If you searched for Bitcoin news recently, the main headlines likely centred on the rising price, the falling price, or just the price of the cryptocurrency generally and the ‘hype’ around the asset as a speculative investment. At the time of writing, whilst Bitcoin has dropped off its peak, it is still close to the $50,000 mark. What you will not see however is any news in relation to the environmental impact of cryptocurrencies. The electricity usage, and subsequent greenhouse gas emissions as a result of that electricity usage, is of increasing concern to many as cryptocurrencies begin to move more into the mainstream, and with regulators currently focussed on how cryptocurrencies should be regulated from a financial standpoint, it may be some time before we see any climate-related crypto regulations.
Cryptocurrencies’ energy problem
The issue is not primarily with the cryptocurrencies themselves, but with the amount of energy that is required to ‘mine’ cryptocurrencies. The mining process is integral to many cryptocurrencies that use a Proof of Work (“PoW”) mechanism to validate transactions. Taking Bitcoin as an example, miners compete to solve a complex mathematical challenge, which once completed, verifies a transaction. In return for their efforts (and electricity bill), miners receive Bitcoin. As the process is designed to increase in difficulty over time, ordinary laptops no longer cut the mustard when it comes to mining, so companies have opted instead to kit out warehouse-sized mining farms requiring vast sums of electricity to operate. Where there is an increase in market price, there is an increase in mining competition and a subsequent increase in electricity usage.
Digiconomist estimates that Bitcoin’s energy consumption amounts to 77.78 TWh per year, just above that of the country of Bangladesh and just below that of Chile. The University of Cambridge estimates that it could be in excess of 119 TWh per year, and due to the design of the network this number will only increase.
The problem rests not just in the amount of electricity used, but in the location in which it is used. The majority of miners are based in China which produces two thirds of its power from coal. This explains the correlation between Bitcoin and climate change.
ESG and sustainable finance
Recent years have also seen a large emphasis placed on environmental, social and governance (“ESG”) criteria in assessing the future financial performance of companies. Sustainable finance and sustainable investing have taken centre stage, especially in light of the government’s net zero commitment by 2050, and the UK has focussed particularly on climate change and climate-related reporting in this regard. On the international stage, the Financial Stability Board created the Task Force on Climate-related Financial Disclosures (“TCFD”) to improve and increase reporting of climate-related financial information.
HM Treasury published an interim report and UK joint taskforce roadmap in which the UK government confirmed its intentions to make TCFD-aligned climate disclosures mandatory by 2025. There are four pillars under which the recommended disclosures sit, these are (i) Governance, (ii) Strategy, (iii) Risk Management and (iv) Metrics and Targets. More detail of each and the requirements generally can be found in Burges Salmon’s recent article on “TCFD Climate-related Reporting by Companies in the UK” here.
The EU has a similar focus with the substantive provisions contained in the Sustainable Finance Disclosure Regulation ("SFDR") set to apply from 10 March 2021 and a number of articles in the Taxonomy Regulation set to apply from 1 January 2022. These initiatives are ultimately aimed at increasing investment in longer-term and sustainable activities and the provision of more consistent disclosures and better information by companies to achieve this goal.
Possible implications for cryptocurrencies
Cryptocurrencies, or cryptoassets as they are known to UK regulators, are not unfamiliar with talk of regulation. For many years, countries around the world have consistently been faced with the question of whether or not to interfere in the cryptoasset market. Though the approach taken previously has been to maintain a lighter touch, the UK regulatory landscape in relation to cryptoassets is shifting.
HM Treasury is currently consulting on establishing a new regulatory framework for so called “stable coins” that aim to maintain stability in their price, typically by linking their value to stable assets such as fiat currency. This is in addition to the existing technology-agnostic regulatory framework applying to ‘security tokens’ and to tokens that fall within the existing e-money regime, and the FCA’s ongoing work on bringing certain cryptoasset-related activity within the scope of the financial promotions regime.
Though the regulatory landscape in relation to cryptoassets is still in its infancy, once the first wave of regulations is established which outlines how the regulatory perimeter will map to cryptoassets, it is not unthinkable that regulators will shift focus to crypto’s energy problem. Particularly in light of the developments in ESG and sustainable finance highlighted above, it is possible that companies seeking to issue cryptocurrencies to investors may one day be required to comply with similar climate-related disclosure requirements.
Though cryptocurrencies like Bitcoin might not fare well under such scrutiny at this current moment, the story is not all doom and gloom. Efforts to make cryptocurrency mining more environmentally friendly are being made with some miners capitalising on cheaper renewable energy production and computer cooling methodologies. The University of Cambridge’s 2020 Global Cryptoasset Benchmarking Study highlighted that 76 per cent of miners used renewable energy sources – so some progress – but with only 39 per cent of mining’s total energy consumption coming from renewables there is still work to be done. Other design-led / green-tech solutions include implementing alternative consensus mechanisms requiring significantly less energy than PoW, such as proof-of-stake. These opportunities are already being developed in the market.
Although any future regulation that focusses specifically on disclosing against cryptocurrencies’ ‘green’ profiles may help to expedite the process of ‘cleaning up’ the crypto market, given current timeframes such regulation is likely to be introduced later rather than sooner. In the short term, crypto firms will likely be predominantly concerned with overall market and contextual conditions and whether or not they fall within the regulatory perimeter. As we have seen in other segments of the financial services sector, investor pressure is likely to be one of the most effective tools to effect change.