Bitcoin by Ross #8: Is the Block Reward Halving Bullish?

By Ross Ulbricht

Every time a block is added to the Bitcoin blockchain, the miner who discovered it is rewarded with new bitcoins according to a schedule set up when Bitcoin was first launched. The reward started at 50 bitcoins per block and is cut in half every four years, eventually reaching zero. The next halving is set to occur in May 2020, reducing the reward to 6.25 bitcoins. This has led to speculation about how this event might affect the value of bitcoins.

The reasoning goes that, if the rate (or flow) of new bitcoins being added to the current total stock of bitcoins is reduced, then the value of all bitcoins should increase. This so-called “stock-to-flow ratio” is a measure of how hard a currency is (how hard it is to debase through inflation). The harder a currency is, the better it functions as a store of value, which is one of the essential properties of money.

This sounds reasonable, so we should be able to look at how the value of bitcoins changed after the last two halvings and see the effect. The block reward halved from 50 to 25 bitcoins on November 28, 2012 and again from 25 to 12.5 on July 9, 2016. In both instances, the value of bitcoins as measured in U.S. dollars (the biggest market for bitcoins at those times) increased dramatically, by more than ten-fold.

It sounds like an open and shut case. We have an hypothesis — that an increase in the stock-to-flow ratio will lead to an increase in value — that has proven correct in both instances that it occurred. Now all we need to do is load up on bitcoins before May 2020 and watch the profit roll in. Before you do, let me point something out.

The block reward schedule has been known publicly since Bitcoin’s inception. It is not a secret, so we are not the only ones who know there will be a halving in May 2020, nor are we the only ones who know what happened to the value after the last two halvings. Everyone knows. Therefore, to profit from this knowledge, you must buy in before everyone else who is hoping to profit from it.

“No problem,” you might say. “I’ll just buy in a few days before the halving and beat everyone to it.”

That’s great except there is nothing stopping everyone else from doing the exact same thing! It is a race to be first all the way back to the present day. The name for this is “discounting,” and the idea is that all publicly available information about an asset is already factored into its current price.

“OK,” you say. “Then why did the value rise after the first two halvings? Everyone knew about those too, so the halvings should not have had any effect.”

Did they have an effect? Those halvings occurred during a truly spectacular bull market in which bitcoins rose in value 75% of the time (see here). With those odds, it is more likely than not that both halvings would occur during an uptrend just by chance. In other words, we can’t say that the stock-to-flow hypothesis was validated, so we can’t use it to predict what will happen this next time around. However, that does not mean the value won’t rise, or that it will fall. It just means that if it does, it probably is not due to the halvings.

What we can say about the upcoming halving is that it can be used by bulls to justify being bullish, just as bears can use the discounting hypothesis to ignore it and justify being bearish. Why the bulls are bullish and the bears bearish in the first place is another question entirely and one I address here.