One of the most common criticisms of cryptocurrency is its negative impact on the environment. Some critics have also used this criticism to cast the entire Decentralized Finance (DeFI) space in a negative light.
While it is true that we cannot ignore the negative environmental impact associated with certain aspects of cryptocurrency, specifically the energy consumed in mining for certain cryptocurrencies, the main culprit is Bitcoin and, for the time being, Ethereum.
Cryptocurrency mining drives a large negative impact on the environment because of the amount of energy used to mine cryptocurrency.
Cryptocurrency mining is tied with cryptocurrencies which use proof of work technology.
In proof of work, cryptocurrency miners race to solve complex mathematical problems to validate transactions on the blockchain and receive a mining reward – using a tremendous amount of electricity and creating lots of e-waste.
Cryptocurrency Mining’s Environmental Impact
While not entirely limited to Bitcoin, the fact is any blockchain that underpins digital assets that run on a Proof-of-Work (“POW”) based protocol will require considerable amounts of energy. That’s because POW blockchains pit users, called miners, in a race using dedicated computers, called mining rigs, to randomly guess a solution for a complicated mathematical problem.
The winner that solves the cryptographic puzzle first earns the right to add the next block to the blockchain and earns the lucrative rewards and transaction fees associated with writing that block – called block rewards. A cryptographic problem is needed to prevent bad actors from taking over the network and rewriting the blockchain since the solution to the puzzle needs to be verified by most users before the block is written.
The mining process requires electricity to power and cool the rigs so much that miners resort to moving their machines to large-scale farms in colder areas or where electricity is cheaper. The places with cheaper electricity often depend on dirty coal and gas-fired electricity plants, further exacerbating the environmental damage. As crypto-mining is decentralized in nature, governments are finding it difficult to legislate change as miners will simply move to jurisdictions with lax regulations instead.
To give you a sense of scale, Cambridge University estimates that the electricity used by Bitcoin miners alone will exceed 130 terawatt-hours in 2022 – more than the entire country of Sweden uses. The energy required by Ethereum’s POW computations is estimated to be around 73.2 terawatt-hours annually, which is the energy equivalent of a medium-sized country such as Austria.
Additionally, the difficulty of the puzzle increases over time, so miners need to increase the computational power of their rigs. Thus, cryptocurrency miners need to constantly invest, upgrade and replace their dedicated mining rigs.
Gone are the days when an old spare laptop can be used for mining as cryptocurrency miners buy expensive graphics cards, CPUs, fans, and cooling systems, as well as motherboards to upgrade and replace their existing rigs. All the said requirements add to increased e-waste. E-waste is particularly dangerous due to toxic chemicals that naturally leach from the metals inside when buried or disposed of improperly.
Coupled with the astonishing growth of prices for digital assets, energy consumption and e-waste are expected to increase as more and more POW-based cryptocurrencies are introduced.
A Possible Solution – Proof-of-Stake?
One of the more promising solutions to the energy consumption and e-waste problems generated by POW consensus protocols is the movement away from POW-based digital assets to Proof-of-Stake (“POS”) consensus protocol.
Instead of requiring high-powered computers to expend lots of energy to earn the block reward, Proof-of-Stake protocols randomly assign the right to validate the next block and earn the block rewards associated with adding that block to the blockchain to a user who has locked up the required amount of cryptocurrency. Participants in such types of blockchain who put up the required amount of cryptocurrency are not called miners but rather stakers and, sometimes, minters.
In simple terms, staking is almost like pledging an asset so that you can be entered into a lucky draw where the winner gets the prize of writing the next ledger entry, or block, to the blockchain and earning the fees for doing so. You don’t lose the asset you pledge, regardless of whether you are chosen or not, and the more coins you pledge, the higher your chances of being selected as the lucky winner.
With all the stakers pledging cryptocurrency, it serves as a way of incentivizing good behavior as anyone who attests to malicious or wrong blocks or deliberately collaborates with bad actors loses their stake. You may also lose part of your stake if you fail to carry out your validation duties, say by going offline.
A quick search shows a few hundred cryptocurrencies that run a POS protocol. The largest and most well-known of these are BNB (Binance Coin), Cardano, and Solana. Each one comes with different requirements as the amount of crypto required to be pledged, as well as the minimum amount of time the crypto, is locked up.
However, the biggest change is expected to come in August 2022, when Ethereum will completely move from its current POW protocol to a new POS protocol. More precisely, Ethereum will merge its old blockchain with a new one, called the Beacon Chain. After the upgrade, the old POW blockchain will begin operating more slowly, incentivizing existing miners to become stakers on the new blockchain.
So how does POS help alleviate the environmental impact of cryptocurrencies? Quite simply, POS-based protocols will not require the use of expensive, high-energy usage mining rigs. You no longer need to race to solve a mathematical problem, but rather just stake the required amount of cryptocurrency. You then hope you are selected as the lucky one to write the next block to earn the block rewards.
Thank you for reading CFI’s guide to Cryptocurrency Environmental Impact. In order to help you become a world-class financial analyst and advance your career to your fullest potential, these additional resources will be very helpful: