Bitcoin’s demand may fluctuate, but the supply is known.
From the fear of “double spending” January 20, 2021 to escaping into the relative safety of the cryptocurrency’s decentralized trading platform on January 30, 2021, a ten-day window in the life of Bitcoin shows the power of fixed supply versus variable demand according to prices.
When rumors surfaced of a possible bug in the blockchain system that supports Bitcoin, buying interest in the mega-crypto subsided briefly. In all markets, any doubt, especially about a young and somewhat elusive asset, will marginalize some investors. This happened in the Bitcoin markets for about a week and prices pulled back. However, when post-Reddit instability hit trading platforms and spurred investment in sharply discounted securities, resurgent demand for bitcoin rose back to its all-time high, largely because bitcoin supply was not growing fast enough to meet demand.
The Bitcoin “double spend” rumors clearly turned out to be false, based on a naturally occurring but extremely rare breakdown of the resolution system for blockchain transactions that basically corrects itself in the course of blockchain activities. (At least that is how I can best describe things with my very limited understanding of the process. Suffice it to say in plain language that the system is absolutely solid and Bitcoin lives on unharmed.)
Market prices drop when there is insufficient demand. Buyers are pulling out and those who have to sell because they are more motivated for whatever reason have to pursue lower prices to redeem their inventory. In the case of Bitcoin, the double-spend rumors temporarily drove off buyers, leaving those who had to sell looking for buyers at lower prices. By the time the sellers completed their first round of sales, Bitcoin prices had fallen around 15 percent from their high in the early hours of January 20, 2021 to their low on the evening of January 21, 2021. This happens when asked because something dries out. The prices are falling.
Prices also decrease when supply exceeds demand. In the case of Bitcoin, this rarely happens because the current supply of Bitcoin is known, the rate of possible additional supply of Bitcoin (from mining activities) is also known, and the final supply of Bitcoin is set at 21 million. In a macroeconomic sense, the supply of Bitcoin that is fixed can never really keep up with demand as long as demand continues to grow.
And while one-off events like the double-spend rumors can temporarily negatively impact the demand for Bitcoin, in the long run the demand for Bitcoin has more reasons to keep growing than can reasonably be enumerated in this article. But one reason stood out more than another on January 30, 2021.
The actions Robinhood and other brokerage houses have taken to limit the ability of investors to participate in trading certain securities have shocked the retail investor world and sparked doubt, uncertainty and anger among millions of new traders. For many of these new entrants, it was the first time they discovered that the free market system was not as “free” as they thought, and legions of them took refuge in the still wild-western, largely unregulated cryptocurrency arena.
Bitcoin, the king of the crypto world, saw demand spike again, and that demand grew faster than supply. In just 10 days, the world saw the effects of fluctuating demand in a fixed supply market.
When the demand for something increases: Prices increase, but only if supply does not increase to meet demand. This “price rationing” ensures that the markets work efficiently. Crypto markets are currently as efficient as any other market in the world, which means that they behave according to the basic free market rules of supply, demand and pricing.
This is the case with Bitcoin and will remain so for the foreseeable future as long as Bitcoin continues to grow in popularity in the investment world. All of this suggests that bitcoin prices are likely to rise over time, as price rationing ultimately offsets the imbalances created by fluctuations in supply and demand. When demand increases and supply does not increase accordingly, prices increase until demand is subdued.
Investing in Bitcoin will continue to be interesting, challenging and volatile as the final supply of Bitcoin is known and the rate of additional supply is also known, but demand remains the main variable that will move prices in the future. The events of the last 10 days have provided a valuable real-time hour in the supply and demand economy.