Why Does Bitcoin Have Value?

By | May 23, 2019

If you had invested $1000 into Bitcoin in 2010 it would be worth about $130,000,000 today. 

No other asset in history has experienced such rapid growth.

The price of a single Bitcoin has gone from absolutely nothing to an astonishing $8000 per coin in the span of just ten years.

The value of all bitcoins combined has reached 140 billion dollars and is now often discussed by the mainstream financial media.

But, hold on a sec… what exactly is a Bitcoin? And why are people paying $8000 for one?

What is a Bitcoin

First, we must distinguish between the Bitcoin payment network and the Bitcoin unit of account.

The Bitcoin payment network is a collection of computers spread across the world that all run the Bitcoin software and cooperate to validate transactions.

At this point in time, every ten minutes 12.5 new bitcoin are created by a random computer on the network. It is their reward for validating the Bitcoin transactions.

The Bitcoin unit of account is the currency itself, which can be sent directly to a friend, or a merchant, without needing to go through a bank.

In slightly more complex terms, a Bitcoin is represented by a series of ones and zeros stored in a highly secured, distributed, and public database.

An in-depth understanding of how Bitcoin works requires some background knowledge in cryptography and computer networks, however we shouldn’t dismiss it due to our initial lack of understanding.

We use a lot of technology today that we as individuals do not fully understand. For example, most people do not understand how smart phones, social networks, or the Internet work, yet they have all become part of our daily lives regardless.

Both tech startups and large corporations alike have taken notice of Bitcoin and are working feverishly to innovate upon it and allow their customers to access it. Fidelity, TD Ameritrade, and E-Trade, to name a few, are all working to open this new market to their customers.

Why Bitcoin Has Value

In order to understand why Bitcoin has value, we have to set aside our preconceived notions of what money is. After all, money has taken many forms throughout the course of human history.

In more recent centuries, money has often taken the form of bank-issued certificates backed by gold. Back then, people had a very different perception of money compared to today.

Could you imagine going back to the 1950s and telling people that in a few decades they’ll tap plastic cards on machines to pay for their groceries? They would have laughed at you!

Bitcoin and the Bitcoin payment network provide several advantages over traditional currencies:

  • Limited supply
  • Unconfiscatable (No one can take it from you)
  • Censorship-resistant (No one can stop you from using it)
  • Programmable

The value of Bitcoin also increases due to the network effect as more people become invested in it and stand to benefit from its success.

I’ll delve into the details each reason below, but first I’d like to address one of the major arguments made against Bitcoin, which is…

The no intrinsic value argument

An argument that people often make against Bitcoin is that it has no “intrinsic value”, meaning that you can’t do anything with Bitcoin itself. They argue that gold, for example, has intrinsic value because you can make jewellery or electronics with it.

While it’s true that you cannot eat, drink, or make jewellery out of Bitcoins, the same argument can be applied to government issued currencies, which the world has been using to transact for several decades already.

Comparison to government issued currencies

Over 90% of the currency in circulation today is similar to Bitcoin – digital ones and zeros stored in computer databases. Yet we all have faith, and believe that those currencies have value.

But why?

Because everyone else believes that they have value too!

There’s absolutely no “instrinsic value” in dollars, euros, yen or any other government issued currency. They are simply just digital ones and zeros in a computer database. Yet over many decades we’ve come to accept them as money.

Some argue that traditional currencies have value because they are backed by powerful governments, which require their citizens to pay taxes denominated in their respective currencies. Bitcoin, on the other hand, has no official authority backing it.

While it may be true that Bitcoin is not backed by a government, it is backed by:

  1. Sound mathematical principles
  2. Substantial amounts of energy
  3. Massive computer infrastructure
  4. A growing community of believers in this new form of money

*Thanks to research into alternative consensus algorithms such as Proof of Stake, I believe cryptocurrencies will require far less energy in the future than they do today.

When you think about it, a completely voluntary, opt-in form of money is much better for humanity than one that is enforced through violence.

Let’s delve into the details about why people are valuing Bitcoin…

Limited supply

Government issued currencies can be created at will. Bitcoin cannot.

Since the financial crisis of 2008, trillions of dollars have been printed by central banks to prop up failing financial markets and sluggish economies.

What happens when the money supply increases? The price of goods and services goes up. This means you have to pay more for your food, gas, clothes, rent, and health care.

In the Bitcoin network the emission of new Bitcoin is controlled, not by a single entity (like a central bank), but by the rules of the software which everyone participating in the network must abide by.

If you do the math on the emission rate, there will only ever be 21,000,000 Bitcoins. Any attempt to create Bitcoin “out of thin air” will be rejected by the majority of nodes on the network.

Censorship-resistant

Censorship-resistant means you have the freedom to send any amount of money to anyone in the world without having to worry that your transactions might be stopped by a bank or other organisation.

Have you ever wanted to send money to a friend or relative, but your bank limited the amount?

Have you ever made an online purchase with your credit card, only to have it suspended by your bank because they considered it suspicious?

No one in the world can block your Bitcoin transaction from going through.

Consider too that Bitcoin opens the financial system to billions of people in less fortunate countries who are unable to open a bank account.

Anyone who has a smart phone can create a Bitcoin wallet and start participating in the new economy.

Unconfiscatable

In a financial crisis, the money you have stored in a bank can be frozen and taken from you. For example, in 2013 the Cyprus government conducted a “bail-in” where a certain percentage of depositor’s funds were taken to bail out the government.

When the next recession hits and we fall into another financial crisis, we’ll likely see more of these bail-ins taking place. I suspect that is one major reason why the price of Bitcoin continues to rise.

If you hold Bitcoin in a secure wallet outside of an exchange, it cannot be confiscated or stolen from you. Based on the principles of sound math, your Bitcoin is stored securely on the network.

Programmable

Bitcoin is programmable money. For example, you can program a Bitcoin address to require that two out of five people sign any outgoing transactions, to prevent any one person from stealing the funds of a shared wallet.

The possibilities of programmable money extend much further than that. You could program money to be sent to a certain address at a certain time, but only under certain circumstances.

A New Form of Money

Money has taken on many different forms throughout human history, from sea shells to gold-backed notes to digital ones and zeros in computer databases.

At first glance Bitcoin is confusing and quickly dismissed, but upon further investigation the benefits become clear.

Bitcoin has value mainly due to the benefits that the Bitcoin payment network provides primarily that it cannot be taken from the owner and its transactions cannot be censured.

Bitcoin, like all new things, takes time for people to accept and adopt. But it’s clear that the number of people who accept Bitcoin as money is rapidly increasing.

It is the natural progression of money and has showed up with perfect timing.

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