China Rethinks Its Central Role In Bitcoin Mining

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Bitcoin enthusiasts value the cryptocurrency as beyond the reach of any government. Yet up to three-quarters of the world’s supply is produced in just one country, China, where a government effort to curtail production is now causing global bitcoin turbulence.

The amount of electricity needed to power large numbers of computers used to create new bitcoin is at odds with China’s recent climate targets. The government, which manages its national currency with a tight fist, is also frowning on cryptocurrency in general. China has not allowed a legal exchange of bitcoin for years, even as the country’s entrepreneurs emerged as the dominant source of its output.

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Few governments have embraced bitcoin, but the fallout from Beijing’s threats showed how its hold on manufacturing left the cryptocurrency vulnerable.

The 24/7 number of crunches needed to create, or “mine” bitcoin relies on an ample supply of cheap electricity and equipment, some of the same elements China has used to become the world’s manufacturing hub.

In their hunger for market share, China’s bitcoin miners took advantage of an underregulated and overbuilt electricity generating sector. They set up mining operations alongside hydropower producers in the mountainous provinces of Sichuan and Yunnan, where turbines convert melting snow and seasonal downpours into electricity. With the rivers less flowing each winter, miners packed up their computers and headed north to coal-rich Xinjiang and Inner Mongolia.

Chinese bitcoin production operations aren’t as dirty as real-world mines, but a consultant notes they don’t resemble the ultra-sanitary space-age environments of science fiction: “In the movies, they’re cleaner and more presentable.”


Photo:

Paul Ratje/The Washington Post/Getty Images

Mining activities in China, sometimes tens of thousands of computers linked together to solve complex math puzzles, consume electricity. According to a peer-reviewed paper published in April by Britain’s Nature Communications, the bitcoin industry is on track to be one of the top 10 power users in China, alongside sectors such as steelmaking and cement production. That would make Chinese bitcoin producers bigger energy consumers than the entire country of Italy.

That voracious appetite has brought bitcoin mining into conflict with Beijing’s political priorities. President Xi Jinping is determined to recast China as the climate champion and has set ambitious goals to reduce coal use. Beijing is also about to launch a national digital currency, controlled by the central bank and designed to counter cryptocurrencies.

China’s bitcoin production is reminiscent of the nation’s rule in other high-tech realms, from the production of rare earth mineral materials to video surveillance equipment-with one important difference: Beijing’s distrust of cryptocurrencies.

On May 21, the Chinese government vowed to “address the mining and trading behavior of bitcoin,” a statement widely interpreted as a warning that the multi-billion dollar supply chain of the cryptocurrency days are numbered.

In response, power generators are ejecting miners from the network and Chinese dealers unloading computers designed to create bitcoin into the second-hand market at huge discounts.

Shake production

None of this means the world will run out of bitcoin. Instead, mining in China is likely to slow and accelerate elsewhere. Miners in other countries had already cut China’s manufacturing dominance in the past 18 months, according to figures from the University of Cambridge, which estimate the US’s share has grown, accounting for about 7% last year.

But even despite industry expectations that the US’s share could grow to perhaps 40% in the coming years, the bitcoin community had thought China would retain nearly half of its mining operations.

“In China, it has always been thought that the government will act,” said Nishant Sharma, founder of Beijing consulting firm BlocksBridge Consulting Ltd.

Still, he said, “I see so much panic.”

Concerns about disruption from the upheaval in China have weighed on bitcoin’s price, along with news last month that

Elon Musk‘s car manufacturer

Tesla Inc.

had stopped accepting as payment, also for environmental reasons.

Early participants

Bitcoin’s history in China owes much to an earthquake that shook southwestern Sichuan province in 2013 millions of donations pouring into charities in the aftermath, some stood out: donations of bitcoin to a foundation run by Jet Li, the Chinese campaigner.

The resulting buzz about bitcoin intrigued an employee of the Shanghai telephone company, Jiang Zhuoer, who bought two computers that winter and started mining at home. His setup quickly generated $500 to $700 a month and also heated his apartment, he recalled in an interview.

Also that year, a team of technology enthusiasts in Beijing began designing computers specifically for creating new bitcoin. Their venture, Bitmain Technologies Ltd., used parameters published by bitcoin’s unidentified architect, which was translated into Chinese by one of them.

Chinese companies like Bitmain have built a lucrative niche in the sale of specialized bitcoin mining computers.


Photo:

Artyom Geodakyan/TASS/Getty Images

Chinese regulators — chastised by a pattern of financial mania and the failures that inevitably followed — telegraphed fear. The government-controlled news agency, Xinhua, called bitcoin “no more than privately manufactured money circulating on the internet.”

Eight months after the Jet Li donations, regulators torpedoed any idea that the trendy asset was welcome in China’s financial system. Led by the People’s Bank of China, Beijing banned the country’s banks from processing cryptocurrency.

Beijing has tightened the screws again in 2017 by: ban various uses for cryptocurrency, including online trading.

However, the Chinese authorities have not established a specific policy on bitcoin’s output, so enthusiasts continued to mine.

Inspired by back-of-the-envelope calculations about profit, rather than technical knowledge, real estate tycoons and factory owners converted cheap warehouses into data farms, bought electronics from Shenzhen and stacked computer servers on rough racks next to loud cooling fans.

“In the movies, they’re cleaner and more presentable,” says BlocksBridge’s Mr. Sharma. “In China they are not as clean and the jungle of wires is worse.”

Because cryptocurrency mining involves solving increasingly difficult math problems, each new unit of the crypto requires more computation time — and energy — than the one mined for it. That means the earliest and most aggressive producers had a huge advantage.

Bitcoin was manna for power plant owners, often regional governments in quirky places that had expanded generation capacity based on thin projections of industrial demand.

Revenue-hungry power generators promoted themselves as major data centers, such as Sichuan’s Aer III Hydropower Station on the Tibetan Plateau, which began hosting 1,750 bitcoin mining machines on-site in 2019. Miners sometimes stole electricity, including one convicted of diverting power lines to take electricity worth $125,000 in six months to run his more than 400 bitcoin machines. He was sentenced to 11 ½ years in prison in 2019 by a court in the northern province of Liaoning.

Some of China’s biggest winners focused on maintaining miners – a model followed in the mid-19th century by

Levi Strauss,

who got rich equipping prospectors in California’s gold rush.

Bitmain, for example, emerged as the world’s leading producer of mining computers by developing microchips optimized to handle the equations that create the cryptocurrency. Hurun Report, the wealth tracking service in Shanghai, has crowned three of Bitmain’s largest shareholders as billionaires, including 42-year-old Zhan Ketuan with an estimated net worth of more than $15 billion.

The telephone company employee turned miner, Mr. Jiang, is now chief executive of megaminer BTC.Top, a pool of 400,000 machines. The 36-year-old says Beijing’s latest guidelines could herald a return to smaller data centers and decentralized output, and he is considering exporting some equipment to North America or Central Asia.

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Industry proponents in the West say mining is losing its cowboy image and momentum is shifting to countries with more predictable regulatory regimes, especially the US. The Internal Revenue Service Has Enacted Cryptocurrency Policy, US Banks Offer Custody Services For Bitcoin And utilities beckon miners to natural gas power plants in New York State and solar parks in Texas.

Beijing’s crackdown should improve the currency’s long-term prospects by alleviating the market’s “fear, uncertainty and doubt that China is mining all bitcoin,” said Sue Ennis, head of business development at Toronto-based cryptocurrency. company Hut 8 Mining Corp. “Anyone who is not in China sees this as an opportunity to take a bigger slice of the pie,” she said, noting that her company is adding additional capacity to accommodate miners looking to leave China.

In one of Bitmain’s largest overseas orders to date, in Las Vegas

Marathon Digital Holdings Inc.

ordered 70,000 machines for it to install on bitcoin farms in Hardin, Mont., and Big Spring, Texas.

Until now, the mantra of bitcoin mining has been “what is the cost to produce in China and what is the risk?” says Marathon CEO Fred Thiel. Now that the crackdown is underway, he says, the risk has become apparent.

—Liyan Qi and Elaine Yu contributed to this article.

Write to James T. Areddy op james.areddy@wsj.com

Corrections & Reinforcements
Levi Strauss got wealthy prospectors in the mid-1800s during the California gold rush. An earlier version of this article incorrectly referred to the period as the 1880s. (Corrected June 5)

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