Why Bitcoin is not a bubble 4862
May 1, 2018 at 4:56 PM

From $900 in January to $19,000 in December, Bitcoin definitely had an eventful 2017. The price of the most popular cryptocurrency has somewhat stabilized around $7,000 now. However, there are rising concerns among investors and experts all over the world who believe that Bitcoin is a bubble which could burst any time. Our very own Oracle of Omaha, Warren Buffett, said last year that as Bitcoin cannot be valued due to it being a non-value-producing asset, it is definitely a bubble that would eventually implode.

But while Mr. Buffett and other investors and experts who believe in this theory are not technically wrong, the theory itself is built on an unsound logic. It is important to know that Bitcoin is not your standard stock or real estate property. So, the fundamentals on the basis of which these traditional assets are analysed cannot be applied to Bitcoin.

There is no denying the fact that Bitcoin is indeed not backed by anything. The assets backing Bitcoin are worth $0. Based on this, the current price of Bitcoin which is around $7,000 definitely qualifies as a huge bubble. But based on the same principle, even if the price of Bitcoin was $1 now, it’d still qualify as a bubble as it’d still be backed by assets worth $0. When you are working on a model which deems an asset overvalued at a price above $0, there is a major possibility that the model is not very efficient.

To understand why Bitcoin is not a bubble, let us first try to understand what a bubble actually is.

What qualifies as a bubble?

It is with the help of the fundamentals of an asset that investors value the asset. If the price of the asset diverges from the fundamentals, the asset qualifies as a bubble. For instance, this can be the profits earned from buying a stock of a company over time, cash flow of a company, condition of a country’s economy and even rent earned from a real estate property.

But like stocks or property, Bitcoin does not pay any kind of profits and it is in no way linked to any particular national economy like fiat money. Due to this, it is very difficult to know the underlying value of Bitcoin. The factors which determine a bubble do not really apply to this largest cryptocurrency.

While this is probably the most important reason which disqualifies Bitcoin as a bubble, there are a few other factors which supplement this thought.

Increasing popularity of Bitcoin as a legal tender

While countries like India have already mentioned that they do not accept Bitcoin or any other cryptocurrency as a legal tender, its acceptance is actually increasing.

For instance, in April last year, Japan officially recognized Bitcoin as a “means of payment”. However, the country does not accept it as a legal currency but it can still be used for payments just like fiat currency.

Even in Philippines, Bitcoin is now very commonly used to send and receive money. The central bank of the country noticed this surge in Bitcoin transactions and released a statement for regulating the digital currency so that it can be officially used in the country.

Other countries like Russia and Australia are also known to be Bitcoin-friendly countries that have released similar statements. Also, increasing number of merchants all over the world now accepts Bitcoin as a method of payment. This trend would continue in future too which will make Bitcoin not just another asset for investment but also a currency which can be used for payments.

Bitcoin as a store of wealth in struggling economies

Another reason which disqualifies the Bitcoin bubble is the real world application of the currency in countries with distressed economies. For example, in countries like Bolivia, Zimbabwe, South Africa, and Venezuela, Bitcoin is now functioning as a wealth store. With local currencies of these countries continue to struggle; Bitcoin has turned into a popular alternative currency.

As a matter of fact, the acute payment and liquidity challenge and increasing popularity of this digital currency in Zimbabwe drove the price of Bitcoin on a Zimbabwean crypto exchange, Golix, to $13,900 while the currency was only trading around $8,000 all over the world in October 2017.

With the help of Bitcoin, people and businesses in countries like Venezuela where capital control is known to be stringent, are able to receive remittances for staying afloat financially. In simple words, countries with economic distress have and will continue to witness rising popularity of Bitcoin.

Bitcoin going mainstream

It was only in 2017 that Bitcoin started receiving mainstream coverage. A few years ago, people didn’t really knew what Bitcoin is. However, the majority of people now do know about Bitcoin and its spectacular rise since 2009. Moreover, there are now Bitcoin option contracts, Bitcoin future contracts, crypto funds, and what not to take advantage of the rising popularity of this virtual currency.

This has significantly increased the buying potential of new investors as institutional investors have opened themselves to Bitcoin and other digital currencies.

Limited supply of Bitcoin

The last and a very important reason which makes Bitcoin so valuable is its limited supply. While the currency is getting more popular with every passing day, its supply is limited to 21 million coins. Not just this, even the rate at which new coins are mined decreases over time. This means that the supply is not only limited but is slowing down with time.

While it is FOMO (Fear-Of-Missing-Out) and speculation that is driving the Bitcoin prices, the widespread belief of it being a bubble seems farfetched. More often than not, you’d probably see people who’ve missed the massive rally of Bitcoin dismissing it as a bubble, or a scam, or even a ponzi scheme. A lot of these people don’t really understand how cryptocurrencies work or what a bubble or a ponzi scheme is.

Every new technological advancement, especially in the financial sector, faces a number of roadblocks and it is the same with Bitcoin. While it is almost impossible to predict what the price of Bitcoin would be 5 years or 10 years down the line, terming it as a bubble which is ready to explode is not a very practical way to look at an asset which has made several millionaires all over the world.

The argument about whether it is a bubble or not is sure to continue indefinitely, however, it cannot really be compared to bubbles like the dot com bubble of the 90s or the housing bubble between 2004 and 2007 as the fundamentals of Bitcoin cannot be matched with the fundamentals of the other asset classes.