Earlier today, the price of Bitcoins rose above $27 for the first time since 2011. That represents a doubling of the $13.50 price of Bitcoins at the start of 2013, which in turn, was nearly triple the $4.75 value of Bitcoins at the start of 2012.
Of course, $27 is not an all-time record price for Bitcoins. The record-high price of just under $32 was reached on June 8, 2011. The price then crashed, falling to a low of $2 in November of 2011.
By the end of 2011, almost everyone regarded the peak of $32 as a crazy bubble, and the subsequent decline as a restoration of sanity. Including me: in August 2011 I predicted that the Bitcoin economy would gradually deflate until it had dwindled away to nothing.
Obviously I was wrong. By January 2012, prices had risen again from $2 to about $7. That price increase persuaded me that Bitcoin wasn’t a fad after all. The fact that people were still willing to buy after seeing Bitcoins lose 90 percent of their value suggested to me that the currency was likely to have long-term staying power. And if the currency could be counted on to hold its value over time, that made it a plausible platform on which to build new financial services. I bought a few dozen Bitcoins in early 2012. So far, it’s proven to be a good investment.
So is the new Bitcoin price rise a bubble? I don’t think so. Nothing like Bitcoin has ever existed before, so it’s not clear how to compute a “fundamental” value for it. But I think it helps to imagine if Bitcoin were a startup company rather than a peer-to-peer network. Bitcoin, Inc. would have a radically new technology, thousands of loyal customers, and a growing community of other venture-backed startups building products and services on top of the infrastructure it provided. Such a company would have venture capitalists beating down its doors.
You can’t buy stock in Bitcoin, Inc, but holding the currency itself is a bet on the future growth of the Bitcoin economy. The value of Bitcoins has been closely correlated with the total volume of Bitcoin transactions, which have been growing rapidly, if somewhat erratically, for more than 2 years. The supply of Bitcoins is capped, so as the volume of Bitcoin-denominated transactions grows, the value of Bitcoins will have to increase to accomodate it.
What will people use Bitcoins for? So far, the most widely-discussed applications have been unsavory ones. You can buy drugs with Bitcoins on Silk Road or gamble with a service called Satoshi Dice. But it’s not hard to imagine more savory uses being developed in the future. For example, right now, the wire transfer industry is dominated by monolithic firms like Western Union. Bitcoin could make it possible to build a decentralized Western Union competitor that in principle could have lower fees and much greater convenience.
That’s just a guess off the top of my head. It’s hard to predict how people will use disruptive technologies, so I’m probably wrong about that specific application. But Bitcoin is a sufficiently novel technology, with security and privacy features traditional financial networks can’t match, that it seems likely that people will find something cool to do with it. And when they do, they’ll need to get their hands on a lot of Bitcoins. So I’m not ready to sell mine yet.
