The (un)sustainable bitcoin

In 2020, investments in ESG sustainable funds more than doubled compared to the previous year, rising from 21 to 51 billion dollars –a sign that the world of finance, too, is increasingly paying attention to environmental issues, among others. ESG stands for environmental, social and governance: hence, related ESG funds denote those funds sensitive to such issues, providing buyers only with stock in companies that have scored highly in their sustainability rating.

Millennial investors are the main drivers of this phenomenon, as they have grasped that this is another way to fight climate change and support social inclusion. “They have sustainability concerns and are starting to realize we can address those through our investments” sums up Jon Hale, head of Morningstar, a company specialised in sustainable investments.

And this is perhaps a viewpoint that will also allow us to better understand bitcoin’s fluctuating trend. Although the most notorious cryptocurrency has little to do with traditional finance, it’s well known that millennials pay a lot of attention to bitcoins as a form of capital goods, which means that, unavoidably, their value is increasingly scrutinised in terms of sustainability, too.

Bitcoins have gained high visibility mainly thanks to an entrepreneur who’s become a true point of reference for many millennials: Elon Musk, the founder of Tesla and SpaceX, as well as an influencer with tens of millions of followers. On 12 May 2021, a simple tweet by Musk threw the cryptocurrency world into chaos, as he announced that Tesla would no longer accept bitcoin payments due to the very high energy consumption required to mine cryptocurrencies. Within a few hours, the value of bitcoins dropped by over 10%.

A stark turnaround for an entrepreneur who, only a few months earlier, had caused the price to soar by declaring that Tesla had purchased 1.5 billion dollars in bitcoin. A case in point that illustrates how the environmental angle is one of the main sore points for this digital currency introduced in 2009, and which also highlights how the growing interest in it can seriously influence the performance of the crypto market.

Yet, how many resources can a currency that can’t actually be used in the world and involves only 400,000 transactions a day (compared to a billion for credit cards) take up? Though the use of bitcoin is almost exclusively limited to speculative buying and selling, its energy consumption is impressive: according to the Digiconomist’s index, which keeps track of bitcoin’s environmental footprint, the energy required for cryptocurrency transactions amounts to about 130 terawatthour per year, more than the demand of a country like Argentina and just under that of Sweden.

But why does producing bitcoin involve such energy consumption? In a nutshell, to ensure that all transactions on the blockchain (the distributed ledger that regulates the functioning of bitcoins) are authentic, tens of thousands of computers –referred to as nodes– connect to this digital chain and supervise its functioning, and are then rewarded with bitcoins.

In short, every time a node gives the greenlight to a transaction on the blockchain, it receives a certain number of bitcoins (currently 6.5 but the figure is halved every four years). Actually, a transaction is not approved by all the computers on the blockchain, but only by the first that succeeds in solving an incredibly complicated algorithmic puzzle. Therefore, the process becomes a kind of computational race that involves tens of thousands of computers connected to the blockchain, competing with each other to come first. This is the so-called ‘proof-of-work’ system, which encourages participants to get increasingly powerful machines in order to up their chances to win the race and earn some bitcoins.

However, it’d be a mistake to think one could participate with just a normal computer, as was the case at the beginning: nowadays, bitcoin mining is performed by real professional factories (known as “mining pools”) that employ hundreds, if not thousands, of specialised machines linked together to maximise the chance of winning the computational race. The undisputed protagonist in bitcoin mining is China, home to the vast majority of professional cryptocurrency mining companies, from which about 60% of the total computing power used come from. However, China’s leading position has a downside: according to reports by the Cambridge Centre for Alternative Finance, the amount of renewable energy employed in mining doesn’t exceed 38% of the total global amount.

And here’s the heart of the matter: the computational race between professional mining factories causes enormous energy consumption, which is largely met by fossil-based energy. The financial sector’s increasing focus on sustainability has therefore inevitably spilled over into the world of bitcoin and other digital currencies, leading to an unavoidable question: can cryptocurrencies be sustainable?

Fortunately, the answer to this question is yes. Many blockchain companies offering alternatives to bitcoin have in fact adopted a completely different system to validate their transactions. This new system is called proof of stake: it randomly selects nodes to participate in the blockchain, rather than rewarding the single winner of a computational race. To avoid fraud, a sum of money must be paid as a deposit: the higher the sum, the greater the chance of being selected by the system. Moreover, anyone caught trying to cheat will lose the deposit and may even be permanently banned from the blockchain.

This creates a completely different dynamic that requires less than 1% of the energy used by bitcoin for each individual transaction, and which also allows digital currencies to significantly increase the number of transactions handled from seven to several hundreds per second. Dozens of cryptocurrencies, such as Cardano, Polygon, Tezos and other major players in the blockchain world are already using this system. The real turning point, however, will come when Ethereum –the second largest cryptocurrency (with a market capitalisation of 270 billion dollars), which has long been working to become sustainable–  will have fully transitioned to this scheme.

It’s important to note how, unlike bitcoin, all these companies are not merely associated with currencies devoted to speculative purposes –they also allow the blockchain to be used for several other applications. Cardano, for example, recently signed an agreement with the Ethiopian government to exploit distributed ledger technology in schools, using it to keep track of students’ performance, identify promising talents and eliminate the country’s habit of forging school records. Ethereum, meanwhile, is the undisputed leader in the field of NFTs (non-fungible tokens): these are a particular kind of cryptographic token that allows to authenticate digital artworks, thus enabling artists to obtain financial compensation for their work. Further, other companies make it feasible to exploit the full potential of smart contracts, that is, contracts on the blockchain that are automatically executed as soon as the conditions between parties are met (e.g. a company’s payment to its supplier).

Going beyond speculative matters related to the world of cryptocurrencies –which nonetheless represent an extremely risky sector, highly volatile, unregulated and unprotected– it therefore becomes obvious how blockchains embody great potential, also within social, cultural and economic spheres. Yet, all this potential will never be released if this ecoysystem becomes unwittingly associated with unsustainable consumption. Be that as it may, it finally looks as if some companies –particularly those looking past mere speculation– have become aware of this issue, and started acting on it.

Freelance journalist, writes about New Technologies, Politics and Society.