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Bitcoin is a Bubble and I will tell you why

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Humans are considered rational beings. Every once in a while greed and exuberance trumps rationale we end up with a Bubble. Bitcoin is a bubble and it will fall precipitously. Here’s why…

Some Economics

Value of any product is arrived at through a process that matches demand and supply. If there is a lot of demand for a product and few people offering it, the price go up. There is a greater perceived value for it since the supply is limited — Everyone who wants it, cannot have it. The vice versa is also true. But as with most things in life there are certain exceptions to this rule.

High-end luxury products have an aspirational value and hence the higher the price the higher the demand tends to be. These are called Veblen goods. There are also Giffin goods where this effect is seen with inferior goods.

Either way, in all of these cases price is a consequence of consumption.

There is another case where prices can be made to rise artificially, through hoarding and creating artificial scarcity. The hoarder buys large quantity of a good and waits for the price to rise high enough before beginning to sell it slowly to the actual consumer at an elevated price.

Markets play an essential role is matching demand and supply, which results in price discovery. Markets are the price discovery platform that most of us depend on. We have markets for everything, stocks, currency, commodity, bonds, etc. Most of these trades take place through instruments that are representative of the same. Stock is a company is represented by shares — Stock here represents the assets of a company and the ownership is attributed through shares. There are similar trading instruments for everything that is traded.

The place where this trade is managed, which I referred to an a market earlier, is known as an Exchange. An exchange is where trades are executed and the instruments change hands between the buyer and the seller. The job of an exchange is to provide a framework, to regulate and enable the trade to take place.

Blockchain

Let us say you have a Rs. 10/- currency note. You take this note and buy tea from a tea stall. He in turn takes the note and pays for the fuel bill. He in turns takes the note and pays the school fees for his child. The note has been used for several transactions but we do not know where it originated from and how many hands it changed. If this note were an online token we could track it all the way through.

If there are a set number of tokens in circulation and each of the token can be tracked, there is no way that any fake token can be introduced without changing the total number of token in the system. Furthermore if an anomaly is found, it can be quickly tracked back to its origin.

A Blockchain is a chain of records which are called Blocks. Each block represents one transaction and hence the entire history of an single instrument can be tracked from beginning to the end. A blockchain is what makes it possible for us to track every token. Research on blockchain began in 1991 but the distributed blockchain, which is the basis of all modern blockchain was invented in 2008. The distributed blockchain kept the block of records on every computer that is a part of the system. This redundancy is the secret sauce that make blockchain a phenomenal technology.

This makes it near impossible to fake any transaction because that fake transaction. It is not enough to enter a fake transaction in your own block, the same transaction needs to exist in every copy that is part of the system. Each copy is protected by public key encryption on each user’s system (If you wish to know how encryption works). If any anomaly is found, it can be quickly localized and eliminated.

Bitcoin

Bitcoin is one of the implementations of blockchain as a currency. Bitcoin tokens can be mined by solving mathematical problems, but the total supply of bitcoin available is limited by the algorithm. The more bitcoins get mined, the harder it becomes to mine further. The mathematical problems are solved using the computer but the problems take longer and longer to solve as times goes on.

Now, once you have these Bitcoins, you need a way to transact, for which bitcoin wallets exist, where these coins get stored. The wallet is your copy of the blockchain.

Some people thought, “Hey! Why not trade bitcoin?” and they created Bitcoin exchanged. Just like a stock exchange, Bitcoin is bought and sold on Bitcoin exchanges. There are several across the world and they execute bitcoin sale and purchase.

Individuals and companies have been mining bitcoins since it was introduced. Today this mining has assumed industrial scale with more and more people getting interested and mining becoming harder and harder. There are entire server farms that are being committed to mining bitcoins and in all likelihood these are being hoarded for a future date when it would likely be sold.

Value of any product finally lies in its consumption

The value of anything is down to consumers finally adopting the product and using it. This is where demand invariably arrives out of. Whether it is businesses or individuals, utilisation is the key. Keeping something does not create value unless it is an antique. Bitcoin is definitely not an antique.

Source: https://blockchain.info/charts/n-transactions

The graph aboves shows the confirmed Bitcoin transactions per day. At its lowermost it is about 130,000 and at its peak its at about 365,000. It averages out at about 275,000 per day.

Let me just add some perspective. Visa processes about 24,000 transactions per second. So in about 12 seconds Visa does the entire days worth of transactions on Bitcoin!

Although this is not a straight comparison since Visa is a method of exchanging money while Bitcoin itself is a store of value. The market capitalisation of Visa as a company stands at USD 230 Billion while that of Bitcoin stands at USD about 70 Billion dollars. A third of the value of Visa??

Comparing it with gold, which is a store of value unlike Visa which is a transaction mechanism akin to Blockchain; Comex which is a commodity exchange based out Chicago (one of many across the world) does about 289,000 gold contracts per day. The number across the world would probably be in the millions, not to mention the transactions that take place through stores, banks and other means.

There are about 16,500,000 Bitcoins available today. Out of this only about 640,000 is exchanged everyday.

Hoarders will dump

I think the value ascribed to bitcoin given its abysmally small circulation is purely due to the hoarding that many are engaging in. Most of the people just buy bitcoin for the purposes of speculation.

People buy bitcoin and then they keep it.Since nobody is selling (Would you, if you know what you have is doubling in value every 6 months?) — Prices rise.People hear prices are rising — They clamor to buyDemand rises — Price risesSome of the early hoarders keep releasing small amounts of it

The above graph illustrates how this works. For price to rise, the demand has to be high; this demand should be powered by consumption and not hoarding.

My take on this is that the price rise of Bitcoin is fake. It is powered by speculators who are willing to pay more and more in the hope that prices would keep rising. The limit on the supply is additionally helpful in driving the prices up and keeping them there.

Looking into the past

There are plenty of cautionary tales of bubbles but for me the one that most closely matches this is — The Tulip Mania.

Tulips by themselves had no great value.

Tulip was a unique flower and was used for royal gifting. The prices of tulips shot up suddenly on speculative purchase of tulip futures. There were, many who made money during the upsurge. After a couple of years of frenzied buying, the demand for buying newer and newer contracts seemed absent. There was no inherent value in it. Panic set in and ultimately it suddenly collapsed in Feb 1637. Within 3 months all of the value was wiped out, because there was none to begin with!

The same is true of Bitcoin today. Its not like Bitcoin is the preferred currency for transaction or that people are switching to transacting through bitcoin at unforeseen pace. A crazy number of speculators are buying into it for the sake of speculation. There is no inherent value and one day in the not so distant future people will realise it.

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About the Author

This article was written by Vivek Srinivasan.

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Entrepreneurship

Asia’s Financial Connection with the World

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As economies in East Asia and the Pacific (EAP) have developed, they have also become important in international financial transactions, both as sources and destinations of cross-border bank lending, foreign direct investment (FDI), and portfolio investments. But, as we document in a new paper (Didier, Llovet, and Schmukler 2017), the composition of these financial connections has been changing in recent years on at least two fronts: (i) the partners with which EAP countries interact, and (ii) the type of financial transactions conducted.

Traditionally, economies in the North (the Group of 7 countries, excluding Japan, and 15 Western European economies) have been the most important counterparts of the EAP’s inter-regional financial transactions. Although economies in the North still capture the bulk of the region’s inward and outward investments, the EAP’s connectivity with the South (non-EAP and non-North economies) has grown relatively faster and has become more relevant for the EAP. For example, during 2003–2014, investments to and from the South grew at an annual average rate of 23% for portfolio investments, 30% for syndicated loans, 86% for mergers and acquisitions, and 9% for greenfield investments. In contrast, cross-border investments involving North economies grew at an annual average rate of 10% for portfolio investments, 14% for syndicated loans, and 17% for mergers and acquisitions; and decreased at a rate of 3% in the case of greenfield investments. The rising importance of the South for the EAP can be traced to expansions not only in the value of financial connections (the intensive margin) but also in the number of active connections (the extensive margin).

EAP countries also have strong connections among themselves. That is, EAP economies are important sources and destinations for intra-EAP cross-border financial investments. Although EAP economies are more financially integrated with global markets than with regional ones, intra-regional investments are actually larger than those with the South, and, in the case of FDI, they are as large as those with the North. Moreover, the EAP stands as the most regionally integrated region in both the intensive and extensive margins when compared to Latin America and the Caribbean, Europe and Central Asia, South Asia, Sub-Saharan Africa, and the Middle East and North Africa.

Another notable feature of the EAP’s international financial integration is the differences in how it connects with different types of countries. EAP economies are relatively more connected intra-regionally and with the South via FDI, whereas they are more connected with the North in arm’s length investments (portfolio investments and syndicated loans). These existing differences in financial integration patterns across investment types can be related to the relatively less developed financial markets in the EAP and the South vis-à-vis those in the North.

Differences in the degree of financial and economic development can also help explain the heterogeneous financial integration patterns across EAP economies. The more developed EAP economies (as measured by their gross domestic product per capita) integrate in a way that is similar to that of the North (having a larger role in the EAP’s arm’s length investments), whereas less developed EAP economies integrate similarly to economies in the South (having a larger participation in the EAP’s FDI financing). For example, during 2003–2014, developed EAP economies accounted on average for 92% of the EAP’s inter-regional syndicated loans, whereas this share was only 47% for greenfield investments. The rest was captured by the less developed EAP economies. Similarly, the more developed EAP economies accounted for 71% of the EAP’s intra-regional portfolio investments but only 49% of intra-regional greenfield investments.

The recent trends come with benefits but also possible risks. On the one hand, the EAP can benefit from greater financial diversification, which reduces the concentration and dependence on North economies. Moreover, as far as economies in the region are more familiar with the institutions and cultures of other EAP economies, greater regionalization can foster financial inclusion by serving smaller and less informationally transparent segments. On the other hand, the EAP could also bring imported volatility from the newly connected economies. In addition, increasing regionalization can imply a higher exposure of an economy to shocks originating within the region and a faster spread of foreign shocks once they hit an economy in the region.

Furthermore, to the extent that financial institutions in the South and the EAP are less tightly regulated than those in the North, the latest developments can negatively affect the stability of the overall financial system. Therefore, a call for more intensive cross-border cooperation would be desirable for global financial stability.

Differences across financial instruments suggest that as the EAP continues to grow and become richer, its patterns of financial integration will more closely resemble those of the North, with less relative emphasis on FDI and more on portfolio and bank investments. Although this type of arm’s length financing arises naturally in more developed countries and is a conduit for more sophisticated transactions, it can have an impact on financial stability as FDI is perceived to be more resilient when negative shocks occur.

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About the Author 

This article was written by , and  of Asian Pathways, blog of the Asian Development Bank Institute which was established in 1997 in Tokyo, Japan, to help build capacity, skills, and knowledge related to poverty reduction and other areas that support long-term growth and competitiveness in developing economies in the Asia-Pacific region.

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Entrepreneurship

What about Beggars in the Cashless Society?

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A substantial portion of the Western population seems to be convinced that completely transferring the economy to the cyber-level is the natural way of progress. All the invoked arguments seem to make perfect sense to the integrated, employed, middle-class and middle-aged citizen. But from the point of view of millions of people outside that class, they are absurd and dangerous.

Britain produced the Change card, in 2015, with the Charity Homeless Link announcing “The Change Account has many of the benefits of a bank account, with its debit card, dedicated PIN code and account number. But it is very much a new form of account, and the similarities end when you look into the range of innovations designed to simplify personal finances.” Her Majesty’s government seems favorable to registering all homeless people and transferring their benefits to cards, and not handing it over in cash.

The reasons for which one can end up on the streets are almost as many as the people in that predicament. One of those reasons is the inability to acquire the most elementary skills. Learning how a debit card, or credit card, or bank transfer work may have been a walk in the park for some of us, but it is precisely the reason which kept some people from fully embracing the professional world. The Homeless Charity Crisis organizes teaching sessions regularly to address this problem : “As part of Crisis at Christmas, running from Friday 23 December to Friday 30 December, up to nine temporary centres will be set up in London. As well as companionship and hot meals for homeless people, the centres will offer health checks, housing advice and training, as well as further education opportunities — and it is in this area that the readers of PC Advisor can help.” Be it for lack of capacity or inclination, it would be self-centered and dangerous on our part to imagine that wielding payment instruments is natural knowledge : it’s not.

Cash Essentials produced a study last year, indicating what a devastating blow the disappearance of cash would be, and for how many people: “Nearly half of all adults in the world are excluded from formal financial services; that is 2.5 billion persons. The vast majority live in developing or emerging economies and can represent 90% of the population in some countries. Even in some advanced economies the number of unbanked can be as high as 20%. In the US, the Federal Deposit Insurance Corporation estimates that 7.7% of households were unbanked in 2013 and 20% were under-banked, meaning that they hold a bank account but do not have full access to banking services.“ It added: “According to the World Bank, lack of money is the most frequently cited reason for not holding an account. Distance and documentation are also significant obstacles. Often, the main barrier to account penetration in rural areas is the large distance to a bank branch.” In other words, connected wallets and smartphones are hunky-dory for your average city-dweller, but the countryman and the homeless man needs cash.

Upon further reflexion, and to give credit to the thesis exposed above: didn’t we all make our first monies in cash before moving on to other forms of wealth? Wasn’t our pocket money or our retribution for cleaning our parents’ car handed over in notes and coins? According to careers, some workers on the market are no longer paid in pounds, dollars or euros but in stock-options, though most of us didn’t make it that far. We, average workers, moved from cash to online accounts, as we aged and matured. But some of us never made it past the cash. And forcing them into the cyber world which they do not master is more likely to crush them than to help them out. German newspaper Deutsche Welle points out : “Currently, some banks can deny someone an account if they are unable to provide identification or proof of residency — two conditions that often apply to refugees or homeless people. The lack of a bank account can make it difficult for people in these groups to participate in normal financial transactions.”

The idea that providing homeless people with state credit cards will further their integration is ludicrously counter-productive. Credit cards work perfectly well for us, who have computers to order on Amazon, and safe places to keep them at night, and cars to swing by the ATM on the way back from the office. What is a poor man to do with his credit card when he lives in a remote village with miles to the next bank? Of course, some homeless people will adapt and seize the opportunity to regroup with the rest of the population in the cyber-world. But with half the planet’s population without a bank account, how can it be a good thing to kill off currency?

See odd jobs as degrading if you wish. See panhandling as humiliating, if you will. See cash as impractical, and good only to carry out drug transactions, if you so please. But for millions of people across Europe and the world, the cash in their pockets is the produce of their work or their only way to survive.

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About the Author

This article was produced and written by Christian Clark.

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