There is no lack of comments about the significance of Bitcoin. Some treat Bitcoin as an apparent speculative fad, while others argue that Bitcoin could become as revolutionary to monetary system as email is to information system. Being bombarded by all kinds of assertive ideas and well-structured arguments, I think it is crucial to have one’s own stance on this issue. According to what I have learned about currency, bitcoin is losing its function as a transaction media and evolving into a speculative tool. If a currency is not transferable and become an speculative tool, sooner or later the use of this currency will die out. Once the bubble burst, this super nova will step down from the stage of history .
Over the past three years, bitcoin’s price skyrocketed from a few cents in 2011 to a high of more than $1,100 in December 2013. As a electronic currency, bitcoin does not really need to posses any intrinsic value to be exchangeable. But the surge of price from a few cents to more than a thousands is evidence that people are not using bitcoin as a means to facilitate exchange. Rather, this surge of price could only be explained by speculative activity.
To illustrate my point using fisher equation, now imagine we are all citizen in a nation that use bitcoin as official currency, and the only goods being exchanged in the economy is U.S. dollar.Recall how the face value of a certain type of currency is determined. By fisher equation, we have: M*V=P*Q
M is the total bitcoin supply in the virtual nation
V is the number of times per year each bitcoin is spent (velocity of money),
P is the average price of all the good (i.e. U.S dollar) sold during the year, denoted in bitcoin, of course
Q is the quantity of goods （U.S. dollar） sold during the year.
supposed that we fixed M (this is realistic since the anonymous creator of the currency capped the number of total possible Bitcoins at 21 million). How will the price of our dollar change in response to change in Q and V ?
Suppose now we have more dollar in the economy (or more dollar poured into the economy by some magical power, you could also see this as more people buying bitcoin using dollar from outside of the economy), then the quantity of dollar (Q) increased overtime. Holding other variables fixed, to make the equation balanced, we now have a smaller P.
Now suppose people preferred to hold the bitcoin in reserve than to frequently trade it for dollar, we now have smaller V. We can see this as analogy to people in this virtual economy becoming less and less inclined to consume goods (dollar) that they “produced”. As V decreases, to make the equation balanced, we now have even more smaller P.
This is exactly what we see in reality. More and more people buy the fixed amount of bitcoin and hold it on reserve, waiting for appreciation of bitcoin rather than using it as a transaction media. Therefore, we see the price of dollar denoted in bitcoin become smaller and smaller, or put it another way, the price of bitcoin denoted in dollar become larger and larger.
This illustration is to support my argument that bitcoin is not used as a supplements to facilitate transaction, as it is originally intended for, but rather as an speculative assets.
The most important reason bitcoin become popular is because people believe it will replace traditional currency due to its merit of reducing transaction cost. But it is paradoxical to see that the bitcoin, while being valued for its merit of facilitating transaction, is gradually stepping out of circulation and ended up in investment portfolio. This paradox helps me explain my stance on bitcoin nature, a splendid castle-in-the-air that will gone with change sign of economy weather.