When we discuss the value of cryptocurrencies, it’s useful to refer to the development of central bank fiat currencies.
Back in 1944, under the Bretton Woods agreement, the value of the US dollar was created using a fixed quantity of gold as the universal standard (US$35 per ounce of gold). This was known as the Gold Standard. Other currencies were also pegged to the US dollar, an agreement that was made to prevent the US dollar from depreciating, whilst promoting international growth.
After a period of growth, the US government became concerned that there was no longer enough gold to cover the number of dollars in circulation. In an attempt to solve the issue, President Richard Nixon devalued the dollar relative to gold, but this would signal the beginning of the end. It caused a run on the US gold supply — everyone wanted to convert their US dollars back to gold. There simply wasn’t enough of it available in Fort Knox, nor was it practical to give people physical gold. As such, the US was left with no choice but to unpeg the US dollar’s value from gold.
By 1973, the Bretton Woods Agreement had completely collapsed. Yet somehow, fiat currencies remain pegged to the US dollar to this day.
Where does anything get its value?
It’s really quite simple. Things only have value because enough people agree they have value.
It was not the gold in Fort Knox that made the US dollar valuable, because it still managed to retain some intrinsic value even after the end of the Gold Standard. Likewise, other currencies were not valuable simply because the US dollar was.
In fact, as long as enough people agree that something is valuable, it becomes valuable. That was how primitive currencies like gold, and sand dollars derived their value. This applies even to the value of artwork. It doesn’t matter why people desire something, only that the desire exists in high enough volumes. This is the point at which economic value is generated.
If you consider it from an economics perspective, as long as there is demand and supply, a price will exist. Theories of Value in economics will provide a lot more detail on this topic.
The given price will depend on the characteristics of the market and just like many central bank currencies, each token in the crypto space has different characteristics to prevent depreciation and help retain its value on the market.
The value of crypto versus shares
In the stock market, a company’s worth is called market capitalization. Market capitalization (or ‘market cap’ for short) is calculated by multiplying the company’s stock price by the number of shares held by all shareholders.
Market capitalization = number of shares x share price
As share prices move, so does a company’s market cap. However, the market capitalization of a company actually starts during its initial public offering (IPO), when the stock enters the market. A third party, usually an investment bank, will valuate the company based on formulae and valuation techniques to determine the price of each share; from there, they can derive the company’s initial market capitalization.
Once listed on an exchange, the price of a share is determined by market forces, including demand and supply. When a stock is sold, the buyer and seller exchange ownership of the share, and that becomes the new market price. Stocks in higher demand will command higher prices and stocks in lower demand will drive prices down.
The same applies to cryptocurrency. Once listed on an exchange, cryptocurrencies in high demand tend to surge and push prices up, whereas price movements on cryptocurrencies in low demand are often minimal.
Scarcity of tokens
A company’s management team always has the authority to issue more shares, thus inducing dilution. This in turn lowers the ownership percentage of existing stockholders in the company. However, for cryptocurrencies, most tokens have a maximum supply; once this supply is exhausted, no new coins or tokens will be mined or produced.
Bitcoin, for example, has a maximum supply of 21 million coins, meaning no one can mine, create, print or issue more than 21 million Bitcoins.
There may be additional forks of Bitcoin, like Bitcoin Cash (BCH), but never more Bitcoin.
Crypto as a useful currency
The characteristics of a good currency are:
1) Fungibility — one unit of a currency is equal in value to another unit (BTC is a better currency than cows)
2) Durability — it is not physically perishable and can be used in future (Euros are a better currency than flowers)
3) Portability — it is easy to move around even in large quantities (a CBDC is a better currency than gold bars)
4) Recognizability — people recognize and accept it, and less effort is required to decide its value (US dollars are a better currency than Guinean Francs)
5) Stability — its value does not change significantly, compared to the goods and services for which it is being exchanged (USDT is a better currency than BTC)
Crypto assets are a good example, and some tokens actually function better as currency than many traditional currencies.
Most crypto tokens have utility and we’re not just talking about ‘utility tokens’ (which give holders access to specific services or platforms). A token’s utility, as a characteristic, can also present in the form of a ‘store of value’ or as a currency. As long as a crypto token is useful to someone, it can be described as having utility, and therefore, having value.
As previously mentioned, a currency can be used as a ‘store of value’, whereby it can be stored and then retrieved at a later date without losing its value. This allows us to use currency as transactions for goods and services. Cryptocurrencies are no different. Like many central banks, tokens in the crypto space have various measures in place to prevent depreciation and help retain their market value.
Cryptocurrency as a store of value
The value of cryptocurrencies can be affected by their supply and demand in exchanges. However, their usefulness or utility in DeFi protocols or Dapps (Decentralized Apps) can also affect their value.
For example, owning a $100 Amazon gift card is usually deemed more useful than owning a $100 voucher for mom-and-pop shop. The Amazon gift card is seen to offer a wider variety of available purchases, ranging from daily necessities and transportation to entertainment devices.
Sure, a mom-and-pop shop’s gift card might be appreciated but it allows the gift card owner to purchase only items available at that particular shop.
The same idea applies to a token like Ether (ETH), which is essential when making transactions on the Ethereum network. When you access Dapps like UniSWAP, the fees are paid in ETH, which increases the value of ETH because of its utility functions.
It’s clear that there is a lot of room for innovation and creativity. A token can be utilized in many ways, all of which contribute to its value. NFTs are good example as they continue to provide new methods and features for investors to extract value from their holdings. Some might even say the possibilities are endless.
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