Like any form of currency, cryptocurrencies derive their value from universal agreement regarding their worth. However, since cryptocurrencies are digital assets untethered to a central government, financial institution, or physical commodity, the matter of their value is often a topic of inquiry and skepticism.
Despite concerns over their illusory value, the monetary worth of cryptocurrencies is closely tied to the basic economic principles that govern not only monetary systems, but product-based economies as a whole. Cryptocurrencies derive value from their utility and scarcity. The anonymity, security, efficiency, and decentralized nature of blockchain-based currencies make them attractive as both a method of payment and an investment vehicle. Since the public enjoys the ability to pay for an ever-growing number of goods and services using cryptocurrencies, value investors use this information to speculate on the currencies’ future value by comparing them to similar physical asset classes. For example, Bitcoin enthusiasts commonly reference the market capitalization of gold to determine the relative value of Bitcoin. This type of speculation can further influence a cryptocurrency’s value.
Despite their increasing popularity, cryptocurrencies exist in finite numbers. For example, Bitcoin carries a maximum capacity of 21 million units, and as of March 2017, there were 16.2 million Bitcoins in circulation. The usefulness and limited nature of cryptocurrencies have fueled cycles of supply and demand, while their transferability and fungibility enable them to exist as tradeable assets.
While the success of any currency depends on public trust, it is particularly important for those currencies that are not backed by a physical commodity, such as fiat and cryptocurrencies. Public confidence in the value and stability of a cryptocurrency is necessary for it to retain its purchasing power and to enable the decentralized system of governance facilitated by the blockchain to continue to be successful. Therefore, negative media coverage, security breaches, and market-related shifts in public opinion can impact the value of cryptocurrencies. While cryptocurrencies exist outside of national legislative boundaries, some degree of governmental trust is also necessary if they are to remain a legitimate monetary system. Regulatory hurdles will not only damage public perception, but hamper a cryptocurrency’s successful operation in a given jurisdiction. On the other hand, governmental support can send a cryptocurrency’s value soaring to new heights. In April 2017, Bitcoin significantly increased in price after both Russia and Japan moved to legalize it. Moreover, the price of Ethereum surged after it was acknowledged as a form of payment by multiple Asian governments.
The technical infrastructure underpinning a given cryptocurrency can also influence its value, as it plays a role in determining a currency's upkeep costs and rate of adoption. Cryptocurrencies supported by more complex blockchains, such as the large proof-of-work blockchain used by Bitcoin, can present energy requirements equivalent to that of a small nation. And while cybersecurity is a top priority for both emerging and established cryptocurrencies, more secure blockchains require more intensive mining processes which, in turn, lead to higher energy costs.
