On the Bitcoin Bubble – April 2013

~The post below is from my Google+ post made on April 4th,2013. Only formatting has been modified from the original post~ 
 In light of the recent press coverage #Bitcoin has been getting, I thought I’d make a quick blogpost on the subject.
If you’ve somehow managed to avoid my Bitcoin spiel in person, Bitcoin is an anonymous, decentralized cryptocurrency.  Think online cash, it’s not backed by any government, floats relative to other currencies, and once you have bitcoin you can spend them completely anonymously.
I was motivated to make this post in light of the tone the news takes when they discuss Bitcoin.  Bitcoin traded at about $13 per bitcoin in early january, as I write this it’s trading at $137 per bitcoin.  This meteoric rise has given the talking heads all they need to call this a “bubble.”

So is it this all a speculative bubble?  Yes, but not in the way that you think.

In the short term, what we’re seeing with the price of Bitcoin is absolutely a speculative bubble.  By speculative bubble, I mean that people are buying Bitcoin solely in the hopes that it will appreciate relative to the dollar or euro, and that they will be able to sell their coins for more money later.  In this regard, the media are correct.  Many people are just hearing about Bitcoin now, they’re nervously watching the EU struggle to secure long term monetary stability, and they see Bitcoin as the perfect way out.
Now, Bitcoin aren’t tied to any real world thing, they are only as valuable as the amount of money people are willing to part with to obtain them, or as valuable as the goods and services that people can buy with them.  If most of the demand for Bitcoin right now is speculative (and there’s a lot of evidence for this), then eventually speculators are going to want to cash out some of that Bitcoin, which could easily cause a run and make the value of Bitcoin plummet.

So why, you might ask, do I still have money invested in Bitcoin when I know this bubble isn’t sustainable and the value will eventually crash?  I’m sticking with Bitcoin because we’ve only seen the tip of the iceberg for Bitcoin’s potential.

While speculation can cause short-term spikes in the price of a financial asset, transactional use is the enduring source of value for any currency.  Dollars have value because you can spend them in exchange for goods and services.  If people stopped accepting dollars, they would be worthless.

Merchants are only just now starting to discover the merits of Bitcoin for their businesses.  Companies like BitPay offer solutions where customers can pay in Bitcoin, and the merchant will receive the equivalent dollar amount immediately, without having to worry about Bitcoin price volatility.  With these kinds of services, it’s only a matter of time before the gym or coffee shop down the street from you lets you pay in Bitcoin too.

Bitcoin payment processors offer fees comparable to or lower than those of credit card companies.  Billions of dollars are lost annually in credit card charge backs, and the credit companies predicate their business model on encouraging American’s to take on unmanageable debt. Bitcoin allows users and merchants to exchange digital money without supporting these credit card companies and propping up the cycle of predatory debt.

In its early days, Bitcoin mainly received attention for it’s discrete exchange applications, as websites like The Silk Road allowed users to exchange Bitcoin for drugs, counterfeits, and other illegal goods and services.  Last month however, BitPay, a service that only deals with legitimately recognized businesses facilitated more Bitcoin transactions than The Silk Road.  The black market uses for Bitcoin still remain, but BitPay’s shows that Bitcoin has just as much potential for legal purchases.  We ought to give Bitcoin the chance to shake off it’s association with illegal activity, as it’s no more deserving of said association than cash.

I really think Bitcoin could be the socially responsible, easy and anonymous currency of the future.  It’s an outlet for those weary of large financial institutions, be they national banks or private investment leviathans, and it carries appeal for socialists and crypto-anarchists alike.  By itself it’s rough and far too complex for most people, but in a free market we’re sure to see new businesses pop up to bridge the technological divide, and make Bitcoin accessible even for a lay-user.

Right now, the $137 price tag for a Bitcoin is mostly based on speculation.  It will probably grow for the next few weeks, maybe few months, but eventually speculators will realize they’ve had enough and they’ll pull out.  This may or may not cause a downward spiral in prices as investors react to the signal and cash out their own holdings.

But, a crash doesn’t mean the end of Bitcoin.  Like I said, the long term value of Bitcoin lies in it’s potential to buy goods and services. Speculators will come and go but as more people start trading in Bitcoin, whether it’s to split up a bar tab, donate to their favorite website, purchase illegal goods, gamble online, or just buy a cup of coffee, the market will thicken and grow resistant to the whims of sentimental investors trying to make a quick buck.

I don’t mean to speak in overly certain terms about Bitcoin’s future.  The preceding is based on my limited knowledge of Economics and of the Bitcoin market, and doesn’t even begin to address the technical issues with scaling or the potential for government regulation.  I won’t pretend to know exactly where the future of Bitcoin is heading, but what I do know for sure is this crazy ride is only just beginning.

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dkori