To understand bitcoin’s value, it’s important to have a basic understanding of how the fiat monetary system operates. In summary:
- Fiat money is a government-issued currency (such as the US dollar, GBP, or the Euro)
- It is not backed by physical assets or commodities
- Fiat money has a potentially unlimited supply. Central banks can create more as they deem fit
- Basic economics suggests that a unit with potentially unlimited supply, or an increasing supply (without matching demand), will fall in value over time. In the case of money, it will lose its purchasing power over time which presents itself as inflation
- It can be argued that due to the very large levels of debt (and other unaccounted for liabilities) carried by most governments, the nominal cost to service that debt means governments will always require a central bank to create more fiat money, so the value of that fiat money will inevitably decrease over time. Fiat money can therefore not be relied upon as a long-term store of value. Money however should be a store of value and should maintain it’s purchasing power over time.
Bitcoin is a potential alternative and could be a complimentary system which operates alongside fiat money. It is a decentralised monetary and payment system with a maximum number of units that can ever be created. It in effect has a hard-coded monetary policy that cannot be influenced at the whims of central banks, governments, corporations, or individuals. The below provides a high-level overview of why bitcoin and its underlying network does have utility and therefore value:
Bitcoin has value as a fiat money competitor
- It is an alternative to central bank-controlled and issued fiat money
- Competition is good as it drives innovation within both systems
- Bitcoin’s existence drives central banks to improve their own systems and operations, and this is evidenced by an emerging focus by governments on more efficient international payment systems and central bank digital currencies
- Bitcoin can function as a store of value, and it can be used as unit of exchange in a digital world. Its limited supply makes it more like commodity-based money (such as gold and silver coins), but it has the advantage of being able to be sent digitally, nearly instantly, with a very low transaction cost, between any two parties anywhere in the world without the need for an intermediary
Bitcoin has value because it has the characteristics of currency
- Durability: it does not erode or degrade over time (for example food stuffs cannot be used as currency as it’ll rot over time)
- Portability: it can easily be carried or moved geographically (bitcoin is arguably the most portable form of currency ever created)
- Divisibility: each bitcoin can be divided into 100,000,000 Satoshi’s (aka Sats). It is more divisible than fiat currencies
- Fungibility: one bitcoin is the same as another bitcoin but crucially cannot be ‘double spent’
- Scarcity: there is a maximum supply of 21 million bitcoins
- Acceptability (increasing everyday): Visa, Paypal, Mastercard, Stripe and many others are all facilitating access and acceptance by individuals and corporations, not to mention the lightening network which is a layer 2 payment system built on top of the bitcoin network. Any individual or entity can also create a private bitcoin wallet and send or receive bitcoin via a peer-to-peer transaction, therefore anyone in the world can accept bitcoin should they wish to do so
Bitcoin has value due to its multi-faceted functionality
Bitcoin can act as money, a method to convert energy into a digital commodity, and a payment network all in one system.
- It can be viewed as encrypted energy due to its proof-of-work consensus mechanism (in simple terms the proof-of-work consensus mechanism consumes energy (computing power) to record who owns what and who is transacting on the network)
- It is a form of encrypted money
- It is an immutable ledger of transactions and ownership
- It is incorruptible as it is not controlled by any centralised entity or individual
- It is property that no one can take from you as it is not controlled by any entity or individual
- It cannot be debased over time due to its maximum supply cap and again, it is not controlled by any entity or individual
- It can be used to convert wasted energy into a digital commodity (i.e. bitcoin)
- It can be used to facilitate the creation of smart grids and to aid the funding of renewable energy facilities by bitcoin ‘miners’ contracting to purchase excess energy produced by renewable energy providers and agreeing to stop mining when energy is required elsewhere in the grid
Like every asset, bitcoin will have no value if there is no demand for it. Its utility would be mostly lost. The Bitcoin network is however growing exponentially, therefore it has value now and its growing adoption suggests that it will have a greater value in the future due to its limited supply (scarcity).
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