Mine collapse: how ailing crypto miners could impact digital assets

As prices drop, energy costs soar, and Ethereum moves to proof of stake, crypto miners face greater obstacles to generating profit. In the article, we look at the drivers of crypto-mining activity and how it could affect the price of major crypto-currencies.

What’s the cause of the problems faced by crypto miners?

• Higher energy costs

Mining Bitcoin is notoriously energy intensive - not to mention environmentally unfriendly. As the price of oil, gas and coal have surged in response to high global demand, strict policy from oil producing countries, the transition away from fossil fuels, and the war in Ukraine, the cost to power Bitcoin mines have skyrocketed. According to data organised by Visual Capitalist, the average cost to mine a single Bitcoin globally was more than $35,000 as of August 2022.

As can be seen in the chart below, the cost differs greatly by jurisdiction. Energy abundant in the countries in the middle east have some of the lower costs to mine. While developing nations have typically the highest costs. Setting up a mine in a low-cost jurisdiction isn’t simple, however. Establishing a mine can be inhibited by local regulation, as well as shortage of the technology and resources needed to establish the servers to begin the mining process.

As costs have increased, especially in countries bitten by higher energy prices, Bitcoin miners have run into issues with cash flow and liquidity, driving manay to collapse.

• Ethereum moves to proof of stake

As we detailed here in the past, Ethereum is nearing its so-called “merge”, which would see its network move from proof of work to proof of stake. This shift will see the network validated by validators selected on the basis of their quantity of holdings of ethereum, and not by miners, who would validate the network based on the time taken to secure and verify the network. The transition removes a significant incentive to mine Etheruem in particular, but has a knock-on effect to the broader crypto space as it reduces the marginal benefit for miners - who often mine multiple coins - to operate.

• Lower prices reduce incentive to mine

Of course, higher costs and few rewards to mine would be offset if prices were high enough to incentivize mining. However, as costs have increased, the price of crypto currencies have fallen even quicker. In the case of Bitcoin, prices have fallen by nearly 75% from peak to trough, with another weekend sell-off for the crypto pushing nearer to those lows. Taking that average of energy cost per mined Bitcoin of around $35,000, current prices in the low $20,000s or lower means it’s deeply unprofitable to mine Bitcoin currently. If expectations become embedded that prices will fall further, that will further decentivize the running of any mine.

How could this impact crypto prices?

Compared to some of the drivers we outlined here last week, the collapse in crypto-miners will have a small effect on prices in the short-term. However, the longer impact on the value of crypto-assets will come down to supply and demand. Fewer miners will reduce supply of new tokens onto the market, which therefore ease downward pressure on prices. When it comes to the health of the miners themselves, and some of the coins and brokerages that rely on mining activity, it’s likely that the stress in the industry will not ease until some combination of higher prices and lower energy costs return. This will likely rely on weaker global economic activity, much lower inflation and interest rates, and a solution to the supply side constraints – like the war in Ukraine - on energy markets.

A look at Bitcoin’s technicals

The recent run-up in the price of Bitcoin looks to be merely countertrend, as price moves lower and retests major support around the previous bull-market cycle high of $US19,500. A sustained break below that level could open a much deeper drop, with the next level of support around the $US12,000 - $US14,000 zone. On the upside, major technical resistance looks to be around $US28,000.

Bitcoin weekly chart