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Is Bitcoin’s bubble about to burst – or is it the new gold?

By Richard Reed

14:53, 31 October 2017

Bitcoin

A couple of days ago, the price of digital currency Bitcoin reached a new all-time high as it passed $6,300 (£4,788). Yet Warren Buffet has called it an “Enron in the making”. So what’s the truth?

Bitcoin is up 500% so far this year, having traded at $968 on 31 December – an astonishing increase by any measure. At around $100bn, its market cap is now bigger than Nike ($92bn).

Little wonder, then, that many pundits are calling it a bubble – comparing it with the Dutch tulip bubble of the 17th century that saw the price of a single tulip bulb pushed to more than ten times the annual income of a skilled craftsman.

‘Mirage’

Among those calling out the rising Bitcoin valuation are the likes of billionaire investor and Nobel-Prize winning economist Warren Buffet, who has called it a “mirage”.

Warren BuffetBillionaire investor and Nobel-Prize winning economist Warren Buffet has called Bitcoin a “mirage” Photo: Wikimedia

"Stay away from it. It's a mirage, basically,” Buffet told CNBC back in 2014. “It's a method of transmitting money… A cheque is a way of transmitting money, too. Are cheques worth a whole lot of money? Just because they can transmit money? The idea that it [Bitcoin] has some huge intrinsic value is just a joke, in my view.”

‘At least you got a tulip’

Nout Wellink, former president of the Dutch Central Bank, famously said of Bitcoin, “This is worse than the tulip mania… At least then you got a tulip [at the end], now you get nothing.”

That view still holds with many top investors. Just a week ago, Saudi Prince Al-Waleed bin Talal called it an “Enron in the making”, referring to the US energy company that filed for bankruptcy in 2001.

“I just don't believe in this Bitcoin thing," Prince Al-Waleed said in an interview with CNBC. “I think it’s just going to implode one day.”

Lack of regulation

Prince Alwaleed, whose company invests in major US companies such as Citigroup and Twitter, said a lack of regulation made cryptocurrencies risky.

BitcoinBitcoin's price is skyrocketing, but Indonesia and Vietnam have banned its use for payments Photo: Shutterstock

“This thing does not make sense. It’s unregulated. It’s not under the control of the US Federal Reserve or any other central bank,” he added.

Within the past fortnight, both Indonesia and Vietnam have banned the use of Bitcoin for payments.

The president of Vietnamese FPT University, Le Truong Tung, told Bitcoin News the state bank believed that if Bitcoin were accepted it would be difficult to control: “Tax evasion, illegal transfers, payments, financing of illegal transactions will arise… the economy will become very complex”.

China shut down all its cryptocurrency exchanges at the end of September, the idea of an unaccountable currency with untraceable transactions clearly unpalatable to a one-party state used to controlling all aspects of the economy.

Digital currency for a digital age

But could it be that Bitcoin is simply a digital currency for a digital age – an idea whose time has come?

According to a vote on leading digital currency research site CoinDesk, 47% of readers (out of more than 22,000) thought a $10,000 Bitcoin price more likely than a bank blockchain project going live or rival currency Ethereum debuting its new blockchain validation mechanism in 2017.

CoinDesk’s view is that while there is always the possibility of a market correction, Bitcoin’s price is likely to continue to rise on its current steady trajectory – though it may hit a psychological barrier at the $6,500 mark. Only a sudden spike would “warrant caution”, it believes.

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Bitcoin miningCryptocurrencies make use of what is called distributed ledger technology, or ‘blockchain’ – a database in the cloud that is continuously updated and certified Photo: Shutterstock

So what is a cryptocurrency?

Perhaps it’s worth reminding ourselves exactly what a digital currency is – there are actually more than 700 in existence, though only a dozen had a market capitalisation in excess of $1bn as of September 2017.

All cryptocurrencies make use of what is called distributed ledger technology, or ‘blockchain’ – a database in the cloud that is continuously updated and certified.

Each new transaction creates a ‘block’ of data that is completely tamper-proof thanks to complex cryptographic algorithms that give the currency its name. Transactions are untraceable – hence why Bitcoin is popular with organised crime.

New bitcoins are ‘mined’ using special software, with rival teams competing to solve complex mathematical problems. They are paid with new bitcoins, giving the currency an intrinsic value – the financial effort put into producing it.

‘Anti-crypto bias’

Venture capitalist Chris Burniske, former blockchain products lead at ARK Investment Management, and angel investor Jack Tatar believe the Bitcoin naysayers are missing the point.

In their book, Cryptoassets: The Innovative Investor’s Guide to Bitcoin and Beyond, they set out to “confront the misguided (and persistent) claim that crypto assets are elaborate scams”.

They argue that Nout Wellink’s comparison with the tulip bubble “displays a type of anti-crypto asset bias many baby boomers suffer from: if these things have no physical form, how could they possibly have value?”

Bank notes have no value

In an opinion piece for CoinDesk, they make the point that a currency itself often has little inherent value, and the notes in people’s wallets “have about as little value as the paper in their printer”.

Dollar billsBank notes and bills have no intrinsic value Photo: Paul Kempin

They add: “In an increasingly digital world, it only makes sense that we have digital commodities, such as computer power, storage capacity, and network bandwidth.

“While… not yet widely referred to as commodities, they are building blocks that are arguably just as important as our physical commodities.

“Just as in the physical world, where currencies and commodities fuel an economy to create finished goods and services, so, too, in the digital world the infrastructures provided by cryptocurrencies and crypto commodities are coming together to support the finished-product digital goods and services.”

Here to stay

One thing is certain – digital currencies are here to stay, and will play an increasingly important role in our lives, either directly or indirectly, via banking transactions.

Many of us already use a ‘pseudo’ cryptocurrency – Paypal, the first widely adopted, digital-only payment system. At first people were wary of this new electronic debit card in the cloud. Now it’s how most people trade on eBay, and is increasingly offered on e-commerce sites.

So how long will it take for people to get used to the idea of paying for goods and services with a digital currency, rather than pounds or dollars?

Maybe, in this rapidly changing, inter-connected world we inhabit, it’s inevitable that paper will ultimately give way to digital gold.

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