There are at least a couple of incentives designed within the Bitcoin system to drive participation in, and growth of the Bitcoin system. First, there is an incentive to participate in the Bitcoin system through the creation of a new block which starts with the first transaction of a new block. Satoshi Nakamoto describes this incentive within the “Bitcoin: A Peer-to-Peer Electronic Cash System” white paper:
“By convention, the first transaction in a block is a special transaction that starts a new coin owned by the creator of the block. This adds an incentive for nodes to support the network, and provides a way to initially distribute coins into circulation, since there is no central authority to issue them. The steady addition of a constant of amount of new coins is analogous to gold miners expending resources to add gold to circulation. In our case, it is CPU time and electricity that is expended.” Page 4
As opposed to a central financial institution, such as the Federal Reserve issuing currency, a Bitcoin is created by means of the first work performed on a given block. I believe this distinction is important as it not only truly decentralizes the Bitcoin system, but it establishes an exchange of value up front in the process. A Bitcoin miner purchases equipment and expends effort on the mining of Bitcoin, in the expectation of receiving a Bitcoin, or partial Bitcoin (if operating within a mining pool) for the work performed. Bitcoin is issued based on exchange of value as opposed to the whims of centralized financial planners. This is one of the reasons why Bitcoin is said to be deflationary by nature when compared to traditional nation-backed currencies.
Another point of interest when considering the referenced paragraph above, is the establishment of mining terminology. Apparently the analogy of digital currency, or Bitcoin mining, was made prior to mainstream Bitcoin awareness. The Bitcoin system was designed to work similar to a gold mining operation, which interestingly enough, resulted in the rush to mine Bitcoins through ever increasing technical specs and cost of mining equipment, not unlike the historical gold rush in the U.S., but re-imagined for a digital age. Similar to the historical gold rush, those likely profiting the most from the digital currency mining are those selling pickaxes (Bitcoin miners) to the miners.
What happens when all the Bitcoins have been created? Will mining (i.e., transactions) simply halt? Nakamoto identifies a secondary incentive which addresses this contingency:
“The incentive can also be funded with transaction fees. If the output value of a transaction is less than its input value, the difference is a transaction fee that is added to the incentive value of the block containing the transaction. Once a predetermined number of coins have entered circulation, the incentive can transition entirely to transaction fees and be completely inflation free.” Page 4
My assumption is that transaction fees are not being issued at the moment, and this will kick in at the time that the last Bitcoin has been created. This assumption may or may not be correct. I am interested in knowing how the difference in transaction fee occurs. Is this based on efficiency, such as speed of a given transaction? For example, if the estimated time to complete a given transaction was one minute and the process only had taken 30 seconds? This is speculation at this point, but I would be interested in learning more about this aspect of Bitcoin mining.
A final thought concerning incentives within the Bitcoin system has to do with the rational self-interest of the participants:
“The incentive may help encourage nodes to stay honest. If a greedy attacker is able to assemble more CPU power than all the honest nodes, he would have to choose between using it to defraud people by stealing back his payments, or using it to generate new coins. He ought to find it more profitable to play by the rules, such rules that favour him with more new coins than everyone else combined, than to undermine the system and the validity of his own wealth.” Page 4
This is, in my opinion, the most intriguing aspect of the Bitcoin system. The inventor(s) assumed that participants would do what is in their own rational self-interest, rather than for a common or public good, or what someone would view as morally “right”. The rational self-interest aspect is perhaps the most robust part of the Bitcoin system. By assuming that each participant is going to do what is individually most profitable for themselves individually, it ensures that the Bitcoin system is designed in such a manner as to maximize the value to individual participants. If not, a participant one day could be an attacker the next.
1. J.R. Sedivy. Bitcoin: A Peer-to-Peer Electronic Cash System Abstract:
2. Satoshi Nakamoto. Bitcoin: A Peer-to-Peer Electronic Cash System:
3. Wikipedia. Satoshi Nakamoto: