Bitcoin explained: A bubble or… a pin?

The cryptorush has been on the rise since last two years primarily. It’s a culturally trending thing to invest in a cryptocurrency in present day. People are putting their entire fortune at stake to get these babies. Money which is attached to people emotionally (for eg. their savings, or their engagement ring) are being thrown into this pool of Bitcoin. If you’d believe, there is a church in London which happens to gracefully accept virtual donations in Bitcoin!

Hey, what is a bubble anyway?

When the price of a certain thing rises and rises, and then it suddenly gets plummeted. It’s known as a bubble. The first of its kind was seen back in 17th century: Tulip bubble or Tulip mania. In Netherlands, there was one flower in particularly high demand: Tulip. The tulip was brought to Europe on trading vessels that sailed from East which made it an exotic flower. It could take years for single tulip to bloom. As a result, prices for these flowers started to rise and with them, the tulip’s popularity also grew. Tulip became a nationwide sensation and tulip mania was born. At one point, a single tulip bulb sold for the same price as a house. 150 Florins in 1635 would have been roughly equivalent to 25,000 American dollars today.

All that is needed for a mania to end and a bubble to burst is the collective realization that the price of the stock far exceeds its worth. That’s what happened. Suddenly the demand ended. Pop! Bubble burst and market crashed. Bitcoin can be called a digital tulip of 21st century.

A mania occurs when there is an upward movement of price combined with a willingness to pay large sums of money for something valued much lower in intrinsic value.

Dot com mania came about in 1990s. Stocks in new, exciting websites were like the tulips of 17th century. In 2000s, there was real estate mania. The pattern to see is that, a bubble is always bursts. A boom in market is usually followed by a bust.

Bitcoin has been named everything from a bubble, a tulip, a magic bean factory, a fraud, a Ponzi scheme. Literally anything. An average retail investor (like you and I) is the reason to why Bitcoin is still rising. We got access to thin capital. And our volume is pretty damn high. We can’t individually move the market to a serious degree, we are here for the long-term gains. All of us are “believing in” (pitching in our money) in this pool of Bitcoin at once. We don’t know what’s going to happen but we do it anyway because we simply believe in it. It’s a statement in today’s world to invest in Bitcoin. This is EXACTLY what happened with Shanghai Composite crash in 2015. In China, there is a huge culture of gambling. And of course, this seems like a quick, easy, and a risky way to make money. There were rapid run ups of prices of this stock, just like we see with Bitcoin, until 2015. And then suddenly, POP! The bubble burst. A third of the value of A-shares on the Shanghai Stock Exchange was lost within one month of the event. This happened because retail investors suddenly stopped “believing in” the stock.

Source: https://www.businessinsider.in/Heres-a-simple-explanation-of-why-Chinese-stock-markets-are-in-free-fall-right-now/articleshow/47987952.cms

Sounds ridiculously similar to Bitcoin?

Bitcoin’s value has eclipsed New Zealand’s GDP. More valuable than Boeing (world’s largest aerospace company), bigger than banking giants GoldmanSachs and UBS combined. Even if Bill Gates and Warren Buffet pooled in their fortune, they wont have enough to buy all the bitcoins of the world. This is only because the supply of Bitcoin is capped i.e. there are finite number of Bitcoins in this world.

Nobody can say when will Bitcoin top the market. Nobody can say when the bubble will really burst. But, one can always learn from history. There havebeen bubbles in the past, there is a bubble in the present, and there will be bubbles in the future. When price of an asset increase, the risk associated with it also increases. Profits always take care of themselves but losses never do.

The question is not when will the bubble burst, the question is what will make the bubble pop?

1. In 2013, Mount Gox (the largest cryptocurrency exchange back then) got hacked for $500 million. Mount Gox commanded about 70% of total trading volume. This blow made them file for bankruptcy. Centralised exchanges are prime targets of hackers. They can steal worth millions of Bitcoins. Presently, Bitfinex is the world’s largest cryptocurrency exchange. It commands 12% of total cryptocurrency trading volume. Like Mt Gox, Bitfinex was also hacked for $72 million.
2. There is affiliation of Bitcoin with dark markets such as Silk Road & Alpha Bay. Silk Road happens to be an online black market and the first modern darknet market, best known as a platform for selling illegal drugs. As part of the dark web, it was operated as a Tor hidden service, such that online users were able to browse it anonymously and securely without potential traffic monitoring.
3. There are bans being imposed on Bitcoins by sovereign governments as their economies are being “threatened”. After Bitcoin ban in China, there had been 40%-50% dip in its price because of sudden pull out of funds. This might cascade into a bubble burst or a crash.

Not a lot of people are a fan of Bitcoin anyway. JPMorgan CEO Jamie Dimon calls this a ‘fraud’, Yale Economics professor and Nobel Prize winner Robert Shiller calls Bitcoin a bubble.

Maybe there is nothing known as a bubble here. What we are thinking of a bubble, might be a pin. Because despite all these issues, Bitcoin is still prospering. Bitcoin has died a lot of deaths, yet it bounces back up pretty beautifully. One of the reasons of which is that it has a limited supply. There are only 21 million Bitcoins in the world, and its predicted that the last Bitcoin would be mined somewhere in 2028. Bitcoin is accepted universally. This makes it such a convenient currency. Imagine, everything being cashless. There would be no room for corruption because no government would be running this currency. There is news of hyperinflation in Venezuela due of serious degree of corruption. Nevertheless, it is too early to predict anything. Presently, basic actions like storing cryptocurrency securely is a pressing matter of subject, also Bitcoin transactions are quite slow or they levy heavy fee so nano-payments can’t be done yet.

Overall, it is reasonable to expect continued bitcoin volatility in the short run followed by a sharp decline in bitcoin’s price in the medium run. This does not necessarily imply that Bitcoin will not be used anymore in the future and that its price will collapse to zero. As sovereign debts become more critical and the risk of inflation rises, cryptocurrencies like bitcoin can be seen as a bet against classical currencies and as a store of value.

References:

1. https://themarketmogul.com/bitcoin-bubble-burst/
2. https://www.coindesk.com/bitcoin-milestones-silk-road-goes-dark-bitcoin-survives-its-biggest-markets-demise/
3. https://www.economist.com/blogs/buttonwood/2017/11/greater-fool-theory-0
4. https://www.youtube.com/watch?v=2H6zzWIu7Vk&t=140s
5. https://www.youtube.com/watch?v=ZUjEuifWIV4&t=526s
6. https://www.youtube.com/watch?v=uyoABcfdyAA&t=139s

Fin.