Oil cuts and Bitcoin Halving
Thanks Gwen for translation this article.
On April 20th, 2020 something very strange happened on NYMEX(New York Mercantile Exchange), the world’s leading commodity futures exchange.Texas crude futures closed at minus $37.63 a barrel. This meant that the seller had to ‘pay’ $37 to sell one’s oil. What led to this situation?
Roughly 90 million barrels of crude oil is produced a day globally. The combined production of the world’s top five oil-producing countries, the United States, Saudi Arabia, Russia, Iran and Canada, accounts for about half of this.
With the outbreak of coronavirus starting from January 2020, the demand of oil (quite obviously) declined dramatically. Experts predicticted a demand decrease of 20 million barrels per day, which implied that 20~25% of the world’s production will no longer be consumed.
The way market price moves is simple. It rises if there are many willing to buy, it falls if there are many wishing to sell. Due to the demand decrease caused by covid, oil price could only fall which lead to less revenue for oil producing countries. To increase revenue in given circumstances, oil producers engage in a sort of collusion. Also known as forming a cartel, this method maximizes revenue by artificially increasing market price through supply reduction. For example, if all five major oil producers and OPEC+ members, which account for over half of the world’s crude oil, cut production by 20 million barrels(the amount of demand decreased) the price of crude oil can easily surpass that of even before covid.
The problem is that this kind of agreement is never easy. Sure, it’s great if every stakeholder follows the agreement, but each oil producer has incentive not to. If a country betrays the agreement while all others follow, it can enjoy the increased price without decreasing production. This is a classic game theory — prisoner’s dilemma situation. If everyone cooperates, the maximum profit for all players is guaranteed. But the agreement never holds because it’s not the option in which the individual player can maximize his or her profit.
Let’s imagine an interesting situation: all oil producing countries have agreed to cut their production by half every four years to maximize their profit. Now here’s the important question.
“Can this agreement last?”
Realistically, it can’t. This is because, as stated earlier, these agreements are both politically and economically fragile in nature. In fact, the same applies to any other kind of resource existing on earth. A global consensus is almost impossible to reach.
However, what if there was a resource that has consistently kept its promise to cut production for the past 12 years? The answer, Bitcoin.
Bitcoin is similar to oil in terms of production procedure. Oil is extracted by plugging wellbores in oil fields, Bitcoin is extracted by plugging a high-end computer to the internet. That’s why people finding Bitcoin are called miners.
However, the difference between Bitcoin and oil is that in the case of Bitcoin, it’s schedule for production cuts for the next hundreds of years is recorded in a program. This is called Bitcoin’s halving. Unlike oil-producing countries, Bitcoin miners do not need to, and cannot gather to discuss production cuts in case of sharp price fall. Bitcoin’s production decreases by exactly half every four years, and related stakeholders can not only be pinpointed but are scattered too widely around the world anyway to reach an agreement.
The concept above is called the “51% attack”, an unfamiliar but frequently used core term of blockchain technology. 1)Rules set in advance 2)cannot be altered unless a cartel comprising more than half of all participants is formed. The even more interesting fact is that, when a clumsy attempt is made in the Bitcoin ecosystem to create a cartel, it may lead to huge economic loss(check the conclusion of Bitcoin White Paper). Through high-level cryptography theory and use of probability, Bitcoin overcame the prisoner’s dilemma by changing the rules.
Looking at this situation from a ‘decentralized or centralized’ perspective(this column is ‘decentralized chit-chat’), oil production is highly centralized with 5 countries producing half of the world’s production. Bitcoin, on the other hand, is not. In comparison to oil, it is similar to having an alliance with 200 countries uniformly producing 0.5% of oil and production cuts continuing unless half of the countries disagree. This is what decentralization is like in terms of supply of resources.
Sometimes these so called ‘experts’ argue that in the end the value of Bitcoin will converge to 0. Unfortunately, all cryptocurrency including Bitcoin and Ethereum who have a pre-planned production schedule and are sufficiently decentralized never had a price of 0. However, with the news of the failed OPEC deal along with the spread of covid, oil, which was named to be the source of civilization itself in the 21st century, recorded a price of not 0 but minus $37.63.
On the 12th anniversary of Bitcoin, the third halving of Bitcoin is expected(on 2020.05.12). How will the results of the third decentralized production cut be written in history for future generations? I’m looking forward to it.
