every four years and can be predicted on the ‘Bitcoin Clock.’ The decreased viability of mining combined with a rising Bitcoin price results in miners needing to cut costs wherever possible and often they use older, less energy-efficient equipment (Source: Financial Times).
A number of people running energy-intense computers and cooling fans hardly seem to stack up against the plethora of greenhouse gas emissions produced globally. However, according to the Cambridge Centre for Alternative Finance (CCAF) (see Cambridge Bitcoin Electricity Consumption Index) Bitcoin currently consumes around 0.65% of total global electricity consumption. If Bitcoin were a country, this would rank it in the top 30 electricity consumers worldwide (Source: Smart Energy International).
Access CCAF’s study here.
Should we be taking these estimates with a grain of salt?
Yes. While it is clear that Bitcoin and other cryptocurrencies are energy-intensive, it is less clear as to how much carbon mining emits.
Energy consumption can be easily calculated by looking at the total computational power used to mine and process transactions (called the hashrate) and making an educated guess as to the energy requirements of miners’ equipment. Due to the competitive nature of mining Bitcoin, however, miners are not forthcoming about their operations. This adds to the uncertainty of how much carbon is emitted by Bitcoin (Source: Harvard Business Review).
There are also a variety of other factors that contribute to the ambiguity of greenhouse gas emissions from Bitcoin and other cryptocurrencies. Some computers will run more efficiently due to cooler climates, baseload energy sources differ based on miners’ locations, and the method for legitimising the coin can differ per cryptocurrency.
The forecasts about the environmental impact of Bitcoin are predicated on a number of assumptions including the future price of a coin, future price of network fees, network hashrate, mining location and the future energy mix of those miners’ locations (Source: Smart Energy International).
Ways Bitcoin and Cryptocurrency Could be ‘Greener’
As mentioned by the Financial Times, there are three main ways Bitcoin and cryptocurrency could be less energy-intensive:
1) Less energy-intensive consensus mechanism i.e. an alternative to Proof of Work (PoW)
While Proof of Work (PoW) is an excellent mechanism for legitimising Bitcoin, it is laborious and inherently energy-intensive. PoW is not the only option for checking that coins are spent correctly. Some alternatives include:
a. Proof of Stake (PoS)
The PoS method means legitimisers are randomly selected to generate a block of coin. Miners then validate blocks based on the amount of coins they hold, reducing much of the competition in the PoW system. Instead of having multiple computers working on one problem, PoS means that one computer will work on one problem reducing the energy required to legitimise a block. Read more about Proof of Stake here.
Only altcoins (i.e. coins that are not Bitcoin) use the proof of stake concept at this time. This gives hope for future coins as they become increasingly aware of the energy consumption of PoW.
b. Proof of Authority (PoA)
PoA is another alternative method to PoW and gives only a designated number of blockchain users the power to validate transactions. Read more about Proof of Authority here.
c. ‘Off-chain’ or ‘second layer solutions’
Second layer solutions are more energy-efficient than PoW as instead of conducting all cryptocurrency trade ‘on chain’, many transactions are moved to an off-chain platform. Off-chain trades do not incur main transaction fees nor are they recorded in the public ledger. They are instead recorded in a different database meaning that they do not need to be validated the same way as in a PoW system. These transfers are processed more quickly and efficiently, reducing energy consumption (Source: Publish0x).
2) Labeling clean cryptocurrencies
Labeling clean cryptocurrencies would help publicly display the climate impact of respective coins to investors and users. This could incentivise patrons to consider the impacts of the coin they wish to use. However, this may be hard to verify and does not treat the problem at its roots.
3) Offsetting with carbon credits
Offsetting greenhouse gas emissions produced from the mining of cryptocurrency and Bitcoin could be another way of addressing the issue. Companies like the Greenidge Generation (originally a coal-fired power plant and now a large miner of Bitcoin) have made a commitment to make their mining of Bitcoin carbon neutral by 2021. Additionally, The Crypto Climate Accord is working to ensure the cryptocurrency industry shifts to 100% renewables by 2030. However, this only treats the problem at the surface and does not address the climate concerns within mining cryptocurrency.
Crypto’s Climate Opportunity
Historically, cryptocurrency’s relationship with the environment has been worrying. That does not mean that it cannot be a climate opportunity in the future, however; the competition in the crypto space accelerates the need for low-cost renewable energy sources to fund their endeavors.
Typically, miners rely on baseload power primarily supplied by fossil fuels (but this is dependent on their location of mining). However, according to energy experts, Sean Ratka and Francisco Boshell from the International Renewable Energy Agency (IRENA),“the added attention this space affords can be used as a catalyst to achieve a 100% share of renewables in the power sector, making cryptocurrency mining a potential accelerator, not a roadblock, of an energy transition centred around renewables” (Source: Smart Energy).
While the method for mining Bitcoin is currently energy-intensive, there is hope in the future of other cryptocurrencies, altering methods of validating coins and mining in areas that are dependent on renewable energy sources.
Conclusion: More renewables are needed in our global energy-mix
Our conclusion? Bitcoin and Cryptocurrencies are like other energy-intensive industries such as transport and construction - only new and digital!
If we decarbonise our global energy mix, by using more renewables and make a cross on fossil fuels, Cryptocurrencies and Bitcoin will consequently pollute less. As with any other investment, we think investors should be mindful of their carbon impact.
At Bloom, we will always be committed to focusing on investments that take us to a cleaner, more sustainable economy. For now, we think Bitcoin & cryptocurrencies are not aligned with a positive climate impact investment.
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The information on this website is prepared by Bloom Impact Investment Services Pty Ltd (ACN 651 965 098 AR 001294778), who is an authorised representative of Cache Investment Management Pty Ltd (ACN 624 306 430 AFSL 514 360) (Cache). Bloom’s financial products are issued by Melbourne Securities Corporation Limited (ACN 160 326 545 AFSL 428 289), as disclosed in the relevant PDS. All information provided in this article is general information only and does not take into account your personal circumstances, financial situation or needs. Before making a financial decision, you should read the relevant product disclosure statement and target market determination consider whether the product is right for you and whether you should obtain advice from a professional financial adviser.