The determinants of Bitcoin price (part two)

After its introduction on the market, Bitcoin has been subject to a fierce competition by many rival cryptocurrencies, with hundreds of tokens created by alternative developers. Bitcoin is currently the most famous global cryptocurrency, as measured by market capitalization, but many other coins (also known as ‘altcoins’) including Ether, XRP, Bitcoin cash, Litecoin and EOS have raised a great interest among traders. New cryptocurrencies are created on a daily basis, thanks to a process known as Initial Coin Offerings (ICOs), which exploits relatively low barriers to entry. The competition among cryptos keeps market prices low and this is why Bitcoin price depends also on other cryptos’ prices.

Bitcoin is a digital currency, but this does not mean that its cost of production is zero. Actually, issuance costs do exist, with electricity consumption being the most important one. The mining process through which Bitcoin is mined is based on a complicated cryptographic math problem that miners compete to solve. The first miner who is able to do it is rewarded with a block of newly minted coins. Bitcoin’s algorithm allows for one block to be found, on average, once every ten minutes. That means that an increase in the number of miners who compete for solving the problem makes the problem itself more difficult. As a consequence, the process become more expensive but also more efficient. Empirical evidence has shown that indeed bitcoin’s market price is closely related to its marginal cost of production. This means that by knowing the cost of production a trader can have an approximation to be used for forecasting the price.

Another parameter we must consider when we want to forecast bitcoin price is the exchange where the price is fixed. Crypto traders trade their cryptos over famous exchanges such as Coinbase, GDAX, and others. These platforms are similar to those on which traditional fiat currencies are traded. Bitcoin’s listing on these exchanges implies a level of regulatory compliance, notwithstanding the global regulatory framework on the cryptobusiness is still decentralized and incomplete.

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