Understanding Bitcoin and Ethereum Supply

In this article, we aim to answer questions surrounding the supply schedules of the two largest digital assets by market cap, Bitcoin and Ethereum. Most notably, we seek to explain how a protocol’s supply schedule could impact the total supply and/or the circulating supply and what implications these supply differences have on network users and, potentially, investors.

We also outline important considerations for investors in each asset to understand each network’s future, such as monetary policy, supply changes, and the impact of any changes on investors.

To start, below are a few terms with which investors should be familiar.

Different Types of Supply

Some of the most important questions to ask when looking at a digital asset protocol are related to the token's supply. However, it is not as simple as understanding one overall metric, such as “total supply,” as there are many different data points to consider.

Maximum Supply

First, consider total or maximum supply. This metric is the absolute highest number of coins or tokens that can ever be created within a protocol without code changes that are so significant that they require an entirely new version of the network to be formed, commonly known as a “hard fork.”

For Bitcoin, the maximum supply is 21 million tokens. The reason for this is its issuance schedule. Every 210,000 blocks, or roughly four years, the Bitcoin network undergoes a halving event in which bitcoin’s (BTC) issuance is automatically halved. Eventually, this is expected to result in a non-zero but trivial amount of bitcoin being mined after the year 2140. To better understand this, anyone can verify the halving themselves with a simple calculator.

To do this, divide 50 (the starting block subsidy) by two to simulate the first halving in 2012, and then again for a total of 32 times. The 33rd halving would lower the block subsidy to below a Satoshi (sat), or the smallest unit (1/100,000,000th) of a bitcoin. In other words, the supply of bitcoin is asymptotic and will never reach exactly 21 million total bitcoin.

On the Ethereum network, the total supply is, in theory, infinite. Although, in practice, there are some nuances to consider that will be unpacked later.

Circulating Supply

The second type of supply is circulating supply, also known as the current supply. This supply type describes the current number of coins or tokens available for trading on the network, like that of outstanding shares of stock. At the time of writing, Bitcoin’s total circulating supply is just under 19.5 million bitcoin (the asset), and because Bitcoin (the network) has a maximum supply, one can easily calculate Bitcoin’s minting progress thus far. The total percentage of bitcoin minted (or circulating) is around 93% of the maximum supply. For Ethereum, the total circulating supply is approximately 120 million ether.

How Was the Supply Created?

Now that the different types of supply are understood, let us explore how this supply is created. 

The Bitcoin network launched as a proof-of-work network and allows anyone to download the software and begin minting new bitcoin with a computer. The genesis block, the first block ever mined, is attributed to the network’s official launch in January 2009, awarding the first 50 bitcoin to some person or group presumed to be Satoshi Nakamoto, the Bitcoin whitepaper’s pseudonymous author.

Before the genesis block, there were zero bitcoin. To mint more bitcoin, participants known as “miners” must exert physical energy and participate in a type of digital lottery. This system is known as proof-of-work and allows bitcoin to be distributed amongst all participants in a random manner, depending on probabilities and the amount of “work” completed versus other participants.

Ethereum was also launched as a proof-of-work network that allowed miners to participate and mint their own ether (ETH). However, it is important to note that the initial block on Ethereum did not create the first ether. To raise funds for the Ethereum Foundation and, in turn, support Ethereum’s developers, a “genesis sale” took place.

The first 14 days of the ether offering started with a discounted exchange rate of 2,000 ETH:1 BTC. After 14 days, the discount would begin to decline to a final rate of 1,337 ETH:1 BTC. The total sale period lasted 42 days where ether sold for roughly $0.29 to $0.40 each. Notably, this initial sale took place roughly an entire year before the genesis block was mined (July 30, 2015), in what some categorize as a “pre-mine.”¹ This means that roughly 60 million ether were sold to anonymous participants before the network’s launch and an additional 12 million were distributed between early contributors and the Ethereum Foundation.

How Is the Supply Created Today?

A lot has changed since each protocol’s genesis block. Bitcoin has gone through multiple halving events where the current issuance rate is reduced to half of its previous rate.

Ethereum has gone through even more changes.² Starting with a hard fork known as the London Upgrade in August 2021, Ethereum introduced a burn mechanism that caused transaction gas (the fee required by the network to carry out transaction instructions) to be essentially removed or “burned” from the circulating supply.

This resulted in ether becoming ultimately inaccessible by the network which, in turn, fundamentally lowered the circulating supply. Next, Ethereum completed an unprecedented technological upgrade by transitioning from a proof-of-work to a proof-of-stake consensus mechanism.

This upgrade, known as The Merge, took place in September 2022 and aimed to pave a path for other upgrades that would improve three main aspects of Ethereum: transaction speed, scalability, and energy use. This upgrade reduced Ethereum’s energy consumption, lowered the block times to a standardized 12 seconds, and reduced the rate at which ether was created.

The specific combination of the burn mechanism from the London Upgrade and the reduced issuance rate from The Merge has led to deflationary supply dynamics, which are examined later. While the Bitcoin network continues to mint the last 7% of its total supply until the year 2140, Ethereum has been slowly reducing its circulating supply with its burn mechanism since The Merge.

While this piece is not intended to inspect the intricacies surrounding Ethereum’s burn versus issuance rate, it is important to note that the current negative net issuance rate is highly dependent on network usage and is subject to change as the network matures.

What Is a “Deflationary Supply”?

The term “deflationary supply” started being used more in combination with Ethereum after the ether burn was introduced, but what does that mean? At the highest level, a deflationary supply is when a token’s supply decreases over time, which may lead to its value increasing if demand remains the same or increases. 

With Bitcoin, its 21 million supply cap means that for the network’s economic value to shrink or expand, the asset price is the only metric that can adjust. The term “disinflationary” better fits Bitcoin’s monetary policy because its inflation rate falls each halving cycle. Bitcoin’s monetary policy does not currently include a deflationary mechanism.

For Ethereum, the supply does not have a ceiling; however, when there is a high usage rate, the fee to transact adjusts higher, which makes transaction costs rise. If high usage persists, then fees could rise beyond the issuance rate. This is where the deflationary term begins to be used.

When net issuance is negative on the Ethereum network, ether may act as a deflationary token. However, as the chart below shows, Ethereum’s supply can quickly change between inflationary and deflationary on a day-to-day basis depending on network activity.

Therefore, the overall trend and scope are important, but without knowing all the future changes coming to the Ethereum network and usage statistics, it is impossible to predict whether this trend remains net deflationary in the long term.

While Ethereum has its own burn mechanism built into the protocol, Bitcoin does not. However, Bitcoin’s programmed supply cap, combined with human error and carelessness, creates a different and unintended kind of “burn” that we refer to as presumably lost coins. 

These coins, if truly lost, can never be replaced. Using on-chain metrics, we calculated the current total presumably lost coins to be around 1.8 million bitcoin.³ In other words, the current maximum supply of bitcoin is closer to 19.2 million with roughly 1.5 million new bitcoin being minted over the next 100-plus years.

What Is an “Inelastic Supply”?

An inelastic supply refers to a supply that cannot expand or contract with demand. Bitcoin has an “inelastic supply.” This means that whereas traditional money supplies expand and contract within global inflationary and deflationary cycles, Bitcoin’s supply cannot be arbitrarily inflated or deflated to accommodate. 

More plainly, as more users around the world continue to demand bitcoin, Bitcoin cannot increase its issuance or supply to satisfy the demand. In this scenario, current bitcoin holders would need to sell their holdings to increase the liquid supply, otherwise, bitcoin’s price must adjust.

This is probably one of the more complicated aspects that today’s skeptics continue to misunderstand. How can trillions of dollars of wealth be measured if this new unit of account (bitcoin) cannot expand beyond 21 million units? It bears repeating that each bitcoin is comprised of 100,000,000 satoshis (sats), like how one dollar is comprised of 100 cents. A quick calculation shows that there are 2.1 quadrillion, or 2,100 trillion satoshis, for users on the network, allowing for the entire world’s current wealth to be accounted for with plenty of potential to grow.

This question, however, reveals a misunderstanding of growing economic wealth versus measuring wealth. To illustrate this, the question could alternatively be framed as, “how can society build any more buildings if there are only 12 inches in a ruler?” While this comparison is meant to show the absurdity behind the question, they are more comparable than one might think.

Bitcoin’s total supply does not need to increase to support new capital or users because its price can increase. Bitcoin as money or unit of account is simply a measurement tool, just like the ruler. It measures the cost or worth of a good and acts as a stable anchor and denominator of value to which no government or central authority can change. Therefore, in terms of building, it is unnecessary to increase inches in a foot to build more buildings; in fact, by not changing the measurement tool, builders gain clarity and, in turn, standardize the industry.

As another example, during the 19th century when the U.S. was on a gold standard, the money supply was only able to expand as quickly as gold could be mined. Between 1880 and 1914, inflation in the U.S. averaged 0.1% per year.⁴ Throughout this time frame, the U.S. experienced rapid economic growth and an expansion of real wage growth for the average industrial worker.⁵ Therefore, bitcoin could be viewed as money without needing an elastic supply and without impairing population- and economic growth.

Coming back to bitcoin, the number of U.S. dollars or other government-issued money that can fit inside a single bitcoin is infinite. Bitcoin’s price can account for any expansion or decline in market demand without the need to expand or contract its supply. This inelasticity has been observed in the growth of Bitcoin’s market cap from zero to just under $1.3 trillion at its peak in 2021 while maintaining its fixed supply schedule.

User Activated Supply Constraint

In addition to the programmatic issuance of bitcoin constraining the supply, user behavior due to bitcoin's store-of-value nature could also act as a source of inelasticity.

Historically, users put an additional supply constraint on the supply by electing not to sell their bitcoin. Simply put, as users buy and hold bitcoin, they create a positive feedback loop in which new buyers drive up the price. That is, until prices are high enough to incentivize selling to take profits, and the cycle starts over at a new price point.

While bitcoin’s vaulting rate, or “savings rate,” maintains a position higher than inflation or issuance, the available supply for sale (liquid supply) is constrained further. If bitcoin’s price appreciates and bitcoin custodians mature, users may be less likely to lose their coins, causing the vaulting rate to reflect users storing value more accurately over time.

What Is a “Semi-Elastic Supply”?

A “semi-elastic” supply refers to a supply that falls in between fully elastic and inelastic. This means that the supply can expand and contract, but within certain parameters or at a set rate. 

How does Bitcoin’s inelastic supply compare to Ethereum’s semi-elastic supply? After The Merge, Ethereum stopped relying on a proof-of-work consensus mechanism. The new consensus mechanism, proof-of-stake, finalized the expulsion of miners from the network, which has since relied solely on validator nodes. These validator nodes will mint a predictable amount of ether dependent on how many other validators exist within the network.⁶

To understand Ethereum’s semi-elastic supply, we must first look at how ether is created and the relationship between validators staking on the network and issuance. To become an Ethereum validator node or “staker,” one must provide 32 ether as collateral to the network in a process known as “staking.”

Simply explained, the more validators staking on the Ethereum network, the higher that issuance will increase. However, there are still many moving parts that determine the overall outcome of the supply trend. Below are a few key points that investors need to know when it comes to ether issuance.

• Higher staking demand increases the amount of ether produced.
• Less staking demand decreases the amount of ether produced.
• Fewer validators (staking) mean a lower issuance rate, but because the issuance reward is split by fewer people, individual staking yields begin to rise, incentivizing staking demand to increase.

If staking participation is low, the network pays a higher percentage reward to validators. This creates a semi-elastic incentive structure that intends to maintain a balance between the validator count and staking rewards. The term "semi-elastic” is used here because, while the supply can fluctuate depending on demand, there are mechanics in place, such as the “churn-limit,” that ensure sustainable changes to the validator count and supply of ether.

Due to the churn-limit mechanism, an exponential increase in staking demand cannot result in the same change in supply. Its full function ensures a controlled pace of validators entering and exiting the network. For example, the churn limit in a high-demand scenario acts as a queue for new validators looking to stake on the network, allowing the issuance rate to modestly adapt to the new staking demand. In turn, this ensures stable security functionality that protects against a scenario in which an abundance of new capital attempts to overrun the network with malicious validators. It also ensures that staking demand will not result in high inflation rates.

In summary, there are no strict limitations on ether’s maximum supply. This enables Ethereum to safely increase individual yields during downturns in staking demand, but maintains a relatively low inflation rate in a high staking percentage scenario.

Burn:  The Opposite Side of the Same Coin

Now that it is known how Ethereum can expand its supply, let us explore the burn mechanism to understand how these forces counteract each other.

Transactions on Ethereum require computations. These computations, known as “gas,” are determined by the network.⁷ This means that a simple peer-to-peer externally owned account (EOA) transaction is usually cheaper than one consisting of something more complex, like a transaction launching one’s own smart contract.

Gas is then paid for with the user’s ether, commonly referred to as the “base fee.” The base fee is calculated by the network and depends on the computation required by the transaction as well as the congestion of the previous block. Therefore, if network usage increases, then fees increase.

While issuance is a slowly adjusting mechanism, the base fee is designed to exponentially adjust to network congestion. Put simply, if the previous block’s demand was greater than the target set by the network, then the fee increases by a maximum of 12.5%. This suggests that blocks cannot remain full for an extended period because the fees rise rapidly.

For example, 10 full blocks in a row result in fee growth of 225%. If that trend continued for another 40 blocks, the 50th full block would be a 36,010% increase in fees. These fees drive the burn rate higher and often quickly outpace the slowly adjusting ether issuance changes, providing extreme short-term deflationary situations.

Below is a brief summary of ether’s burn mechanism.

• Higher usage leads to congestion.
• Congestion leads to exponential fee increase.
• Burn rate rises and eventually outweighs new issuance.
• When the daily burn rate outweighs issuance, then the supply contracts (deflationary). Alternatively, if the burn rate is not greater than issuance, then the supply expands (inflationary). 

A high usage scenario, much like what Ethereum experienced in April 2023, can create an environment where the circulating supply decreases. A higher burn rate than issuance rate results in the net removal of ether from the circulating supply.

While the net change in supply has only been a fraction of a percent so far, it is important to note the short time frame since the issuance updates during The Merge upgrade.⁸

Conclusion

The supply mechanisms between Ethereum and Bitcoin could not be more different from each other. Bitcoin aims to keep its unchanging maximum supply and circulate bitcoin within the network through fees, mining, and market participant activity. In contrast, Ethereum uses multiple mechanisms to allow for the expansion and contraction of its supply to adjust to market demand and security requirements. 

When it comes to future changes, the Bitcoin code continues to ossify as decentralization in the user set decreases the odds that the maximum supply and monetary policy will be subject to change over the next 100-plus years.

In comparison, Ethereum’s dynamic and progressive community, spearheaded by the Ethereum Foundation, has already created multiple hard forks that have changed its monetary policy and has plans to do so again.⁹

At the end of the day, the network and asset an investor chooses to buy comes down to what they want to accomplish. Understanding the differences in supply mechanics is an important step to understanding the fundamentals that drive digital assets, which can help to identify an investment opportunity.

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