Bitcoin

The King of Crypto

Bitcoin is usually the first crytocurrency people learn about. But soon after most will encounter many more cryptocurrencies and blockchain networks out of the hundreds and thousands that exist today. Unfortunately they may be introduced to many networks that have a very small chance of success, those of bad quality or even outright scams. And most projects probably all sound incredibly promising. Until they’re not. It’s natural to not only be curious about other cryptocurrencies, but feel there may be more opportunity out there with those lesser known ones that could eventually be more valuable than Bitcoin. Some of the reasons may be:

  • Bitcoin is the very first cryptocurrency ever created and usually the first implementation of a new technology does not become the most popular especially in a rapidly changing technology space.  There was MySpace before Facebook and perhaps for those who are old enough some may remember Geocities was a crude implementation of a social network in the early days of the Internet.  It’s incredibly hard for any person or team to design and deliver the best system on the very first attempt.

  • Secondly many people may feel that the opportunity for them to personally benefit from Bitcoin has already passed.  The early adopters have already become Bitcoin millionaires and billionaires so it may be hard to believe anyone who purchases today will gain significant wealth.  Might as well look for the next big opportunity right?

  • Bitcoin doesn’t seem to be used as money by the masses yet.  Perhaps that is one indication that the battle for cryptocurrency supremacy is yet to be decided.

So it’s perfectly understandable that there is a tendency for many to immediately look for other cryptocurrencies.  But I’ll address these points and give some insights to why much of or most of someone’s crypto assets should be in Bitcoin even for those who have a relatively high risk tolerance to speculate. 

What Makes Bitcoin Unique?

1.  First of all Bitcoin is a masterpiece.  It’s a Picasso or Rembrandt in the world of cheap knock-offs.  The intricacy and simplicity of its design is too difficult to replicate and no other network has come close.  Satoshi was able to architect Bitcoin in a way that perfected the most important features of a cryptocurrency as a store of value, digital gold and money such that any improvements could only marginally improve it and almost any major change would diminish its value.   Without room for major improvement, Bitcoin should be able to maintain its first mover advantage for many decades to come.  Being first is actually important.  As a store of value, the longer it survives the more people will gain trust in it.  Nasim Taleb has described the Lindy effect whereby the longer any product or technology survives, the longer it has a chance to exist in the future.  Bitcoin ages like fine wine or a masterpiece painting and there is a historical significance to being the first and longest living cryptocurrency.  Nick Szabo, the godfather of Bitcoin and smart contracts, has written about collectibles and money in Shelling Out: The Origins of Money.  For the wealthy, art & collectibles have always been one of the best stores of value.  Even through rough economic times art & collectibles have been used to pass on intergenerational wealth.   Furthermore the Bitcoin brand is also important and as the first and most frequently discussed brand with a sterling reputation within the blockchain expert community, Bitcoin continues to expand its brand awareness, increase its first mover advantage and expand its strong network effect.

2.  Bitcoin is also the most ‘socially scalable’ system, a phrase Szabo describes in Money, blockchains, and social scalability.  Bitcoin is not designed for performance and computational scalability.  It’s designed to be technologically secure and socially scalable.  It minimizes the need for any user to trust another person or organization.   Therefore each person who runs the Bitcoin software can be comfortable knowing that the software will flood a local transaction message to as many peers as possible around the world before it is made ‘immutable’ on the blockchain and where anyone in the world running the software can be highly confident that that particular transaction occurred.  (Note: A blockchain is effectively an immutable database.)  The redundancy of Bitcoin’s messaging protocol coupled with proof-of-work (POW) mining creates a system that enables users to just need to trust their software locally and the economic incentives of the Bitcoin system globally to know a transaction will be valid instead of having to deal with the vast number of trust relationships that a global network typically requires.

3.  Proof-of-work (POW) mining is a feature not a flaw.  POW mining is the system that allows anyone with significant capital resources to buy specific hardware to earn bitcoin rewards by effectively solving a computational puzzle.  Many cite the wasteful energy as a significant disadvantage of Bitcoin.  While that may be true from one perspective, it serves multiple purposes.  The security of the Bitcoin system depends on a system that requires massive amounts of capital and work to effectively ‘forge’ a particular transaction message onto the blockchain.  Every user knows that even if they were to receive a million dollar transaction from someone else, that those participating in the network are currently spending a half-million dollars per hour and over $12 million a day to earn rewards such that there is very little economic incentive for miners to manipulate the system and allow any sender to ‘double-spend’ the same million dollars worth of bitcoin to someone else at the same time.  It becomes more improbable the more time that passes.  It is socially scalable because users don’t have to trust any person or organization, but instead just rely on software, the economic incentives in the system and the passage of time. Furthermore POW creates an indelible imprint on the mind of users about the massive resources used to secure the system.  The capital and energy expended creates an unforgeable costliness in the system similar to what Szabo describes in Antiques, time, gold, and bit gold.  Some other systems that don’t require as much ‘work’ may have very good security properties, but inspire less confidence intuitively.  So the ‘waste of energy’ creates more confidence in the Bitcoin system as well as adds to this incredibly costly and growing unforgeable ‘work’ of art. The same unforgeable costliness is what Szabo describes to have helped specially hand-crafted necklaces and beads become money in the past

Another major benefit, if not the most important one is that all money requires a unit of account.  A number in and of itself is not useful to anyone as a unit of account.   A dollar is a unit-of-account because there is a historical link to what dollars bought yesterday and in the past.  But the dollar’s unit of account historically has a link to the Spanish silver dollar, the most popular commodity money in the 1700’s.  Hence fiat money inflation and price adjustments gradually moved away from the silver standard to a gold standard with the Coinage Act of 1873 until 1971  when under Nixon US dollars were no longer convertible into gold.   If the dollar had not started as a commodity money, it wouldn’t be as useful as a unit-of-account today and when there is a currency crisis or hyperinflation, people will no longer be able to subjectively compare goods with each other using dollars and the dollar will fail to be a good unit of account.  In the future and after hyperinflation 1 million dollars could buy a loaf of bread or a car, but no one would be able to reconcile between any other goods if dollars are no longer linked to gold or silver. This is effectively what Austrian economists describe as Mises regression theorem of money.  Bitcoin may at first glance seem to have the same problem.  One satoshi (.000001 Bitcoin) or 1000 Bitcoin is just a number to most and does not seem to have a reference point for anyone to subjectively compare other goods to exchange for.  People need to reconcile between both an objective and subjective value of money in commerce. However for Bitcoin, any user can calculate the energy input required to create each Bitcoin to be a proxy unit of account as I wrote about in Bitcoin’s Unit of Account.  The unforgeable input cost in any purely competitive market tends to equal the ‘price’ using microeconomic principles.   Bitcoin mining is as pure a competitive market as could exist in the world.  Assuming input cost is equivalent to price and because roughly 60% of the cost of mining is energy costs,  we can calculate the amount of energy in Joules required to produce each bitcoin at any given moment.  Energy is a very good unit of account because it powers the technology and computing of the modern economy. 

4.  The fact that Bitcoin has no formal governance to determine how the software behaves is a feature not a flaw.  Bitcoin’s software is designed to have no direct human intervention, subjective influences or any governance.  Bitcoin core developers and advocates protect any outside influence to make unnecessary changes in the software.  Hence there is not only immutability within the software, but a culture of immutability surrounding software upgrades.   The rigidness of Bitcoin makes it more commodity-like, unmoved against the whims of humans.  Almost all changes aside from any bugs that are discovered will likely require backward compatibility so that even those using a very old version of the Bitcoin software can still send or receive bitcoins.  

One of great examples and tests of the Bitcoin ecosystem was during the blocksize debate and the fork of Bitcoin Cash in 2017.   There was a significant interest group of Bitcoin advocates that desired to change the software to allow a larger amount of data (eg. block size) to be used on the Bitcoin blockchain primarily to reduce transaction costs and increase performance.  However most Bitcoin core advocates desired to maintain the socially scalable architecture and thought that any increase in block sizes would diminish the security of the network.  Any compromise or increase in block size would have required a hard fork and required everyone who had older software to be incompatible with the new software.  Since most of the developers and Bitcoin advocates resisted the change, Bitcoin remained intact and those who wanted a different system created an alternative system in 2017 called Bitcoin Cash with a different set of miners.  Even though this new Bitcoin Cash network originated from the old network, it was and is seen as an entirely new and different outgrowth of the main Bitcoin network with an independent brand and community supporting it.  Hence the resolution of one of the most challenging threats to the current and original Bitcoin was ultimately resolved gracefully and the core Bitcoin protocol now remains even more resilient to change in the future. 

Some advocates of newer blockchain networks consider the lack of governance a flaw and many have introduced a stake-weighted approach to changing network system parameters.  Unfortunately governance creates a greater level of human involvement, intervention and subjectivity and people will naturally have different ideas of what ‘improvements’ are and would gradually lead Bitcoin or any network to become much different than what it originally started as.   Monetary inflation is one of the biggest features that if left up to people could change.   Some cryptocurrency & blockchain advocates might someday believe we need something like the Federal Reserve Board to control the money supply and those people might eventually influence stakeholders to implement such a system.   It is not to say some systems may benefit from having governance, but a commodity-like money becomes less effective the more human intervention there is.  In Bitcoin, without the human element more people will feel certain that the maximum 21 million bitcoin supply will not change.    

5.  POW also has another benefit. How does a new money come into existence and how is it distributed to the masses?  The narrative around a new money that would be accepted by the world should be pure and one that gives everyone equal opportunity to earn it.  For years, Bitcoin allowed ordinary people the equal opportunity to mine Bitcoin with their computers until ultimately it just became an industry similar to that of gold mining.  Today any individual can still buy mining machines and mine Bitcoin just like anyone can pan gold today in certain geographies.  Newer systems that allocate even a small portion of coins to their creators and developers are frowned upon.  There are even terms such as a ‘pre-mine’, coins given to select people before the platform is launched, ‘post-mine’ when coins are distributed to select people after the platform is launched and terms like ‘ninja-mined’ when certain groups have an unfair and special advantage to earn coins before anybody else.   Proof-of-stake (POS) coins have always had a distribution problem and are more similar to corporate or organizational coins than commodity-money.  There is nothing wrong with POS systems and there are many advantages to POS, but as a pure money system POW coins have an advantage because of its generally fair method of distribution. 

6.  The simpler a coin network is, the easier it is to understand and the less variation it will have in price.  Bitcoin has a very simple design.  For example, the reason why gold is a better currency than silver is because silver is more useful than gold.  Counterintuitively the more useful a commodity is,  the more variation it will have based on its usefulness that ultimately affects its price stability.  Gold with its more limited uses would be less prone to supply/demand changes from industrial use compared to silver.  Similarly the less useful Bitcoin is for other purposes and the less features it has other than to simply transfer value between people, the less variation there will be on Bitcoin prices and the better money it will eventually become.  We could expect that other more general purpose blockchain network software systems will have a variety of immensely useful applications.  However the success or failure of any popular or ‘killer’ application on that network will greatly disturb the price stability of its native coin, hence that network would become less useful as a money.   Imagine if we used Facebook stock as a currency.  If Facebook becomes less popular that would significantly reduce the value of the stock.  If Facebook becomes dominant in the virtual reality (VR) space it’s stock could skyrocket.  Either way Facebook stock would be more volatile and unsuitable for a currency.   The killer application of Bitcoin is simply as money.  Nothing more.

7.  Bitcoin continues to dominate the mindshare of institutions.  Many crypto organizations such as Binance and Huobi have created modern financial derivative products such as futures for Bitcoin that will increase liquidity and attract institutional capital.  Traditional financial institutions like Bakkt have created Bitcoin futures products for institutions as well.  More ETFs are in the works.  More and more Bitcoin OTC desks are being created.  As more of the financial institutions and Wall Street firms find various avenues to invest in Bitcoin, a greater amount of trust, reputation and liquidity will be created. It will be difficult for other newer and smaller cryptocurrency networks to get to the level of recognition Bitcoin has and will already be a decade behind in building trust.  

These are just a number of reasons why Bitcoin is in a class of its own.  These unique factors greatly enhance Bitcoin’s ability to be the market leader. 

How Much Potential Does Bitcoin Still Have?

So the next question revolves around the potential of Bitcoin today.  Many might believe that it’s already too late to invest after a decade of growth.  One Bitcoin was worth pennies a decade ago and today is worth around $7,000.  However there are reasons to believe we are still relatively early and that price maturity is still at least one or two major boom cycles away.  First of all only 10-20% of people worldwide have ever purchased Bitcoin.   Of those, many likely purchased Bitcoin and cryptocurrencies at the previous price peak in 2017 and have sold at a loss or have unrealized losses.  Also most of those who have purchased Bitcoin in general are retail investors.  Most institutions that have much larger capital are still on the sidelines and while there are many more avenues for institutions to buy cryptocurrencies, much of the large institutions have mandates that restrict them from purchasing alternative investments like Bitcoin.  However over time those mandates should slowly loosen up and allow much more institutional capital to flow in.  

Furthermore central banks around the world have been instituting excessively accomodative monetary policy.  The US Federal Reserve has announced policies to reduce interest rates to nearly zero to keep bank lending and monetary liquidity in the economy.  The Fed also pledged to buy more treasuries via quantitative easing to help with bank reserve requirements as well as buy low quality debt to be a backstop against a credit crisis.  It has accumulated up to $6 trillion on the Fed balance sheet since the start of the financial crisis of 08/09 when the Fed had less than $1 trillion.  The Fed is socializing bad debt with it’s monetary policy to try to reinflate the economy.  This monetary policy will help all assets including stocks and bonds in the short term, but more likely lead to price inflation, negative real interest rates and more capital flow to stable stores of value such as gold and Bitcoin.  

Gold in a continued negative real interest rate environment might go up as much as 5x to above $8,000/oz or more as people shift capital away from bonds.  Bitcoin has much of the same qualities as gold, but Bitcoin as a digital money is more easily divisible, portable and easily authenticated.  However Bitcoin has only been around as a money-alternative for a decade compared to Gold.  Gold has been around and used as some form of money or safe haven for over 2,700 years.  There is estimated to be 6.7 billion ounces of gold that exist and at a price of $1,650 the total market value of gold would be about $11 trillion.  If Bitcoin were to be a quarter of the market value of gold, that would make the market value of Bitcoin around $2.7 trillion dollars and each Bitcoin would be worth close to $150,000.  Furthermore if the gold value increases five times from $1,650 to $8,000 over the next 5-10 years you may very well see Bitcoin also move up an equal amount to over $750,000. 

If Bitcoin becomes much more than a store of value and it becomes the defacto global currency, it may be worth even much more than the previous calculations suggest.  Although seemingly improbable,  smaller central banks that desire more stability amidst global currency wars and want to shelter themselves from the volatile monetary policy of other nations may resort to buying Bitcoin as a safe haven.  That could create a domino effect that spurs other larger central banks to follow suit until even the largest central banks might allocate a portion of their reserves in Bitcoin.

Why Isn't Bitcoin Money For Masses Yet?

The final reservation about Bitcoin might be that it doesn’t feel mainstream yet and isn’t used by the masses of people in everyday life.   People might think perhaps some other cryptocurrency has an opportunity to overtake Bitcoin with a ‘killer’ app.  That may be true, but more than likely another cryptocurrency that becomes widely popular will become more of a second layer application if it does not have the same unique money qualities Bitcoin does as described earlier.   Hence a new popular cryptocurrency will likely increase the adoption of Bitcoin as money, rather than replace it. 

Bitcoin does not have to necessarily be used at the payments layer if successful at the settlement layer.  It can perhaps replace the US dollar as a reserve currency as we previously described and be used as the main unit of account.   Even well before that happens, Bitcoin can achieve mainstream success when enough institutions start to use Bitcoin as an alternative asset.  Hence I would look at the sheer size of capital that large institutions put into investing in Bitcoin rather than the number of people.   Rather than expecting the masses to use Bitcoin as money, as long as it becomes a significant alternative safe haven similar to gold it will have achieved mainstream success.  Perhaps Bitcoin reaching 25% of the market capitalization of the gold would be a good indication of that success.  One day the world may use Bitcoin everyday.  That may become more and more likely after Bitcoin achieves success first as an institutional store of value.    

Conclusion

We described Bitcoin’s unique characteristics as a high quality money, what advantages it has over other cryptocurrencies, why it’s still not too late to purchase Bitcoin and what we should look for in the coming years to track Bitcoin’s success.   So why don’t you get started now?  

If you already have Bitcoin, perhaps you should accumulate more?  It’s important not to invest more than you can lose because there is risk.  Bitcoin also fluctuates widely so it’s important to make sure you believe in Bitcoin for the long term and expect to hold it for many years to weather the wild ups and downs of Bitcoin price swings.  If you don’t want the anxiety of knowing when to buy, you should dollar cost average (DCA) starting today. You can use dcaBTC website to determine what amount you need to buy every week.   Determine a total amount you expect to buy this year and divide it by the number of weeks in (ie. 13/26/52 weeks) so you know what amount to buy every week.   If you’re eager to get started, perhaps you can buy up to half of what your expected initial investment is right now and buy the rest every week over time.  It’s good to just keep accumulating more and more over time as you gain a stronger belief in Bitcoin and especially if you have good cash flow from your job.       

If you live in the US or Europe here are a couple good ways to buy Bitcoin:

1)  Coinbase is a reputable Silicon Valley based firm backed by major venture capital companies:

>>  Buy Bitcoin from Coinbase here  <<

You can also use Coinbase to buy if you’re from: Canada, Mexico, Australia, Chile, Singapore

2)  You can also try Gemini in the US, Bitstamp in Europe.