This article,”Bitcoin, The Tulip Mania of the 21st Century” considers the argument that Bitcoin’s rise and fall follow the tulip mania of the 17th century. Is Bitcoin going to be worth close to nothing when all is said and done?
With the recent craze in Cryptocurrencies, many news outlets like CNBC have come out to call it the next tulip mania. These outlets are asserting that bitcoin and cryptocurrencies are getting its value out of pure speculation and mania and eventually, the value of these cryptos will go like the tulip, back to zero or close to it.
If you are unaware of the tulip craze, you can read a detailed description of it in Wikipedia. In summary, people went crazy over tulip bulbs, bid up the price not because they liked tulips, but because they were looking for the next person to buy it from them at higher prices. Eventually, without actually exchanging tulips, the bubble burst when there was no one else willing to buy those contracts at high prices.
People who bought at the high (the most expensive tulip bulb was bought at a price more than the price of a house then) suffered the most. But for the most part, the economy was left unscathed as this was only a small segment of the market.
Is Bitcoin like the tulip mania?
First and foremost, we must acknowledge that there was definitely a bubble behaviour in the crypto markets in Dec 2017. A simple check on coin market cap will see the boom and bust of the total cryptocurrency market over these few months.
At its top on 7 Jan 2018, the market capitalization of all cryptos was at $820 billion.
In the time following, the crypto-frenzy in Dec 2017 saw their portfolios fall by more than 50% or more.
Today (5 April 2018), the market capitalization of the Cryptocurrency Market is $254 billion. This means on average, since the top of the market, investors have lost about 70% of the portfolio!
This is an unpleasant beginning for anyone who joined cryptocurrency market at that time and probably turned many away from the crypto markets for a long time.
However, it is my opinion that Bitcoin is different from the tulip mania and shouldn’t be compared to it. People who compare it as such to do not consider the details of both, and seem satisfied with understanding things at the surface level.
The Greater Fool Theory
The greater fool theory states that someone can buy an overpriced asset or investment with the rational expectation that someone else will buy it from them at an even higher price.
So the idea is that person who ends up with the overpriced asset with no one to sell to is the greatest fool.
This was basically what happened during tulip mania – people were buying contracts with the expectation that someone else will buy it from them at a higher price. All these without trading an actual bulb of tulip! Quite fascinating if you ask me.
Is Bitcoin the same? Are people buying bitcoin because they hope to sell it off at a higher price at a later time?
The answer, surprisingly, is yes! But wait… before you jump on me for calling you a fool… remember that it also applies to real estate, stocks, bonds, … actually practically every asset class out there!
Let me ask you – who would buy a piece of real estate with the expectation of selling it at a lower price? Or who would buy a stock believing that no one else was going to buy from them in the future at a higher price?
If an investor bought an investment with the expectation of making a loss from it… I think this investor is worse than a fool! I don’t know what you’ll call that type of person – super fool, I guess.
So then, doesn’t the whole market behave like that? Doesn’t everyone buy assets with an intention to sell at a higher price, no matter the asset class?
When people quote the greater fool theory, they forget to mention that the underlying asset must NOT have utility or intrinsic value.
So then, begs the question…
Does Bitcoin have Intrinsic Value or Utility?
Do people buy Bitcoin for some other reason, other than the fact they hope to sell it off at a higher price later on?
To call investors of Bitcoin greater fools, we have to assume that Bitcoin has no intrinsic value.
Those who do not understand Bitcoin will say that it has no value… I think they mean to say that it has no value TO THEM. Indeed, at this juncture, it may seem to be so, especially if you were living in a free and open country with a fiscally responsible government. Why does cash need to be replaced? Doesn’t cash serve the purpose?
But how about people in Venezuela, whose currency is being printed into oblivion? Apparently, the ability to retain value in digital format is very precious to the Venezuelans.
Because of hyperinflation, Venezuelans are turning to using cryptocurrencies as a transactional currency between businesses and individuals.
Or how about countries like the U.S. where the government seems to want to pry their heads into everyone’s business.
There are so many rules governing Americans’ overseas investments or banking like FATCA that most Americans find themselves stuck – they can’t even bank overseas! In this case, would Bitcoin be valuable for them to transfer value overseas without intrusive checks and balances or getting into trouble with the IRS? I suppose so!
Bitcoin is unique in the sense that it is borderless, and you can make payment to anyone, anywhere in the world for as low as a few cents, and in less than an hour (sometimes 10 minutes!). Name me a system that is better than cryptocurrencies at doing this …
Sure, Paypal could do that for you, but not before charging you a hefty 3% and also shutting down your account and freezing your money at their whim.
What’s more, Bitcoin’s inherent scarcity of 21 million ensures that there is integrity built into the system. Many people, with their best intentions, cannot run away from the clutches of government created inflation.
Since ’08, the government has been out of control with the printing press.
No government sees the need to account to their citizens for the endless printing of money – yet citizens have no choice but to accept it.
Bitcoin and other cryptocurrencies offer a way out of this. Bitcoin keeps everyone honest, and to me, that is a real, intrinsic value in that.
These are just some of Bitcoin’s qualities. Others like Bloomberg have even compared Bitcoin to gold as a store of value.
Tulips, on the other hand, don’t have the use cases like Bitcoin does. Tulips are not fungible, and they’re definitely not easily transferred across countries in the same way Bitcoin can.
A Structural Change Like the Dotcom
The best comparison of Cryptocurrencies is with the dot-com craze of the 1990s.
In those ways, any company adding a dot-com to their name or reporting that they will start websites saw their valuations spike. Dot-com businesses that made losses still received millions of investments. Rational thinking basically went out of the window.
The early days of the blockchain and ICOs are like this. Today, many ICOs without a working product receive millions, if not billions of investor funds. An iced tea company renames their company to Long Blockchain and their stock triples in value.
This irrational thinking is similar in both technologies. But the Dotcom story had a great ending. While many companies eventually went bust because the mania died down and logical thinking eventually prevailed, but dotcom as a technology stayed and became an essential part of our lives.
Companies like Amazon, Facebook, Apple, Google experienced the bust just like every other dotcom company, but the bust was a correction for these valuable companies who saw their meteoric rise over a decade. Today these companies are some of the largest in the world and dominating almost all our internet life.
I believe the same change is going to happen with Bitcoin and the blockchain. This is a structural change and the world, in the years to come, will embrace the blockchain just like how we have embraced the internet. The bad companies will collapse, the good ones will flourish and continue to change the world as we know it.
Will we see Bitcoin drop to zero like the Tulip mania, or will it be the start of the structural change like the Internet? Leave your thoughts and comments in the space below!