The Year of the Bitcoin

During my Christmas and New Year holiday I had a lot of time to think about emerging technologies, and especially about Bitcoin. Although some people called 2013 the Year of the Bitcoin, I believe that we have only scratched the surface of the potential of Bitcoin and that 2014 will be the real Year of the Bitcoin.

The main reason that Bitcoin got a lot of press over the past year is because of its extreme price increase and volatility. People like to read stories about others accidental millionaires that just mined some coins a few years ago and then forgot about them. But it has nothing to do with the real potential of Bitcoin and its platform. In this post I will write down some of my observations and thoughts about the crypto currency and why I think it will be a much bigger deal over the next 12 months.

Bigger players entering the market

One reason why I believe that Bitcoin will be so much more important, is because some of the big players in the financial industry are entering the market. Based on conversations that I had over the past couple of months I believe quite some hedge funds have positions in Bitcoin already, but none of that got into the media. However, the past 2 weeks have seen a couple of public announcement that show the tide is changing.

First of all Goldman Sachs director Michele Burns became a board member at Bitcoin payment company Circle. That’s a big deal, not only because Circle is still a small company but especially because it shows the big players are getting into the game officially. They are well connected and can directly or indirectly influence regulations.

Next to that a well known fund, Fortress Investment Fund, is getting into the Bitcoin game by launching a fund solely focused on Bitcoin. This could give Bitcoin more exposure to entities that could so far not invest in Bitcoin, for example pension funds. Right from the start Fortress is already bigger than the SecondMarket Bitcoin Investment Trust, that currently has about $50 million under management (that fund was launched in September 2013).

What’s important: Bitcoin price or Bitcoin protocol?

The media is still quite negative about Bitcoin, most of the news you read is sceptical and shows that journalists do not really understand the concept of Bitcoin. This is partly because of the fast rise of the Bitcoin price, that made it look like Bitcoin is only about the currency itself. The media seem to neglect that Bitcoin platform, which is a protocol that could be just as important to the world as the http-protocol (the Internet). I think this is something that will change this year as well. Some journalists will spend more time on Bitcoin and will understand the significance of the platform without looking too much at just the Bitcoin price.

The Bitcoin protocol is so valuable because it allows new applications to be built that couldn’t be developed before. Which ones? Nobody knows of course, but they will disrupt complete industries. If you are studying to become a notary you’d better start stuyding the Bitcoin protocol because it could make most notary jobs disappear over the next decade. Also lawyers should watch out, a large part of their current business could be gone because of Bitcoin protocol applications. I believe the next $100 billion company may be built upon the Bitcoin platform.

Negative views of well known economists

But not only the media are negative, well known economists that I used to respect (like Paul Krugman) or that I never had a lot of respect for (like Alan Greenspan), are all dismissing Bitcoin. That would be fine if their arguments were solid, but for some reason they mainly focus on the Bitcoin currency instead of on the platform. That fact makes it hard to take their views serious.

They don’t seem to understand why Bitcoin can have a value because it is not backed by anything. But they conveniently forget that the dollar also has no real backing anymore: you can’t change your dollar bills for gold anymore. For now central banks can still convince people to hold dollars, partly because they have no real choice, but I doubt that will last forever. Government debts have spun out of control and one day these have to be paid back. Banks keep on printing money to keep up with interest payments while borrowing more money. What will happen once Bitcoin becomes more mainstream and will offer a real alternative to hold your money? Bitcoin could become Gold 2.0, a new kind of gold that can easily be used for payments as well. That will give Bitcoin tremendous value: if just 5% of gold holdings would eventually change to Bitcoin the value of one coin would be $38,000.

Generally Bitcoin derives its value from the Bitcoin protocol. That gives the tool to verify ownership (of money or anything else that is ‘stored’ on the blockchain) and transfer that without the need for a trusted central authority. As long as the Bitcoin protocol will be the most efficient way to do so Bitcoin will have value. The more transactions are done with Bitcoin the more valuable Bitcoin will become. If the Bitcoin protocol would replace both Western Union and Paypal (which is quite likely to eventually happen), the value of one coin would already be about $3000 based on the market cap of these 2 companies. All other transactions will only further increase the value of the Bitcoin.

The problem is that central bankers and other well known economists still live in the old world but that that world is quickly disappearing and being replaced by protocols with new functions. It’s a pity to see that they don’t get what’s happening in the real world. Interesting fact is that Paul Krugman not only dismisses Bitcoin, but that back in 1998 he had similar negative views about the future of the Internet: “The growth of the Internet will slow drastically, as the flaw in ‘Metcalfe’s law’–which states that the number of potential connections in a network is proportional to the square of the number of participants–becomes apparent: most people have nothing to say to each other! By 2005 or so, it will become clear that the Internet’s impact on the economy has been no greater than the fax machine’s.”

And where will the price go this year?

I hope the focus on the Bitcoin price will be a bit less this year, it’s just not that important in my opinion. Although I have some coins, so I have a vested interest to see the price go up, to me it’s much more important that the Bitcoin platform becomes better understood. I have no idea where Bitcoin will be one year from now, but based on the current developments I think it will still be one of the best investments you can make to put money into Bitcoin right now. Just remember that it’s largely speculation and that you can lose it all. And be prepared for a wild ride, Bitcoin has been a bit less volatile over the past 2 weeks, but each time positive or negative news comes you can expect wild swings again.

Coindesk, the leading Bitcoin news site, did a survey among its readers last week and a majority thinks the price will hit $10,000 next year! I believe that eventually Bitcoin could reach that number if the Bitcoin platform would take off and Bitcoin would remain the major crypto currency, but I don’t believe that will be next year already. A timeframe of 2-3 years is much more likely, the world does not change as fast as people tend to believe.

New currencies

During the coming year we’ll probably see a lot of new currencies. Now the main ones are Bitcoin, Litecoin and Peercoin, but a year from now there will be a lot more currencies that currently don’t exist yet. I believe people may launch their own currencies on top of the Bitcoin platform, starting with famous sports players and music stars. Eventually the same will happen with companies, just like they now already issue coupons or points for loyal customers (e.g. companies like Starbucks). Of course there will be regulations that will try to stop this, but in my opinion it’s just a matter of time before it will happen.

Regulation

Lots of hardcore Bitcoiners are against regulations, but I think that Bitcoin will never really become big without government regulation. So I applaud it that several countries are actively working on Bitcoin regulations. Countries that try to ban Bitcoin shoot themselves in the foot, because financial innovation won’t take place there. At the end of this year I believe most of the big countries will have basic Bitcoin regulation in place.

China

China’s Bitcoin news over the past weeks has surprised me, but I think most people misinterpret the Chinese Bitcoin rules. The country is not trying to ban it, just wants to make sure speculation is not getting out of control until they better understand it. I would not be surprised it the country itself is actually buying Bitcoin. China wants to have more influence in the financial world, but it knows it can never control the USD. It’s unlikely that the RMB can take over this role because of a lack of trust in China, even though the Chinese currency is now the 2nd biggest currencies for trade finance. Bitcoin would be a great solution to gain more global financial influence and it would therefore make sense for China to be active in the Bitcoin market.

Of course you could then come up with a conspiracy theory saying that China tried to reduce the price by not allowing banks and 3rd party payment providers to deal with Bitcoin, but I think that’s a bit too far fetched. However, I still wonder about one thing: who was buying Bitcoin on Chinese exchanges after the ban on payment providers to work with Bitcoin providers in China? Because nobody could fund their RBM accounts anymore and a lot of people were trying to sell, the price should have gone to zero. But that did not happen, after a major drop in price parties started buying again on the Chinese exchanges and the RMB/Bitcoin price started climbing up. But who was buying if no Chinese could add money to their accounts? Maybe I am overlooking something obvious here, but there is only one party I can think of…

Banks

Most banks seem to be negative about Bitcoin, it’s difficult for Bitcoin companies to open bank accounts and some even try to stop their customers from buying virtual currencies. Part of the reason is that they just don’t understand Bitcoin yet, but that will change this year. Another reason is because they see Bitcoin as a major risk for their current business models. That is true, but I think they should understand that fighting it may not really help. It reminds me of the music industry that was only trying to stop Napster instead of coming up with a new business model themselves. As a result Apple took over a large part of their business with iTunes. Banks should embrace virtual currencies instead of fighting them, it can be a big opportunity for them if they play their cards right.

But banks will only do so if there will be better regulations for Bitcoin. The banking industry is a conservative sector and without clearer regulations they likely won’t move. Another reason why I look forward to more and better Bitcoin regulations.

2014 will be an interesting year for crypto currencies and I think it could become the real Year of the Bitcoin!