Why Economists Think Bitcoin May Continue Its Downward Slide

After sliding from nearly $10,000 in May, the price of bitcoin seemed to turn a corner at the end of July: the popular cryptocurrency broke through the $8,000 level, after falling to just below $6,000 at the end of June. But, this week, bitcoin has started to slide again, raising the specter that further declines could be ahead for the digital currency.

The news came this week, for example, that Goldman Sachs believes that bitcoin is in for a rocky road: “We expect further declines in the future given our view that these cryptocurrencies do not fulfill any of the three traditional roles of a currency,” Sharmin Mossavar-Rahmani, chief investment officer of the bank’s Investment Strategy Group, has written.

Currencies traditionally have several functions — none of which cryptocurrency arguably fill. For starters, currencies are typically defined as a store of value, a medium of exchange and a unit of measurement — and bitcoin doesn’t exactly meet those definitions. It’s hard to say that bitcoin is a store of value because of its wild price swings, for example, and it can be hard to exchange bitcoin due to slow transaction speeds. In addition, it’s hard to use bitcoin as a unit as measurement because its supply and value keep changing.

At the same time, the New York Times’ Nobel Prize-winning economist Paul Krugman introduces a point that dovetails with the difficulties of bitcoin as a medium of exchange: the advent of crypto bucks the trend of moving toward frictionless transactions. Payments have moved from cash to check to credit and debit cards and then digital methods, supposedly making transactions easier. Cryptocurrency? Well, exchanging bitcoin can be a pain.

In order to transfer bitcoin or another digital currency, one must provide a history of past transactions. And “instead of money created by the click of a mouse, we have money that must be mined — created through resource-intensive computations,” Krugman wrote. Recently, for example, Morgan Stanley analysts have estimated that bitcoin miners lose money when the price of the once high-flying digital currency is below $8,600. Incidentally, the price of bitcoin is now well below that, trading around $7,500 as of mid-day Wednesday (August 1).

Additionally, Krugman argues that bank notes are issued by governments and central banks that have a reputation to keep. Bitcoin? Not so much. Fiat currency is backed by government “and this means that their value isn’t a bubble that can collapse if people lose faith,” Krugman pointed out. On the contrary, bitcoin’s value can be propped up by speculation, and, if people lose confidence in bitcoin, the currency could, well, collapse.

In all, bitcoin’s purchasing value is not really predictable a year from now, but the value of fiat currency, by contrast, is, because it is backed by the faith and credit of a government. As a result, fiat currency is somewhat predictable, although no currency’s value is guaranteed over the long term. The same can be hardly said about crypto, which has wild volatility compared to most currencies: bitcoin was worth nearly $20,000 last year, and it is only worth a fraction of that today.