Bitcoin closes in on (US) $2000; Why it matters

At the beginning of 2016, Bitcoin was fairly steady at $430. Richelle Ross predicted that it would finish the year at $650. She would have been right, if the year had ended in November. During 2016, Bitcoin’s US dollar exchange rose from $433 to $1000. In the past 2 months (March 24~May 20, 2017), Bitcoin has tacked on 114%, rising from $936 to $2000.  [continue below image]…

If this were stock in a corporation, I would recommend liquidating or cutting back on holdings. But the value of Bitcoin is not tied to the future earnings or property value of an organization. In this case, supply demand is fueled—in part—by speculation. Yes, of course. But, it is also fueled by a two-sided network built on the growing base of utilitarian adoption. And not just an adoption fad, but adoption that mirrors the shift in our very understanding of bookkeeping, trust and transparency.

Despite problems of growth, governance and regulation, Bitcoin is more clearly taking its place as the future of money. Even if it never becomes “legal tender” in any country—and is used only as a mechanism of payments and settlement, it is still woefully undervalued. $2000 is not an end-game. It is a beginning.

Ellery Davies co-chairs Crypsa & The Bitcoin Event. He is a columnist & board member at Lifeboat Foundation,
editor at WildDuck and is delivering the keynote address at the 2017 Digital Currency Summit in Johannesburg.

Calculate Bitcoin Value: Modest assumptions

An experienced investor recognizes a speculative instrument or commodity. Depending upon your frame of mind and your opinion about its future, Bitcoin is either a payment instrument or a commodity. But either way, its supply is capped (not by edict, but by an indisputable mathematical formula), and so its value is a product of simple supply and demand economics.

Value: What assumptions are reasonable?

Value: What assumptions are reasonable?

I would never claim the foresight to predict the value of a bitcoin five minutes from now, let alone five years from now. Yet, I am baffled by its dollar exchange value today ($450 as I write this Wild Duck article). A reasonable and conservative calculation suggests that it should be—not $1200, as it was in late November 2013—but rather 100 times its current value.

Let’s consider one way to approach a calculation of the exchange rate necessary to support a low ball likelihood of its future utility…

Conservative Assumptions

  • Let’s say that Bitcoin never achieves the status of a currency—and that eventually, the expectation of enthusiasts that it will become its own “value store” turns out to be wishful thinking. Let’s assume that exchange rate mania was no more than the Dutch tulip-mania.
  • As a result, let us further assume that all speculative “investment” ends. Let’s just say that in 5 years, no one is interested in holding on to a bitcoin based on the expectation that its value will rise.

But, clearly, Bitcoin is very cost effective when used simply to transmit money for a purchase, loan, gift, or exchange. Even if both parties expect to convert back to regional currency after a short time, it reduces cost and leads to increased retained revenue.

Furthermore, it’s cost effectiveness is maximized as users retain their receipts in Bitcoin pending their own purchase of goods and services. In this way, they avoid any cost associated with a round trip exchange.

  • So let’s assume that consumers and businesses eventually hold 10% of their receipts in Bitcoin longer than a day. In this way, a certain amount of “coins” are required just to cover circulation.

Now, for more of our facts & assumptions…

  • Today, 85% of transactions are US dollar denominated.
  • Each day, the world needs about $3 trillion dollars to float current transactions. Additionally, the currency markets require another 3.98 trillion dollars for banks, exchanges, escrows, reserves and other activities driven by currency “markets”.
  • Let’s further assume that these 2010 figures never grow. Despite China’s massive growth and significant recover in the west after the 2010 recession, we will effectively freeze the world economy at 2010 levels.

There is no reliable data on the turnover rate of purchase and settlements, cash reserves—or how long a dollar typically stays in an individual’s pocket.

  • But if we assume that each dollar is turned over twice each day, we still require more than $3 trillion to grease the world’s daily needs. And that’s just US dollars.

Now, let’s make some reasonably conservative assumptions.

• Let’s assume that in 5 years, the faction of global transactions conducted online amounts to about 5% by value. (I believe that it is already far past this, but I am striving to be very conservative).

• Let’s further assume that 5% of these transactions use a new age cryptocurrency built on Satoshi’s model.

• My boldest assumption is that Bitcoin will be the market leader in virtual currencies. If any become viable, Bitcoin will be involved in 90% of digital currency transactions. That’s because it has already attained critical mass as evidenced by media frenzy, attempts at regulatory action, and the comparative market caps for various “coins”.

For these reasons—and the mechanisms of a two-sided market effect, it is unlikely that two parties will find it quick, simple and inexpensive to designate an alternate cryptocurrency for their transaction.

Finally, here is a fact rather than an assumption.

• There are currently 12.6 million BTC in circulation (the Bitcoins that have been mined to date, less a few that have been lost). But the total number of Bitcoins that can ever be available is 21 million. That’s it. There will never be inflation. No one can mint additional coins to cover national debts, public works bonds, or war reparations. It simply cannot be done. Bitcoin is product of math and not of monetary policy.

O.K. So, where does this leave us? It leaves us with a fairly straightforward calculation. Let me set up the calculation this way:

If there are eventually 21 million “units” divided amongst a daily liquidity requirement for $6 trillion dollars. And, if we divide the liquidity assumption by our very conservative assumptions, how thin must you slice the unit to buy a house or a hamburger? Or, more specifically, what fraction of a bitcoin will be equivalent to $1 of purchasing power?

If I were to complete the calculation, my Blog subscribers would think that I have lost my senses! The resulting value of Bitcoin dwarfs any speculative assessment that I have seen—even those that don’t restrict their analysis to conservative assumptions. But just because I am copping out of the final numbers crunch, don’t let it stop you! Play with the assumptions and the numbers…Just don’t play with the facts!

Now, it’s your turn to speak up. Where do you think that Bitcoin will be in 5 years?

— Worthless?
— Still around $450/BTC?
— Or very much different?

Others perspectives on the value of a bitcoin:

Disclosure:  AWildDuck and its editors are charter members of the Cryptocurrency Standards Association.
CRYPSA has no currency investments, and no stake in the exchange rate of any digital currency

China creates a Bitcoin buy opportunity

When governments seek to inhibit, retard or ban a grassroots movement, it almost always has the opposite effect. Official acts of suppression tend to fuel publicity and growth by shining a light on the activity or venue that some wish to suppress.

The US government apparently knows this. Perhaps that is why a Justice Department official said on November 18 that Bitcoins can be a “legal means of exchange” at a U.S. Senate committee hearing.

  • Mythili Raman, acting assistant attorney general at the department’s criminal division, told the Committee on Homeland Security and Governmental Affairs “We all recognize that virtual currencies, in and of themselves, are not illegal”.
  • Federal Reserve Board Chairman, Ben Bernanke, told the Senate committee that the U.S. central bank has no plans to regulate the currency. He wrote to lawmakers: “Although the Federal Reserve generally monitors developments in virtual currencies and other payments system innovations, it does not necessarily have authority to directly supervise or regulate these innovations or the entities that provide them to the market”.

Of course, as with any monetary authority, the US government needs to preserve public faith in the dollar, and also avoid an exodus to digital currencies, even if used only for online transactions. But rather than attempting to ban individuals from investing in Bitcoin or using it as a currency, the US subtly discredits Bitcoin by placing fear and doubt in the minds of would be traders. For example, in this interview, former fed chairman, Alan Greenspan, explains with remarkable clarity why he believes it is foolish to accept Bitcoin as a currency.

Dr. Greenspan is smarter than me and I am certain that he believes what he says. But I respectfully disagree that trust comes only from the Aristotle doctrine of intrinsic value. Even without the backing of a trusted government or bank, investment value can arise from a combination of provable scarcity and widespread recognition.

Short term investment?  —  or
Long term exchange medium?

I prefer to study Bitcoin as an emerging global currency rather than as an investment vehicle. But even as an investment, its potential is inextricably linked to the likelihood that it will catch on as a currency—at least in some sectors or in some countries. So, let’s look at this possibility…

The long term viability of Bitcoin as a currency depends upon sustained trust by a large number of vendors and consumers. That is, buyers and sellers must feel that there will be broad or growing audience to accept the coins that they accrue, and that the value of their savings—or even of daily receipts—will not be eroded by inflation or a sudden lack of faith. (I am not too concerned with wild swings in exchange value during early adoption. These tend to be overlooked by “bleeding edge” adopters or at least the significant fraction of them that have a strong stomach).

Why is Bitcoin falling?

Bitcoin_pullbackThe short answer: it’s not falling for long. It is adjusting in response to politics, but it almost certainly will return to its historical trend.

The upward path of Bitcoin is already the stuff of legend. The exchange rate with the US dollar rose from nothing to $12 in the first 2 years of trading. This year, it peaked at $1240 on Thanksgiving Day in late November, but then pulled back as low as $650 over the next week. The fall was precipitated by a warning from the Chinese government to its citizens. Their announcement did not ban owning or trading Bitcoins, but it warned citizens that it was a very risky investment and also that it must not be used as currency in any transactions.

After pausing at around $700 for a day, it returned to a range of $850~1050 for most of December. But there was another sudden drop last night, on December 17. It pulled all the way into the high fours before settling between $550 and $600. (This posting was written on Dec 18).

But what happened last night? What caused the second nosedive in this graph?

China_effect_on_Bitcoin

Answer: China is at it again. It is using direct engagement rather than subtle persuasion in an attempt to block gradual adoption of a decentralized, uncontrollable phenomenon. Last night, China’s biggest Bitcoin exchange was barred from accepting new Yuan deposits. But it was not shut down. Citizens can continue to sell and trade Bitcoins that are already in their account and the exchange can still accept cash from outside the country.

Some would say that the downward pressure is a natural response to law and public policy. Wild Ducks augment this argument by pointing out that the fall is a temporary and technical effect. More to the point—we see it as a buying opportunity.

Of course, I acknowledge the short term risk and I continue to downplay the role of Bitcoin as an investment. But I can’t shake the notion that early adoption leads to appreciation over the course of a maturing commodity. I also can’t shake extreme excitement over a property of Bitcoin that places it head-and-shoulders above government and bank-backed currencies: The supply is capped. It simply cannot be printed, inflated, or used as a political tool. It also resists efforts of governments to attack personal wealth as the basis for mandatory redistribution, at least without full and wholehearted consent of the governed.

Given the choice of using it as currency later or owning it earlier, why not do both?

Further reading:

Ellery Davies is acting technology editor for AWildDuck. He dabbles in law, economics, and public policy and has been fascinated with Bitcoin for years.