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China crackdown shows industrial Bitcoin mining a problem for decentralization

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Bitcoin’s reliance on large-scale mining infrastructure and geographic concentration has been thrown into sharp relief by China’s recent mining crackdown. In May, China announced that it would be getting tough on crypto mining and trading as a response to financial risks. The nation’s crackdown on crypto is not new, rather it’s a reiteration of previous standings on the risks of digital currency to economic stability, in response to recent price fluctuations.

For the first time, cryptocurrency miners are being targeted to enforce the existing guidelines. Mining hardware still presents a potential risk, even if mining moves to other locations. This could prove that the Ethereum blockchain’s switch to proof-of-stake (PoS), which can run on consumer-grade equipment, is a more reliable path to decentralization and offers greater resilience against such risks.

Bitcoin (BTC) mining is reliant on large-scale, industrial cryptocurrency mining farms and has been largely concentrated in China, which accounts for 65% of the global hash rate. The manufacture of custom hardware in China has supported this trend, with one in two ASIC miners produced being distributed to Chinese miners. The crackdown has caused significant turmoil in Bitcoin markets.

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The Bitcoin network’s hash rate has dropped to a 12-month low, with more provinces directing miners to shut down. Uncertainty about what may happen with confiscated mining hardware has hit the overall network hard. This is a massive loss to what was a multi billion-dollar industry for Chinese miners.

China’s policy position on Bitcoin seeks “financial stability and social order” and is possibly the result of geopolitical interests related to the desire to remove competitors to its own national digital currency, the digital yuan, in addition to its stated goals of lowering carbon emissions and redirecting energy toward other industries. The swift crackdown has shown that Bitcoin’s reliance on industrial-scale mining farms, hardware supply chains and electricity — all of which are reliant on government policies — may be its Achilles’ heel.

Miners are now seeking to migrate to cool climates, cheap energy and “crypto-friendly” jurisdictions. This may open up healthy competition for other crypto-friendly policy positions in other jurisdictions to attract industry participants — as we’ve seen, for example, with Wyoming’s embrace of legislation friendly to decentralized autonomous organizations and crypto in general. Yet, it is unclear whether moving the hardware will keep it out of the reach of policy crackdowns.

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Are we decentralized yet?

Hardware has always been a major vulnerability in decentralized infrastructure. In blockchain-based cryptocurrency networks that run on a proof-of-work (PoW) consensus algorithm, such as Bitcoin, the commonly agreed record of transactions relies on a distributed network of computers.

This is vulnerable to structural exploitations, including concentration of hardware mining in industrial-scale factories in certain geographies (such as China), “premining” cryptocurrency with upgraded hardware that is not yet available to the broader market (such as new model ASICs), or supply chain delays.

Having a majority of hashing power concentrated in one country, reliant on expensive hardware setups, and subject to regulatory crackdown is antithetical to the “decentralized” ethos of Bitcoin that was outlined by Satoshi Nakamoto. The initial vision of Bitcoin in its white paper was a peer-to-peer system, whereby infrastructure could be run by individuals on a general-purpose computer in a distributed way (via CPU mining), so that the entire network could not be shut down by targeting a single point of failure.

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This may also show why Ethereum’s move to PoS consensus is important — and why it has the potential to be more reliable and decentralized in the long term. Attacking a PoS network is more costly in time and money than the cost of hiring or buying hardware to attack a PoW blockchain, as an attacker’s coins can be automatically “slashed.”

Furthermore, it is much less conspicuous to run a PoS validator node on a laptop than it is to run a large-scale hardware mining operation. If anyone can run a node from anywhere with consumer-grade equipment, then more people can participate in validating the network, making it more decentralized, and regulators would find it almost impossible to stop people from running nodes. In contrast, the huge energy-consuming factories found in Bitcoin mining are much more easily targeted.

What’s happening to the hardware?

Mining is on the move, with miners moving their hardware to nearby areas, including Kazakhstan and Russia. Some crypto-friendly jurisdictions — such as Texas, which is offering legal clarity for companies — are racing to attract miners. Hardware is also on sale, with logistics firms reporting thousands of pounds of mining machines being shipped to the United States to sell.

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Although China’s policy has caused some fear, uncertainty and doubt in the market, it may help to remove structural vulnerabilities from the network, which is why some Bitcoin supporters have welcomed the crackdown. The aim here for Bitcoiners is long-term decentralization. Yet, moving hardware is not the same as further decentralizing the network and removing vulnerabilities to regulatory crackdowns on miners.

Moving hardware vs. removing vulnerabilities

Hardware is a hard problem in decentralized networks. Bitcoin’s requirement for large-scale infrastructure has made it vulnerable to the policies and politics of countries like China. Even if mining moves elsewhere, it may not be decentralized, meaning it could come under threat in other jurisdictions in a way that PoS networks relying on software that can run on a standard laptop likely will not.

These events demonstrate the interdependencies between blockchains and nation-state politics and interests. How jurisdictions respond to the opportunity to attract hardware mining, along with how they approach blockchains that are transitioning to PoS, will have significant implications for the structure and risks to blockchain networks in the long term.

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Kelsie Nabben is a researcher in the RMIT Blockchain Innovation Hub and a Ph.D. candidate in the Digital Ethnography Research Centre at RMIT University. She is also a board member of Blockchain Australia.

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This ransomware gang moved $6.8 million in Bitcoin amid regulatory overhaul

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Ransomware groups, Darkside and BlackMatter recently moved multi-million dollars worth of Bitcoin upon getting the news of REvil’s servers getting hacked by a global coalition of law enforcement agencies. According to the authorities, 107 BTC, which amounts to $6.8 million were moved earlier today by splitting the amount into several different wallets.

Furthermore, officials revealed that the gangs were already aware of regulators’ oversight and therefore had prepared the mentioned balance to be laundered or cashed out. According to The Record, officials noted that the breakdown of funds into smaller portions is usually used for money laundering operations as the regulators directly transfer the entire amount of confiscated funds instead of splitting them up.

“Basically, since 2AM UTC whoever controlled the wallet started to break the BTC into small chunks… At the time of this writing, the attackers split the funds into 7 wallets of 7-8 BTC and the rest (38BTC) is stored in the following wallet: bc1q9jy4pq5su9slh56gryydwkk0qjnqxvfwzm7xl6”, Omri Segev Moyal, CEO and co-founder of security firm Profero shared this data with The Record.

It is obvious that the Darkside and BlackMatter were next on the regulatory hitlist as Darkside was the ransomware strain developed by REvil associates that were used earlier this year in the infamous Colonial Pipeline incident of May. This attack indirectly led to fuel supply outages across the US East Coast.

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REvil ransomware group’s website went offline

Yesterday, the Reuters’ report about REvil’s servers being hijacked by the regulators went viral and threw other ransomware groups in a fit of panic. A multi-nation operation against cybercrime group, REvil was implemented and took down the group’s “Happy Blog” website, which was formerly used to leak victim data and extort companies.

“The FBI, in conjunction with Cyber Command, the Secret Service and like-minded countries, have truly engaged in significant disruptive actions against these groups,” said Tom Kellermann, an adviser to the U.S. Secret Service on cybercrime investigations and VMWare head of cybersecurity strategy. “REvil was top of the list.”, he added.

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First Bitcoin ETF in Immediate Danger of Hitting Cap on Contracts Held

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The first bitcoin (BTC) futures-backed exchange-traded fund (ETF), ProShares’ BITO, is reportedly already in danger of breaching a limit on the number of futures contracts it is allowed to hold under current Chicago Mercantile Exchange (CME) rules.

BITO already owns nearly 1,900 bitcoin futures contracts expiring in October, according to Bloomberg data. The number is close to CME’s current rule that a single entity cannot own more than 2,000 front-month futures contracts, Bloomberg reported on Thursday, when BITO had only been live for two full days. 

To get around the limit, the ETF has reportedly started buying futures contracts expiring in November in addition to the October contracts it holds, with 1,400 November contracts amassed so far. At the current pace, however, the fund could also soon reach CME’s cap on holdings for next-month contracts of 5,000 contracts, per the report.

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And while the CME has already said it will increase the limits to 4,000 front-month contracts starting in November, this is also likely to be reached soon by BITO, which already has more than USD 1bn under management.

A major issue faced by ProShares’ ETF is that futures contracts tend to trade at a higher premium over spot prices the further away their expiry date is – a phenomenon known as contango in the futures market.

As such, choosing to get around the maximum limits by buying longer-dated contracts will mean the ETF has to get its bitcoin exposure at prices that are increasingly higher than spot. This could result in high costs when contracts are rolled over at expiry that will eventually be paid by the ETFs investors in the form of lower returns.

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According to Bloomberg’s own ETF expert, Eric Balchunas, some of the pressure on the first ETF to be launched could be alleviated by competing ETFs coming to the market over the next few days and weeks. However, the first-mover advantage that BITO has gotten will still be difficult to challenge, he said.

“The unprecedented early volume in BITO makes it like a snowball rolling downhill, as liquidity and assets begets more liquidity and assets,” Balchunas said, adding that it will be “nearly impossible” for other ETFs to steal significant volume from BITO in the short or medium-term.

Commenting on the possibility of the ETF running into the ceiling, some speculated that the extreme popularity of the futures ETF could eventually pressure the US Securities and Exchange Commission (SEC) to allow a “physically” backed spot bitcoin to launch. 

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That scenario was suggested by Zhu Su, CEO of crypto hedge fund Three Arrows Capital, saying that it could lead to the ETF rising to a “hilarious premium,” leading the SEC to “approve a spot ETF because of public outrage.” 

In a tweet, he also shared a comment from Max Boonen, Founder of electronic market maker B2C2, saying that it is “doubtful” that clearing houses will be comfortable with a single entity holding more than 4,000 front-month contracts.

“What happens when BITO surpasses 4k [contracts] as it surely will?”, Boonen asked.

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A similar idea was also suggested by Eric Balchunas, saying in the Bloomberg report that BITO hitting the limits on how many futures contracts it is allowed to hold could pressure the SEC to allow a spot-based bitcoin ETF.

“That certainly would do the trick in slowing down BITO and providing a release valve for futures demand,” the senior ETF analyst said.

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Meanwhile, the second bitcoin ETF to be approved by the SEC, the Valkyrie Bitcoin Strategy ETF with the ticker BTF, is scheduled to go live on the market today, October 22. BTF will also be backed by bitcoin futures contracts traded on the CME rather than by “physical” bitcoins.

BTF should go live on the Nasdaq exchange when the market opens at 09:30 ET (13:30 UTC).

Following the launch of Valkyrie’s fund today, a third bitcoin futures ETF, the VanEck Bitcoin Strategy ETF (XBTF), is set to go live on Monday on the Cboe BZX Exchange, according to a recent SEC filing.

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Second US Bitcoin Futures ETF Launching Today – Here Are the Details

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A new Bitcoin (BTC) futures exchange-traded fund (ETFs) rolls out today.

Valkyrie Investments, an alternative asset management firm, is launching the country’s second Bitcoin futures ETF, according to CEO Leah Wald.

The new product is called the Valkyrie Bitcoin Strategy ETF and will trade on the Nasdaq under the ticker symbol BTF.

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The launch comes on the heels of ProShares’ Bitcoin futures exchange-traded fund, which exploded onto the market on Tuesday with the second-biggest ETF launch of all time.

Like ProShares’ Bitcoin Strategy ETF (BITO), the Valkyrie ETF doesn’t invest directly in BTC but provides price exposure to Bitcoin futures contracts.

Per the ETF’s prospectus,

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“Under normal circumstances, the fund will seek to purchase a number of Bitcoin futures contracts so that the total notional value… of the Bitcoin underlying the futures contracts held by the fund is as close to 100% of the net assets of the fund as possible.”

Bitcoin is trading at $62,793, up nearly 10% on the week but down from its Wednesday all-time high of $67,276, according to CoinGecko.

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