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Author Topic: A more rigorous look at bitcoin's fundamental value  (Read 3945 times)
nazgulnarsil
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June 10, 2011, 04:44:20 AM
 #1

Everyone knows that market demand for bitcoins sets their price.  But there is a lot of debate over what creates that demand.  Who is buying all those coins from miners?

Proof-of-work systems are a little counter intuitive.  We will look at the similar asset gold to explain them.  People dig gold out of the ground, sell it to others who put it in a vault in the ground and sit on it.  Why bother?  Proof-of-work guarantees scarcity.  I know that nobody can magic more gold into existence.  It's going to take X amount of time/labor/material/human ingenuity to get more gold.  Therefore I know gold won't suddenly become common since those other resources are limited.

So you have this scarce resource.  Is scarcity enough?  

No.  It must be scarce and in demand.  People buy gold because they think they can sell it to someone else later for the same or more of other things they want.  Gold is a way to transport value across time.  

Why does the gold buyer assume there will be equal or higher demand in the future when the person they sell it to also just wants to sell it for the same or more than he paid?  At the end won't someone HAVE to be left holding a bunch of useless rocks?

Not if the supply of gold increases more slowly than the class-of-people/number of dollars seeking to transport their value over time.

What prevents a sudden crash?

Nothing! The check on this is that people don't want to transport value over a week typically.  They want to transport value over a span of years.  The longer this investment window the more the supply of a good will be restricted.  Restricted supply of existing gold (in addition to new mined gold, the buyer doesnt care) relative to the total amount of gold in existence helps ensure that there won't be a sudden drastic price decrease.

Now you can go back and replace the word gold with bitcoin.  The creation of new bitcoins is similar to gold in that it is a small amount relative to those coins already in existence.  But what about the other factor?  What is the investment window of bitcoin?  No one knows.  Many proclaim it to be a bubble and will sell at the first sign of correction.  Many hoarders claim they are in it for the long haul.  Whom you believe will sway the market more is up to you.

The fundamental value of bitcoin is that people want to use it to transport value over time.  The characteristics of bitcoin generally discussed such as a lack of inflation and decentralization merely make it more attractive as an asset to fulfill this role.  If the number of people/dollars willing to hold bitcoin for this purpose grows faster than the rate of creation of new coins plus the rate at which current holders decide to sell theirs price will continue increasing.

I'm actually not sure how clear this is.  I'll answer questions but don't be surprised if I simply point you to a wikipedia article.




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It is a common myth that Bitcoin is ruled by a majority of miners. This is not true. Bitcoin miners "vote" on the ordering of transactions, but that's all they do. They can't vote to change the network rules.
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June 10, 2011, 05:45:18 AM
 #2

Your thoughts were indeed clear to me, thank you for sharing.

In the end, it'll be supply versus demand.  Over 7000 new BTC are mined per day.  If even 10% of that is sold, plus normal sell orders, that is a lot of $ value that must be coming into the system on a daily basis.  Will that continue?  I don't know, but I hope so!  Smiley
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June 10, 2011, 07:13:26 AM
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Don't forget that Gold was valued at it's cost of production for almost 10 years.
Right now gold is 5 times it's cost of production.

Bitcoins cost of production are about $1

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June 10, 2011, 07:47:16 AM
 #4

Don't forget that Gold was valued at it's cost of production for almost 10 years.
Right now gold is 5 times it's cost of production.


How could this be? What will it cost me to mine an oz of gold? $300? no. 100oz? $30000? No. 100000oz? Why wouldn't someone be taking this free money if it was there? Maybe you don't consider buying the mine part of the cost?

Play Bitcoin Poker at sealswithclubs.eu. We're active and open to everyone.
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June 10, 2011, 08:02:23 AM
 #5

Interesting read

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June 10, 2011, 08:22:14 AM
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Don't forget that Gold was valued at it's cost of production for almost 10 years.
Right now gold is 5 times it's cost of production.


How could this be? What will it cost me to mine an oz of gold? $300? no. 100oz? $30000? No. 100000oz? Why wouldn't someone be taking this free money if it was there? Maybe you don't consider buying the mine part of the cost?
$300 per oz cost of production was for year 2000 and gold was trading at close to that. The production cost of gold is higher now $450.

I was going off of memory for production costs and just looked it up and saw it has gone up. So gold is 3 times production cost not 5. And yes that includes all costs

nazgulnarsil
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June 10, 2011, 08:35:39 AM
 #7

OP. All you have done is describe a set of general relationships.

Can you quantify it?

If I could I'd be rich.  Human value subjectively and that is subject to the standard cornucopia of bias chief among them hyperbolic discounting.  It could be tested empirically to see how people react under certain sets of conditions.  Whether or not those conditions told us anything useful about the real world would then again be open to interpretation.  It is the dismal science.  Not science proper.
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June 10, 2011, 08:52:58 AM
 #8

The fundamental value of bitcoin is that people want to use it to transport value over time.

No, a lot of people seem to think that, but it's not the case. Bitcoins are a poor long-term store of value.

Their fundamental value is that people want to use it to transport value over space.

Like from the U.S. to Africa. People also want to do it securely, anonymously, and without a central authority.

THAT is the inherent value of bitcoins, folks. Forget it at your own peril.

Bitcoin is the ultimate freedom test. It tells you who is giving lip service and who genuinely believes in it.
...
...
In the future, books that summarize the history of money will have a line that says, “and then came bitcoin.” It is the economic singularity. And we are living in it now. - Ryan Dickherber
...
...
ATTENTION BFL MINING NEWBS: Just got your Jalapenos in? Wondering how to get the most value for the least hassle? Give BitMinter a try! It's a smaller pool with a fair & low-fee payment method, lots of statistical feedback, and it's easier than EasyMiner! (Yes, we want your hashing power, but seriously, it IS the easiest pool to use! Sign up in seconds to try it!)
...
...
The idea that deflation causes hoarding (to any problematic degree) is a lie used to justify theft of value from your savings.
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June 10, 2011, 09:21:53 AM
 #9

  And yes that includes all costs
So any one with (how much?) money can dig up an ounce and sell it for 3x as much? Unless it takes 30 years this kills everything and everyone would do it. There are no free 200% auto-profits sitting there.

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fpsfoogawzee
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June 10, 2011, 09:27:52 AM
 #10

The ability to pay for goods and services is the only way Bitcoin will develop into a viable currency.

Im usually not into blog spam but this is a good read.
http://samablog.robsama.com/?p=5559

Basically the tipping point is when amazon accepts bitcoins straightup. I do see this happening in less than a year. What attracts big business to accepting bitcoins is their transaction costs they pay to the credit and debit network dissapears. The transaction network becomes the bitcoin network. I also see bitcoins going onto phones to be transfered over rfid or qr codes...
nazgulnarsil
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June 10, 2011, 10:37:27 AM
 #11

The fundamental value of bitcoin is that people want to use it to transport value over time.

No, a lot of people seem to think that, but it's not the case. Bitcoins are a poor long-term store of value.

Their fundamental value is that people want to use it to transport value over space.

Like from the U.S. to Africa. People also want to do it securely, anonymously, and without a central authority.

THAT is the inherent value of bitcoins, folks. Forget it at your own peril.

it isn't secure. bitcoins are like cash.
it isn't anonymous.

large cash transfers can't become a motivation until the market thickens up.
westkybitcoins
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June 10, 2011, 11:36:13 AM
 #12

The fundamental value of bitcoin is that people want to use it to transport value over time.

No, a lot of people seem to think that, but it's not the case. Bitcoins are a poor long-term store of value.

Their fundamental value is that people want to use it to transport value over space.

Like from the U.S. to Africa. People also want to do it securely, anonymously, and without a central authority.

THAT is the inherent value of bitcoins, folks. Forget it at your own peril.

it isn't secure. bitcoins are like cash.
it isn't anonymous.

large cash transfers can't become a motivation until the market thickens up.

Secure in the sense that cash is. When someone gives it to you, provided you wait for enough confirmations, it's extremely safe from being "recalled".

And no, it's not totally anonymous, but anonymous is what people want, and right now their best bet for transferring value across space and not having the transaction traceable to them is bitcoin.


Bitcoin is the ultimate freedom test. It tells you who is giving lip service and who genuinely believes in it.
...
...
In the future, books that summarize the history of money will have a line that says, “and then came bitcoin.” It is the economic singularity. And we are living in it now. - Ryan Dickherber
...
...
ATTENTION BFL MINING NEWBS: Just got your Jalapenos in? Wondering how to get the most value for the least hassle? Give BitMinter a try! It's a smaller pool with a fair & low-fee payment method, lots of statistical feedback, and it's easier than EasyMiner! (Yes, we want your hashing power, but seriously, it IS the easiest pool to use! Sign up in seconds to try it!)
...
...
The idea that deflation causes hoarding (to any problematic degree) is a lie used to justify theft of value from your savings.
billyjoeallen
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June 10, 2011, 12:12:53 PM
 #13

The original value of gold was primarily as a status marker. It wasn't tremendously useful for anything but communicating the amount of resources a person could afford to devote to non-essential pursuits.

Bitcoin originated in exactly the same way, basically "nerd points" or status markers that communicated the ability to devote resources (intelligence, time, processing power) to a non-essential pursuit. The obvious difference is that gold accomplished it's transition into money over millennia, while Bitcoin achieved this status over mere months. 

The fact that some people (like myself) will also hold Bitcoin for ideological reasons, adds to their value as long as we "fundamentalists" hold to our ideology as well. We are working to make bitcoin more useful and usable for a larger market at the same time, which may speed adoption as well as increase our wealth.


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June 10, 2011, 01:50:51 PM
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  And yes that includes all costs
So any one with (how much?) money can dig up an ounce and sell it for 3x as much? Unless it takes 30 years this kills everything and everyone would do it. There are no free 200% auto-profits sitting there.
Kind of like mining for BitCoins huh
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June 10, 2011, 04:25:01 PM
 #15

Bitcoins cost of production are about $1
1.5$ - 2$

You forget the extras needed for production, on small scale or large scale bitcoin mining.
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June 10, 2011, 05:17:59 PM
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Bitcoins cost of production are about $1
1.5$ - 2$

You forget the extras needed for production, on small scale or large scale bitcoin mining.
Even at $2 cost of production the price of bitcoins has overshot any sense of reality.
Even with a couple of months worth of increased difficulty built into the current price it's current price is a bubble.

What are the barriers to entry a $700 -$1000 machine.

It takes very little knowledge to start mining for bitcoins.

This will end very badly for anyone who has invested in bitcoins in the last 30 days

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June 10, 2011, 05:24:11 PM
 #17

Bitcoins cost of production are about $1
1.5$ - 2$

You forget the extras needed for production, on small scale or large scale bitcoin mining.
Even at $2 cost of production the price of bitcoins has overshot any sense of reality.
Even with a couple of months worth of increased difficulty built into the current price it's current price is a bubble.

What are the barriers to entry a $700 -$1000 machine.

It takes very little knowledge to start mining for bitcoins.

This will end very badly for anyone who has invested in bitcoins in the last 30 days



How long until a bubble is not a bubble anymore? When you start calling it dolar?
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June 10, 2011, 05:29:24 PM
 #18

Anybody with $700 can start mining for a current cost of $2 per bitcoin and sell it for 13 times the cost.
So yeah it's a bubble.

If you could setup a gold mine today and mine gold for $115 an oz and sell it for $1500 oz how long do you think gold would continue selling for $1500 oz.

Wake up
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June 10, 2011, 05:41:53 PM
 #19

The creation of new bitcoins is similar to gold in that it is a small amount relative to those coins already in existence.

~165,000 tonnes of total gold mined (wikipedia), ~2,500 tonnes mined per year = 0.01% increase in gold / year

6,492,950 BTC in circulation, ~2,628,000 will be mined this year = ~40% increase in BTC / year

I wouldn't say 40% is a small amount relative to those already in existence.

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June 10, 2011, 05:50:36 PM
 #20

Anybody with $700 can start mining for a current cost of $2 per bitcoin and sell it for 13 times the cost.
So yeah it's a bubble.

If you could setup a gold mine today and mine gold for $115 an oz and sell it for $1500 oz how long do you think gold would continue selling for $1500 oz.

Wake up

But bitcoins are not infinit, as gold.
As far as we know...
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