The Bitcoin Fee Market
With the surging popularity of Bitcoin, congestion on the Bitcoin block chain is rising. This has severe implications for the cost of a bitcoin payment.
Constrained Supply and Rising Request
Miners presently observe a 1mb limit on the overall size of each Bitcoin block, which constrains Bitcoin to around 300,000 transactions per day. We’ve been bumping up against this limit for the last three or four months. As a result, a fee market in Bitcoin is developing, and we are eyeing dramatically rising miner fees on a daily basis.
Below is a chart of the miner fees BitPay has paid each month over the last year. The data does not reflect miner fees paid by people paying a BitPay invoice or fees paid by users paying from a Copay or BitPay wallet. These are the fees BitPay has paid to transfer its own bitcoin. The fees are normalized to USD to factor out the rising price of Bitcoin.
Over the time framework shown, our monthly miner fee expenditure has risen 35-fold. If we factor out our transaction growth of almost 3x, it is still almost a 12-fold increase. The fees aren’t just rising, they’re rising exponentially. At some point, an equilibrium will be reached and we will detect the true value of having a transaction secured by the most powerful computing network mankind has ever deployed.
The value of our average transaction is also rising. Many of the businesses we’ve signed up over the years have embarked using BitPay for B2B supply chain payments. And we have more and more enterprises signing up every day that need to make very large international plant and equipment related payments. For these customers, miner fees of a few dollars are irrelevant. It shows up that transactions for high value use cases will eventually crowd out smaller on-chain payments, and smaller payments will stir off-chain.
What Happens Next?
Some people believe that an alt-coin will rise and take over. We think that’s unlikely. What is actually happening is that a market is forming inbetween on-chain, mining-secured payments and off-chain, more conventionally secured payments. An off-chain payment could take the form of an alt-coin transaction, but the diminished security, enlargened volatility, and lack of liquidity of an alt-coin is going to make that a less attractive option. And, if several projects (like the lightning network) materialize, off-chain payments will become safer and more secure than more conventional off-chain payments. On-chain payments will still be the most secure option, but with adequate alternatives, request for on-chain payments will abate. The most significant competition is not inbetween Bitcoin and an alt-coin, it is inbetween on-chain and off-chain transactions.
In 2011, I would have never imagined we’d still be living with a 1mb block size limit in 2017. At the time, most people expected that the limit would be enlargened a few times until we commenced to practice real scaling thresholds imposed by physics. But in some sense, it’s a good forcing function to develop real alternatives to on-chain transactions and let a market inbetween fully trustless on-chain transactions and trusted (or semi-trusted) off-chain transactions develop.
As off-chain transactions in one form or another are increasingly adopted, market share growth will begin to diminish for miners. With their considerable investments at stake, they will be under pressure to increase transaction throughput to contest with off-chain payment solutions. We estimate that Bitcoin needs to achieve an approximate one hundred fold increase in throughput just to be viable as a savings and settlement medium (aka digital gold). Market coerces will shove in that direction, but we need seamlessly inter-operable off-chain solutions to relieve some of the pressure while work is done to securely increase on-chain throughput.
Markets and economics will eventually overwhelm any ideological stance community members hold. Miners may be compelled to increase the block size limit leading to a disorderly hard fork experiment. On the other palm, a user revolt might lead to a minority fork with identically disorderly results. Both sides of the debate seem to believe that Bitcoin will be demolished if the other side gets their way. We are somewhat less fatalistic — we believe a multitude of scaling solutions will materialize, and Bitcoin will love continued success.
In fact, we think Bitcoin is working ideally.
Interested in solving these challenges? BitPay is hiring.