Cryptocurrencies will play a part in the future of money. How big of a role remains an open question.
Bitcoin, the most popular cryptocurrency, has seen its value soar to dizzying heights in recent months—reaching a zenith of $3,018.54 on June 11. Only to fall back down to Earth, especially over the past weekend. Bitcoin, which rebounded Monday, currently trades around $2,325.
Skeptics say there’s a bubble coming, but if it were to pop there’s a queue lined up to take Bitcoin’s place.
At their core, all cryptocurrencies rely on blockchain technology, which acts like a public ledger that grows as each transaction is processed and notarized. The difference between each cryptocurrency is largely determined by how this technology is used. The first of its kind, Bitcoin was simultaneously a proof of concept for cryptocurrencies and blockchain technology when created in 2009. However, this dynamic lies at the root of its problems eight years later.
Each time Bitcoin is bought or sold, it’s recorded on the blockchain. Hundreds of these transactions accumulate to form a “block” that gets added to the chain once they’ve been verified. The way Bitcoin was built, there’s a cap on the number of transactions that can fit into each block. Originally, this was viewed as a way to protect the network from being overloaded by hackers. Today, the volume of daily transactions means it viewed as a hindrance.
About a half million dollars are transacted on the Bitcoin network every minute. That’s a five-fold increase since June of 2016. “It’s started to compound on itself,” said Alex Sunnarborg, CoinDesk research analyst. Bitcoin’s infrastructure wasn’t built to handle this amount of volume.
The cap on transactions has caused a backlog in Bitcoin’s blockchain processing, taking up to ten minutes to get verified. Users pay fees to avoid the jam, but even those are growing. The average fee soared from 62 cents, at the beginning of 2017, to $5 by June of the same year, according to CoinDesk. That means buying a cup of coffee with Bitcoin today could cost more than the initial cost of that coffee.
Bitcoin is far from the only cryptocurrency out there. It was built in such a way that anybody can see what’s under the hood and tinker with its engine. There’s been an explosion of cryptocurrencies that have taken Bitcoin’s premise and built upon it. The combined market value of all cryptocurrencies was $27 billion as of April 2017, according to a University of Cambridge analysis. Bitcoin is only a fraction of that.
“Blockchains like Ethereum are a great example of taking Bitcoin, but actually possibly improving upon it and making a more expressive scripting language allowing for things like smart contracts and faster processing time,” said Adam White, general manager of Coinbase.
White compares Bitcoin to a database, while Ethereum is like a decentralized supercomputer. The latter allows for more flexibility and avoids the congestion that’s associated with the Bitcoin network at the moment.
Today, Ethereum has between 30 to 40 percent of the market share. A few years ago, Bitcoin’s market share hovered around 90 percent, but its dominance has waned as other cryptocurrencies have entered the market. Aside from Ethereum, other popular cryptocurrencies include Ripple, Litecoin, Dash and Monero.
“While Bitcoin itself, the value, is growing as measured by the price, we’re actually seeing these other digital assets increase in value as well,” White explained. “To me, at a very basic level, that points to the fundamentals of this open blockchain are continuing to improve and demonstrate real utility to solve problems.”
The cryptocurrency market evolved much like a biological ecosystem, according to an analysis by Andrea Baronchelli and his fellow researchers at The City University of London.
New cryptocurrencies are born, while others fall into disuse. Bitcoin certainly isn’t dying, but those watching the cryptocurrency market are poised for what they’ve dubbed “the Flippening.” That’s when another digital asset surpasses Bitcoin’s market capitalization. Fluctuations in the market make this event tough to predict, but Baronchelli believes there are still trends to follow.
“Underneath all the volatility, there is order,” Baronchelli said. His research shows there’s no “winner-take-all” scenario that puts Ethereum, Bitcoin or any other cryptocurrency on top and devaluing the rest. The researcher believes there will continue to be competition for market dominance, long after the first “Flippening” occurs.
Other experts agree. “I definitely think the composition of the actual assets will change dramatically,” Sunnarborg said. “Maybe it won’t be Bitcoin. Maybe it won’t even be Ethereum, but some form of cryptocurrency and distributed ledgers will be around in the future.”
To his point, the nascent market is so young the federal government disagrees on how to classify a cryptocurrency. Bitcoin isn’t legal tender. Financial regulators consider it a commodity and the IRS says it’s property.
“It’s none of the above, and little bit of all the above,” White said. “If you correlate the price movement of Bitcoin to commodities, like oil or gold, to currencies or stocks, it effectively has no correlation or very little. It marches to the beat of its own drum.”
Most working in the space, including Sunnarborg and White, consider cryptocurrencies to be a new asset class entirely. There also seems to be some consensus that it’s far too early to project where the current path will lead. As such, many feel governments should wait on getting involved until it can figure out how to get a handle on it.
“In many ways, it’s probably too early to come out with too heavy-handed of regulation right now,” White said. “We need to provide an environment that encourages innovation and experimentation to watch how this technology can be used.”
If regulations are created, Sunnarborg thinks the market will innovate around them. “This is pure unbounded technology and it’s basically unstoppable by the government,” he said. “There’s no off button.”
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