No, Bitcoin is not Entering a 'Death Spiral'

Colin Muller

Bitcoin is nearly worthless and “is now entering a death spiral,” MarketWatch guest writer and Santa Clara University professor of finance Atulya Sarin wrote today in an opinion piece. His arguments come as the price of bitcoin has again faltered below $4,000.

Sarin’s arguments basically revolve around the assertion that mining on the Bitcoin network has become unprofitable and thus that the store of value guarded by the network’s hashing power will soon be unwound by miners leaving the network.

While it is accurate that mining bitcoin has almost certainly become unprofitable for some and miners have begun to leave the network, as CryptoGlobe has been reporting on, almost all of Sarin’s - it must be said - doomsday predictions are reheated arguments from Bitcoin’s past.

Repent Of Your Sins

First of all, the “Death Spiral” is new neither in substance, nor even in its label. In 2016, the Bitcoin network faced a similar bout of fearful speculation (even making an appearance in a Princeton article) as a Bitcoin halving event coincided with the well-known blocksize debate. People then speculated that a rash of transactions during the halving would clog up the network just at a time when miners’ rewards would be sliced in half, resulting in - yes - a “death spiral.”

Below is a screenshot of bitcoin’s price action during the halving.

halving.png(source: tradingview.com)

In addition to there being no halving concern at the moment, a standard response to mining cost issues is that Bitcoin’s software adjusts mining difficulty down as hashrate leaves the network. Sarin did duly mention this feature, but perhaps did not do it justice, saying “the cost of mining will algorithmically decrease, but not necessarily to same extent as the decline in prices.”

This seems precisely backwards: it necessarily will decrease all the way back down to zero if it has to, because it is computer code - although such a precipitous drop in difficulty could open the network to malicious attacks. Claiming with any degree of certainty that prices will drop so much that most miners will stop mining all at once, before the difficulty adjustment can catch up, is shaky ground indeed.

The oversights continue. For example, Sarin claims that “with limited technical knowledge and capital, anyone can mine bitcoins.” But these days, with inefficient miners probably the first to leave, and multi-hundred-million dollar mining farm operations going up, one may question Sarin’s assertion. Moreover, if mining is so easy, there should be little cause for concern that the network will be unguarded.

He goes on to assert that, although price has tanked before, this time is different because “the magnitude of the recent decline dwarfs the magnitudes of past declines” - a specious argument if we are thinking in percentages - but mostly because “futures markets have changed the game, enabling miners to estimate their mining losses and profits at the outset.”

The idea that futures markets are a novelty must refer to the CBOE and CME Bitcoin futures products, which did indeed launch only in late 2017. But, as CryptoCompare’s latest exchange review can attest to, those US regulated futures still account for a paltry amount of futures trading. Far more trading volume is accorded to exchanges like BitMEX - and BitMEX has been trading high leverage futures contracts for quite some time.

This Is Not Financial Advice

Ultimately, Sarin’s article seems exuberant about the prospect of Bitcoin’s end. And in typical fashion, he concedes that “Blockchain economy is here to stay” even though Bitcoin may die.

He is not the first to predict the preeminent cryptocurrency’s demise - indeed it has been proclaimed so many times that the process has been formula-ized into a rote activity. But stranger things have happened, and in the end Bitcoin may be as useless as tulips and Beanie Babies - probably not, though. Time will tell.

And after all, I can still give my wife a bouquet of tulips and make her happy. And I can still give Beanie Babies to my grandchildren to play with. But what am I going to do with a set of numbers that I cannot prove makes me an owner of anything?

Professor Atulya Sarin