Why is the mining hash rate increasing while the Bitcoin price is falling?

The Bitcoin price has fallen from a peak of around $20,000 in Dec 2017 to $6500 as of today, a 67% fall in less than 8 months. In the same time period, the mining hash rate has risen from 15 EH/s to 45 EH/s, a three-fold increase.

The conventional wisdom on cryptocurrency mining states that hash rate generally rises with prices, with the opposite being true for falling prices. This occurs because, with rising Bitcoin price, more miners are incentivized to come online to earn a share of the block reward proportional to their hash rate. With falling prices, miners with marginal costs of mining (one bitcoin) higher than the price of Bitcoin start dropping out leading to a reduced hash rate. As expected, the hash rate has increased with increasing price, however, counter-intuitively, the hash rate is also continuing to increase rapidly with a falling price.

Why are more miners coming online even when the Bitcoin price is falling?

The current block time is 10 minutes and the winning miner is rewarded with a block reward of 12.5 Bitcoins. The probability of winning the block reward is proportional to the miner’s hash rate as a percentage of the total hash rate.

The main operational cost in Bitcoin mining is the electricity cost for mining hardware. The cost of electricity and therefore the marginal cost of mining one Bitcoin varies around the world. It is also to be noted that most of the mining hardware (Application Specific Integrated Circuits- ASICs) are manufactured in China by a handful of companies.

The currently estimated marginal cost of mining a Bitcoin is around $4700 in the USA and as low as $3000 in China with the latter having the most ease of access to mining hardware as well. With the current price of Bitcoin at $6500, most of the amateur miners around the world are under water and are dropping out of the mining market as the price falls.

The professional miners with ASIC farms are however making a decent profit even at this low price and are even incentivized to bring more ASIC hardware online as long as the price remains above their marginal cost of production. The incentives, however, are stronger for the Chinese miners with a very low marginal cost of $3000.

Since the block reward is fixed in the short term, at 12.5 Bitcoins per 10 minutes, assuming the current price of $6500, any expansion by the Chinese Miners will come at the expense of the miners with a higher marginal cost of production.
Ceterus paribus, this should continue until the marginal cost of mining across (the remaining) operations are equalized.

Considering the economics, the mining infrastructure will tend to centralize more and more as the price continues to fall further. In theory, the mining will move to locations with the lowest unit cost of electricity but in real life, most mining infrastructure will tend to centralize in China as they have direct access to large quantities of highly efficient ASIC miners as well as one of the lowest marginal cost of mining.

Therefore one should expect the hash rate to continue going up even as prices continue falling. Higher marginal cost miners will continue dropping out of the market with more efficient miners gaining market share. It is possible for the price to fall below the marginal cost of the most efficient (least cost) miner; it is at this point that the hash rate will start falling with a falling price. It may be quite likely that some miners will continue mining at a loss for some time before finally deciding to gradually start shutting down hash power.

This tendency for extreme centralisation can only be alleviated by increased competition in ASIC manufacturing and as a consequence, an improved access to mining hardware around the world. Even with such competition in hardware manufacturing, miners will gradually move to regions around the world with the lowest unit cost of electricity (normalised for socio-economic and political factors).

The Bitcoin mining business is, therefore, a relatively free market at play with more efficient miners gaining market share at the expense of less efficient ones.

One final point to note is that the design of the Bitcoin protocol ensures that even if a single miner controls 100% of the hash rate, it is still strongly incentivized to not engage in a double spend attack (at the risk of destablising the network and a sharp depreciation in value) and continue mining the chain in an honest manner.

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