Putting a price on Bitcoin

A wide spread of prices is a sign of a malfunctioning market?

SCENE: A pet shop with a bored looking proprietor. A customer approaches

CUSTOMER: I’d like to buy a parrot.

OWNER: Certainly, sir. How about this one? It’s a Norwegian Blue. Beautiful plumage.

CUSTOMER: It’s not moving much

OWNER: It is tired and shagged out after a long squawk

CUSTOMER: Fair enough. How much is it?

OWNER: $20,000

CUSTOMER: I’ll pay with this Bitcoin

OWNER: Sorry, sir. On WavesDEX, the Bitcoin is only worth $13,500

CUSTOMER: But on LocalBitcoins, it is over $21,500! Look at the news headlines.

OWNER: Sorry, sir, but I can’t afford the risk. My rent, heat and light are all payable in dollars.

CUSTOMER: But the dollar has ceased to be, it has shuffled off this mortal coil, it is an ex-currency

OWNER: So you say, sir. But at least it's a reliable means of exchange. It doesn’t move much from minute to minute

CUSTOMER: Like this parrot

If ever Bitcoin were widely adopted as a trading currency, this scene would be played out in pet shops and department stores around the land. It seems that every day, Bitcoin seems to hit a new high. But the reported price can move up and down by $1,000 or so within a few hours. This might have made it a great investment for those who got in at the right price and are nimble enough to get out in time. But it doesn't make it a useful means of exchange. When the price is rising fast, those who use bitcoin will be reluctant to part with it; when the price falls, those who sell goods will be reluctant to accept it.

This blogger remains convinced it is a bubble. Indeed its exponential rise only reinforces the argument. The beauty of bitcoin is that its intrinsic value is impossible to determine and that makes any value plausible to true believers. This is not the same as saying there is no merit in electronic currencies or blockchain technology; of course there is. But the range of prices which can be found on cryptocompare shows this is a narrow, illiquid market.

The arrival of bitcoin futures on the CBOE and the CME might have been expected to bring maturity to the market, and to establish a reliable price. But the FT reports that some of the biggest banks including JP Morgan and Citigroup are unwilling to act as market-makers. That is not too surprising. Any market-maker has to hedge its own positions and that looks very hard when the underlying market has such wild swings.

And this is good news really. Bitcoin is moving around so much because it is small and illiquid. And because it is small and illiquid, it is not yet a systemic risk as Sir John Cunliffe of the Bank of England recently pointed out. As such it is an entertaining sideshow at a time when many world headlines are gloomy. The recent weakness of gold suggests that some of the fervent bullion believers have jumped on the bitcoin bandwagon instead.

No one can tell when the peak will be reached any more than they could with tulips or dotcom stocks. Even Sir Isaac Newton was caught out by the South Sea Bubble. People always believe that the latest revolutionary thing is unprecedented and unstoppable. But such rapid price gains always end unhappily.

To quote Monty Python again:

"Tell that to the young folk these days and they won't believe you."

By StreetLevelPundit