How is the Price of Bitcoin Set

    Pathik Bhattacharya
    Pathik Bhattacharya

    Updated on January 16, 2023 11:26 AM

    Published on December 10, 2022 05:53 AM

    Bitcoin does not follow official monetary policy due to its decentralized structure, and it is not supported by any underlying securities or government. The Price of Bitcoin generally depends upon market and demand & supply.

    How is the Price of Bitcoin Set
    Source: Unsplash

    Cryptocurrencies are entirely digital. They have no physical presence and only exist as code within a blockchain. As a result, some people think they aren't worth anything. However, this is not how pricing works.

    Bitcoin's price volatility has many critics doubting the mathematical and economic foundations of price swings while looking for a broader justification of its worth.

    Bitcoin does not follow official monetary policy due to its decentralized structure, and it is not supported by any underlying securities or government. This raises distrust among both investors and consumers who value the price stability signals provided by government policy and assistance.

    Bitcoin’s Supply & Demand

    Bitcoin's price is driven by the same factors that affect the value of the US dollar: supply and demand. When demand for bitcoin rises, so does the price, just as it does for fiat currency. When demand for bitcoin dips, so does the price.

    On the supply side, Bitcoin is a one-of-a-kind asset in that its fresh supply schedule is inelastic; it is unaffected by changes in demand. When demand for most things, including fiat currency and gold, rises, producers respond by increasing output and returning prices to equilibrium. Because of the difficulty adjustment, as demand for bitcoin rises, the creation of new bitcoin does not rise.

    Bitcoin is a deflationary token i.e it has a limited supply. With a maximum supply of 21 Million tokens, when the last block of Bitcoin will be mined, there will be no further Bitcoin block would be available for mining. The last bitcoin is anticipated to be issued in the year 2140, with the number of new bitcoins produced every block dropping by half about every four years. When Bitcoin was created, each block included 50 new bitcoins, but as of May 2020, that amount has dropped to 6.25.

    Bitcoin’s Production Value 

    Production costs, like other commodities, play an important role in influencing bitcoin's price. According to certain studies, the price of bitcoin in cryptocurrency marketplaces is directly tied to its marginal cost of production.

    The production cost of Bitcoin is roughly equal to the total direct fixed expenses for infrastructure and power necessary to mine the cryptocurrency, as well as an indirect cost due to the difficulty level of its algorithm. Bitcoin mining is a network of miners trying to solve for an encrypted number; the first miner to do so receives a reward of newly minted bitcoins as well as any transaction fees earned since the last block was found.

    Solving the hash to unlock a block and get a reward necessitates brute force in the form of significant computing power. In terms of money, the miner will need to purchase several expensive mining machines. Bitcoin mining also necessitates high power costs. According to estimates, the bitcoin mining network consumes more power than certain small nations.

    Bitcoin’s Price From Bitcoin Scarcity

    Unlike traditional cash, bitcoin has a limited quantity. There will always be at most 21 million bitcoin in circulation. Bitcoin is generated at a predetermined rate that declines over time, causing demand to outstrip supply. This adds to the price's increasing pressure.

    Furthermore, Bitcoin's future monetary policy is completely predictable, providing investors with high confidence that inflation will be introduced or intensified later.

    Source: Plotty

    Fiat currency generation and distribution, in comparison, is theoretically unlimited and unpredictable. Most central banks aim for low inflation, but these rates are vulnerable to alter at any time by a tiny committee, and the real inflation rate of fiat currencies is practically difficult to monitor.

    Because Bitcoin has a limited supply and a tiny market value, its price is far more susceptible to variations in demand, resulting in significant price volatility.

    Bitcoin Vs Other Cryptocurrencies

    Hundreds of different tokens compete for investment funds, even though Bitcoin is the most well-known cryptocurrency. However, its power has dwindled with time. Bitcoin accounted for more than 80% of total market capitalisation in cryptocurrency marketplaces in 2017. By 2022, that proportion had dropped to less than 50%.

    The primary cause for this was improved awareness of and ability to use the alternate currency. Because of the surge in decentralized banking, Ethereum, for example, has emerged as a serious rival to Bitcoin (DeFi). Investors that regard ether (ETH) as having the ability to rebuild the rails of modern financial infrastructure have invested in the cryptocurrency utilized as "gas" for transactions on its network. Ethereum represents for almost 20% of the total market capitalization of cryptocurrency marketplaces.

    Even though they have diverted some investment money away from the Bitcoin ecosystem, competition has drawn investors to Bitcoin. As a result, the demand for and knowledge of cryptocurrencies has grown. Bitcoin has profited from the attention as a type of standard-bearer for the cryptocurrency ecosystem, and its values have stayed high.

    Inflation and Deflation 

    Inflation happens when the monetary base or the velocity of money quickly increases, leading prices to rise and the value of the currency to fall. Because of its limited supply, Bitcoin is deflationary. 

    Bitcoin is immune to hyperinflation due to its limited quantity. The power of a government to create a limitless quantity of currency has resulted in periods of hyperinflation, driving the value of numerous fiat currencies, notably the German Mark and Zimbabwean dollar, to zero.

    Concerns about deflationary spirals are unfounded and unsupported by economists; deflationary occurrences in bitcoin and fiat money have always been addressed by supply and demand. Because of its limited quantity, Bitcoin is a safe long-term store of value, equivalent to, and in some circumstances superior to, gold.

    Several elements impact the demand for cryptocurrency. The utility and purpose of what is in demand frequently take a second seat to trends, media awareness, and public figure support. Even the fear of missing out on easy money (FOMO) can influence investing decisions. As a result, the thoughts stated above might be one of the primary reasons Bitcoin prices are determined. There are also other more factors that might affect Bitcoin's value at any time.

    Bitcoin FAQs

    Q1) How does Bitcoin make money?

    Ans: The Bitcoin network of miners earns money by validating blocks and getting compensated for their efforts. Bitcoins may be exchanged for fiat cash through cryptocurrency exchanges and used to make purchases from merchants and retailers who accept them.

    Q2) Are Bitcoin a good investment?

    Ans: Bitcoin, the most valuable cryptocurrency by market capitalization, is a high-risk investment with extreme volatility. It should be considered only if you have a high-risk tolerance, are financially secure, and can afford to lose any money you put into it.

    Q3) Are Bitcoins Illegal?

    Ans: Many nations recognize bitcoins as a type of currency, but only a handful considers them legal tender. China, Algeria, Bangladesh, Egypt, Iraq, Morocco, Nepal, Qatar, and Tunisia all have outright prohibitions.

    Q4) What is the stock-to-flow of Bitcoin?

    Ans: Stock-to-flow models quantify new supply about the current supply. The stock-to-flow ratio of Bitcoin is used by investors to forecast future currency prices. Unlike many other assets, Bitcoin's new supply remains constant regardless of the asset's price.

    Q5) Why Do Bitcoin Price Changes Impact Other Coins?

    Ans: Because of its pioneer role, many investors regard it as the crypto market's reserve, and other currencies rely on its value to remain high.