SINCE its inception, the market for bitcoin has experienced one of the most remarkable bitcoin bubble burst 2013 coaster rides of all time. To answer this question, we need to look at the fundamentals.
A glaring problem then becomes apparent. The problem is that these economies of scale are inconsistent with long-run competition. This implies that the bitcoin system is not sustainable and must therefore collapse. Indeed, these centralising tendencies are already playing out in the bitcoin mining industry. Mining pools are now so big that the original atomistic competition has given way to oligopoly, and there is concern that these mining pools are big enough to threaten the system by subverting the transactions validation process for their own ends: for example, by mounting some kind of double-spend attack. However, in recent months, one big pool, GHash. IO, has openly rejected that idealism and now poses a major threat to the system.
The bitcoin system is thus already reduced to the point where it is relying on trust in the dominant mining pools not to abuse their power. However, distributed trust is the core of bitcoin’s value proposition. In the meantime, there is nothing within the bitcoin system to credibly shore up confidence. The sticking plaster solutions that have worked up to now cannot work indefinitely. At the same time, unlike gold or tulips, bitcoins have no alternative use. There is no reason why bitcoin should be exempt from the same fate.
For any investor, the rational decision is to sell before the roof falls in. Kevin Dowd is professor of finance and economics at Durham University and a partner in Cobden Partners. 32nd Cato Annual Monetary Conference, Alternatives to Government Fiat Money, at the Cato Institute in Washington, DC today. To bring you the best content on our sites and applications, Meredith partners with third party advertisers to serve digital ads, including personalized digital ads. Those advertisers use tracking technologies to collect information about your activity on our sites and applications and across the Internet and your other apps and devices.
To bring you the best content on our sites and applications, Meredith partners with third party advertisers to serve digital ads, including personalized digital ads. Those advertisers use tracking technologies to collect information about your activity on our sites and applications and across the Internet and your other apps and devices. Disclosure statement The authors do not work for, consult, own shares in or receive funding from any company or organisation that would benefit from this article, and have disclosed no relevant affiliations beyond their academic appointment. Anglia Ruskin University and Trinity College Dublin provide funding as members of The Conversation UK.
The Conversation UK receives funding from Hefce, Hefcw, SAGE, SFC, RCUK, The Nuffield Foundation, The Ogden Trust, The Royal Society, The Wellcome Trust, Esmée Fairbairn Foundation and The Alliance for Useful Evidence, as well as sixty five university members. This huge spike in value has many asking if it is a bubble or if the high price today is here to stay. Finance defines a bubble as a situation where the price of an asset diverges systematically from its fundamentals. Like any asset, Bitcoin has some fundamental value, even if only a hope value, or a value arising from scarcity. So there are reasons to hold it. But our research does show that it is experiencing a bubble right now. We looked at measures, which represent the key theoretical and computational components of how cyrptocurrencies are priced.
New Bitcoin is created by a process of mining units called blocks. So the first measure we examined relates to mining difficulty. It calculates how difficult it is to find a new block relative to the past. Bitcoin mining affects the cryptocurrency’s values. This is the speed at which a computer operates when mining. The faster you can do this, the better chance you have of finding the next block and receiving payment. This relates to how large the chain is at any given time, with larger chains taking longer to mine than shorter ones.
And lastly we looked at the volume of transactions conducted. Any asset, in particular any currency, which is more widely used will be more valuable than one which is used less frequently. Since then the price rise has clearly been exceptional. We then applied an accepted method that is used to detect and date stamp bubbles after they burst. A possibly counter-intuitive result of this approach is that if a fundamental driver and the price of an asset both show an explosive component, we might not conclude a bubble is present. A bubble is when something deviates from its fundamental value. If the fundamental value is itself growing explosively then the price would also.
Think of dividends on a stock. If, somehow, these were to grow at an explosive rate we might expect to see the price do the same. While unsustainable, this is not technically a bubble. To overcome this, we then date stamp a bubble as being present when the price shows an explosive component and the underlying fundamentals do not. The orange lines denote when the price is showing explosive behaviour.