Diving Into The Bitcoin Difficulty Adjustment After Saturday's Historic Drop

As Bitcoin underwent its largest downward difficulty adjustment in history, miners may have rejoiced: the 27.94% reduction in difficulty makes mining easier and therefore more profitable for current miners. The drop corresponds with the large amount of miners being pushed offline in China in recent weeks.

The difficulty level determines how difficult it is for miners to solve the computational puzzle required to find a bitcoin block. The more hash rate the network gains, the faster blocks can be mined, and vice versa. Every 2,016 block, or roughly every two weeks, the difficulty is therefore automatically adjusted based on the current hash rate.

This seems simple, but its importance cannot be overstated. While Satoshi combined many previous innovations in the creation of Bitcoin, the difficulty adjustment is unique to the protocol alone.

Causes For The Historic Drop In Difficulty

China's broad crackdowns on the mining industry and the corresponding exodus of miners from its borders have led to a drop of more than 60% in hash rate since mid-May highs.

Hash rate measures the total computing power participating in mining blocks. Thus a low hash rate typically corresponds with less active miners.  

Until very recently, China had long been the global leader in Bitcoin mining. Previous estimates showed China holding 65% of Bitcoin's total hash power at one time.    

Things have changed quickly since May, when a sweeping series of crackdowns began taking much of that hash power offline within the country. 

The previous two difficulty adjustments were also downwards due to dropping hash rates in China, with a 16% reduction on May 29th and 5% reduction on June 13th. 

Leading into last weekend, the historic drop was widely expected.

How The Difficulty Adjustment Works

One of Bitcoin's most prominent features is its fixed supply of 21 million coins released on a predictable and uninterruptible schedule. In order to adhere to this schedule, the network must ensure that a new block is mined roughly every ten minutes on average. 

The difficulty adjustment allows for natural regulation when it comes to keeping the blocks roughly ten minutes apart.

Miners compete to create these new blocks by solving computational puzzles required to find a bitcoin block. When a new block is mined, the miner responsible receives a fixed reward in bitcoin, thus increasing the total supply of coins in the network.  

Every 2,016 blocks (approximately every two weeks), an adjustment is made based on the average time it took to mine the previous 2,016 blocks.

If the blocks take less than ten minutes on average, hash power is likely high. This means many miners are on the network competing, decreasing the time it takes to mine a block. In response, the difficulty adjustment will rise for the next period.

If blocks take more than ten minutes on average to mine during a difficulty period, hash power is likely low (meaning less miners are competing). In this case, the difficulty will fall for the next 2,016 blocks. This way, Bitcoin's average block time of ten minutes is ensured.

What Happened Following the Latest Adjustment?

Since the adjustment, block speeds have increased considerably. The median confirmation time was up to 26 minutes before the adjustment, but has dropped all the way down to just nine minutes since. This means that miners are seeing large boosts in revenue, which has been echoed by sentiments on Twitter. 

Some miners that were previously unable to compete (such as those with older mining rig systems) can now mine more efficiently; an increase in hash rate over the next few weeks as they come back online is therefore possible.  

This would lead to increased competition and eventually begin to drive up the difficulty again.

There are still open questions as to when the hash rate will fully recover, but until then, bitcoiners are enjoying what they see as a major victory for the protocol.