From what we have seen over the past few years, cryptocurrencies have experienced large increases in their total value when compared to fiat money, so if you’re interested in investing in cryptocurrencies, it’s only natural to wonder are they worth anything?
There are a lot of discussions about how digital currencies get their value and what they could be worth when they reach global adoption. But, in order to discuss why cryptocurrency is worth anything, we have to go a step back. Since cryptocurrencies are designed as an alternative for fiat money, we need to answer the question of how any currency gets its value.
What Is Cryptocurrency?
A cryptocurrency is a digital currency that you can use as a store of value or medium of exchange. Cryptocurrencies use an online ledger built with strong cryptography in order to secure online transactions. This cryptography makes digital currencies almost impossible to forge or double-spend. Digital currencies are “mined” on decentralized networks that are developed on a blockchain technology, and unlike fiat currencies, they aren’t issued or regulated by a central authority, such as the Federal Reserve.
The first cryptocurrency that was developed using blockchain technology in 2009, by the pseudonymous programmer Satoshi Nakamoto, was Bitcoin (BTC), and till this day it’s still the most valuable and most popular digital currency. Nowadays, there are over 6,700 digital currencies that are developed with blockchain technology, such as Ethereum or Ether (ETH), Litecoin (LTC), Dogecoin (DOGE), Monero (XMR), Ripple (XRP) etc. Some people refer to digital currencies as digital gold.
What Gives Value to Cryptocurrencies?
All types of currencies are usable only if they’re considered to be stores of value, or to put it in simple words, if you can rely on them to maintain their relative value over time, instead of decreasing in value. In the past, people used precious metals and commodities as a means of payment, due to the fact that people thought of them as things that have quite a stable value.
This turned out to be a problem due to the fact that people had to carry around commodities, such as gold, which can be quite heavy. So, in order to make their lives easier, people turned to minted mediums of exchange. What made these mediums of exchange a reliable store of value was that they were made from metals with long shelf life and they had a low risk of decreasing in value.
Over time, paper money replaced the minted mediums of exchange, but they didn’t have the equivalent intrinsic value as the coins that were made out of gold or silver. Nowadays, the main mediums of exchange are the globally adopted fiat currencies, such as the US dollar (USD). These currencies are issued and controlled by the monetary policy of a government, and they aren’t backed up by commodities.
Six Main Features That Give Value to Cryptocurrencies
Other than the store of value, there are six more important features that all types of currencies, including cryptocurrencies, must have in order to be considered usable: scarcity, utility, durability, portability, security, and divisibility.
One of the main things that maintain the value of a currency, including that of digital assets like Bitcoin and Ethereum, is the supply of that currency. If there is too much supply, it can result in inflation, which if left unchecked, can cause economic collapse, as we’ve seen in Hungary, Zimbabwe, and Yugoslavia in the past.
When it comes to fiat money, the central bank in each country controls the money supply in order to ensure the scarcity of the currency. Some governments work with a predetermined quantity of inflation, so they can lower the valuation of fiat money. In the case of Bitcoin, this is a little bit different, due to the fact that the issuing rate in Bitcoin is predetermined and limited to 21 million coins.
The currency can be useful only if it has utility, meaning you must be able to trade the currency for goods and services with a high degree of reliability. This is considered as the main reason for creating currencies in order to avoid trading goods for goods. Utility also requires the currency to be easily movable from one location to another.
Speaking of which, the third feature of a good currency is portability, or being able to transfer the currency between the parties quickly and easily. Here we talk not only about the money transfers between two parties in the same country, but cross-border transfers as well.
Every currency that is considered successful has to be divisible into smaller units. In fact, if we want a currency to be a medium of exchange for all kinds of goods and to have a market value, the currency must be divisible, and it has to be divisible enough in order to reflect the market value of every good or service that you can find on the market.
A currency is likely to be more trusted if it is very difficult or impossible to forge. If a bad actor can easily forge the currency, then they can flood the market with forged currency (i.e. fake bills), which artificially increases the supply and will result in a devaluing of the currency.
A currency is considered an effective one if it’s reasonably durable. This means it should not be easily damaged or destroyed because if the currency degrades after a short period of time, it’s not an effective store of value.
Why Is Bitcoin Worth Anything?
Now that we’ve explained to you what it takes for one currency to be worth anything, let’s see whether Bitcoin fulfills these criteria.
The traditional fiat currencies can inflate without limits, however, Bitcoin’s supply has been hard-capped to 21 million BTC. Another difference between fiat currencies and Bitcoin is the rate of issuance. Bitcoin has a fixed rate of issuance, which experiences a halving event for every 210,000 blocks that are mined. This means that while miners enjoyed a reward of 50 BTC for the initial 210,000 blocks mines, this was halved to 25 BTC for the second 210,000 blocks. It’s currently 6.25 BTC per block and will halve again in the spring of 2024. With fiat currencies, we’re seeing monetary policy being implemented by governments around the world where large amounts of new currency are being generated, to fund the response to the COVID-19 pandemic.
We previously said that there is a hard cap of 21 million Bitcoins, which is a considerably smaller amount than the amount of fiat currencies that are in circulation worldwide today. Fortunately, a single Bitcoin can be divided up to 8 decimal places, so 0.00000001 BTC is the smallest unit of Bitcoin, known as a satoshi. However, if there is a need for smaller units in the future, the level of division can be set at 16 or more decimal points, which makes Bitcoin a currency with an almost limitless level of divisibility.
While it may not have been widely accepted when it was first introduced in 2009, things have come a long way since then. There are now a large number of online merchants that accept Bitcoin and other cryptocurrencies as payment for their goods and services. You can also get a crypto debit card now, which allows you to spend at any merchant that accepts either Visa or Mastercard, depending on the card that you get. It will then convert the transaction to your chosen cryptocurrency and debit that from the amount that you have stored with the card issuer.
On this subject, Bitcoin has a few aces up its sleeve. As a digital currency, it can be stored in crypto wallets, cryptocurrency exchanges (such as Coinbase, Kraken, Binance), and transferred around the world in less than an hour. Moreover, the fees can be much lower than a traditional wire transfer.
Cryptocurrency balances are stored on the blockchain and every transaction is also recorded on this shared digital ledger. This means that Bitcoin cannot ever be lost provided that you store your 12-word recovery phrase in multiple secure locations, which makes it all the more valuable.
Bitcoin and other cryptocurrencies are incredibly difficult to forge as a result of the decentralized blockchain ledger and its complexity. The main purpose of this system is to prevent the double-spending problem, i.e. prevent cryptocurrency users from spending the same coin twice. Consequently, the transactions on the Bitcoin network cannot be counterfeited and aren’t revocable.
Stability and Store of Value
The only thing that Bitcoin lacks is price stability. Due to its constant volatility, BTC can be used as a commodity, just like gold is but poses challenges as a store of value. However, things might change in the future, as Bitcoin gains mainstream acceptance. Until then, the value of Bitcoin will continue to be volatile.
For last we’ve saved the most important reason for the value of Bitcoin, and that is the store of value, meaning you want to buy goods and services by using BTC, or merely speculate, or store your money. As the Bitcoin network grows, and as the ecosystem is becoming more and more advanced and secure, the value of Bitcoin will continue to increase in fiat currency terms.
A Few Words Before You Go…
When it comes to whether a cryptocurrency has intrinsic value, you can see that they are not very different from fiat currencies. They have to be designed to fulfill the six features that we’ve explained in this article, and only then cryptocurrencies can be considered as valuable as a store of value and medium of exchange.