The implementation of Difficulty Adjustment was a stroke of genius by Satoshi Nakamoto, the pseudonymous creator of Bitcoin. Without this feature, Bitcoin's scarcity — and therefore one of ts most important value propositions — could not be guaranteed. To understand how absolute scarcity can be ensured, we need to look at the specifics of the Bitcoin offering.
In “The Fiat Standard” by Saifedean Ammous, the “difficulty adjustment” is described as the “secret ingredient” that distinguishes Bitcoin from previous digital currencies and allows Bitcoin to remain hard money that cannot be easily inflated. As it says in the text: “Only when you understand the difficulty adjustment can you understand the incredibly rapid rise in the value of Bitcoin” (Ammous, Saifedean. The Fiat standard. Aprycot Media, 2022, p. 365).
The maximum amount of Bitcoin ever in existence is around 21,000,000 units. Not all Bitcoins were put into circulation at once, but Satoshi Nakamoto decided to limit the spending rate and halve it every four years. In 2009, the issue rate per block was 50 Bitcoin, four years later 25 Bitcoin, then 12.5 and by 20.04.2024 6.25 Bitcoin per block. The spending rate is currently 3.125 Bitcoin. In 2028, the rate is reduced to 1.5625 Bitcoin per block. There is therefore a fixed timetable for issuing Bitcoin, which was transparently visible from the start. All network participants can verify when halvings are taking place.
Now you know how many new units are in circulation per block. What is still missing is the block time, i.e. the distance between the blocks. This must not be too short, for example, to ensure error-free synchronization of the network worldwide and not to overburden the nodes. For example, if the block time was just one second, the nodes wouldn't have enough time to verify new blocks and forward the information around the world, which could lead to network inconsistencies. The block time must also not be too long so that transactions do not have to wait unnecessarily long for confirmations. Satoshi opted for an average block time of 10 minutes, which seemed like a good middle ground in retrospect.
One question remains: How can this average be maintained when miners, who have to invest computing power to obtain new Bitcoin, use ever more powerful hardware and the number of mining devices is constantly increasing? Satoshi implemented the Difficulty Adjustment for exactly this problem.
You can think of Bitcoin mining as a big puzzle that special computers have to solve. A puzzle can always be solved, the only question is, how much time does it take? It depends a lot on the size of the puzzle. Bitcoin automatically adjusts the difficulty level of the puzzle: It gets bigger (harder to solve) when more miners work on it, and smaller (easier to solve) when fewer miners are active. In this way, the level of difficulty always adapts exactly to the current circumstances to ensure that the puzzle is neither too easy nor too difficult.
As the computing power of individual miners increases, so does the hashrate, the measure of the total computing power of all participating miners, expressed in units of hash calculations per second. Without the difficulty adjustment, increasing computing power would lead to ever shorter block times, which could destabilize the network and result in more Bitcoin being emitted faster than planned.
For this reason, there is this mechanism that adjusts the difficulty for all 2016 blocks, i.e. approximately every 2 weeks, based on the time required for the previous 2016 blocks. If the hashrate has increased during this period, the difficulty also increases. If the total computing power in the Bitcoin network has dropped, it will be “easier” for miners to find a block after the difficulty adjustment. The maximum possible correction of the mining difficulty is limited to a factor of 4 — this means that the difficulty can be increased to a maximum of four times or reduced to a quarter during an adjustment.
Bitcoin therefore has an adjustment mechanism, without which Bitcoin's issuance schedule, which is designed for an average block time of 10 minutes, could not be met and its scarcity could not be guaranteed.
Source: mempool.space
The Bitcoin Difficulty Adjustment is therefore a mechanism that plays a central role in Bitcoin's security model and ensures the stability of the network. Saifedean Ammous, economist and bestselling author, sums up this uniqueness:
“Bitcoin is the only asset in the world where supply is inelastic to demand.”
Let's take gold as an example: If demand for gold increases, so does the price that buyers are willing to pay. This motivates mine owners to intensify mining, which will inevitably lead to an increase in the supply of gold. This rule of thumb applies to almost all goods in the world: When demand increases, supply follows over time — except for Bitcoin. Here, supply is predefined and is not affected by demand.
You can actually say that Difficulty Adjustment is the secret ingredient that makes Bitcoin a robust and stable network. It ensures that it remains efficient and secure, even though the amount of computing power and the number of miners are constantly changing. As a result of this automatic adjustment, the block time remains stable at an average of 10 minutes, which is crucial for compliance with Bitcoin's fixed issuance schedule and its scarcity. This unique feature sets Bitcoin apart from all other known assets and makes it a reliable and predictable store of value whose supply remains independent of demand.
Without the Difficulty Adjustment, Bitcoin would not be the robust and groundbreaking financial instrument it is today.
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