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Could the cryptocurrency used for fast and secure settlements in anonymous transactions also become “digital gold”

Bitcoin, the most popular and expensive cryptocurrency in the world, continues to amaze not only its fans but also serious investors and ordinary people around the world. In the last month alone, this digital currency has doubled in value. In mid-December, Bitcoin climbed above $ 20,000 for the first time. and since then, almost every day, leading business publications have announced new records. Digging even deeper, in just 10 months the price of bitcoin has grown eightfold! In March 2020, they gave 5 thousand dollars for this virtual coin, and on January 8, 2021, bitcoin was already worth more than 40 thousand dollars.No less impressive are observers and sharp drops in the rate of this cryptocurrency. So on January 11, the price of bitcoin fell from 42 thousand dollars to a level below 31 thousand. True, then in three days it again easily returned to the range of 38-40 thousand.

Experts explain the current hype interest in bitcoin by investors’ attempts to compensate for the impact of inflation, a weak dollar, and a gradually increasing number of settlements in this cryptocurrency. In particular, this is due to the possibility of buying cryptocurrency in electronic wallets such as PayPal. Its role in ensuring fast and secure settlements in anonymous transactions in order to escape state control has also become important. The role of cryptocurrencies in securing shady transactions and money laundering is widely known. Recently, however, cryptocurrency has become ubiquitous in settlements by both ordinary users and enthusiasts of modern technologies. A special role here was played by the development of technologies of the so-called smart contracts when the security of the transaction is provided by the cryptocurrency network itself.

The increased attention to bitcoin, of course, is associated with a sharp increase in its value. Now, even the most skeptical investors cannot ignore the opportunity to play on such growth. Increasingly, the press began to flash messages that one or another reputable CFO decided to include bitcoin in the portfolio of his companies “for diversifying assets.” However, the volatility of the bitcoin rate remains very high, which indicates the immaturity of the asset. Bitcoin prices fell on January 11 only because the UK’s leading financial regulator reminded that consumers investing in cryptocurrencies must “be prepared to lose all their money.”

And yet, lately, dizziness and excitement have reigned among Bitcoin fans. And there are good reasons for this. But it seems that the most inspiring cryptocurrency investors (apart from their fabulously growing digital fortunes) are the ideas that bitcoin is now one of the first places in the world in terms of asset value, and in the future, it can start playing the role of gold as a defensive asset. But is it?

Is Bitcoin an asset

Indeed, if we take the record high of the bitcoin rate of $ 40,000. and simply multiplying it by the supply of bitcoins (about 18.6 million coins), you can get the figure of $ 744 billion. That is, purely theoretically, bitcoin would only be slightly inferior to Microsoft (capitalization in 2019 – $ 905 billion) and Apple (896 billion dollars), but would bypass Facebook (476 billion dollars). The only problem is that you cannot calculate the value of bitcoin this way.

The first problem is that Bitcoin, of course, is not a company (and even by and large it cannot be called an asset either), so the definition of its “market capitalization” is just a virtual illusion. Bitcoin was originally conceived as a currency that can be used to buy real things. And while it doesn’t meet all the criteria that would make it a full-fledged currency, it does have one thing in common with traditional currencies: its price is based on the pure belief of the people. The difference is that in the case of fiat currencies, this belief is effectively placed on the governments of the nation-states that issue them, while in the case of bitcoins, the belief is placed on the fact that other people will keep the faith.

Companies, of course, have real assets with real value. And there are ways to analyze them, determine if they are overvalued or undervalued, for example, price-to-earnings ratio, net profit margin, etc. In the case of Bitcoin, the entire value proposition is based on an idea. If you remove the coin holders, there will be nothing left, and therefore it makes no sense at all to try to estimate the “market capitalization”.

Another problem is that, although 18.6 million bitcoins have actually been mined to date, there are much fewer of them in real turnover. To begin with, according to experts, about 20% of bitcoins (today about $ 140 billion) were lost in various ways and, most likely, will never be recovered. The main reason is that people just forgot their passwords. If you try to guess the password ten times, the bitcoin wallet is blocked forever. In addition, there are the so-called “whales” that own most of the bitcoins, whose dominance in the market has only increased in recent months. Large holders do not bring their cryptocurrency to the market. More than 63% of bitcoins have not been moved in the past year. As a result, according to experts, only 2.8% of bitcoins today control 95% of the supply.

All of this means that real liquidity – the actual available supply of bitcoins – is actually very low. That is why bitcoin is growing so zealously. Increased demand meets limited supply. However, if people start selling in bulk, it can get in trouble. And sometimes they do it. According to experts, the sale of only 150 bitcoins led to the January fall in prices. More than two thousand wallets contain more than a thousand bitcoins. What happens to the price if at least one of them tries to unload their coins to the market right away?

Can Bitcoin play the role of gold?

On January 4, 2021, analysts at one of the most reputable investment banks – JPMorgan – made a sensational statement that bitcoin has actually become akin to “digital gold” for millennials, and predicted a long-term target price for bitcoin of $ 146 thousand. The price forecast has already made a lot of noise. but let’s analyze the first part of the analysts’ statement. Will Bitcoin be able to become “digital gold”, that is, play the role of a protective asset?

The reason to buy gold in hard times is to have a real asset that can hedge against impending inflation and devaluation, an asset that cannot be inflated by relentless printing of money and currency depreciation. This is especially true in the era of low-interest rates that prevail today in the most economically developed countries. If governments work to keep interest rates below inflation to lower the real value of their debt burdens, everyone knows they need a safe haven, but everyone also knows that traditional havens like government bonds don’t offer that safe haven anymore. This brings us to gold, the only asset with 3,000 years of experience protecting purchasing power. Not surprisingly, the gold price has risen by about 40% since 2018.

The logic of the supporters of this idea is quite simple. Gold supply is not completely static – it increases by about 1.25% per year as gold is mined. Storing gold can be costly and transporting it in physical form can be difficult. Gold is easy to confiscate and not easily split quickly. Bitcoin has none of these drawbacks, its apologists say. The offer is inelastic and limited (there is a program limit of 21 million digital coins). Bitcoin can be sent around the world almost as easily as an email (as long as you don’t lose the codes to get access). It is fungible, stable, verifiable, independent of any government, and, importantly, easily divisible. The minimum transmitted value – satoshi – is 0.00000001 bitcoin.

However, none of the above gives it intrinsic value. To become a defensive asset, bitcoin needs more than just the rarity that its fans rave about: scarcity alone does not add value. It needs more active investors, it needs a much deeper and more liquid market. And most importantly, bitcoin still needs wider acceptance.

In the meantime, gold remains a defense against inflation, and precisely for the simple reason that it is not new. If people are nervous about the prospects for the next few years, they need a non-fancy digital code, the price of which has skyrocketed in 10 months, they need a protector of their savings, which has been the best safe place for several millennia and has saved more than one capital in its history.

Smart contracts

Still, Bitcoin, like other cryptocurrencies, was able to become a kind of “protective haven” for finance. True, from a rather unexpected side. Bitcoin has been widely used in the past for the purpose of uncontrolled money transfer, payment of shadow contracts with tax evasion, or in order to maintain anonymity. However, not so long ago, in the blockchain environment, on the basis of which the networks of bitcoin and other virtual currencies operate, solutions have appeared that can replace and automate most of the existing commercial and bureaucratic systems. We are talking about smart contracts. In the world of cryptocurrencies, a smart contract is a computer program that runs on a network and acts as a digital agreement that is supported by a specific set of rules. These rules are predefined by computer code and are executed by all nodes of the network without the possibility of any interference in this process. This means that both parties to a contract can commit themselves through the blockchain even without knowing or trusting each other. Participants in this process do not have to worry about the fulfillment of obligations by the other party because if the conditions are not met, the contract is canceled by the network itself.

So far, smart contract technologies have just begun to develop and are implemented, therefore they are not yet perfect enough. Smart contracts are made up of computer code written by humans. This is the reason for numerous risks since the code is vulnerable to vulnerabilities and errors. Ideally, development should be done by experienced programmers, especially when it comes to sensitive information or large amounts. Another drawback of smart contracts is associated with their still undefined legal status. However, they are widely used and it is already clear that the potential of smart contracts, together with the blockchain, can have an impact on almost all areas of our society. True, only time will tell if these innovative technologies can overcome the many barriers to widespread adoption.

As much as critics would like to admit it, the very fact that the Bitcoin system still exists (if not thriving) represents something important happening before our eyes. Yes, bitcoin has yet to prove that it is more efficient and easier to use than regular paper money. Yes, it cannot yet be called a reliable asset and it cannot yet become a reliable haven for the capital of most investors. But it is no longer possible to deny its general stability. And since sustainability has always been the raison d’être of Bitcoin, this is already an important victory. Even more so when you consider that institutional investor money feels like it can no longer afford to ignore cryptocurrency. It looks like Bitcoin will be a great metaphor for risk appetite in 2021.

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Stories under this byline are written/directed/published by the staff and editorial board of MegaloPreneur magazine. Some of the MegaloPreneur journalists may also be involved in investigating and finding facts.

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