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The Bitcoin mining incentive system

Block reward

Introduction to Bitcoin mining

Block reward

  • What does the block reward consist of?
  • Block subsidy
  • Transaction fees
  • Network protection against spam
As you can imagine, Bitcoin mining is not an altruistic activity. Miners have real costs: electricity to run their mining computers, the purchase of specialized equipment, payroll for maintenance, sometimes premises and cooling systems. For the Bitcoin system to work, the private interests of the miners must be aligned with the collective interests of the network. This is exactly the role of the mining reward. It encourages miners to invest in proof of work, to include valid transactions, and to respect the rules of the protocol rather than trying to corrupt it.
This logic is based on game theory: the protocol makes honesty rational. A miner earns money when he produces a valid block accepted by the nodes. Conversely, if he tries to cheat, his block will be rejected by the nodes, and he will get nothing. Since producing a block has a cost, a rejected block represents a direct loss. In a competitive environment where thousands of players are simultaneously searching for a valid block, the most profitable strategy, most of the time, is therefore to follow the rules strictly and maximize your income honestly.
To achieve this, the Bitcoin protocol stipulates that the miner who finds a valid block wins the right to include a particular transaction in it, which awards the miner a certain sum of BTC. This is known as block reward. In this first chapter of this section, the aim is to understand what it's made up of and how it's determined. Later, we'll see how the money creation part evolves over time (with halvings) and how it is actually collected technically (via the coinbase transaction).

What does the block reward consist of?

In previous chapters, we saw how miners manage to find a valid block. Once a miner has found a header whose hash is smaller than the target, his candidate block is considered valid. He can then distribute it to the entire Bitcoin network. The block is added to the rest of the blockchain, confirming the transactions it contains.
It is precisely this event (the actual addition of the block to the blockchain) that triggers giving a reward to the winning miner. This reward is made up of two distinct elements that are added together:
  • block subsidy;
  • transaction fees.
Let's take a look at what these two parts of the reward correspond to.

Block subsidy

The block subsidy corresponds to the monetary creation part of the reward. When a miner produces a valid block, the protocol authorizes him to create a certain number of new bitcoins and to allocate them to himself as a reward. These bitcoins are created ex nihilo. They did not exist before.
However, the quantity of newly created bitcoins is by no means arbitrary. It is strictly defined by the Bitcoin protocol rules and is identical for all miners. We'll take a closer look at this mechanism in the next chapter, as the subsidy is not a fixed value indefinitely: it is divided up periodically according to a precise schedule. For now, just remember that:
  • the block subsidy is one of the two components of the block reward;
  • it is capped and determined by the protocol, not by the miner (even though the miner can technically request less than the maximum amount);
  • it creates bitcoins out of thin air.
This subsidy plays two main roles within the Bitcoin protocol. The first is to encourage players to participate in mining. In the early years of Bitcoin (and sometimes still today), transaction fees were very low. The subsidy therefore has guaranteed sufficient compensation to attract miners and maintain a level of security for the system.
The second role relates to currency distribution. Any new currency faces the question of how to distribute monetary units fairly to the population. The block subsidy provides an answer to this problem. By creating bitcoins via mining, it enables their initial distribution in an open and neutral way: anyone can obtain them, provided they participate in the mining, with no prior authorization or identification required.
On the other hand, since these bitcoins are created out of nothing, their value is not without a basis. By increasing the amount of money in circulation, the subsidy mechanically dilutes the value of existing bitcoins. It therefore introduces a form of monetary inflation. However, we'll see in the next chapter that this subsidy is destined to disappear gradually, and that inflation will eventually cease.

Transaction fees

The second component of the block reward is linked to system usage: when a user posts a transaction, he wants it to be confirmed. However, block space is limited, and blocks appears on average only every 10 minutes or so. Block space is therefore a scarce resource. When demand exceeds supply, the price rises: this is the transaction fee market. Each miner who manages to produce a valid block obtains the right to collect, for his own account, the full transaction fees associated with all the transactions he has included in his block.
You can think of it as an auction system: each transaction proposes a fee amount, and miners prioritize those that maximize their income, under space constraints. This mechanism naturally aligns interests:
  • users in a hurry pay more to be included quickly;
  • miners are encouraged to include transactions that pay the highest fees for block space.
  • the network avoids spam, because publishing a transaction has a cost.

How are transaction fees calculated?

Contrary to popular belief, fees are not an output in a Bitcoin transaction. In fact, a transaction spends inputs and creates outputs. Inputs represent the source of bitcoins used, while outputs represent the destination of payments. Transaction fees are simply the difference between total inputs and total outputs.
In other words, the user's bitcoin inputs, which belong to them, create outputs for the recipients, but do not reproduce the full amount consumed by the inputs. The difference between the two represents the transaction fees that the miner can collect.
Let's take an example. A transaction consumes two inputs, one of 100,000 sats and the other of 150,000 sats, and creates three outputs of 35,000 sats, 42,000 sats and 170,000 sats.
The sum of inputs is therefore 250,000 sats, while the sum of outputs is 247,000 sats. This means that 3,000 sats have been consumed in inputs without being recreated in outputs: this amount corresponds to the fees proposed by this transaction.
If a miner includes this transaction in a valid block, he will be entitled to recover these 3,000 sats, in addition to the fees of all other transactions included in the block. However, there is no direct on-chain link between the transaction that pays the fee and the sats actually collected by the miner. Technically, the 3,000 sats in fees are destroyed, and, in return, the miner obtains the right to recreate the same amount for himself.

The fee ratio

A block is not limited by the number of transactions, but by its total capacity (today, in practice, by the weight of the block). Some transactions take up more space than others: a transaction with many inputs and outputs will be larger than a simple transaction with a single input and two outputs. The scripts used will also influence size.
Two transactions may therefore pay the same amount of fees in absolute terms, but not be economically equivalent from the miner's point of view. If one is twice as big, it costs twice as much space in the block. Space is scarce, so the miner seeks to maximize his revenue per unit of space.
This is why, in practice, we express the competitiveness of a transaction with a fee ratio, usually in sats/vB (satoshis per virtual byte). Calculating this ratio is straightforward:
fee rate = fee / weight (in vB)
For example, if we have a transaction weighing 141 vB and allocating 1,974 sats in fees, it will have a fee rate of 14 sats/vB.
1 974 / 141 ≈ 14 sats/vB
This ratio explains the economic choices made by miners: at fixed capacity, including high-rate transactions maximizes the block’s total fees, and therefore the miner's compensation. It also explains why low-cost transactions remain queued in mempools for long periods: they compete with other transactions that pay more per unit of space.

Network protection against spam

Fees also serve an operational security purpose: they introduce a cost to the multiplication of transactions. If publishing a transaction were free, it would be easy to flood the network with useless transactions and saturate mempools, increasing the load on nodes.
In practice, nodes apply local relay policies (mempool rules) and often set a minimum fee threshold below which they will not relay a transaction (by default, 0.1 sat/vB in Bitcoin Core via minRelayTxFee). A transaction may be valid in the strict sense of the consensus rules, but not relayed by most nodes if its fees are too low. As a result, it doesn't circulate, doesn't reach the miners, and has very little chance of being confirmed.
At this point, you've got the gist of the block reward: it corresponds to the compensation for the winning miner and is made up of two distinct elements. On the one hand, a block subsidy, defined by the protocol rules, which creates new bitcoins ex nihilo. And on the other hand, the fees of transactions included in the mined block.
In the next chapter, we'll focus in more detail on the block subsidy, to understand precisely how it is calculated and how it evolves over time according to the rules of the Bitcoin protocol.
Quiz
Quiz1/5
Are Bitcoin transaction fees an output?