Issue #387: Bitcoin, incentives, and rationality

I hope all of you out there who celebrate the holiday had a very merry Christmas and are holding up well as you attempt to recalibrate your lives after a mid-week holiday. While some of us were nestled all snug in our beds, our boy Hugo dropped the fourth part in an ongoing series breaking down the individual parts that make up the Bitcoin network. In this piece, Hugo attempts to educate his readers on what drives the incentives within Bitcoin and how the system depends on human rationality to survive. I highly recommend you freaks peep this when you get a chance because Hugo, as always, does a great job of putting everything in laymen terms.

bitcoin knowledge — Hugo dropping knowledge.

When it comes to Bitcoin, there are three main incentive drivers, as you can see from the screenshot above. What I find extremely fascinating and even exciting is the fact that we do not have certainty around the third main incentive driver; transaction fees. This lack of certainty comes from the fact that the block reward has been a sufficient subsidy for miners up to this point. As every block reward epoch passes and the number of bitcoins distributed to miners by the protocol every ~10 minutes continues to get slashed in half, we will begin to discover if Bitcoin's incentives are strong enough to establish a healthy fee market to replace the block reward subsidy. We got a healthy preview of the dynamics of the fee market during the mania of last year when the total fees included in blocks almost matched the 12.5 BTC block reward.

What we learned during that particular [very brief] fee regime is that fees can jump precipitously when demand for block space increases in a short period of time, as it did last year. It will be interesting to see how the network reacts during the next mania considering the gains in efficiency the network has experienced with the adoption of SegWit and other upgrades that work to make Bitcoin more efficient. Hopefully, we'll see a more gradual rise in fees coupled with a somewhat mature Lightning Network that is able to take some of the burden off the protocol level. We still have a lot of education and UX improvements to accomplish before this vision can come to fruition, but I'm confident that we're making steady, material progress.