Monday, 4 December 2017

Will Bitcoin Destroy the Current Financial System?

Will Bitcoin Destroy the Current Financial System?

This question has come to me very strongly now that Bitcoin has reached and surpassed the quite amazing price target of $10,000 per coin.

As I write this on Word 2007, I just noticed that Bitcoin has a red line underneath it; it was not in the dictionary. I just put it into the dictionary. I wonder if the new versions of Word Processors have this word? Does the Oxford English Dictionary have it? They need to have it in there, now.

On my Dell UK style laptop computer keyboard, I have the dollar sign $ and the British pound sign £ (SHIFT 4 and SHIFT 3 respectively). Pressing CTRL ALT 4 gives me the Euro sign €. Where is the Bitcoin B with two vertical lines through it? Is it in the Wingdings font yet? It needs to be.

Bitcoin is the digital peer to peer currency launched around 2009 with little or no monetary value at the time. It was even discussed back then whether it would ever have any use or monetary value. Now each unit is worth approximately $10,000, varying from day to day as it trades and there are about 17 million Bitcoin units outstanding, giving a total market value of around $170 billion to the current Bitcoin currency supply. The maximum number of Bitcoins that are available to be found or ‘mined’ was set at 21 million but that process is gradual since Bitcoins are essentially mined essentially by maintain the ledger of transactions and his takes computer power and work, as does mining precious metals for instance.

Now as Bitcoin has hit $10,000, speculation has raged as to what maximum value it might reach. Some have speculated it might go to $500,000 to $1,000,000 per coin. This is extravagant in my personal view but that is not investment advice.

The limit is likely to be dictated by the total amount of money in other currencies that is available to be able to be put into Bitcoin. Of course, since currencies fluctuate and often depreciate and since central banks print money by doing quantitative easing among other things, the total number of currency units tends to increase over time. However the Bitcoin supply is fixed at 21 million units maximum, though this will not be reached for some years. I am going to use a number of Bitcoins of 20 million because it is a round figure and it is likely to be reached in the next few years.

We need to look at various monetary stores of value and compare them to Bitcoin. In my view, the total value of Bitcoin could go to $1 trillion as a feasible target. This is because 1 trillion is an attainable number for a valuable entity in the current world of investment. For example, Apple’s total stock market value has been threatening to reach the 1 trillion level - and this has in itself been a hot issue for the last year or two as to if or when this will happen.

We must also consider that there are numerous other crypto-currencies such as Etherium, Bitcoin Cash, Bitcoin Gold and others about to be released such as Ucoin cash. The total market value of these is the same order of magnitude as Bitcoin itself. Bitcoin’s “market share” of the total has been slowly falling since these new crypto-currencies have grown from a standing start, even though in general the value of most of them has been skyrocketing.

A good place to look is which currently states as of 1 Dec 2017 that the total market capitalization of all 1320 of the cryptocurrencies it monitors is $332 billion, with the lion’s share in Bitcoin ($188 bn), Etherium ($45 bn), Bitcoin Cash ($24.5 bn), Ripple ($9.9bn), etc. All of the top 16 have over $1 billion and even number 50 on the list, Veritasium has a market cap of $196m!

The total crypto value is already 1/3 of a trillion! Bitcoin currently has 56% of the market.

The website gives useful information about the market value of the largest American companies. All of the top 10 companies in the Standard & Poors S&P 500 index had values over $300 billion at the end of November 2017, with Apple at the top at $887 bn. The current money in cryptocurrencies is thus about equivalent to the market value one of the top 10 companies in the USA. This is significant but not yet disruptive, since the total value of the 500 companies in the index is actually about $22.6 trillion.

Bitcoin capitalization
$187bn (2 Dec 2017)
Cryptocurrencies total capitalization
$332bn (2 Dec 2017)
Procter & Gamble market value
$229 billion (end November 2017)
Bank of America stock market value
$276 billion (end November 2017)
Apple Inc stock market value
$878.22 billion (on 1 Dec 2017)
Central bank gold reserves total
$1.35 trillion (32,754 tonnes on 1 Dec 2017 gold price of $1279.80/oz)
UK M1 money supply
$1.13 trillion (£853 billion)
UK government debt
$2.07 trillion (£1.56 trillion, 81.58% of UK GDP)
$2.54 trillion (£1.91 trillion)
US M1 money supply
$3.59 trillion
US Federal Reserve balance sheet
$4.42 trillion (up from under $1 trillion in 2008 because of QE)
US banks total balance sheet
$16.6 trillion
US government total debt
$20.574 trillion (2 Dec 2017
US S&P500 total stock market value
$22.6 trillion (end November 2017)

It doesn’t seem out of order to imagine Bitcoin’s market cap going to 1 trillion with 50% of the total market, giving $2 trillion in cryptos and a Bitcoin price of $60,000 per coin. This would give Bitcoin a capitalization similar to Apple Inc, the most valuable company in the world and a value approaching to that of the total central bank gold reserves.

What would be the implications of this? This really means that $1 trillion would have exited the conventional financial system and gone into Bitcoin and perhaps $2 trillion into cryptocurrencies in aggregate. This would divert that money from the economy and perhaps numerous other markets, such as the gold market, the commodities markets, the stock market, the government and other debt markets as well as from savings accounts and bank deposits.

What level of money flow into cryptos would endanger other investments and how would this happen?

Well, $2 trillion flowing into cryptos would be equivalent to about 9% of the value of the S&P 500 stock index. It is also greater than the value of any individual company, more than the value of all central bank gold reserves, more than the UK money supply and about 12% of the total money in US banks. This would surely start to move markets. Of course the flow into Bitcoin is coming from the whole world but it could be concentrated in certain areas, especially where there is a perceived need to move money out of another asset that is insecure.

I see several dangers. Excessive money flows into Cryptocurrencies could cause:

1.       Diversion of funds out of the precious metals, the mining stocks and other ‘alternative’ markets;
2.       Fall in value of weak or vulnerable national currencies that are being converted into cryptos;
3.       Hyperinflation in vulnerable countries.
4.       Diversion of funds out of general stock markets – possible stock market crash;
5.       Diversion of funds out of pension funds by savers causing bankruptcy of funds;
6.       Draining of bank savings accounts causing bank illiquidity or insolvency;

I think item (1) is already happening. Bitcoin is zooming, while gold and silver, which are other alternative forms of currency, are languishing. The libertarian political mindset is common both to precious metals freaks and Bitcoin freaks so these markets are competing for that money. Cryptos are winning, hands down. How far will it go? What will happen when Bitcoin futures open on the same platforms as gold and silver futures in December 2017?

So how about a vulnerable economy like Venezuela (Items 2 and 3)? Here are some stats from the IMF compared to crypto values:

Bitcoin capitalization                             $187bn (2 Dec 2017)
Cryptocurrencies total capitalization      $332bn (2 Dec 2017)
Venezuela GDP                                   $215 billion (2017 IMF estimate; down from $236bn in 2016)
Venezuela total savings                         $9.1 billion (2017 IMF estimate; down from $15.4bn in 2016)

We see a large shrinkage of Venezuelan savings and GDP over the past year, measured in US dollars. That might be due to a fall in the Venezuela bolivar currency but could also be due to money leaving that country and into Bitcoin. Already, Bitcoin’s value is approaching the total GDP of this crisis-ridden country and it could easily absorb all of Venezuela’s savings of $9.1 billion.

There is actually a strange parallel between the inflation rate in Venezuela and the price of Bitcoin. Is this a coincidence? I think possibly not.

There will always be poor mismanaged nations that will get hit by the markets. However, what about the world’s financial system that itself is debt ridden and riddled over recent decades with asset bubbles, crashes and market manipulation by the central banks by bailing out their chosen friends when they lose money?

So at what point might we see items 4, 5 and 6, where the largest sectors of the investment sectors and the mainstream financial system could be endangered.

To me, that would require a real mainstream mania in Bitcoin and the cryptos that would divert several trillion dollars or more from the other investment markets. Essentially most people are probably not spending Bitcoin so it is hardly functioning as a currency. In my view is functioning as a hoarded asset, much like gold in the early 1930s during the Great Depression. Ten trillion dollars equivalent going from conventional currencies into cyptos would probably be a major threat.

Some hypothetical levels for Bitcoin compared with today:

Bitcoin market capitalization
Total cryptos market capitalization
Bitcoin’s share of cryptos
No of Bitcoins in
Price per Bitcoin
% of size of major US markets**
1 Dec 2017
$188 billion
$332 billion
16.7148 million
$1 trillion
$2 trillion
17 million
$5 trillion
20 million
$10 trillion
$30 trillion
20 million
$21 trillion
$70 trillion
21 million

*I am allowing for the possible increase in the number of Bitcoins towards the maximum limit of 21 million.
** I am comparing the total crypto currency hoarding with the size of the main US stock and bond markets using $20 trillion US debt and $20 trillion valuations of S&P500 ($40T total). One could instead use a figure for the total world money supply of approx $90 trillion in which case the percentages would be less.

I personally would not be surprised to see a 1 or 2 trillion dollar market capitalization for cryptocurrencies in the very near future.

I would think that if either of the bottom two scenarios were to arrive, then the world’s regulated financial system would be in some danger and the effects on our over indebted fragile western world economies would encourage government action to curtail the crypto markets or at least cap them.

We know from the Roosevelt gold confiscation in 1933 and other executive orders passed over the years that governments can turn on a dime and enact arbitrary laws at any time. The effects of these on peer to peer decentralized systems like the cryptocurrencies are difficult to judge.

In the meantime it will be fascinating to see what happens in the crypto market. Some hedge funds are already invested in Bitcoin. Bitcoin futures are scheduled to start trading in mid December 2017. What will be the effect if financial institutions can bet against Bitcoin in the futures market? Will crypto currency Exchange Traded funds come soon? The mainstream is not quite there yet. The cryptos are still at the Wold West stage.

In a fascinating interview on Russia Today (linked below), Rick Falkvinge, the ‘CE’ of Bitcoin Cash, the Bitcoin Cash 'CEO' discusses cryptocurrencies versus the current financial system. He sees deep and lasting implications for the conventional system and a sea change in the monetary world. I also link to an interview with the evergreen investor Jim Rogers that talks about this and all kinds of topics.

In the end, we cannot tell whether this initial bubble of speculation will take a hit before the mainstream comes in with products or whether it will just add to the current mania. A useful comparison might be the Internet bubble of 1999--2000. Even though there was a big wipeout in valuations of internet companies in 2000-2002 due to unrealistic expectations and a bubble mentality, the internet continued to grow at a steady pace and became the universally used utility that it is today, with major new corporations coming into existence even since the initial bubble ended. We have to wait and see whether similar events can happen in the crypto market and whether it will become part of the mainstream money universe.


Poor Nerds Become Millionaires Thanks to Bitcoin. Fascinating interview with Rick Falkvinge Bitcoin Cash 'CEO' on Russia Today.


© D Bellamy 2017

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