It’s the latest investment craze. On January 1, 2018, the value of one bitcoin reached $13,226.80. Five years ago it was worth about $9.50.
Jay Adkisson, a prominent U.S. attorney specialising in creditor-debtor law, hit the nail on the head recently when he wrote in Forbes magazine, ‘Bitcoin itself is not a scam, but how Bitcoin is being sold is a scam.’
The wisdom of that quip will become evident further down, but first some background. Bitcoin became the first cryptocurrency when its open source software was introduced to the market in 2009 by an anonymous programming whiz (or anonymous programming whizzes) who went by the pseudonym Satoshi Nakamoto. The crypto in that term sounds mysterious, even nefarious, but it’s really not. Cypto is short for cryptography, which simply means coding. In and of itself, coding currency is nothing new. All paper currency is coded as well. As Adkisson reminds us in his insightful article for Forbes, each bill in your wallet carries its own unique serial number too. So what really makes a bitcoin (like pound or euro, it isn’t capitalised as a unit of currency, but is when it’s used as a proper noun), as well as a number of newer cryptocurrencies that have now also gone live, so different?
In short, it’s because it’s all bit and no coin. Despite the shiny gold coins, each emblazoned with two parallel vertical lines superimposed on a big B, that are often featured in photos that accompany newspaper articles about bitcoins, the coins themselves don’t exist, never did and never will. Bitcoin and competing ‘altcoins,’ primarily Litecoin and Ethereum, are wholly digital. They exist only as data, and each bit of that data is encrypted to protect security, integrity and, theoretically, anonymity. Hence, cryptocurrency, or digital currency.
What’s Pushing up the Price of Bitcoin?
But, as Adkisson argues, that’s its weakness. Cryptocurrency has no intrinsic value. What makes it valuable at this point in time is that investors are competing among themselves to buy it up. As in any other investment, when they do that they push its price higher. With traditional resources, such as gold and other precious metals or gems, however, the higher price encourages mining companies to dig deeper and find more. Once they do, the increased supply will address the high demand and push the price back down. That’s exactly what has happened over the past few years with crude oil.
But the altcoins are different because their ‘miners’ (a term they use to describe the hardware-generated creation of additional supply) aren’t real either. Satoshi Nakamoto’s software was deliberately designed to generate bitcoins over a finite period, and to stop doing so once 21 million had been offered to the public for purchase. The number of bitcoins generated per ‘block’ (a software record of transaction data) was also fixed from the start to decrease geometrically, so that prices would increase exactly as they are doing the closer the total circulation approaches 21 million. The very last one is scheduled to be ‘minted’ (another euphemism the altcoins appropriated from traditional currency) on May 7, 2040. If everything continues at its current pace, you can expect an investor apocalypse at that time.
Is Bitcoin a Pet Rock?
In simple terms, the only thing pushing up the price of bitcoin, therefore, is investor frenzy, not its innate value. This is why Adkisson is right. How bitcoin is being sold is a scam. As with all scams, there’s nothing behind it apart from hype.
All of this is reminiscent of the ‘Pet Rock’ frenzy of the mid-1970s. The rocks themselves had no value. What drove their price up was the demand alone. And then their production ceased and they disappeared from the shelves (until 2012, when they tried to make a comeback, featuring a ‘100% rock solid guarantee’ to assure cautious investors, perhaps). Meanwhile, the guy who came up with the idea became a millionaire and was last seen laughing all the way to the bank. But at least consumers were left with their Pet Rocks, wrapped in excelsior, packed inside cardboard carrying cases, along with a 32-page ‘training manual’ entitled The Care and Training of Your Pet Rock. With bitcoins, investors don’t even have that.
Pet Rocks were a fad, a conversation piece. Bitcoin and other digital currencies are right now an investment fad. Whether or not the ‘coins’ themselves become worthless depends on whether or not some other investment fad comes along and siphons off enough money that has already been sunk into them.