Bitcoin: How to classify it?

More than a decade has passed since the mysterious and anonymous Satoshi Nakamoto first published the article "Bitcoin: A Peer-to-Peer Electronic Cash System," thus kicking off the most important technological and financial revolution in our time.

From its humble beginnings in internet forums to having obtained in the market a capitalization of hundreds of millions of dollars at the top of the last bubble, much has been debated on how to classify Bitcoin at the asset level.

Bitcoin: The debate

Today the debate continues. Investors, economists and regulators around the world have yet to agree on the classification of this new asset.

The task is not easy, since Bitcoin has special characteristics that make it unique and therefore it belongs to its own new class when we talk about financial assets, as we will see.

On the one hand, its creator defines it as digital money, proposing bitcoin as a means of payment, which indicates currency characteristics (such as the dollar, euro, etc.). However, its high volatility complicates this classification as it exists as a “trading instrument” being exchanged 24/7 in different markets across the globe.

Bitcoin: The technological side

At a technological level, the concept of “mining” exists in Bitcoin where new units are created every 10 minutes. This is done through a process that uses cryptography and mathematical calculations and which in turn has a high cost of energy.

We know that since the Bitcoin network was launched until today, approximately 18.5 million units have been mined out of a maximum total of 21 million. This cap on the maximum number of bitcoins that can exist is defined by code in the protocol itself, which makes Bitcoin a digitally scarce and deflationary resource.

This precisely emulates the process of extracting a natural resource such as gold or oil. For this characteristic, many have chosen to classify bitcoin as a commodity.

Another important analysis that can be applied to Bitcoin as an asset is regarding the scarcity principle. This economic principle suggests that the price of a scarce good should rise until a balance is reached between supply and demand.

The best way to measure the scarcity of a good is by analyzing how difficult it is to produce new units in relation to its existing supply.

Bitcoin: The economic side

At an economic level, in terms of supply and demand as the price of a good increases, the incentive to produce it in greater quantities also increases. Increased production creates more supply and this eventually exerts downward pressure on prices.

These imbalances and re-balances in production have an affect on supply and demand that make asset prices go through cycles of booms and busts. For example, see the history of oil prices or agricultural commodities such as soy or wheat. This is perfectly normal in a market economy where price discovery exists.

Now suppose that the price of an asset like gold doubles in the market. This will encourage producers of this metal to increase production, but since gold is increasingly difficult to extract (and the discovery of new deposits has been in decline for decades), the increase due to the new offer in relation to the total in stock will not have such a considerable impact on its price.

For this reason, gold has been used as a monetary base and store of value for many years.

In the case of Bitcoin, its monetary policy is governed by a decentralized and unalterable computing protocol, its total offer is fixed and unchangeable. For this reason, and as its issuance is not controlled by any government, some economists have proposed defining bitcoin as “digital gold”.

And unlike the previous examples, where the price increase encourages more production, which creates more supply and eventually downward pressure on prices, in the case of Bitcoin, supply is unalterable.

This implies that no matter how high its price becomes, no one can produce a greater number of bitcoins to satisfy the increase in demand, which makes Bitcoin unique due to this feature.

Conclusion

To contextualize, Bitcoin currently has a market capitalization of $ 170 billion while the total capitalization of gold is estimated to be almost $ 10 trillion, this is almost 60 times more than Bitcoin.

In its short existence, Bitcoin has gone from having no market value in 2009 to today being an asset that is traded globally generating billions of dollars in daily transaction volume.

As investors, in a context where central banks continue to dilute their currencies, allocating a part of our capital to Bitcoin, even if it is small, is obtaining exposure to a digital asset that is scarce by design and with enormous growth potential.

Author: Germán Tugores

At LocalCoinSwap we want to thank Germán Tugores for sharing this high quality content with the LocalCoinSwap community. Each of the authors of these articles works day by day to build a more informed Latin America about bitcoin and other cryptocurrencies.

German Tugores is trained in software development at the ORT University of Uruguay. He is specialized in blockchain for business, consultant in crypto, and is a top speaker on blockchain.

Co-Founder and COO of BlockBear, a software development company specializing in Blockchain technology. Co-Founder of Blockchain Summit Uruguay, the first international conference on blockchain technology and cryptocurrencies in Uruguay. We invite you to follow Germán on Twitter as @gtugoresblock

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