The Bitcoin bubble: four predictions about the future of cryptocurrency

The market is filled with irrational exuberance when it comes to Bitcoin, and this could affect whether or not the cryptocurrency becomes a legitimate form of payment in the near future, says UNSW Business School's Elvira Sojli

When will the Bitcoin bubble burst? Several companies, including Tesla, recently announced plans to accept the cryptocurrency as a legitimate form of payment. Just last month, CarBuyers.com.au announced the launch of a new payment system to allow Australians to choose Bitcoin as the preferred payment method. But this week, the price of a single Bitcoin slid below US$45,000 (A$57,800) for the first time in almost three months.

Although cryptocurrencies have been around for some time, many foresee that Bitcoin, and digital currencies in general, will soon become a legitimate form of payment. But will the value of Bitcoin bounce back? How will volatility affect its legitimacy as an accepted means of transacting?

Cryptocurrencies are a two-sided market: it takes both users and providers to grow the market, so the more people who use cryptocurrencies as a means of transaction mean more businesses will be willing to accept and transact with them (and vice versa) according to Elvira Sojli, Associate Professor of Finance in the School of Banking and Finance at UNSW Business School.

“The more businesses take it as a means of payment, the more people’s confidence in these types of currencies will increase and the more widely they will be used,” she reiterated. So left to their own devices, and given the snowball effect of large corporations increasingly accepting these forms of payment, A/Prof Sojli said she foresees the use of cryptocurrencies will grow significantly in the near future. 

When will cryptocurrencies become legitimate?

Cryptocurrencies will likely become an accepted and legitimate form of payment, and A/Prof. Sojli said the reason for this is straightforward. “It’s because the main stakeholders in the financial system are starting to use and accept them. So, if BNY Mellon decides that they will hold accounts in Bitcoin, that will make life easier for those that have Bitcoins,” she explained.

For example, if MasterCard and PayPal allow people to use it as a means of a transaction, and businesses show that they are happy to take it, more people will be comfortable with it. Even Twitter recently announced it was considering paying employees in Bitcoins, explained A/Prof. Sojli. “Once employers start to think about, 'Oh, I could pay you in Bitcoin' then again, it becomes more accepted, it becomes more prevalent,” she said.

Nevertheless, several other factors could play a decisive role and act as potential barriers to their adoption more widely, and ultimately, it’s important to remember that most cryptocurrencies are only worth as much as people are willing to use them and accept them.

Read more: Three useful things to know about Bitcoin risk, returns and diversification

For example, if an employee is being paid a year’s salary in one Bitcoin, and the value of that one Bitcoin decreases (which is likely given the value of Bitcoin can fluctuate by up to 70 per cent), then their pay could shrink suddenly and significantly. 

“So there are a lot of issues to consider in this space, but at least it has started the conversation, and people are thinking about it; institutions are thinking about it,” said A/Prof. Sojli. So while the increased use of cryptocurrencies will eventually lead to the cohabitation of national paper currencies, that doesn’t necessarily mean the value of cryptos will remain the same (especially Bitcoin’s). 

Bitcoin’s value is highly volatile

Bitcoin’s price is volatile. Looking into the next six months, and at how high the price of Bitcoin has been recently (and given the value of most other cryptocurrencies follow Bitcoin's lead) A/Prof. Sojli predicted it is extremely likely it will decrease in value. “There’s just a little bit of irrational exuberance in this market right now, and I cannot see how the Bitcoin (transaction) market is 50,000 times as large as the US market," she said. 

“I can say that the growth in the Australian economy maybe is 5 per cent higher than that in the US economy. The Aussie dollar may appreciate by up to 5 per cent, but I can’t foresee that there will be 50,000 times more growth in the Bitcoin economy than in the US economy. It’s hard to justify the current levels; it was hard before [and] it’s even harder now,” she added.

Indeed, just this week, Elon Musk implied in a Twitter post that Tesla may sell or has sold some of its Bitcoin holdings, a change of mind he said was sparked by escalating environmental concerns over the sheer amount of power required to process Bitcoin transactions. Does this mean the Bitcoin bubble will burst?

Read more: What Tesla’s $1.5 billion bet on Bitcoin means for crypto legitimacy

“I hesitate to call anything a bubble because we don’t know what the underlying value is. And most people will argue that fiat currencies like the Australian dollar, the US dollar, the Euro also don’t have an underlying value, to which I say the underlying value of all of these currencies is their economy,” she said.

“Bitcoin doesn’t give dividends, does not give interest, has no cash flows. So the only way that people will get any payout from any potential investment in Bitcoin is by increases in the price of Bitcoin and more people buying it and pushing the price up… I think that it is difficult to justify the current valuation,” she said.

The real question, according to A/Prof. Sojli, is whether central banks will set any significant intervention (and limitations) and whether they will accept digital currency transactions (or even issue their own).

Central Banks issue their own digital currencies

With time, many regulators and central institutions (i.e., government) will “get their act together and get into this market” in the sense that they will issue their own central bank-issued digital currencies (CBDC), said A/Prof. Sojli.

“Think of China’s Yuan. We will all be moving in that direction. So there will be competition. If the only reason why people are using cryptocurrencies is because of their lack of transparency, we may have difficulties in implementing CBDCs.

“However, if users like the other aspects of cryptocurrencies, e.g., the immediate settlement [which] makes it easy to cross borders, [and] there are no more exchange rates (only need on currency to pay everywhere), then CBDCs will be able to perform all those other functions,” she said.

Read more: Is the future of money digital? Why the CBDC is a game-changer

Risks and potential government intervention

Once people are comfortable with accepting cryptocurrencies, there is the question of national boundaries and macroeconomic stability, which might warrant potential intervention from governments. Naturally, governments want stability in prices and stability in the economy. “They do not want money circulating outside of the purview of the central bank because then they cannot really control what’s happening to prices and keep inflation in check,” said A/Prof. Sojli.

But volatility is another barrier. How much money are people willing to put on the line for something whose value moves so fast? “If you wanted to buy a Tesla car with Bitcoins, a month ago, you would have needed two Bitcoins, right? But if you want to buy now, you only need one,” A/Prof. Sojli said.

“There are huge movements in these cryptocurrencies, and unless they become a lot more stable, it will be more difficult for people to accept them and while they use them because, in the end, all of us get paid in whatever is our national currency when we put money in the banks, the banks accept our deposit in the national currency,” she said.

Dr Elvira Sojli is an Associate Professor of Finance and Scientia Fellow Alumni in the School of Banking and Finance at UNSW Business School. Dr Sojli's work focuses on empirical industrial organisation at the firm and market level, understanding the role of and determinants of women's participation in innovation, and the international aspect of differences across countries and disciplines.