Bitcoin was created as an alternative to traditional currencies. Among its advantages over fiat money are decentralization, anonymity, lack of centralized control, and protection from inflation. In this article we will tell you how this cryptocurrency is secured, because the security mechanism is one of the most important characteristics of any asset.

Formats for providing currency and cryptocurrency

There is no consensus on what currency security is and how to measure it. To understand this topic at least a little, you need to take into account the points of view of various experts, as well as compare cryptocurrency with traditional money and the formats for their collateral.

Backing options for traditional currencies

Once upon a time, money made from precious metals such as gold or silver was used throughout the world. Their nominal value always coincided with the price of this metal, and they were provided with it.

Later, a gold standard system emerged, which allowed the use of paper notes backed by precious metal. With their help it was much more convenient to pay. The denomination of such a banknote strictly corresponded to the amount of gold for which it could be exchanged.

In the 70s of the last century, the gold standard was abolished and was replaced by fiat, or fiduciary, money. This currency is not backed by gold or any other tangible asset - it is simply accepted by the government as legal tender. Its price is controlled by central banks. However, it is also wrong to say that fiat money is not backed by anything: there are intangible assets behind it. First of all, this is the economy of the country to which the currency belongs, its GDP, authority in global politics and other factors.

As for Bitcoin, we can say that it is also not backed by tangible assets, but there are different opinions about intangible value.

Duration of existence

The first BTC block was generated on January 3, 2009.

Crypto enthusiasts note that Bitcoin has been constantly criticized since its inception, but continues to develop.

Skeptics, in turn, point out that traditional money has existed much longer than cryptocurrency, which means it is more reliable.

Mining

Another factor that causes frequent controversy is mining.

Crypto enthusiasts claim that Bitcoin is backed by the electricity spent on mining, as well as the cost of equipment, its maintenance and other expenses.

But skeptics say that this is a misconception, because Bitcoin cannot be exchanged back for electricity. It only partially reflects the cost of the asset. In addition, there is no guarantee that the finished coin will recoup the costs or that it is worth anything at all. Spending only determines the minimum price of Bitcoin at which mining is profitable. However, in market conditions it is not always possible to sell goods even at cost, although it happens that the selling price is many times higher than costs.

Thus, mining cannot be considered a mechanism for securing Bitcoin, although it has reached an industrial scale in which huge resources are invested in it. This indicates the real demand for cryptocurrency at the moment.

Secured cryptocurrency

Two types of collateralized digital assets are worth mentioning separately:

  • Stablecoins are digital assets whose exchange rate is pegged to the value of fiat currencies or precious metals.

  • Tokenized assets are coins whose rates are tied to traditional exchange-traded instruments, such as stocks, bonds, and funds.

Such assets are traded on cryptocurrency exchanges along with other digital currencies. They also do not back Bitcoin, but support the overall liquidity of the cryptocurrency market.

Study

In 2018, Yale University economists Yukun Liu and Oleg Tsyvinsky conducted a study to determine whether Bitcoin could fall to zero. Experts analyzed the historical price dynamics and came to the conclusion that the probability of a complete depreciation of the main cryptocurrency is only from 0 to 1.3%.

Now Bitcoin is no longer just a cryptocurrency, but a huge financial sector with a developed infrastructure worth hundreds of billions of dollars. For it to be completely worthless, all of this must disappear.

Financial pyramid or bubble

Bitcoin is often compared to a financial pyramid or bubble. To understand how true this analogy is, let’s figure out what is meant by these two concepts.

Financial Pyramide

A financial pyramid is a project in which participants invest money in a common fund, while those who previously invested receive profits from the funds of new investors. Over time, there are more and more participants who make profits and withdraw money. At some point, the outflow of funds exceeds the inflow. At this point, the pyramid collapses, that is, it goes bankrupt, payments stop. Investors who did not manage to withdraw their money are left with nothing.

financial bubble

A financial or economic bubble is a situation in which the market rate of an asset deviates significantly from its fair price. This can happen with both exchange-traded and physical assets - for example, real estate, metals, energy resources, raw materials, etc.

As a rule, the value of an asset increases significantly due to rush demand. This further increases investor interest and provokes further price growth. An additional and sometimes the main factor causing this phenomenon can be fake news or distorted statistics.

There comes a time when the influx of new investors is no longer enough to further increase the price. At the same time, early investors, having made a profit, begin to sell assets. As a result, the course turns in the opposite direction. The lower the price, the more investors panic and sell the depreciating asset.

As a rule, the rate of decline significantly exceeds the rate of growth. This shows a resemblance to a deflating bubble, which is why the phenomenon got its name.

Moreover, after the bubble is deflated, the assets do not disappear anywhere:

  • shares continue to be traded on stock exchanges;

  • metals have the same properties;

  • real estate fulfills its function.

Such assets have real value, that is, they are secured. This is the fundamental difference between a financial bubble and a pyramid.

During the history of cryptocurrency development, there have been several situations similar to the phenomenon of a financial bubble:

  • In 2013, Bitcoin rose in price from $100 to $1,200, after which it began to fall in price sharply.

  • In 2016-2017, the BTC rate rose from $700 to $20,000, and then also fell.

  • In 2019–2021, the price of Bitcoin increased from $3,000 to $65,000, and then began to decline sharply.

That is, each time the maximum price of the asset was significantly higher than the previous record. This trend allows us to unequivocally state that Bitcoin is not a financial pyramid and its price depends on the balance of supply and demand.

However, we note that there were many other projects in the cryptocurrency market that also showed significant growth during the global bullish trend, and went bankrupt and disappeared during the bearish trend. In this they were similar to typical financial pyramids.

This is one of the features and dangers of the cryptocurrency market: here financial pyramids exist in parallel with reliable projects. In addition, there were many companies that could not develop in negative market conditions or could not withstand competition.

Economic features

If the value of fiat money depends on trust in the state, then the value of Bitcoin depends on trust in the technology itself. Accordingly, the more people and companies use cryptocurrency, the higher its value.

Network effect

In economics there is such a thing as a network effect. This is a phenomenon in which the value of a product or service for one consumer depends on the number of other users of this product (service).

This effect was first discovered with the advent of telephone communication. The more subscribers connect to the network, the greater the benefit for each of them. This is even more noticeable on the Internet, especially in social networks and instant messengers. Online communication and publishing content have gained particular value with the advent of social networks and due to their mass popularity.

Now the same thing can be seen in the cryptocurrency space. Its main value lies precisely in its mass and global distribution. Thus, the Binance exchange currently has more than 128 million registered users from all over the world.

Variety of possibilities

According to Peter Thiel, co-founder of the PayPal payment system, businesses designed for network effects often start in narrow niches. For example, Facebook was originally created for Harvard students, and Bitcoin was launched in the community of programmers, who were a narrow and small group of people capable of understanding its technical details.

When such phenomena become widespread, their value no longer depends only on the number of users, but also on their diversity. For example, the Internet brings together international corporations, banks, online stores, social networks and many other companies from a wide variety of fields. They all make up one global infrastructure. Likewise, Bitcoin unites a large number of different organizations. Among them:

  • cryptocurrency exchanges;

  • stock markets and forex brokers, which also allow you to trade digital assets;

  • various services operating in the cryptocurrency market and beyond;

  • a huge number of companies accepting Bitcoin as a means of payment.

The unique functions of blockchain, which can be used in many areas, also play an important role. Many innovative markets have already been created on the basis of decentralized technologies - DEX exchanges, DeFi, GameFi, metaverses, NFTs, DAOs and others. They are currently in their early stages of development, but each has the potential to grow into a huge industry.

In addition, blockchain technologies have already been introduced to one degree or another into foreign markets, and their number will only increase in the future.

Thus, Bitcoin simultaneously performs the function of a global currency, an investment asset and a high-tech instrument. In some ways, it is even better backed than many traditional currencies. At the same time, no state can completely control it.

Payments in cryptocurrency

Cryptocurrency payments are accepted:

  • Microsoft is the most successful software corporation;

  • PayPal is the most popular payment system in the world;

  • Starbucks Coffee Company is an international coffee retailing company and coffee shop chain of the same name;

  • Shopify is a software developer for retail and online stores;

  • Travala.com is a popular travel booking platform;

  • AT&T is an American multinational telecommunications conglomerate.

You can add many more of the world's largest corporations from different fields of activity to this list. They can accept cryptocurrency payments directly or through special services. In any case, this contributes to the general adoption of Bitcoin and increases its liquidity.

Emission

This is an important indicator that affects the value of any asset. The issue of fiat money is controlled by government regulators. Depending on the current economic situation, they can increase or decrease the amount of money in circulation.

The Bitcoin supply was set by the developer and no one can change it. The maximum number of BTC coins is 21 million. At the beginning of 2023, 19.2 million were produced.

Factors influencing the price of Bitcoin

  • The market value of Bitcoin is determined by:

  • Availability. The more ways there are to buy and use Bitcoin, the more people do it and the more stable its rate.

  • Offer and issue. The rate at which new coins are generated is limited and often lags behind current demand. This provokes an increase in price.

  • News background. The price of cryptocurrency is influenced by news disseminated by the media, including false ones.

  • No inflation. All fiat currencies in the world, unlike cryptocurrencies, are subject to inflation. This means that in the long term, Bitcoin will rise in price relative to fiat money.

  • Regulation. States can stimulate the demand for cryptocurrency by adopting friendly laws or, conversely, limit demand through various bans.

  • The situation on foreign markets. Depending on the situation in other markets, the money supply may flow into or out of cryptocurrency.

  • Competition. Bitcoin is considered the main cryptocurrency, but it is far from the only one. The more new successful projects, the smaller the share of Bitcoin in the total.

  • Mining costs. The lower the Bitcoin exchange rate, the fewer miners sell it, and vice versa.

Cryptocurrency has a unique value that lies in its technology. It made it possible to create a unique virtual environment where users can carry out mutual settlements without the participation of a third party. The number of projects is constantly growing, and this opens up new opportunities.