I like what’s going on with the bitcoin price lately. Unless this is the first time you’ve heard of Bitcoin* you will no doubt know the price per bitcoin in relation to ‘normal’ currency recently plummeted to about a quarter of its all time high over a couple of days. It is since then I’m talking about, when it has gone both up and down to the extent that nobody anymore can convince themselves ‘bitcoin only goes up’. As a consequence the silliest of speculative money (belonging to those like the ones who panicked and sold when they saw the price go down for the first time) is staying away. I am reading comments whenever it dips (as it did yesterday and today) like “we’re not out of the woods yet” and I think: long may we not be ‘out of the woods’ if it means people will refrain from throwing their whimsical money into bitcoin again only to pull it out as soon as their overnight get-rich-quick scheme isn’t working out for them.

One of the reasons I like the way the exchange rates are right now is because it reduces the chances of a repeat of such an immense drop where many innocently going about their bitcoin business got caught in the crossfire. I also like it because it means we are no longer on such a rapid upward trajectory which gives people coming across Bitcoin for the first time more time to have a think about it without feeling the pressure of the runaway price whispering ‘buy today or miss the boat’!

The thing is in order for people to use Bitcoin as a means of sending or spending money it doesn’t really matter what the price of it is as long as it is not zero.

For illustration purposes I’m going to pretend sending or spending are the only things people do with bitcoins (no saving or speculating) and people only exchange their local currency for bitcoins in order to carry out the transaction with the recipients immediately exchanging back to local currency.

In this hypothetical scenario if all the bitcoins currently in existence (let’s round it down to 10 million) were immediately available the total value of all the bitcoins (in local currency) need be no more than the total value of the transactions being processed at any one time. So let’s say 100 people wanted to send or spend at the same time an average of £200. The total value of bitcoin would need in that moment to be £20,000 meaning one bitcoin would need to be valued at 0.2 pence.

This is of course an impossible situation apart from anything else because it would require synchronised buying from the last folks to use it and selling to the next and would require a perfect and predictive price-discovering marketplace. For something like this to have any hope of working you need a liquid marketplace . We need people always prepared to buy and sell. Enter stage right the speculators who, despite sometimes giving the rest of us a headache when their antics get out of hand, provide this service thus enabling those who want to use it to send and spend always to be able to buy when they need to. This of course means not all bitcoins can be used for sending and spending anymore because the speculators need theirs too.

We know there will never be more than 21 million bitcoins and we know it is better than anything that has been before in terms of low-friction, speedy, secure transactions so we can be pretty sure unless and until something better comes along there will always be a market for bitcoins. We can also therefore be very confident we will always be able to get something for our bitcoins – meaning they can be used as a store of value. But when someone decides to keep some bitcoin as a store of value this further reduces the amount remaining on the marketplace available for transactions. So going back to our hypothetical situation above if half of the bitcoin in existence was in use by speculators and by savers and therefore unavailable for spending and sending we’d only have 5m remaining bitcoins on the marketplace available for the same total value of transactions therefore the price per bitcoin would need to be 0.04p**

All good so far: Small economy, reasonable levels of savings, liquid market. Enter stage left a growing economy (more concurrent demand for sending and spending). Also, the barman accepting bitcoins from his customer now instead of exchanging them immediately back is using them to pay his brewery thereby turning temporarily into a ‘saver’ and keeping more off the market for longer. As a consequence the value needs to go up to enable the volume of transactions. And as the value rises and looks to continue to rise it becomes more attractive to savers. Also people can see although they might not now be able to use bitcoin to the extent they would like to, it makes sense to buy some now because of the reasonable chance of being able to buy more with it in future. So even as the growth of the bitcoin economy accelerates so does its attractiveness as a store of value. I won’t start throwing figures as to what I think the price of bitcoin will be but have a look at the logarithmic scale on the x axis of that chart above and extend both x and y axes to get an idea of where it is likely to be heading.***

Yes, this means even without adding into the mix the activities of those who care nothing about bitcoin’s usefulness as a means:

of being independent of central banks and their political masters;

of being independent of high street and city banks;

of avoiding credit card charges and fraud;

of sending money ‘home’ irrespective of a country’s political status and without the high costs of money transfer services;

and not least with its potential to protect those living under tyrannical regimes from hyperinflating their savings out of existence (such as happened in Zimbabwe and is close to happening again in Argentina)…

… the growth of the value of bitcoin looks to be exponential.

It doesn’t look to me like there’s a serious competitor to Bitcoin coming along anytime soon (and if it does it would need to be so much better so I would welcome it and ‘jump ship’) and reading between the lines on the legislation front it doesn’t look like the authorities are about to take any drastic measures so I see nothing of substance ahead to slow Bitcoin’s growth down. Nor do I see anything of substance holding back the consequent increase in evaluation and price.

What is slowing the price down right now is uncertainty and probably price manipulation. Price manipulation in such an immature and unregulated market is bound to have an affect and it’s no big deal, providing we’re not worried about day-to-day price differences (if you bought your holiday money 6 months early would you be watching the price every day thereafter in case you could have bought at a better rate?) Right now the slow-down in exchange rate increase is is providing some breathing space for more people who could benefit from Bitcoin’s long-term growth to buy some whilst the price is as low as it is (relative to its potential). I’d like to see all the cool people in the world get some before the uncool people jump on board 🙂

Why? Because the one thing it does have in common with Tulip mania (a parallel commonly made) is that everybody who buys after you adds value to your stake holding as well as that of everyone else who bought before them. This does not make it a ponzi scheme or make it evil or unjust or unsustainable as many would have you believe. It does however mean whenever it does eventually peak people buying then with the sole intention of selling again at a higher price will have lost out. But regardless of when bought, for all those still buying to use it to spend and send (or even to save, accepting it may eventually – even tomorrow – lose some value) then it is still serving its purpose. The only people who can lose out are people buying for ‘the wrong’ reasons at ‘the wrong’ time.

But seeing as this mechanism is integral to the way bitcoin works I’d like to see Sudanese and Zimbabweans and landless Indians and musicians worldwide and those imaginative creative people who could change the world for the better buy soon so that they are subsequently empowered by the latecomer ‘establishment money’. Be aware though that hedge fund and banker money is already beginning to pour into bitcoin. But there is no immediate rush because the risk-averse, slow-minded, old-money folk won’t moblise that quickly and with any luck those in most need of Bitcoin will already be on board by then. In the bigger picture whatever price you buy for in 2013 is likely to be early enough – and as I just said, if your purpose is to use it then anytime is early enough 🙂

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* I will do a ‘Thoughtfan Introduces Bitcoin’ post at some point but for now think of it as an internet currency where users have ‘wallets’ (on their computers or smartphones or in the cloud) containing bitcoin which can be sent or spent to another wallet anywhere on the internet like an email for hardly any cost. Although technically there is a ‘ledger’ that keeps track of this it is easier to think of it as cash because once it has gone from your wallet you no longer have it. Likewise if you lose your wallet it or it gets stolen you no longer have its contents. Bitcoins can’t be forged because it uses ridiculously strong cryptography (the same kind that banks use to protect their cash machines). An immensely powerful decentralised network of computers enables the whole concept to work by doing stuff like checking nobody successfully spends the same money twice (you can copy it as many times as you want but it can only be spent once) and creating new bitcoins (in a strictly controlled and predictable manner). So this network consisting of loads of computers owned and run by bitcoin supporters takes the role of the central bank meaning there’s no government or company owning it or controlling it. The software is ‘Open Source’ meaning it is free for anyone to look into (to check it is not corrupt) or adapt and use for their own use. You send it between you and your peers with no intermediary hence ‘peer to peer’ or p2p and whilst it only works because of the supporting network it belongs to you and is entirely in your control.

** I am aware I’ve not got the causation straight in my simplistic hypothetical situation because in reality there are so many other factors at work in determining supply, demand and subsequent price.

*** Those of you who have heard me rave on and on about Bitcoin have always heard me make clear that its value could disappear overnight. Even a few days back I posted the Southpark video on my Facebook saying ‘Something anybody considering investing in anything – even if it’s putting money away ‘safely’ in a bank should see – but especially anybody considering Bitcoin!!’ However, although I can not say there is no longer any risk I would personally like to see anybody I care about – or would care about if I knew them – buy some bitcoin soon with view to holding for the long term and eventually using to take part in the bitcoin economy. I’m confident even a tenner’s worth, if the price goes through the roof as I think it will, will be worth something pretty substantial unless something catastrophic happens.