One of the most important and most discussed topics in the Bitcoin community is its price and value. The Price of the famous Crypto-coin is determined primarily by its value and its value goes hand in hand with its supply and demand. Considering that the supply always increases and eventually be stable, the price of Bitcoin will basically continue to rise given that its demand also rises.
The supply of Bitcoin, as we all know, is only limited to twenty one million since the time it was created by Satoshi Nakamoto. Whereas the demand of Bitcoin is impelled by its value as a currency and as an investment asset.
The supply of bitcoin will continuously increase as they are mined every year. It will only stop increasing if the total number of it are already in circulation. In July this year, the rate of Bitcoin production was cut into half. It is because of the reward halving that happens every four years. So the mining decreased from 25 BTC per ten minutes to 12.5 BTC per 10 minutes. As of this time of writing, there are already more than 75% of the total twenty one million Bitcoins that are already mined.
The continuous developments and adoption of the cryptocurrency lead to the increase of its demand. Without Bitcoin startups being created as a way of spreading and promoting the use of Bitcoin, there will be less people in the Bitcoin community and may cause the the decrease in demand.
Price Inflation and Deflation
Since we have already gone around with the Bitcoin’s price driven by its value, which is consequently determined by its supply and demand, let us now jump into knowing what is Bitcoin’s price inflation and price deflation and how does it come about.
According to thefiniteidea’s post on Bitcointalk Forum, Price inflation is when the price of goods and services increases caused by the decrease of the value of Bitcoin. Whereas price deflation refers to when the price of goods and services decreases due to the increase of the value of Bitcoin. Thus, the relationship between the price and the value is in an inverse state. For example, if the price of Bitcoin falls down from $ 550 to $ 500, then the price of goods and services will rise up from 500 BTC to 550 BTC and if the price rises up from $ 550 to $ 500 then the price of commodities will fall down from 550 BTC to 500 BTC.
Bitcoin’s Money Supply
Aside from Price Inflation and Price Deflation, there are other terms used in determining the digital currency’s inflation and deflation. These terms are Money Supply Inflation and Money Supply Deflation. They use other elements in determining the Bitcoin’s value.
What is Bitcoin’s Money Supply?
In the book titled “The Economics of BitCoin Price Formation�?, the total money supply of Bitcoin is defined by the total price, let us say in US dollar per BTC, of the total number of Bitcoins in circulation. For example, if the price is at 600 US dollars and there are 14 million coins being used, then the total money supply of Bitcoin will be 8.4 billion US Dollars.
Money Supply Inflation and Deflation
As stated by thefiniteidea’s post on Bitcointalk Forum, Money Supply Inflation is determined when Bitcoin’s value decreases due to the increase in the entire supply and reversely Money Supply Deflation is determined when the Bitcoin’s value increases due to the decrease in the currency’s total supply. A present example is the Bitcoin reward halving that happened July this year. It is not a literal decrease in total supply because Bitcoin will never decrease. Reward halving is only a decrease in the production rate of Bitcoin which will theoretically or somehow a factor that affects the value of the cryptocurrency to increase.
Money Supply will be in a stable state when all of the twenty one million supply of Bitcoins are already mined. Eventually, its value will keep increasing and therefore its price as well, so long as there is a continuous use and exchange in Bitcoin.
With this, it is easier for us to know the real value of Bitcoin because we know the current price and the total current supply. On the other hand, the supply and demand fundamentals is more effective but determining them is quite difficult. Most Bitcoin trading markets do not post the actual supply and demand data.
Bitcoin’s attraction to investors
As stated above, the price of the cryptocurrency is highly volatile in nature and the reason why it goes up and down is due to its rate of exchange in the market driven by the traders, as said by thefiniteidea. Buyers and sellers trade their Bitcoins straight off to each other using other currencies. They are the ones setting the price when doing their transactions whether buying or selling.
Hence, another price determinant for Bitcoin is the behavior of the investors. Whatever happens in trading market do affect the price. One example is the news about Chinese investors driving Bitcoin’s price to rise to 2016 highs that happened this June. Although there are other factors to be considered, it proves the theory that investors’ behavior has an important role in price changes of Bitcoin.
In addition, there is one more thing that we could regard as part of the criteria of the price of the digital currency. According to “The Economics of BitCoin Price Formation�?, Bitcoin is also affected by the macroeconomic variables such as price changes in oil, stock exchange indices and other currency exchange rates. Having a good condition in the macroeconomic measures may result to more trade and exchanges in Bitcoin and eventually will have a positive effect in the cryptocurrency’s price.
In summary, there are a number of factors to consider in the price formation of Bitcoin. Basing on the things stated above, the price determinants for the cryptocurrency are the supply and demand principle, the investors’ behavior and attraction to it and the macroeconomic variables and global financial developments. Having these three in mind, we may get a more close picture on how the Bitcoin’s price changes.