Cryptocurrencies function as exchangeable assets, similar to stocks, commodities, and securities. Their valuation reflects market interest in purchasing them, known as demand, and the quantity available for purchase, known as supply. The interplay between these two factors determines their price.
In the last few days, the crypto market has seen ups and downs in Bitcoin pricing. It went up to $71k and then fell to $67k (Bitcoin Price) but the future for cryptocurrencies looks a little bit brighter. Standard Chartered predicted upward trends for bitcoin in the next few days, because of the approval of ETFs by the U.S. Securities and Exchange Commission. That brings up the question, what determines the price of the cryptocurrency? Is it just the acceptance by the government policies or is it deeper than that? In this article, we will try to find this out.
When there is substantial interest in a specific coin coupled with a restricted supply, the result is a price surge. Occasionally, the demand for coins escalates irrespective of the currency's actual value, a situation referred to as overbought. Conversely, when a large coin volume is offloaded without a justified cause, it is classified as oversold.
Costs of Production and the Value of Bitcoin
Like other tradable assets, the market value is influenced when you buy Bitcoins. Various studies suggest a strong correlation between the marginal cost of mining Bitcoin and its trading price in the cryptocurrency markets.
In the context of Bitcoin, the expense of production is essentially a combination of direct fixed costs, primarily infrastructure and electricity needed for mining the digital currency, and an indirect cost associated with the complexity of its algorithm.
Bitcoin mining involves a competitive network of miners striving to decode an encrypted number. The first miner to accomplish this receives a reward in the form of newly created bitcoins along with any transaction fees gathered since the discovery of the last block.
1. Supply
In digital currencies, 'supply' encompasses two aspects:
The cap on supplies can significantly diverge across different cryptocurrencies; some have caps reaching into the millions, while others span trillions or even quadrillions of tokens.
Typically, a digital currency with a lower supply is deemed rarer and consequently tends to have a higher price tag. Bitcoin is a prime illustration of this, with its maximum supply firmly capped at 21 million. Traditionally, Bitcoin has been the highest-priced digital currency due to its finite availability of 21 million units, with no mechanism for generating more.
Some digital currencies employ a procedure known as 'burning' to decrease their supplies. This involves relocating tokens to a wallet that is not accessible, thus removing them from the pool of circulating tokens. While this is often advertised as a strategy to boost a digital currency's value, a reduced supply doesn't necessarily translate to an increased price. Other factors must also be in place for this tactic to yield results.
2. Competition
Other cryptocurrencies, particularly those that function similarly within the market, serve as competition. While Bitcoin and Ethereum are cryptocurrencies, they do not directly rival each other. Bitcoin is recognized primarily as a digital asset that holds value. Ethereum is known for its smart contract blockchain.
Direct competitors of Ethereum are other blockchains that also offer smart contract functionality, such as Cardano and Solana (SOL -1.07%). Since these projects aim to fulfill similar functions, users often prefer one. For instance, if most developers begin to favor Solana, it could harm Ethereum and Cardano.
3. Dumping and Pumping
The interplay of supply and demand can influence the price of a cryptocurrency to a certain degree. An artificial scarcity can be created by deliberately matching all open orders for a specific crypto across various exchanges.
As the market recalibrates, the price experiences a sharp increase. Major cryptocurrency holders can exploit this surge by selling off their coins, which drives the price down. Despite being aware of these strategies, preventing them is not straightforward, as those employing such tactics know how to remain inconspicuous.
Endnote
Numerous elements play a role in determining the cost of cryptocurrency transactions. It's vital to comprehend these factors, such as exchanges, media stories, government policies, and supply and demand. This understanding will serve as a bonus for traders, helping them make the right trading choices.
