As Bitcoin Booms, Speculation Rises · Babson Thought & Action
On the surface, nothing too out of the ordinary happened on May 22, 2010, when a man in Florida bought a couple of large pizzas from Papa John’s.
What was striking about the purchase wasn’t the pizzas, though, but the way in which the man paid for them. He used what was then a new form of digital currency launched just the year before: bitcoin.
In what is believed to be the first commercial transaction using the currency, the man paid for the pizzas with 10,000 bitcoins. At the time, each bitcoin was worth less than a penny, which means the man paid about $41 for the two pizzas. Today, those 10,000 bitcoins would be worth considerably more, roughly $600 million.
Such is the wild, volatile world of bitcoin, the most prominent of the cryptocurrencies, an encrypted digital asset that typically is decentralized and outside of any central authority’s control. Just this year, bitcoin more than doubled its value, hitting the $60,000 mark in mid-March.
Stories of the cryptocurrency’s latest surges and milestones seem to be a regular part of business news lately. In February, Tesla announced it had bought $1.5 billion worth of bitcoin, and planned to allow the cryptocurrency to be used for payment for its products.
Despite the eye-popping news stories about bitcoin, however, it is far from universally accepted.
“It is a highly speculative asset,” says John Marthinsen, a Babson College professor of economics and international business and The Distinguished Chair in Swiss Economics. “Compare it to the dollar, or yen, or euro, and it’s not really money. We don’t value things in bitcoin. Not many stores accept it. It’s very unstable.”
With bitcoin’s rise raising questions about its future, Marthinsen and other Babson professors take a moment to offer insights about bitcoin, the world of cryptocurrency, and whether such volatile digital assets will ever be more than just an investment.
Demand and Volatility
Cryptocurrencies arose out of the banking crisis of the Great Recession and the dissatisfaction with the traditional financial system that came in its wake, says John Edmunds, a professor of finance and editor of the book Rogue Money and the Underground Economy: An Encyclopedia of Alternative and Cryptocurrencies.
On a recent podcast called Pop! Goes the Culture, Edmunds spoke of the fluctuations in value that are such an anxiety-inducing hallmark of cryptocurrency. “It’s hard to deal with the volatility,” he says. “They gyrate wildly.” One cryptocurrency he was tracking went down 40 percent over the course of a week, only to come roaring back 20 percent in one day. “That’s just completely normal,” Edmunds says. “If you’re new to the field, you would think you had gotten on a roller coaster.”
For all its epic surges in value, bitcoin also has seen precipitous declines during its history. Marthinsen has experienced many of those highs and lows, having some years back bought a bitcoin, which he still owns, for a mere $6. “My only regret is that I bought only $6 worth of bitcoin at the time and not $6,000 worth,” he says.
Marthinsen says that most of bitcoin’s price volatility has been due to fluctuations in demand, and that demand is fueled in myriad ways. One source, for instance, may be investors from countries experiencing economic, political, or social disruptions, who are looking for alternative places to put their money.
Additional demand may be caused by FOMO, or fear of missing out. “As bitcoin’s price has increased and made millionaires out of the guy next door,” Marthinsen says, “others have decided that they’d like to be millionaires, too. Their interest has just perpetuated the increase in bitcoin demand.” The current low interest rates also have people fishing about for higher-performing, though riskier, investments.
Steven Gordon, professor of information systems at Babson, points out that demand for bitcoin is based almost entirely on what people perceive its future price will be. “This makes it highly susceptible to market psychology, which can be fickle,” he says.
More Than an Investment?
This isn’t to say that the only use for bitcoin and cryptocurrency is for investors looking to make a payday. Cryptocurrency has many intriguing future uses, say Gordon and Marthinsen. Immigrants sending money to their families in their home countries, for example, can cut out pricey middle men and just send cryptocurrency instead. Or, women from patriarchal societies can conduct business in cryptocurrency as a way to circumnavigate cultural restrictions.
In a recently published research paper in The Quarterly Review of Economics and Finance, Marthinsen and Gordon examine how cryptocurrency can be utilized in a country suffering from hyperinflation. Faced with such a dire situation, government leaders could adopt a new customized cryptocurrency, one designed to help steer the country back to a more stable monetary environment, say the authors.
“As bitcoin’s price has increased and made millionaires out of the guy next door, others have decided that they’d like to be millionaires, too. Their interest has just perpetuated the increase in bitcoin demand.”
Professor John Marthinsen
Despite all of the possibilities, the future for cryptocurrencies, and bitcoin in particular, remains unclear. “No one knows exactly where it’s going to go,” Gordon says. Bitcoin is certainly desirable as an investment, and it can be a great way to diversify one’s portfolio, because its value tends not to correlate to the stock market.
But, could bitcoin become more than just an investment? Could it become a widely used currency, one that you might employ to, say, buy coffee at the local convenience store? Both Gordon and Marthinsen are doubtful. “It will never happen in my opinion,” says Gordon, though he adds that the world of cryptocurrency is vast, and that the future is unwritten. “Bitcoin doesn’t have the ability to scale to that level,” Gordon says, “but other cryptocurrencies could.”
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