This is a thought/writing exercise, and not a solicitation to buy or sell bitcoin, commodities, or any other financial instrument.

I don’t firmly hold any of the conclusions or ideas I lay out in this post, and you should take whatever I say here with a grain of salt. This is only a theory.

But I’ve been thinking about what bitcoin’s real use case could be and what it could look like in the future.

This is what I came up with.

The thought of calling bitcoin “digital gold” never really made sense to me.

I mean how can something that’s mostly correlated to growth stocks and investing in technology be considered a form of digital commodity?

It has a defined limit on how many bitcoin will ever be mined, making it into a scarce resource, but plenty of things that humans create are scarce and have little no value.
(I wonder how many POGS are still in existence and if anyone is willing to pay real money for collectible cardboard cutouts?).

What works in bitcoin’s favor can also mean its downfall:

As long as more people in the world agree that bitcoin has value and can be used as a valid form of payment for other goods and services, then the value will increase as adoption increases.
As long as more people in the world agree that bitcoin doesn’t have as much value as the price would indicate, and should not be used as a valid form of payment, then the value will decrease as adoption decreases.

We can talk about “trust” and “network security” and all that good stuff that countless others have discussed before, but I keep coming back to one of the primary criticisms of bitcoin: what is it used for?

I haven’t heard a great argument for it yet, and these arguments usually devolve into “Well, what is the real value of fiat anyway? Isn’t all money based on faith?” And then we argue about whether we should trust a military and taxable revenues or a decentralized network of individual miners.

But I’ve been thinking about this lately and I think I’ve come up with a thesis for how bitcoin can find its real-world use case. In fact, it’s already started.

The Energy Credit Thesis

I came to this realization after listening to the following podcast where the co-founder of a bitcoin mining company explains why he started a company to help bring bitcoin mining to the oil and gas industry:

TLDL: Oil and gas companies can have excess capacity and waste gas which they usually burn into the atmosphere to save on transport/storage costs. Rather than doing that, oil and gas companies can use their excess capacity and waste gas to run engines that power cryptocurrency mining facilities.

Because oil futures went negative, many oil producers shut down, and bringing that capacity back up takes almost a year. This along with the war in Ukraine has caused the massive price increase in oil and gas that we see today.

If oil and gas producers had been able to supplement their income with cryptocurrency mining, they may have been able to remain operational the entire time, weathering the storm in the market and have the supply ready and waiting that the market is now demanding. It would also allow them to do something useful with excess capacity, rather than just burning it into the atmosphere anyway for no reason. It would incentivize energy overcapacity, so we could have the energy supply available when we need it in the future.

Bitcoin is very divisive, so let’s imagine I’m setting up a new world where I create something similar to cryptocurrency mining to help energy producers offset times when they have overcapacity. They can create something representing the energy they produced and that everyone agrees has a value based on the energy produced. I’m going to call these EECs (exchangeable energy credits).

An EEC would represent the value of that energy produced based on current market prices of $/MWh (cost per megawatt-hour).

So the goal of having an EEC would be to build overcapacity and fund new energy-producing endeavors. You could use your energy production of choice, whether it be oil, gas, solar, wind, geothermal, nuclear, an army of treadmills and cyclists, or whatever, and create these EECs. A single EEC would be the equivalent value of some number of MWh of energy produced.

These EEC’s can also be used as a substitute for a REC (renewable energy credit), which already has a structure market participants are familiar with.

Renewable Energy Certificates (RECs), also known as Green tags, Renewable Energy Credits, Renewable Electricity Certificates, or Tradable Renewable Certificates (TRCs), are tradable, non-tangible energy commodities that represent proof that 1 MWh of electricity was generated from an eligible renewable energy resource. There are specialized certificates such as the Solar Renewable Energy Certificates (SRECs) which are RECs that are only generated by solar energy.
These certificates can be sold and traded or bartered, and the owner of the REC can claim to have purchased renewable energy. While traditional carbon emissions trading programs promote low-carbon technologies by increasing the cost of emitting carbon, RECs can incentivize carbon-neutral renewable energy by providing a production subsidy to electricity generated from renewable sources. It is important to understand that the energy associated with a REC is sold separately and is used by another party. The consumer of a REC receives only a certificate.

The problem with the REC is that its usually country-specific and has certain restrictions on it. RECs can only be issued by a centralized entity and only for green energy production, so that cuts out oil and gas producers or companies being targeted by the centralized entity or government. I-RECs are being used by many countries on an international REC exchange, but it has yet to catch on in the US and Europe who have their own REC systems.

The world could use a universally recognized EEC, and I think bitcoin is already on the path to become that EEC.

For now, bitcoin’s price is determined more by sentiment and is more correlated with tech and growth stocks than with energy costs. But in the future, as adoption increases for this real world use case, I could see bitcoin’s price be determined more by the following:

Energy demand goes down/supply goes up, energy commodity prices fall, suppliers start to mine more bitcoin and selling it to stay afloat, price of bitcoin falls.
Energy demand goes up/supply goes down, energy commodity prices rise, suppliers don’t need to mine bitcoin, it relieves selling pressure, price of bitcoin rises.
Price of bitcoin fluctuates as others buy and sell bitcoin speculating on the future price. Energy producers mine more or less bitcoin depending on the price compared to usage or storage of that energy.

Demand Side

Companies will buy RECs on the open market to help meet renewable energy or climate change goals when they can’t produce it on their own or don’t have green energy locally available. So that’s the demand side for RECs, but what would be the demand for an EEC (like bitcoin)?

To be honest, I’ve got nothing.

Warren Buffett made this point at the recent Berkshire meeting too (ignoring Marc Andreessen):

Marc Andreessen @pmarca

It’s so wild he says this stuff while nakedly shilling diabetes.

I don’t know who would be buying bitcoins in large quantities, but then again that’s already happening now, so what do I know?

The only thing I can come up with is going back to the “store of value” narrative, but this time it would based on “energy produced on this specific date and time which produced this amount of MWh” rather than “digital gold.”

Energy produced sounds like a much better universal monetary standard than a pet rock anyway, especially in our modern digital-industrial age.

But again, this depends on “energy” being recognized as this universally accepted store of value, which is still to be determined.

What about the “World Reserve Currency” Thesis?

I think this is the real potential path for bitcoin to become a “world reserve currency,” if that ever happens, which I’m still not entirely convinced it will.

The current narrative from opponents of making bitcoin the reserve currency is that it isn’t backed by anything real. Energy production is real and universal, and could convince countries who are on the fence about continuing to use the US dollar for one reason or another to make the switch.

Depending on what kind of power source is most available in that country, they can use their energy production of choice to extract more bitcoin. This would actually reduce the power of oil-rich countries, because now oil would not be needed to become a wealthy nation. Any power source could be used to mine crypto. Because no county would want to be shut out of the EEC exchange system, they would all need to accept one form of an EEC that is common among all of them, regardless of how the energy is produced. It would help if the EEC was decentralized (not ruled by a single country or institution) and promoted honest behavior among all the participants (the buzzword “trustless”). And as of right now, that EEC could be bitcoin. With growing adoption it seems likely. But who knows?

What’s the Downside Here?

One big downside of creating a system that incentivizes overcapacity is that we will be burning more oil and gas and creating gas emissions for little economic benefit. There’s the possibility we could build more energy capacity than we will ever truly need to power industry and homes. This would exacerbate climate change and create more problems in the future.

But then again, aren’t oil and gas companies already burning off the oil and gas they extract and can’t sell? Might as well do something with it.

I think it will depend on how we plan to use this opportunity for creating overcapacity. For example:

Does the math for creating more expensive, safe nuclear energy plants work better when we can plan to use their excess capacity to mine cryptocurrency?
Does it make more sense for building large wind and solar farms to mine cryptocurrency to offset costs and take advantage of off-peak hours when the sun is shining and the wind is blowing?
Will mining cryptocurrency allow renewable energy producers to buy more battery capacity over time to actually use the energy they create to power homes, rather than just using it to mine cryptocurrency forever?

I think there is a way to incentivize using cryptocurrency mining to create a better and renewable energy future, rather than one filled with useless oil drillers that do nothing but mine bitcoin.

I’d much rather see it used for these green energy purposes than solely for oil and gas. But we will continue to need oil and gas to get to a clean energy future, and having that capacity waiting for us would be beneficial. It would keep demand spikes from popping up and putting a strain on the economy.

I should also mention that with green energy producers, they would get the double benefit of participating in the REC market as well as the EEC (bitcoin) market, giving them more ways to optimize revenue. RECs can be used when producers are putting energy back into the grid, and mining bitcoin when putting more energy into the grid is less important or cost effective.

Conclusion:

Bitcoin may not be as important as people think, but it’s also not going away any time soon. As I explained above, I think there is a future for bitcoin, but it has nothing to do with “digital gold.” I think it could become the decentralized “exchangeable energy credit” of the future.

To me, bitcoin isn’t a “digital gold” story, it’s an energy story.

Thanks for reading!

Edit (5/3/22):

I had another thought after mulling over this more.

The more I think about it, the more I like the idea of tying a hard currency to a tangible, universal constant like energy production.

The idea of tying hard currency to an object like gold is like clinging to the old definition of a kilogram: a hunk of metal stored in a vault in France affectionately called “Big K.” And that didn’t work out too well: due to cleaning and air exposure, the prototype kilogram accidentally lost 50 micrograms of weight over its 130 year existence.

But as of 2018, the kilogram is now based on Planck’s constant, a universal constant from quantum physics that can never change, no matter where you are in the universe.

In the same way, it doesn’t matter where or how you produce that 1MWh hour of energy, that 1MWh of energy has the same value in our exchangeable energy credit known as bitcoin. A new “universal constant of money” for modern people living in modern times. Pretty cool concept if it catches on.

Again, this was more of a thought exercise and I thought I’d just throw it out there and see happens.

I hold everything I’ve said here very loosely and not totally committed to any of it.

I’m probably missing some information or completely ill-informed on some of topics I discuss in this piece.

I’d love to discuss the idea more with others if anyone is willing to talk. I look forward to hearing from you.

Furball Financial

Bitcoin Isn't "Digital Gold." It's an…