Bitcoin: better than a Euro bank? (by )

Ah, Bitcoin. I've written about its security and regulation mechanisms before, invested in it just before the June 2011 bubble; as the bubble peaked I sold enough at the higher price to cover my meagre initial investment, so didn't feel too worried when the bubble burst - the bitcoins I held were, essentially, free.

I could have made more money if I'd known when it would burst (indeed, at the time, I wasn't sure if it would ever burst; that ramp could have been the start of a worldwide shift to bitcoin as the de-facto international currency, for all we knew); I could have sold all my bitcoins right before the drop, then used the proceeds of that to buy back at the very depths of the crash, and netted myself a heap of bitcoins that would be worth an astronomical amount right now.

Hindsight, eh? But commodity speculation isn't about worrying about what could have been done; all you can do is think about what to do next, with the information you have now.

At the time of writing, bitcoin's price compared to conventional currencies is surging. It's left the heights of the previous bubble far behind and is still climbing quite fast.

It's been rising steadily for some time, but the recent spurt seems to have started with the recent suggestion that Cypriot banks might be forced to skim off a fraction of the balances of accounts in credit. This has come as a shock to many, as it goes against a previously rather sacred principle that money in banks should be considered safe, in order to encourage confidence in the banking system. Also, it seems rather unfair - people who have kept savings are being "punished" for a financial crisis that is popularly believed to have been caused by people being in debt.

Obviously, Bitcoin holds little comfort for Cypriots whose money is currently locked in banks; they'll have no way of rescuing it. But they're going to be a bit skittish about putting any more money into their bank accounts in case this kind of thing happens again, which means that Bitcoin must be looking pretty interesting to many as a way to look after their future earnings.

Meanwhile, in countries in similar situations to Cyprus (such as Spain), people are worrying if their banks are in danger of doing the same thing - and so are looking to pre-emptively move their savings to Bitcoin.

This is an interesting trend, and as such it's made it into the news, further increasing the public exposure of Bitcoin.

And so lots of people start buying Bitcoin, and with a limited supply, that causes the price to rise.

Will this be good for people fleeing Euro banks? Well, if they transfer their life savings into Bitcoin during a bubble inflation phase, only to find the bubble bursts and it's now worth a lot less, than that won't be good for them in the short term.

But we still don't know if this is a bubble. It certainly looks like a bigger version of the last bubble, and a rush of new people coming in forcing the price up might well force the prices above what the majority of the actual Bitcoin economy feels is the right price, meaning it'll plummet as soon as the surge of new people dries up...

...but it might also just be the start of Bitcoin finally going mainstream.

Let's do some back-of-envelope calculations. Estimating the amount of money in the world is tricky, but it looks like there's about ten trillion dollar's worth of money right now. The total amount of Bitcoin that will ever exist is twenty one million bitcoins. If none of those bitcoins are missing, and the entire world abandons existing currencies and puts everything into bitcoin without undergoing any other major structural changes to the nature of the economy, then those ten trillion dollars divided into twenty one million bitcoins means that each bitcoin will end up being worth about half a million dollars.

Perhaps, by then, the economy will have grown due to people doing awesome stuff and digging things out of the ground and selling them and all that, and some of the bitcoins will be lost so not in circulation, in which case it'll be a bit more. Perhaps the structure of the economy (how much of the wealth of the world is stored as cash, how much in the virtual world of fractional reserve banking, how much as stocks and shares and futures and precious metals, and how much as actual useful assets) will change in ways that push the value of money up or down. But assuming Bitcoin goes mainstream, we can probably place a rough upper limit on the actual value of one bitcoin at half a million dollars.

Thankfully, bitcoins are divisible (indeed, the size of the unit we've decided to call "one bitcoin" is purely arbitrary), so we'll all be dealing in microbitcoins for our day to day transactions.

That would be great news for early adopters drawn to bitcoin for its philosophical implications; if the value gets anywhere near that, I'm retiring early to pursue my long-term projects. But I'd like to spend my bitcoins directly; I'm not really interested in converting them back to pounds sterling to spend, unless I have to. I want a complete working Bitcoin economy!

So I think that whether Bitcoin is having another bubble or not is largely irrelevant to me; my speculative investment in bitcoins is driven by the desire to help build a stable alternative distributed currency, and as a really cracking example of a system that can regulate itself to the benefit of all without requiring central control. I think that, if Bitcoin does take off, it's currently tremendously underpriced; some have said that the "early adopter advantage" of us lot buying bitcoins for mere pounds shows it to be a kind of Ponzi scheme, but I think it's just an elegant property of the system that is helping it to bootstrap itself; it rewards people who take the initial risk, in order to get people on board to build a stable economy; much like the system of mining rewards, that will eventually give way to miners earning transaction fees alone, but gives people an incentive to get involved at the start.

So short-term booms and busts aren't of great concern to me. I'd rather the value of bitcoin rose slowly but steadily, as you'd hope from an inherently deflationary currency with growing adoption. Booms bring people into Bitcoin, which is great, but the busts also scare them away and hamper its adoption for regular trading.

So, is Bitcoin better than a Euro bank? In my opinion, it's far better than any kind of traditional currency bank in the long run; but for time scales of a decade or less, I wouldn't be so sure. Put in only what you can afford to lose, but try to use it as a current account (spending bitcoins with merchants that accept them) as well as part of a pension portfolio!

For what it's worth, having bought up more bitcoin before it started to surge, I'm sitting tight for now; I don't want to buy more while it's rising at a rate I feel is dangerous. I won't have cash I can afford to risk for a while yet, but when I do, I'll probably diversify into silver next, and only buy more bitcoins if the price curve levels out somewhat. I'm tempted to get into shares as well; companies should be going cheap in these cash-strapped times, but when growth starts again there'll be lots of new opportunities for them to profit from, as long as I can pick companies to invest in that will last until them.

But I'm no expert on financial stuff, so don't take my word for anything!

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