In a nutshell
Technology: Bitcoin’s supply is programmed to increase very slowly, regardless of how many people want it. This means that Bitcoin’s price depends almost completely on demand. Uncertainty: Cryptocurrency in general is very new, so expectations about its future value go up and down all the time. Politics: Countries can’t directly regulate cryptocurrency, but they can make it harder to get. Market size and distribution: The market is relatively small, and the participants tend to be quite responsive to changes. Whales: Bitcoin “whales,” or people who hold large amounts of cryptocurrency, can manipulate the market by selling or buying large amounts. Other cryptocurrencies: Many newer cryptocurrencies can often only be bought using Bitcoin, so if they get popular, demand for Bitcoin goes up.
This is not a comprehensive list. As with any economy, there are many factors that affect prices, but these factors explain the majority of Bitcoin’s price changes. None of these are necessarily fatal flaws in the technology. Blockchains are very secure and have lots of potential applications, but anyone interested in exploring cryptocurrencies should know why the value changes so much.
Technology: The supply changes slowly
As of April 2018, 12.5 new Bitcoins are created roughly every ten minutes, which adds up to about 1,800 per day. That’s a lot, but with seventeen million BTC currently in circulation, the supply only changes by .01% per day. Bitcoin is only worth money because people are willing to pay for it. Since supply doesn’t respond to demand here, anyone who wants to buy it will have to pay enough money that a current owner is willing to sell. On the other hand, if lots of people want to sell, the owners will have to lower their prices until someone will buy. In short: Bitcoin’s price is almost 100% determined by demand.
Uncertainty: Brave new world or brave new bubble?
Cryptocurrencies and blockchains are like any other new technology, from railroads to computers: there’s a lot of innovation and excitement, but also lots of failed experiments and mismanagement. No one knows exactly how it’s going to turn out, so early investors and adopters are very sensitive to positive and negative developments that might affect Bitcoin’s future value.
Politics and regulation
Bitcoin and other cryptocurrencies are also very sensitive to political changes. Governments can’t directly control Bitcoin, but they can control how easy it is to exchange their currency for it. China and South Korea have both caused notable dips in the market by displaying negativity towards cryptocurrencies. If a country that is heavily involved in the market suddenly drops out, the readjustment would be dramatic.
The market is small, concentrated, and responsive
Anyone who uses Bitcoin right now is an early adopter, and there aren’t as many as you would think. As of April 2018, there are only fifteen million Bitcoin addresses that have more than one USD in them, and out of those, the top 1,000 addresses control about thirty-five percent of all existing Bitcoin. Additionally, since the people who currently have Bitcoin tend to be the ones who pay a lot of attention to it, they react quickly to new developments, and a few people reacting in a certain way can touch off chain reactions.
Whales can make a splash
The code behind Bitcoin is designed to ensure no central authority has control, which is one of its most appealing characteristics. However, this does not mean the market is immune to manipulation. “Whales,” or Bitcoin owners with massive amounts of the currency, can and often do influence prices by buying or selling in large quantities.
Other cryptocurrencies create demand
It’s fairly easy to get Bitcoin no matter what currency you want to trade for it — dollars, yen, lira, etc. Many of the newer cryptocurrencies, though, can only be bought with other cryptocurrencies, and since Bitcoin is one of the most widely-obtainable, anyone wanting to buy Monero, for instance, will first have to buy Bitcoin (or Ethereum or Litecoin) to trade for it. This means that the more new cryptocurrencies there are, the more demand there is for Bitcoin to trade for them and vice versa.
Solutions?
Bitcoin’s core technology will continue to be upgraded and improved, but in the long run, it will only stabilize once the market surrounding it does. Once investors get a better grasp on the technology’s potential, governments have a more defined regulatory stance, and adoption becomes widespread enough that Bitcoin is more evenly distributed, prices will likely stabilize. Until then, only invest if you’ve done your own research and have a good grasp on what you’re doing. Then you can sit back and enjoy the show!
