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FILE PHOTO: A view shows equipment at the data centre of BitRiver company providing services for cryptocurrency mining in the city of Bratsk in Irkutsk Region, Russia March 2, 2021. REUTERS/Maxim Shemetov/File PhotoMAXIM SHEMETOV/Reuters

Ethan Lou’s latest book is Once a Bitcoin Miner: Scandal and Turmoil in the Cryptocurrency Wild West.

Crypto mining – not just the upkeep of the bitcoin network but also the generation of new units – uses a lot of computing power. That translates into a lot of electricity, the cost of which is usually the single biggest expense for miners.

And usable electricity, of course, has to be converted from other forms of energy.

So, when energy prices are now spiking because of the war in Ukraine, that essentially translates into higher production costs for many miners.

A natural question thus arises: Is all that contributing to the crypto crash, and if so, what does that bode for future prices?

Miners, most of whom mine bitcoin, typically don’t sell all of the coins they generate. They are believers in the technology and usually sell just enough to cover expenses, both current and planned ones.

Russia is a major oil and gas producer, and with sanctions against it over its February invasion of Ukraine, a lot of supply is off the market. Even as far away as the United States, natural gas has reached highs of almost twice its pre-war figure. Supply chain disruptions have also caused renewable energy to soar.

So, when production costs increase, miners need to sell more of their coins to cover expenses. That, in turn, logically points toward more bitcoin supply on the market and, therefore, lower prices across the wider crypto market.

In June, the crypto intelligence firm Glassnode put out a note on rising production costs for miners and how that might indicate that the industry is in a “capitulation phase of a bitcoin bear market.”

The note was rather prescient. At the time of Glassnode’s note, bitcoin was at about US$30,000. It’s now fallen to around US$21,000 (as I write this, at least).

A recent report from the research wing of the U.S. exchange Coinbase Global Inc. though, states that the actual number of coins miners are selling is not that material, given that their newly generated units – a fixed number of about 900 per day – amount to no more than 1.5 per cent of bitcoin’s daily trade volume.

Another factor to consider is that the major miners have long-term, fixed-price contracts for their electricity that are not affected by short-term changes.

But high energy prices are not necessarily a short-term phenomenon. Miners might just find a sticker shock when it comes time to renew their contracts.

And not all miners are such big players whose scale can command them sweet power deals. While the makeup of the industry is not always clear, one report this year by Arcane Research estimates that publicly traded companies, such as Canada’s Hut 8 Mining Corp. (HUT-T) and Bitfarms Ltd. (BITF-T), make up about 19 per cent of the total bitcoin mining network.

As well, that 1 per cent or so of daily trade volume that newly generated coins constitute may not be the most exciting figure, but it’s not nothing. Much in markets is driven by sentiment, and the impact of a flashing sell sign from one corner is not to be discounted.

Miners’ production costs might be far from the deciding factor for bitcoin prices, especially when put against broader headwinds, but casting them as a nonfactor would be overgeneralizing.

Glassnode’s report does strike a positive note. Based on the premise that there is more than one capitulation phase in a bear market, it sees rising miner production costs as placing us in the final such phase. The one-third drop in price that followed Glassnode’s note reinforces this thesis, signalling clearer skies ahead.

Crypto investors, though, would still be wise to keep an eye on energy prices and the coming winter.

However tight the supply of oil and gas now, it could potentially be even tighter when the weather gets colder and demand for certain commodities rises.

The current war in Ukraine appears to be nowhere close to a resolution. And Russia has been retaliating against sanctions by squeezing the gas supply it sends to Europe, long dependent on such imports.

We could be looking at much higher energy prices in the future and production costs for miners.

This issue would be particularly acute for those who’ve invested, not in coins, but in publicly traded crypto mining companies, which are much more affected by rising production costs.

Such investors should keep watch on the individual power deals those companies have – especially on when their contracts expire and they’re no longer shielded from rising energy prices.

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