Is Bitcoin Really in a Bubble?
We discuss financial bubbles, expert views and problems with Bitcoin in order to answer the question of whether Bitcoin is really in a bubble.
If you are new to the crypto space you are probably used to seeing Bitcoin prices in the thousands, but only two years ago, in January 2015, it was trading at just over $200.
Even on the 2nd of January, 2017 Bitcoin's price was just over $1,000, and only nine months later, on the 2nd of September, 2017, the price was ready to breach the $5,000 wall.
If these stats are not enough, here's one more – Bitcoin's price jumped over $2,000 between 16th July and 16th August 2017 – from $1900 to almost $4,300.
Compared to January 2015 prices, Bitcoin has risen over 2,000% in value – which is unparalleled for any investment vehicle or asset we know.
Given all this, a question naturally pops up – is Bitcoin in a bubble? The answer to that is not so simple.
What is a Bubble?
Simply put, a bubble is marked by a very fast and high rise in the price of an asset, which is usually followed by a crash (when the bubble bursts).
This increase in prices is called a bubble because it is fueled by unrealistic expectations and speculations which contradict the actual value of the asset.
When the market reaches a certain high, depending on investor emotions and speculation, buying stops and selling starts, causing the bubble to burst.
The critical factor in a bubble is that the price rise does not correspond with the asset’s intrinsic value.
The Dotcom Bubble – A Lesson from History
Dotcoms or internet companies were all the rage in the 90s and were on a path to unprecedented growth. Valuations were high, stocks were rising, and investors were flocking to them with dreams of getting rich overnight.
The resulting drive led to mass marketing and brand building campaigns from internet companies without much focus on actual products/services and their usability. Even undeveloped and untested ideas from companies with no track record were raking money in.
The result? A bubble developed and it kept inflating till most of the dotcoms started reporting losses and recorded revenues that were wildly below expectations. The bubble burst as investors lost confidence and a massive sell-off started in 2001.
An example is that of Pets.com, which spent millions in marketing but ended up reporting losses over $145 million. Their stock prices went from over $10 to under $1, and investors lost tons of money.
Yale Economist Robert Shiller thinks Bitcoin is in a Bubble
If there is anyone who can be considered an authority on economic bubbles, it's Yale economics professor Robert Shiller, who also has a Nobel Prize for this research on financial markets and how they work.
Shiller talks about human impulses and behavioral finance as key market forces, and when asked about his take on the current state of the market, he called Bitcoin a bubble.
"The best example right now is bitcoin. And I think that has to do with the motivating quality of the bitcoin story. And I’ve seen it in my students at Yale. You start talking about bitcoin and they’re excited! And I think, what’s so exciting? You have to think like humanities people. What is this bitcoin story?"
Shiller also cited the mystery behind Bitcoin’s creator and how the cryptocurrency gives people a sense of control in an environment which is changing very fast due to technology.
"It starts with Satoshi Nakamoto—remember him? The mysterious figure who may or may not be real. He’s never been found. That has a nice mystery quality to it. And then he has this clever idea about encryption and blockchain and public ledgers, and somehow the idea is so powerful that governments can’t even stop it. You can’t regulate this. It kind of fits in with the angst of this time in history."
Jamie Dimon and Ray Dalio think Bitcoin is a Bubble
While Robert Shiller is a professor, we also have two of the leading men in the finance industry today – JPMorgan CEO Jamie Dimon and the founder of Bridgewater Associates, Ray Dalio – calling Bitcoin a bubble.
Earlier this month, both men made statements, with Jamie Dimon caught all the headlines after calling Bitcoin a fraud and saying:
“It's worse than tulip bulbs. It won't end well. Someone is going to get killed.”
Ray Dalio, who is at the helm of the largest hedge fund in the world, also had similar comments:
"It's not an effective storehold of wealth because it has volatility to it, unlike gold. Bitcoin is a highly speculative market. Bitcoin is a bubble."
Many believe these men are just trying to protect their businesses since Bitcoin and cryptocurrencies are disruptive for the existing financial status quo. However, there are some truths to these comments.
The Problems with Bitcoin
Just like there are detractors, there are also supporters of Bitcoin and cryptocurrencies, such as John McAfee, Roger Ver, Eric Gu and Brock Pierce to name a few.
It is, however, important to understand that it is not just Bitcoin which is revolutionary – it is the particular use of Blockchain technology that has opened the door to future possibilities.
The main support is for blockchain technology, and there is no doubt that it has a bright future in several industries, especially finance.
Bitcoin is just one manifestation of the possibilities and being the first, it has managed to become synonymous with blockchain and digital currencies.
Whether or not Bitcoin is in a bubble right now depends on determining a Bitcoin’s actual value – and therein lies the problem.
This is unprecedented and uncharted territory at the moment, and there can only be speculation, no definitive attribution of value – and this fact in itself is driving the price up.
If you look at initial coin offerings, you will notice a similar pattern and the problems are further magnified. Most of these coin offerings are unable to establish intrinsic value for the tokens they distribute and since the market is unregulated, speculation drives prices very high.
There are some other problems with Bitcoin too. Firstly, it's hard to categorize it as a store of value due to the volatility. If the price can fluctuate a couple of hundred dollars every day, Bitcoin can hardly be relied upon.
Secondly, it has a very limited use apart from trading and some online shopping and payments. Supporters may say Bitcoin is accepted widely, but in reality, there is a slim chance of the cryptocurrency ever getting mainstream, global acceptance.
The major challenge is going to be the control asserted by world governments who do not wish to lose their grip on the prevailing economic system. At the very best, we are moving towards a world where traditional currencies will be digitized on the blockchain, and this is evident from recent developments and trials for blockchain-powered solutions.
Yes, Bitcoin is in a Bubble
In light of all this, it won’t be wrong to say Bitcoin is in a bubble, but that doesn’t mean it’s going to burst anytime soon. It’s very likely to go higher because the crypto space has just begun to gain mainstream exposure and Bitcoin is the most widely known face for it.
As investors join and the market cap for cryptos grows, Bitcoin is certainly going to see higher prices. However, we cannot discount the power of world governments. An example is the recent crackdown by China, banning ICOs and suspending cryptocurrency trading – moves that sent Bitcoin prices plummeting.
This is not to say that you should not invest in Bitcoin. There is money to be made, but there is a bubble too. It will burst at some point, and when it does, a lot of people will lose money. But that's how disruptive technologies work, and it's better to join early than late.