The Great Bitcoin Arms Race

I got my first back deposit for mining bitcoins.  My wife didn't fully understand what I was doing, so I pulled up a Khan Academy video that explains what bitcoints are.  During that video, I learned something new about bitcoin mining.  I (like many other people) was under the assumption that the faster you can compute hashes, the faster you mine bitcoins.  This turns out not to be true.  The truth is, the faster you can compute hashes relative to everyone else that is mining bitcoins, the faster you mine bitcoins.  This turns out to be a huge distinction.  This distinction creates an atmosphere where miners must constantly invest in mining hardware just to maintain their mining rate.  Building mining rigs becomes an arms race against all other miners.

Bitcoin blocks are mined at a rate of around 2016 blocks every two weeks.  If it takes less than two weeks to mine the last 2016 blocks, then all the miners in the world "decide" to make the mining algorithm harder to solve.  They do this until the mining rate is back up to 2016 blocks every two weeks.  This forces the mining rate to stay roughly constant.  Any improvements in hardware only give the miner a temporary advantage until everyone else has an opportunity to catch up.

Below is a table of awards 4 fictional people would get over a period of 56 weeks.  In this scenario, Bob is very eager to earn bitcoins.  He has money to invest into his mining rig, so he is constantly buying better hardware to increase his share.  Mary is an active miner, but doesn't go out and buy the latest hardware right away.  Alice and Steve are casual miners who keep up with mining, but don't go out and buy hardware until they have to.

Period		Bob			Mary			Alice			Steve
	Type	Rate	Award	Type	Rate	Award	Type	Rate	Award	Type	Rate	Award
1	CPU	10	504	CPU	10	504	CPU	10	504	CPU	10	504
2	GPU	100	1551	CPU	10	155	CPU	10	155	CPU	10	155
3	GPU	100	916	GPU	100	916	CPU	10	92	CPU	10	92
4	GPU	100	650	GPU	100	650	GPU	100	650	CPU	10	65
5	GPU	100	504	GPU	100	504	GPU	100	504	GPU	100	504
6	FPGA	250	916	GPU	100	367	GPU	100	367	GPU	100	367
7	FPGA	250	720	FPGA	250	720	GPU	100	288	GPU	100	288
8	FPGA	250	593	FPGA	250	593	FPGA	250	593	GPU	100	237
9	FPGA	250	504	FPGA	250	504	FPGA	250	504	FPGA	250	504
10	ASIC	10000	1875	FPGA	250	47	FPGA	250	47	FPGA	250	47
11	ASIC	10000	983	ASIC	10000	983	FPGA	250	25	FPGA	250	25
12	ASIC	10000	666	ASIC	10000	666	ASIC	10000	666	FPGA	250	17
13	ASIC	10000	504	ASIC	10000	504	ASIC	10000	504	ASIC	10000	504

Below is a chart of what each person hot as a reward for their effort.

In the chart, all 4 people start out with equal shares of the award.  Bob decides to buy a GPU because he wanted to get ahead of the other 3 people.  His reward shoots up and everyone else's reward shrinks.  Mary notices this and decides to buy a GPU to keep up with Bob.  By week 6, Mary and Bob are making the same award, which is far larger than Alice and Steve's awards.  Alice then Steve each upgrade to using GPUs to keep up with Bob and Mary.  By week 10, everyone is making the same exact award as week 2!  Bob doesn't like this.  He remembers the "golden days" of mining during week 4.  He does some research and buys an FPGA that gives him a little bit of an edge.  Mary, Alice and Steve notice that their awards have dropped a bit, so they decide they have to invest in FPGA's to stay competitive.  By week 18, all 4 are making the same award as week 2.  Bob is really upset at this.  He has invest lost of money (to make money) and finds another upgrade to buy.  He decides to buy an ASIC device and his award jumps sharply.  Just like the 2 previous upgrades, it doesn't take long before everyone else has ASICs and everyone is making the same award again.

In this scenario, Bob keeps escalating due to the desire to get a larger award.  He has money to invest, so he keeps buying faster and faster hardware.  This leaves the other miners in a situation where they either have to invest in faster hardware, or they give up.  In a much larger population, there will be people who give up.  A lot of people will continue to mine, however.  Some may even respond by leap-frogging Bob.

If all the miners agreed to limit the hardware that they purchased, they would make more money.  In the long run, each miner would receive the same award, but they wouldn't have the hardware or power costs associated with the escalation.  This is a great example of the Prisoner's dilemma, however.  Each miner has an incentive to cheat.  The cheating only gives them a temporary advantage, but it is still an advantage.  This is actually studied pretty heavily in economics.  Every miner is essentially part of one big cartel.

In the end, do you participate in the arms race or do you give up?