There has been a new wave of interest surrounding cryptocurrencies this year. This has seen Bitcoin’s value surge by around 280% as investors and speculators turn towards digital coins as a new way to store value or to speculate on its price. Over the same period, other cryptocurrencies like Bitcoin cash and ethereum have also grown substantially in market capitalisation. This recent spike in interest in the block chain technology has even led to investors spending millions of dollars in initial coin offerings. In light of these events, I thought now may be a good time to discuss the pros and…
There has been a new wave of interest surrounding cryptocurrencies this year. This has seen Bitcoin’s value surge by around 280% as investors and speculators turn towards digital coins as a new way to store value or to speculate on its price. Over the same period, other cryptocurrencies like Bitcoin cash and ethereum have also grown substantially in market capitalisation.
This recent spike in interest in the block chain technology has even led to investors spending millions of dollars in initial coin offerings.
In light of these events, I thought now may be a good time to discuss the pros and cons of Bitcoin as a currency.
What makes a good currency?
A good currency requires a multitude of characteristics. The most important ones are scarcity, transferability, and a stable store of value.
Historically, we can see that there were many forms of currencies. Yet, none of which had the ideal characteristics that were required. Having said that, most of them sufficed at that time due to limited substitutes.
For example, seashells used to be one of the earliest forms of currency. As long as people accepted it as currency, it could be used as a means to exchange for goods and services.
However, there were obvious flaws to using seashells. These included the relative ease to new supply, which meant the currency was not scarce in nature. It was also not exactly alike which meant it was hard to identify them easily. Another major problem was that the seashells were not durable and could be easily broken or weathered over time.
Pros of Bitcoin as a currency
Looking now at Bitcoin, early backers believe there are good reasons to believe Bitcoin can be a successful currency in the future. Most of these backers point to two characteristics of Bitcoin that they believe make it ideal as a means of transactions.
First, Bitcoin’s supply is limited to just 21 million in total. This means that it is scarce by nature and hence, is more likely to keep its value as long as demand for it continues.
Another property of the cryptocurrency is that there is a decentralised ledger behind each transaction. This means that transactions are accounted for by independent systems and are impossible to trace back, leading to anonymity and security for those who transact with bitcoins.
Limitations of Bitcoin as a currency
However, Bitcoin does have its flaws as a currency. One of the most important properties than any currency must have is the stability of value. A currency that is highly volatile cannot give merchants or buyers confidence.
Bitcoin, unfortunately, fails in this regard. Bitcoin’s price has surged by 280% year-to-date and has seen its price fluctuate wildly on a monthly or even daily basis. There were even days where the price of bitcoin rose or declined by more than 10%.
Secondly, a good currency also needs to be transferable, meaning it needs to be widely accepted and easy to transfer between participants. As of now, Bitcoin is not widely accepted by merchants or businesses yet.
Transactions are also slow due to the slow processing of transactions to maintain the security of the blockchain. This is unlikely to change, as the security and anonymity of Bitcoin are one of the main advantages of the cryptocurrency.
The Foolish bottom line
For now, Bitcoin remains largely a store of value for speculators and for transactions over the deep web (mostly for illegal goods and services). Bitcoin serves this purpose well due to its anonymous transfers, creating a secure environment for such transactions.
However, it is still some way to go before Bitcoin can be truly considered a viable currency that can be widely accepted by the public. For now, it remains what it is, a mere speculative asset that has very limited utility as a currency.
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The information provided is for general information purposes only and is not intended to be personalised investment or financial advice. Motley Fool Singapore contributor Jeremy Chia doesn't own shares in any companies mentioned.