Key Post Why Bitcoin has value

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fpalb

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I and a few others have recently been posting on a variety of different bitcoin related threads, and Brendan asked me if I could make the case for bitcoin with a single comprehensive post to kick off a new thread. I think that's a good idea, so here we go...

Disclaimer
This post is specifically explaining the reasons why people find value in bitcoin and therefore has a pro-bitcoin bias. I have not written much about the risks, threats or limitations of bitcoin or cryptocurrencies in general. This post is NOT a recommendation that you buy bitcoin but moreso an explanation of why others, including me, have.

Brief technical background
I don't want to delve into the technical details about what the bitcoin blockchain is and how it works here, firstly because it's complicated and can't be done concisely, and secondly because this thread already has many comprehensive posts on the first page covering the main concepts. I'll add that if you're comfortable with a bit of maths, and want to dive deeper into this aspect there's a good 25 minute youtube video here by the popular maths channel 3Blue1Brown
The rest of this post assumes that you know the gist of what bitcoin is and what it can do, but I'll reiterate some important points:
  • Bitcoin is an internet protocol which allows a distributed ledger to be updated and shared in a reliable and immutable manner between peers without relying on trust or third parties.
  • The balances on the ledger, are denominated in bitcoin units, which are capped at a maximum of 21 million, and each is currently divisible to 8 decimal places. The balances have no value beyond what the participants collectively believe they represent.
  • It is an open system which people voluntarily participate in. It is not a company, or a product. There is no central authority in charge of bitcoin.
  • You do not need permission to participate, bitcoin is available to anyone regardless of age, status or geographical location as long as they can run software that speaks bitcoin and they've an internet connection.
  • The ledger is public and all transactions can be verified by anyone who chooses
  • The code is public and not copyrighted, anyone is free to make improvements or build on top of it.
  • Despite being digital, bitcoin has a lot in common with physical cash (both good and bad), it is a bearer instrument so you are free to transact with whomever you choose without risk of further transactions without your consent. If you lose it or are conned out of it, no one is going to reimburse you. It can be secured well, but it is not fool proof and will not prevent you from securing it poorly.
  • Bitcoin has been running for 9 years, with plenty of people trying to break it by finding flaws in the concept or the code. There have been bugs, particularly in the early days, but it seems pretty mature and stable by now.
What gives bitcoin its value?
This is the main focal point of this post. A lot of what I say below was already said on the "Bitcoin is not like gold" thread, which meandered a lot, but it's important.
The first thing to consider is that when a system is open and decentralised different people may use and value it for different reasons.

If you ask 10 people what use the internet is to them you might get ten different answers, and none of them may be things that the inventors even considered when they were creating the protocols that act as the foundation of the internet. We don't know what people will build using blockchains in future, and I don't even know for sure everything people currently do with them, but a good place to start is with the use as money.

To make the case for whether bitcoin can be considered money, I need to go into the fundamentals of the concept of money itself and its history.

Defining Money
Money is defined by its function, not its form. From wikipedia: "The main functions of money are distinguished as: a medium of exchange; a unit of account; a store of value.... Any item or verifiable record that fulfills these functions can be considered as money.

Also via wikipedia: "Money is historically an emergent market phenomenon establishing a commodity money, but nearly all contemporary money systems are based on fiat money." So for much of human history, what was money was not necessarily dictated from a position of power, but instead emerged from the ground up.

Even just considering gold and euros as two types of money, we can say some things about money:
  1. Money does not need to have physical form (most euros exist as entries in a digital database)
  2. Money does not need to be endorsed or backed by a government (gold is decentralised)
  3. If something can fulfill the functions of money, that is enough to use it as money, it does not need to serve any other purpose (basically the intrinsic value argument, euros are only useful as money)
What properties are useful for fulfilling the functions of money, why did gold win?
So the history of money is that various civilizations used all sorts of things, some were commodity moneys, things used as money that also had other utility other than being money such as bronze, salt and gold. Other things didn't have much or any commodity value such as cowry shells, rai stones, tally sticks.

Why did gold emerge as the clear winner over everything else that people tried? The first answer you usually get is 'because it has intrinsic value, it has industrial uses, and it's desirable for jewelry". Fine, but lots of things have intrinsic value, and many are more useful and important than gold, like food. Diamonds are arguably more desirable in jewelry and also have industrial uses, but they are not used as money to the extent that gold is. (see also: Paradox of Value and Subjective Theory of Value)

The reason I propose is that gold, of all naturally occurring things in the world has the best combination of properties that help make something fulfill the functions of money:
  • portablity
  • fungiblity
  • robustness
  • verifiablity
  • scarcity
  • divisibilty
Do you agree that the better something is in terms of all of those properties, the better it can work as both a store of value and medium of exchange? Can you find any other element in the periodic table that has a better combination? Can you think of anything else in the natural world that does? If not, do you think this is a coincidence?

Thought experiment: Is it possible that gold became used as money purely because in the absence of mankind being able to create a purpose-built monetary system gold was the best available thing to use as money and that the industrial and decorative uses are coincidental?

Why did gold get mostly replaced by fiat?
Horses were the main mode of transport for 1000s of years, the best naturally occurring thing that people could use for the function of transport. Then people eventually figured out how to create a a purpose-built technology that fundamentally improved on it and that was pretty much the end of horses.

Eventually people figured out purpose-built technologies for money too. Fiat, and especially digital fiat drastically improves the portability, verifiabilty and divisibility aspects of gold, making it way more practical to use as a medium of exchange. The trade offs are that fiat is not as robust (your digital accounts have counter-party risk) and more importantly fiat does not have absolute scarcity, meaning that fiat is worse as a store of value.

Bootstrapping and confidence
Whenever you accept money as payment or use money to store value you do so with the expectation that at a future date someone else will accept it as payment from you i.e. you never accept money to consume it (or we would consider it barter not money). That means you need to have enough confidence that there will be continued widespread demand for the money.

When all monetary systems start they face a bootstrapping problem, why would the first person accept something as money when they don't know if anyone else will in future? While something might actually be capable of fulfilling the functions of money, if it cannot reach a critical mass of users it may never actually be used as money.

I think for gold it makes sense that the intrinsic value helped bootstrap it. It's less risky to accept something as money when you know it will always at least have industrial uses in future. For fiat it can be bootstrapped by the government endorsing it as legal tender, coercing the population to use it by forbidding other money and forcing payment of taxes in it.

The conclusions drawn from the above lengthy post are:
  1. Money is anything which can function as money
  2. Something with the combination of properties that mean it can best fulfill the functions of money will emerge as money and eventually succeed over worse forms of money.
  3. Gold became the main global money because it had the properties which made it better than anything else at being money (intrinsic value is coincidental, but helped bootstrap it).
The Bitcoin thought experiment
Then we arrive at Satoshi's proposal:
As a thought experiment, imagine there was a base metal as scarce as gold but with the following properties: - boring grey in colour - not a good conductor of electricity - not particularly strong, but not ductile or easily malleable either - not useful for any practical or ornamental purpose and one special, magical property: - can be transported over a communications channel If it somehow acquired any value at all for whatever reason, then anyone wanting to transfer wealth over a long distance could buy some, transmit it, and have the recipient sell it. Maybe it could get an initial value circularly as you've suggested, by people foreseeing its potential usefulness for exchange. (I would definitely want some) Maybe collectors, any random reason could spark it. I think the traditional qualifications for money were written with the assumption that there are so many competing objects in the world that are scarce, an object with the automatic bootstrap of intrinsic value will surely win out over those without intrinsic value. But if there were nothing in the world with intrinsic value that could be used as money, only scarce but no intrinsic value, I think people would still take up something. (I'm using the word scarce here to only mean limited potential supply)​


And that is what bitcoin ultimately is, putting the above thought experiment into practice in real life and seeing how it plays out.

Comparing Bitcoin, Fiat and Gold in terms of the functions of money
To understand why over the last 9 years since it launched that this experiment has been growing in users and therefore value, I will revisit the three functions of money mentioned earlier and rate how well bitcoin, fiat and gold fulfill them:

Medium of Exchange
Gold is clearly the worst, it's the least portable, it's hard to divide, it's also arguably harder to verify, it's not widely accepted.
Fiat is the best for the vast majority of cases, especially where you have access to the best fiat (dollars, euros) and 1st world financial services.
Bitcoin is the best when fiat is forbidden, it can also be cheaper and faster in cases where you want to send money across international borders or there are other frictions with fiat.
Bitcoin cannot currently handle transactions at any significant global scale. This MUST improve for bitcoin to ever have any widespread use as a medium of exchange. BUT IF the lightning network or other such layers on top of bitcoin provide a real solution to this there is potential for instant secure cheap transactions without geographical boundaries, there is potential for micro-payments on a scale we've never seen - it may be better than fiat in many ways, but it does not work yet and may not.

Store of Value
This is where it gets interesting, but firstly I want to clarify what we mean by the "store of value" function of money here: It's acquiring something with the sole intent of later exchanging it for something else, i.e. not for any intrinsic usefulness of the item itself. Of course one hopes that what they have chosen as a store of value maintains or increases its value over time but no store of value guarantees this in real terms, and the risk/reward is variable between different stores of value.

I think there are two aspects to the store of value function this which I'll address separately:

1) is it likely to maintain it's real value over time
Gold is probably the winner here, it's definitely the winner in terms of robustness, it has a long history, it's recognized globally, it has no exposure to failure of a single state, it's limited in supply by the laws of physics, it has some non-monetary value to provide an almost certain floor as a consolation prize even if its use as money dwindles.

Fiat varies from country to country. In Argentina,or Venezuela it's terrible. USA and Europe not too bad, for now. I guess people thought GBP was not too bad, and then Brexit happened, so you never know. Will the euro exist in 5 years? probably, 20 years? maybe 100? I don't know, not many have lasted that long.

Bitcoin is new with a short history, most would say it has more potential upside and downside than both fiat and gold. There's no non-monetary use to provide a floor. Like gold it is not exposed to risk of any particular state, but any other number of events can cause a loss in confidence. At first glance it's easy to consider it the worst of the 3 here.

2) how practical is it to use as a store of value
This is where I think bitcoin starts to show some advantages over both fiat and gold, and I think this is really important to make up for the other shortcomings of it:
  • without counter-party risk you can secure it with a password
  • without counter-party risk you can store it in a redundant manner in as many geographical locations as you want (and in sophisticated ways using multi-sig wallets).
  • without counter-party risk you can store it cheaply in any amount.
  • it is the most transparent, you always know the exact percentage of the total in existence that you hold, and you can verify this without having to trust anyone else.
  • you can cross international borders with it undetected in any amount.
  • you can prove you hold it without giving anyone else access to it.
  • it is difficult for someone else to know that you hold it unless you reveal it to them.
Unit of account
Not much to say here, this is much less important than the previous two monetary functions and Fiat wins here. From what I can tell things are almost never priced in gold or bitcoin due to the volatility. This is not really a big deal for bitcoin as wallets can do the price translation for you automatically, prices and wallet balances can easily remain denominated in the fiat currency of your choice. Bitcoin of course has fungible standard units which can be used as a unit of account if desired, one niche example of this is that most exchanges price other cryptocurrenices primarily in bitcoin not fiat.

Final Thoughts
For some people bitcoin is a hobby, for others it's a speculative store of value, for others it's a useful medium of exchange for the niche cases where it's advantageous over competitors or is the only option available and for others it's an ideological movement.

I think bitcoin (or one or more other cryptocurrencies) will continue to have value as long as it fulfills the functions of money in unique ways that no other form of money does, and that there is demand for that.

There are many follow-up sections I considered adding to this post, but I think it's long enough already:
  • bitcoin and bubbles
  • The potential future value of blockchains beyond the functions of money (e.g. smart contracts)
  • Limitations (e.g. scaling)
  • Risks
  • Competitors - other cryptocurrencies, centralised blockchains
 

Duke of Marmalade

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Ah Boss you must have got me at a weak moment.:rolleyes:

My initial reply will not nearly be as comprehensive as fpalb's excellent OP.

I am not going to mention miners spending yonks of energy solving useless trial and error hash puzzles.

I am not going to mention the thousands of copy cat cryptos which rather call into question the scarcity value.

I am not going to mention that Bitcoin herself is Forking out offspring clones at an alarming rate

Instead I will focus on fpalb's main contention - the value of bitcoin as a currency.

Only 2% of Wall Street economists and strategists think bitcoin's value is based on fundamentals

The above survey records that 17% of Wall Street economists do not know if bitcoin has value. I would have been with that 17% if you had asked me before AAM started these threads. Since then I have become most firmly of the view that this is one massive bubble. I also base this on the almost unanimous view of respected economists and Nobel laureates such as Paul Krugman. The enthusiasm of non economists even successful ones like Bill Gates/ Richard Branson appears driven by motives other than rigorous economic analysis, motives which fpalb has listed.

But let us see if there is a "fundamental" argument. It purports to be a currency and as fpalb points out its value as a currency depends on critical mass, that is the amount of adoption by the general public.

Investopedia speculates that if 15% of the World's transactions were done by bitcoin that would justify a price of $100K. Let's take that at face value. Where is bitcoin today on this metric? Well Visa processes 150 million transactions per day, bitcoin processes 300,000. Let's assume that Visa accounts for 15% of World transactions. Then if these numbers are comparable, bitcoin would be 1/500th of the way to that Investopedia target. That is a price of $200.

But the numbers are not comparable. Visa's transactions are genuine purchases of goods and services. The great majority of bitcoin transactions are buying and selling fiat currencies for speculative purposes. Purchases of goods and services will in most cases be via an intermediate exchange for fiat. The very rare nerd will actually pay transaction fees of 20$ just to be able to show off that she bought a cup of coffee with bitcoin. But, and I am not trying to demonise bitcoin by association, the only people who genuinely find it more convenient to transact in bitcoin are those who have something to hide. I am going to be generous and suggest that 1% of bitcoin transactions are genuinely the chosen convenient way to buy a good or a service. That puts the current "fundamental" value on the Investopedia metric at 1% of $200 or $2. Put another way bitcoin is 1/50,000th the way towards 15% adoption as suggested as a possible target by Investopedia and 1/10,000th the way towards the rate of adoption implied by current price levels .

Of course, you might argue that it has a long way to progress in terms of adoption from today's position. But here's the rub. It will never be allowed to make any significant penetration. Control of the fiat currency is an essential feature of a modern economy. Any threat to that will be suppressed forthwith, and such suppression would be very easy, unlike for example the elimination of drug dealing. Central Banks already make comments along the lines that bitcoin is not yet a threat, which is not surprising since it is at 1/50,000 of that Investopedia goal in terms of adoption. The implication is that it will not be allowed to become a threat.

Store of Value

I have to say something about store of value. As fpalb observes the term is open to varying definitions. To me the various definitions are best understood in terms of what objective is the value being stored for.

I don't think there is anyone on the planet saving for a deposit on a house in bitcoin. Bitcoin's first weeks on the futures exchange have shown it to be more volatile than oil, orange juice, pork bellies, anything in fact. If you are saving for a deposit on a house you do it in the fiat currency of your country, which is better than even gold for the purpose.

Perhaps it is a store of value or insurance against Armageddon. Gold is yer only man here. I can hardly envisage a situation where the World has gone into meltdown but a digital entry on your SmartPhone has kept its value.

There remains that it might represent an alternative store of value to those with something to hide.

So in summary on fundamentals and taking SN's thought piece into consideration I could see a value for bitcoin of around $5 (which allows for an increase in adoption from today's adoption value of $2). However, its very success ensures that it is unlikely to stabilise at these values, for if it falls from $20,000 to less than $10 it will have lost all credibility.
 
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cremeegg

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AN excellent post from fpalb, setting out the claims of Bitcoin, with nothing overstated.

The only point I would give greater emphasis is the question of intrinsic value.

Fiat currencies have an intrinsic value in that a Euro represents a claim on the output of the Eurozone, Bitcoin does not have a comparable intrinsic value. Fiat currencies can be devalued, this represents a diluted claim on the value on the Eurozone. The value of the output of the Eurozone can also increase. For me this lack of intrinsic value means that Bitcoin is backward looking to pre fiat currency methods of exchange.

If the transaction costs of Bitcoin can be reduced or eliminated it may come to find use. I liked the phrase "fiat friction", however I think Bitcoin barriers will continue to be more significant for transactions.

Mostly Bitcoin may replace gold as a store of value, for those people who like gold for that purpose. I have never understood the attraction of gold for this purpose. I wouldn't dream of keeping my savings in gold.

It offers many disadvantages against Euros etc as a means of exchange, the only advantage I can see is combining anonymity with electronic transfer. Not something public policy is ever likely to encourage.
 

Brendan Burgess

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fp

A great post indeed. A very useful contribution to the Bitcoin debate. (Incidentally, a few people told me that they could not understand blockchain until they read your post on that.)


"Bitcoin is the best when fiat is forbidden, it can also be cheaper and faster in cases where you want to send money across international borders or there are other frictions with fiat."

Most of the Bitcoin transactions are done in Japan, South Korea, China and the USA. (Is that correct?). They all have national currencies, so I am not sure what countries "forbid fiat"?

For the sake of argument, let's accept all of your arguments for the moment.
  • Gold has its weaknesses
  • National currencies have their weaknesses
  • Bitcoin has advantages over gold and national currencies both as a medium of exchange and as a store of value
Accepting all these, how do you value it?

Why is it worth $12,000 per Bitcoin?
Why is it not worth $1 per Bitcoin?
Why is it not worth $1m per Bitcoin?

fp - Could I ask you to put a valuation on Bitcoin? Even a range of valuations.


Why would anyone use Bitcoin over a national currency as a means of exchange? There really is no advantage for any legitimate activity.

If it has no additional value as a means of exchange, then it really has no value as a store of value.

There might be some utility to Bitcoin. But it has almost zero value. But very intelligent techies have confused utility with value and have fooled themselves and each other into putting a value on it.

And what about all the other cryptocurrencies?
Why are they not worth $18,000 each? They can do all the things which Bitcoin can do. Some may have technical advantages over Bitcoin, I don't know.

Bitcoin is definitely a bubble and it definitely will burst

Why was it worth $1,000 at the start of the year, $20,000 last week and $14,000 at the time of writing?

It only has value because of techno hype and mania. We had it before with Tulipmania. A small number of people convinced themselves that some tulip bulbs were worth the same as a house. We had it before with the dot.com bubble. High intelligent techies who did not understand finance ignored the basics of valuing something.

That is what is happening with Bitcoin. It has no value as a means of exchange. So it can have no value as a store of value. But people have convinced each other that is has value.

This bubble will burst and many people will lose a lot of money.
 
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Brendan Burgess

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Here is an example of just one day's volatility - today.

upload_2017-12-30_17-26-2.png

The low was 15% below the high all withing a few hours.

How could you price anything with that?

Let's say I want to buy a computer for the Bitcoin equivalent of $1,400.

Do I pay 0.097 Bitcoin or 0.11 Bitcoins? It depends on the time of day.

Tomorrow it might be 20% more or 20% less.

It's useless. Therefore, it's worthless.

If it were worth a stable $1 per Bitcoin, then it might have some utility.

Brendan
 

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fpalb

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AN excellent post from fpalb, setting out the claims of Bitcoin, with nothing overstated.

The only point I would give greater emphasis is the question of intrinsic value.

Fiat currencies have an intrinsic value in that a Euro represents a claim on the output of the Eurozone, Bitcoin does not have a comparable intrinsic value. Fiat currencies can be devalued, this represents a diluted claim on the value on the Eurozone. The value of the output of the Eurozone can also increase. For me this lack of intrinsic value means that Bitcoin is backward looking to pre fiat currency methods of exchange.
So the value of bitcoin or euros may go up or down. Bitcoin is more volatile so you have more risk of downside, but also more potential for upside. Bitcoin has exposure to a different set of risks than the euro. It's a trade-off which depends on your risk tolerance and how diverse you want to be. It might help to consider that many people may consider having 1% of a balanced portfolio in bitcoin for example, money they can afford to lose. This is how it started for me. You're right that its looking backwards to decentralised money, which is something most people are now unfamiliar with.

If the transaction costs of Bitcoin can be reduced or eliminated it may come to find use. I liked the phrase "fiat friction", however I think Bitcoin barriers will continue to be more significant for transactions.
I'll say more about the future of bitcoin as a medium of exchange when I reply to Duke. I'll just say that 'fiat friction' varies hugely depending on the context. It may depend on your age, geographical location, gender, whether you have a bank account, native currency, how you make a living etc. I wrote about a specific use-case as an example already here.

Mostly Bitcoin may replace gold as a store of value, for those people who like gold for that purpose.
This has been happening already for the past few years. Some gold bugs see crypto as a technological improvement and have moved either partially or fully from metals to crypto, other gold bugs feel threatened by it and are hostile towards it.

I have never understood the attraction of gold for this purpose. I wouldn't dream of keeping my savings in gold.
None of the people I know in Ireland to my knowledge have any gold either. This again comes back to the context - being in a first world country with access to modern financial products and having one of the worlds top currencies as your native currency. I've a friend from Pakistan who says that it's very common to have gold, it's frequently used as a store of value there and given as gifts etc.

It offers many disadvantages against Euros etc as a means of exchange, the only advantage I can see is combining anonymity with electronic transfer. Not something public policy is ever likely to encourage.
Again, think beyond the euro, and beyond your own context. Also note that anyone anywhere finding bitcoin useful for non-speculative purposes contributes to people in the 1st world speculating on it.
 

noproblem

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In no way would I castigate anyone for writing the above, but?
1. Bitcoin obviously has a value for some but absolutely no one can know its value going forward.
2. The post is really an opinion.
3. I'm none the wiser from reading it.

The funny thing though is that I enjoyed reading it.
 

fpalb

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fp

A great post indeed. A very useful contribution to the Bitcoin debate. (Incidentally, a few people told me that they could not understand blockchain until they read your post on that.)
Thanks for saying so, and inviting me to make the original post.

You've asked a lot of questions that really require longer answers that what I'm giving below in this reply but I'm trying to keep it concise.
"Bitcoin is the best when fiat is forbidden, it can also be cheaper and faster in cases where you want to send money across international borders or there are other frictions with fiat."

Most of the Bitcoin transactions are done in Japan, South Korea, China and the USA. (Is that correct?). They all have national currencies, so I am not sure what countries "forbid fiat"?
I want to be clear that when I said the first line above it was purely in relation to bitcoin being used as a medium of exchange, and not as a store of value.

I also want to be clear about the difference between trading volume and bitcoin transaction (this also relates to some of what Duke said). Bitcoin trades happen locally on an exchange and typically does not result in any bitcoin transaction for the trade itself, because the exchange has a pool of everyones deposited bitcoin and fiat, and just updates internal user account balances when trades happen. Similar to how if you transfer money from one account to another in the same bank they don't need to make a SEPA transfer (I hope!) they just update their own ledgers. What DO cause bitcoin transactions related to trading are deposits and withdrawals of bitcoin to or from the exchange from a users personal wallet, but these do not necessarily happen every time some makes a trade.

So a lot of the recent trading volume has for sure been in Japan and South Korea. The US has always accounted for a large part of the bitcoin ecosystem. China used to be number one in trading volume, though the numbers are a bit unreliable especially since many of their exchanges had zero-fee trading, making it free to trade at high frequency which inflates volume.

As for the 300k or so bitcoin transactions themselves every day, we don't know exactly who is making them or why. I haven't investigated if anyone has a reliable estimate of how much of them are due to withdrawals and deposits from exchanges.

For the sake of argument, let's accept all of your arguments for the moment.
  • Gold has its weaknesses
  • National currencies have their weaknesses
  • Bitcoin has advantages over gold and national currencies both as a medium of exchange and as a store of value
Accepting all these, how do you value it?

Why is it worth $12,000 per Bitcoin?
Why is it not worth $1 per Bitcoin?
Why is it not worth $1m per Bitcoin?

fp - Could I ask you to put a valuation on Bitcoin? Even a range of valuations.
This is difficult, especially after this year. The bottom line is that an increase in adoption and therefore demand will result in a higher average price in the long run. So you have to consider whether bitcoin has reached the peak of it's potential users or not (regardless of what they are using it for).

The closest thing I can use as a barometer is to consider, as cremegg mentioned, bitcoin eating into gold's market as a store of value. All of the above ground gold is worth 7.5 trillion dollars, about 40% of that (or up to 90% depending on who you ask) is estimated to be non-industrial monetary use, i.e. as a store of value. In the past I figured it wasn't crazy that bitcoin could reach 1% of that and this year it went above 5%. I didn't think this would happen without significant institutional investments and not before an ETF was launched. Some institutional money has come in this year, but if an ETF does launch the consensus seems to be that lots more would pile in.
The really crazy thing to consider is if bitcoin became a n accepted conventional institutional investment vehicle, whether a nation state will publicly declare holding some bitcoin reserves, and whether it would prompt others to do the same. Seems far fetched but no more so than 10k bitcoin did 4 years ago. This is the best-case scenario for the store-of-value function and probably required for bitcoin to reach significant 6 figures. So I think we're reaching the point where the potential upside of the store of value case is dwindling.

The potential downside is a value of zero if there is complete failure or bitcoin no longer offers any advantage in utility over competitors.

Why would anyone use Bitcoin over a national currency as a means of exchange? There really is no advantage for any legitimate activity.

If it has no additional value as a means of exchange, then it really has no value as a store of value.

There might be some utility to Bitcoin. But it has almost zero value. But very intelligent techies have confused utility with value and have fooled themselves and each other into putting a value on it.
The combination of utility and relative scarcity always results in value, it's just a question of how much value. I've answered the question many times already of why people use it as a medium of exchange - it's niche cases where it's the best option - in the first world it's illegal stuff, semi-legal stuff, sensitive purchases where privacy is important, inter-continental transactions or remittances. For developing countries it's because they have higher frictions or no other option like this case.

And what about all the other cryptocurrencies?
Why are they not worth $18,000 each? They can do all the things which Bitcoin can do. Some may have technical advantages over Bitcoin, I don't know.
This requires a long answer, but the bottom line is that things with network effects tend to have an outright winner with a long tail distribution. The larger a network is the more difficult it is for a competitor to overtake it. The more competitors there are the harder it is for any one to gain critical mass. The first-mover advantage has counted for a lot, but is not insurmountable, it is a real possibility that bitcoin can be overtaken by a competing cryptocurrency if something else can find a way to significantly provide better utility, so if you own bitcoin you should be ready to make the switch in that situation.

Bitcoin is definitely a bubble and it definitely will burst

Why was it worth $1,000 at the start of the year, $20,000 last week and $14,000 at the time of writing?

It only has value because of techno hype and mania. We had it before with Tulipmania. A small number of people convinced themselves that some tulip bulbs were worth the same as a house. We had it before with the dot.com bubble. High intelligent techies who did not understand finance ignored the basics of valuing something.

That is what is happening with Bitcoin. It has no value as a means of exchange. So it can have no value as a store of value. But people have convinced each other that is has value.

This bubble will burst and many people will lose a lot of money.
I can write a whole other reply specifically about bubbles if people would like.

Here is an example of just one day's volatility - today.
The low was 15% below the high all withing a few hours.

How could you price anything with that?

Let's say I want to buy a computer for the Bitcoin equivalent of $1,400.

Do I pay 0.097 Bitcoin or 0.11 Bitcoins? It depends on the time of day.

Tomorrow it might be 20% more or 20% less.

It's useless. Therefore, it's worthless.

If it were worth a stable $1 per Bitcoin, then it might have some utility.

Brendan
Well as I said in my original post, almost no one is pricing things in bitcoin, but it's also not a necessity. People using it as a store of value don't care about whether things are priced in it or not and we don't care about the short term volatility either. The volatility is a downside for those using it as a medium of exchange, but the niche cases where bitcoin is being used for its medium of exchange function.

On the plus side, since it's digital the software can do all of the heavy lifting for dynamic currency conversion. Merchants can still display prices in dollars for example with a conversion done at invoice time. All of the popular wallets also support displaying your bitcoin values in fiat currency denominations if you prefer. The merchants must also of course immediately trade the bitcoin to fiat after the transaction if they do not want to be exposed to bitcoin price volatility. Services like bitpay handle all of this.

I think you're overestimating how much people using bitcoin care about volaitility, if we cared that much we wouldn't be using it.

If it were worth a stable $1 per Bitcoin, then it might have some utility.
It's actually the complete opposite, things with larger caps tend to be less volatile, and the numbers have shown bitcoin has been getting less volatile as it has grown. It used to be "but it falls 80% in a day" not 20%. I guess if it ever gets to the 6 or 7 figure range you might see volatility more in line with top currencies.

I have so much to say on all of these tangents but I do not have time or energy right now to follow up in-depth on everything:(
 

Brendan Burgess

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Hi fp

I must press you on how much Bitcoin is actually worth. In my view it's worth zero or close to zero. Let's say $1 each for convenience. If you were to argue that it is worth $10, I would disagree with you, but acknowledge that I might be wrong.

The market says it's worth $14,000 this morning. I will not acknowledge that I could be wrong in saying that it's not worth this.

So what do you think it's worth?

The potential downside is a value of zero if there is complete failure or bitcoin no longer offers any advantage in utility over competitors.
That is a good starting point. You acknowledge that it could be worth zero. It doesn't seem to offer any advantage over competitors now, so that would suggest that it is worth zero.

The closest thing I can use as a barometer is to consider, as cremegg mentioned, bitcoin eating into gold's market as a store of value. All of the above ground gold is worth 7.5 trillion dollars, about 40% of that (or up to 90% depending on who you ask) is estimated to be non-industrial monetary use, i.e. as a store of value. In the past I figured it wasn't crazy that bitcoin could reach 1% of that and this year it went above 5%.

This is the best-case scenario for the store-of-value function and probably required for bitcoin to reach significant 6 figures. So I think we're reaching the point where the potential upside of the store of value case is dwindling.
"significant 6 figures" i.e. over $100,000 per coin. So in other words, you are suggesting that there really is no upper limit.

The gold argument makes no sense at all to me. You seem to be saying that because the total "value" of Bitcoin is 5% of 7.5 trillion dollars, therefore it's worth it. But if Bitcoin doubles to $28,000 it will be worth 10% of the total value of gold. It's only "worth" that much because it's a bubble. It's a circular argument and just does not justify the price.
I didn't think this would happen without significant institutional investments and not before an ETF was launched. Some institutional money has come in this year, but if an ETF does launch the consensus seems to be that lots more would pile in.

Institutions would ask the same question I am asking. How much is it worth? As the question can't be answered, there will be no significant institution investing significant money in Bitcoin.

But let's say one of them goes mad and ignores the laws of economics and starts buying Bitcoin. So what? It might well fuel the bubble, but it won't change the underlying value which is zero.

Come to think of it. If institutions or hedge funds come to look at Bitcoin, they are far more likely to end up shorting it than buying it, if they can do so in any volume.


The really crazy thing to consider is if bitcoin became an accepted conventional institutional investment vehicle, whether a nation state will publicly declare holding some bitcoin reserves, and whether it would prompt others to do the same. Seems far fetched but no more so than 10k bitcoin did 4 years ago.
Who would make the decision to hold Bitcoin reserves? It's quite possible that a mad dictator in a small country could make that decision. Again, that would give Bitcoin a spurt, but would not change its value.

Let's say Donald Trump wakes up tonight and tweets that Bitcoin is the future and that the US Fed should sell gold and buy Bitcoin. Sure Bitcoin would go bananas for a while. But I presume that the Fed would come out after a few days and say that Bitcoin is not a suitable reserve "asset".

So in summary, while your excellent post shows that in some very limited and rare circumstances, cryptocurrencies might have some utility, you have not shown me anything to suggest that it has any value at all.

Brendan
 
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Duke of Marmalade

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Let's say I want to buy a computer for the Bitcoin equivalent of $1,400.

Do I pay 0.097 Bitcoin or 0.11 Bitcoins? It depends on the time of day.

Brendan
And this points to another striking omission from the properties of a currency. Nothing is actually priced in bitcoin. It is ironic that bitcoin was designed to bypass the need for the trust of a central authority and yet all bitcoin transactions (except those pizzas and the ubiquitous cup of coffee) are in the purchase of fiat money.

fpalb cites sterling's woes on Brexit night and since as evidence of the weakness inherent in fiat. It fell 5% that night but Brits did not find in the morning that all prices had been marked up. Over the last 18 months it has contributed about 1% to inflation. The Brexit night 5% fall was a once in 20 year event, for bitcoin it is a once in twenty minutes event.
 

noproblem

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Lets just suppose Warren Buffet, Bill Gates, a few others, invest in Bitcoin as a model from which charities in dire need can draw from? In a way this may set a value for the currency as people tend to imitate sheep in that they follow the leader regardless of where it may, or may not, bring them. Sure there are models from the economic history of finance that forecasts certain things, but it cannot determine if and when a value for something may be set. There are a few leading rams in the money world who could yet determine the value of bitcoin and equally the very same people could indeed sink its value to zero. If these people feel there's a market? They'll be in. If not, they'll have something to say too.
 

Brendan Burgess

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Hi noproblem

It may get celebrity endorsements from techies such as Bill Gates.

But investors have slammed it. Warren Buffett described it as a mirage back in 2014. More recently, he has described Bitcoin as a "real bubble" and told those at his annual investors meeting "you can't value bitcoin because it's not a value-producing asset".

Brendan
 

noproblem

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Hi noproblem

It may get celebrity endorsements from techies such as Bill Gates.

But investors have slammed it. Warren Buffett described it as a mirage back in 2014. More recently, he has described Bitcoin as a "real bubble" and told those at his annual investors meeting "you can't value bitcoin because it's not a value-producing asset".

Brendan

He also invested an awful lot into an Irish Bank?
 

TheBigShort

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Nothing is actually priced in bitcoin. It is ironic that bitcoin was designed to bypass the need for the trust of a central authority and yet all bitcoin transactions (except those pizzas and the ubiquitous cup of coffee) are in the purchase of fiat money.
Nothing is priced in gold or silver either. If bitcoin was designed to bypass central authority in the regard of day to day transactions it is failing, or at least it has a very long, long way to go to becoming that.
Instead however it is acting as a store of value. By any measure its early days in the crypto space and it entering it by buying bitcoin is speculative.
But if 25yrs ago anyone said that the internet would replace the printing press or main st banking or retail shopping they would have been ridiculed. Main st banking, retail shopping and the printing press all still exist, but its clear how much the internet has eaten in to those spaces.
When it comes to banking I can open an account anywhere in the EU. When it comes to retail I can buy from websites all over the world. When it comes to current affairs and news I can source my information unlimited sources. I dont need a state broadcaster or Irish licensed broadcaster to source information.
Crypto is a relatively new phenomenon. In an age of ever increasing digitalisation is it beyond reason to assume that we will increasingly trade through digital currencies?
We already have cashless online banking, but it all requires a central authority or a trusted middleman to verify transactions. Those trusted authorities are susceptible to, (and shown to be) fraud, corruption, manipulation etc. This leads to conflict. A cursory glance of the underlying reasons for conflicts around the globe will invariably point to financial corruption at some level.
The blockchain technology purports to eliminate financial corruption. If true, it surely holds value? If it holds value it will be adopted by those who see that value. How that value manifests itself, through bitcoin or other crypto remains to be seen. Bitcoin has stolen a march on other cryptos.
 

Brendan Burgess

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Instead however it is acting as a store of value.
Gold derives its value from its use as a precious metal in jewellery and in industry. There is a demand for the stuff. It then has a store of value.

Bitcoin derives its value from what exactly?

I can argue that a bag of air is not used as currency, but it does not mean that it can be used as a store of value.

There has to be some utility or some demand for using it. No one has shown how Bitcoin satisfies that.

Brendan
 

Duke of Marmalade

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Nothing is priced in gold or silver either.
Absolutely, and by no stretch could gold or silver be called a currency except maybe for trade between enemy nations, in which case it is really barter.
But if 25yrs ago anyone said that the internet would replace the printing press or main st banking or retail shopping they would have been ridiculed.
If two hundred years ago someone had said we would be flying all over the world in massive metal tube like containers they would have been put away for there own safety. What point are you making?
Crypto is a relatively new phenomenon. In an age of ever increasing digitalisation is it beyond reason to assume that we will increasingly trade through digital currencies?
99% of my transactions are digital, it is hard to see this increasing.
We already have cashless online banking, but it all requires a central authority or a trusted middleman to verify transactions. Those trusted authorities are susceptible to, (and shown to be) fraud, corruption, manipulation etc. This leads to conflict. A cursory glance of the underlying reasons for conflicts around the globe will invariably point to financial corruption at some level.
Maybe you should heed Breadkettle and park Shortie Syndrome just for this thread.
 

TheBigShort

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Gold derives its value from its use as a precious metal in jewellery and in industry.
Yes and if I buy a bar if gold I may use for jewellery or I may use it for industrial purposes.
Alternatively, I may not use it for anything other than a speculative store of value.

I dont think anyone who has bought bitcoin has not acknowledged the speculative element of buying bitcoin. While alot of that speculation derives from pure profit making motives alot of it also derives from the potential of the blockchain technology to establish a trusted decentralised network to engage in financial transactions.
If you believe that is the future, then cryptocurrencies will interest you. Currently it is manifesting itself in bitcoin and other cryptocurrencies.
 

TheBigShort

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If two hundred years ago someone had said we would be flying all over the world in massive metal tube like containers they would have been put away for there own safety
Not really an adequate comparison. The technology to fly had not yet been invented. On the otherhand after the Wright Brothers had flown the first airplane, arguably there were those who would be sceptical to extent that it would take off (no pun intended). Or in what manner it would manifest itself.

Now that blockchain has been invented, to what extent do you think it will be embraced, if at all. And if you think it will be embraced, in what way will it manifest itself?

99% of my transactions are digital, it is hard to see this increasing.
Increasing, no, improving yes.
 

Duke of Marmalade

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Now that blockchain has been invented, to what extent do you think it will be embraced, if at all. And if you think it will be embraced, in what way will it manifest itself?
I think it's fairly fringe stuff considering all the mind boggling technological facilities we enjoy today. It seems to have some use in robust proof of title, of which I don't fully grasp the added value. I cannot predict what uses society will find for blockchain but I feel it will not be in the same league as for example the technology of search engines which are also spin offs of the internet.

Cryptography, of course, of which blockchain is a mere spin off, is highly useful, none more so than in the conventional money transfer infrastructure.
 
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