On 19th February, the price of Bitcoin hit an all-time high of $53,000, the latest milestone in a strong rally. The dramatic rise comes in the wake of a series of high profile endorsements for Bitcoin – notably by Elon Musk. Earlier this month, Tesla announced that it had bought over $1.5 billion in Bitcoin. At the same time, Tesla stated that it would begin to accept cryptocurrency as a payment method. The news sent Bitcoin’s price soaring, from around $45,000 to $49,000 in under a week. In recent months, other figures such as Twitter CEO Jack Dorsey and Bridgewater Associates founder Ray Dalio have also given their support to Bitcoin.
The reaction by commentators to Tesla’s decision was mixed – was it a risky gamble or a well-placed bet? One view says that Tesla can afford to bet big; its large cash reserves (around $19 billion in Q4 2020) gives it considerable latitude. On the other hand, it could be argued that Bitcoin’s price volatility in the past means it was a risky investment. So far, however, it seems that Tesla’s bet is paying off.
As Bitcoin continues its meteoric rise, it’s worth asking what else is causing its price to skyrocket.
The factors driving Bitcoin’s price rise
Munez Thit, co-president of Leeds University Cryptocurrency and Bitcoin society (LUUCABS), said that one reason for Bitcoin’s price rise was a lack of trust in traditional currencies such as the dollar. Bitcoin has a fixed money supply – so far, 18.5 million Bitcoins have been mined out of a possible 21 million. As demand for Bitcoin has increased, its limited supply has made it attractive, especially in comparison to conventional currencies, which lose value to inflation over time.
A key design feature of Bitcoin is something called Bitcoin halving. Munez explained that “every few years the amount of money that bitcoin miners get for mining bitcoin, reduces in half”. These events occur about once every four years. After each, Munez said, “less miners actually want to participate in the activity” due to the reduced rewards.
In addition, to ‘mine’ a bitcoin, miners must solve math puzzles, often using expensive hardware. Mining difficulty (a measure of the complexity of the math puzzles) increases over time, making Bitcoins harder to acquire. All three of these factors contribute to making bitcoin scarcer and more valuable.
Jake Galvin is the other co-president of LUUCABS. He mentioned the blockchain, the technology behind Bitcoin, as another factor that increases trust in Bitcoin. The blockchain is essentially a database that records all Bitcoin transactions and every puzzle piece that gets solved by miners. Importantly, it is designed so that each transaction and puzzle solution must be confirmed by a network of computers all over the world. “This decision-making allows for security since to control the entire network, you must control over 50% of all nodes”, Jake added.
Munez also noted the increased involvement of household names and institutional investors in Bitcoin. For example, in October 2020, Paypal announced its platform would support cryptocurrencies, sending Bitcoin’s price upward. Moreover, just last week, Purpose Investments launched the world’s first exchange-traded fund to allow trading in Bitcoin.
Jake pointed to news coverage of Bitcoin as an important factor. News sites writing articles about Bitcoin reaching all-time highs have led to more people wanting to invest, further increasing the price. He also identified the impact that US stimulus cheques have had. Many people have reportedly invested their entire cheque into Bitcoin.
Of course, these underlying factors have been supercharged by public votes of confidence by Musk, Dorsey, and others. However, surges in Bitcoin’s price are not new. The image below shows the Bitcoin price from 2014 to the present. Bitcoin’s previous record of $20,000 in December 2017 now pales in comparison to its latest increase. People who dismiss Bitcoin as worthless because it isn’t backed by anything ignore that fiat currencies operate on the same basis. Bitcoin is backed by public trust in blockchain, just like fiat currencies are backed by public trust in the governments issuing them.
Bitcoin – a dollar bill or a bar of gold?
News articles about the imminent demise of bitcoin are an industry all by themselves. The website 99bitcoins.com even has a counter that lists articles that have predicted bitcoin's death – it has reached 399 articles. Amusingly, the first entry in 2010 confidently argued that Bitcoin “will transition from novelty status to dead faster than you can blink”. It might be tempting to dismiss the critics as biased and, frankly, wrong. However, is some of the criticism justified?
One of the most persistent criticisms against Bitcoin is that it fails to act as a currency. Its price is extremely volatile, and transactions take a long time to complete.
“As a replacement currency, Bitcoin is inefficient in both time and electricity usage”, Jake says, “There are much better options”. Indeed, a study by the University of Cambridge estimated that Bitcoin’s yearly global energy consumption was almost the same as Norway.
But maybe viewing Bitcoin as a currency is missing the point. Jake explains that Bitcoin and newer cryptocurrencies like Ethereum are like the difference between a bar of gold and a debit card. Jake gives an example, “Try to go into your local Costa and pay for a coffee with a chunk of gold. It’s probably going to end with you being laughed at”. In this sense, bitcoin is a store of value, like gold, and shouldn’t be expected to act as a currency, like the dollar.
The future of Bitcoin and the blockchain
One criticism worth considering is that Bitcoin’s surge could just be a massive price bubble. Gabriel Makhlouf, Governor of the Central Bank of Ireland, recently compared the popularity of Bitcoin to the tulip mania that gripped the Netherlands in the 1600s. It is possible that Bitcoin is similarly overvalued, and a severe price correction is in store. On the other hand, Bitcoin has defied its critics plenty of times before. Only time will tell as to who is right: the Bitcoin advocates or the sceptics.
A final point to make is that blockchain technology isn’t just limited to cryptocurrencies. Potential applications range from smart contracts to storing health records confidentially. The blockchain can even be used to link digital tokens to pieces of art to verify their authenticity.
If you’re interested in learning more about cryptocurrencies and the blockchain, join LUUCABS! Membership is completely free and gives access to upcoming events involving industry speakers, educators and other interesting individuals in the crypto and blockchain space. LUUCABS’s next big event is a collaborative conference with KCL Blockchain from 26th to 27th March. Make sure to follow LUUCABS on social media to not miss out!