How Bitcoin Demonstrates the Value in Facebook

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One bitcoin is worth $700,000. Or $0. Or $1,300. Now that this specific cryptocurrency is mainstream, everyone has an opinion on its exact value. Some have brought up other Bitcoin competitors, like Litecoin and the tongue-in-cheek Dogecoin, as an example of just how unvaluable and easily created something like Bitcoin is. However, the fact that Bitcoin has held its value despite these competitors demonstrates its moat, one that it shares with many other companies: network effects.

Network effects, the same thing that gives Bitcoin value, give Facebook  (NASDAQ: FB  ) , Twitter  (NYSE: TWTR  ) , and eBay  (NASDAQ: EBAY  ) value. The more people who use these networks, the more valuable they are for each user.

Bitcoin's first network
There are actually a few networks that generate value for Bitcoin. One is the network of buyers and sellers who use the digital currency. For each merchant that accepts Bitcoin, it strengthens the case for someone to take part in that economy. Like eBay, the more buyers and sellers, the more opportunity to find someone to buy what you have or to sell what you are looking for. Like eBay's PayPal, the more sites that integrate the payment option into their business, the easier it can gain customers.

And stunningly, even though they've been around longer than a decade, eBay and PayPal's user bases are growing at increasing rates. In the last two quarters of 2011, eBay's active marketplace customers grew 6% compared with the year prior. In the previous two quarters of 2013, active customers grew 14% over the previous year. For PayPal, active accounts grew 13% and 14% for the late 2011 quarters, and grew 17% over the prior year in the latest quarter.

While Litecoin offers many of the same benefits of Bitcoin, and even claims improvements over Bitcoin, if it can't offer this network of broader acceptance, it won't be a viable competitor.

Bitcoin's second network
The next network that Bitcoin capitalizes on is a bit technical. Simply put, the network of peers that confirms each Bitcoin transaction supports the value of Bitcoin. The more peers holding this ledger of transactions, the harder it is for one entity to take control of the Bitcoin network and write its own fraudulent transactions. Its substitutes, like Litecoin, have significantly smaller networks to protect against the potential fraud that can occur when one entity takes control of a majority of a network.

The same can be said for Twitter and Facebook, where the network of peers makes these services valuable. One could compare the network of Bitcoin peers that record each transaction to the lists of friends and followers that support the value for each individual Twitter and Facebook user. Without these peers actively using these services, they are useless.

Creating a service that provides what Twitter or Facebook provide is relatively simple, just as it's easy to create yet another cryptocurrency. But the differentiator is the user base. So, when reports of declining user activity of Facebook users pop up, investors should take notice. In the latest conference call, Facebook CFO David Ebersman said that the company saw a decline in daily users, "specifically among younger teens."

On the other hand, according to Pew Research, Facebook still reigns in terms of percent of adults following a specific social network, with 71% compared with Twitter's 18%. And Facebook still rules in terms of daily use, with 63% of its users arriving daily versus Twitter's 46%.

As long as Bitcoin keeps ups its own lead in peer network size, pointing to other cryptocurrencies and their ease of creation as a reason for Bitcoin's lack of value is not a sound argument. It's easy to copy many things, but the network supports the true value.

Exponential growth of value, not users
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Read/Post Comments (3) | Recommend This Article (7)

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  • Report this Comment On January 01, 2014, at 9:20 AM, VikingBear wrote:

    Can anyone tell me at what point the collapse of a Ponzi scheme is triggered? Are there any precoursers or or hints that the bubble is about to burst?

    I recall observing soap bubbles. Their skin gives evidence of impending collapse when the light falling on them shows swirls of color rapidly accelerating, and darker spots appearing among them. Popping happens within seconds after the spots appear.

    The population segment that drives Facebook, et al, is still expanding, athough at a slower rate. Perhaps this is like the soap bubble colors speeding up. As the physical limits are approached, the spots appear, and the popping is imminent.

    What are the spots for Zombie Money? Rapidly approaching physical limits to growth, as the pool of late arrivers diminishes, may be one. Government reaction and supression may be other spots.

    What will you be left holding when the pop happens to Bitcoin? Probably just a bad memory.

    If you consort with Zombies, spend their money as soon as you get it, or exchange it for whatever you can get that has intrinsic value.

  • Report this Comment On January 02, 2014, at 11:10 AM, Biloxi8 wrote:

    Bitcoin is designed for people who do not want to reveal their identity. Why on earth would they use facebook? The idea of bitcoin is to be independent from all government control. The value is determined not by governments of the federal reserve. It cannot be taxed,cannot be traced, but there are serious risks due to its volatility. I think that governments have realized the threat bitcoin poses to their currency and the entire monetary system as we know it. First they tried banning it, but plan#2 is to bring it under the control of world government, which is the exactly opposite to bitcoin's concept.

  • Report this Comment On January 06, 2014, at 2:01 AM, jdereg wrote:

    Although a simple question, "What gives Bitcoin value?", the answer is not as simple as the question. What gives Bitcoin it’s value, can best be answer by the formula

    PB = (SW + TX) / BC

    The value of a Bitcoin is derived from the total value of the Bitcoin used for storage of wealth (SW) plus the total amount of the Bitcoin required for concurrently transacting in it (TX). The sum of these two numbers divided by the amount of Bitcoins in circulation (BC) (currently 12.2 million, ultimately 21 million), will give you the price of Bitcoin (PB).

    There are estimates of the total amount of gold in existence (mined) in the $10-13 Trillion range. If $1 Trillion (10%) of the amount of wealth that would have gone into gold, instead lands in Bitcoin, that would increase the price of Bitcoin to ($1Trillion + TX) / 12.2 million, or by $83,000 per Bitcoin. Remember, this leaves out the TX component, which will further increase the price of Bitcoin. Over time, funds will shift from other asset classes being used for wealth storage to Bitcoin.

    There are many advantages to storing wealth in Bitcoin as opposed to specifically gold, for example, as you can divide Bitcoin into very tiny pieces (difficult with gold) and you can send Bitcoin to someone on the other side of the planet within minutes (impossible with physical gold). These use cases illustrate why Bitcoin is a good alternative for gold (and other assets) for storage of wealth.

    From a transaction perspective, as more citizens, businesses, and governments transact in Bitcoin, the amount of ‘wealth’ that must be placed into Bitcoin must be large enough to allow these transactions to happen.

    For example, if it becomes common place for real-estate purchase payments to be processed via Bitcoin, then the amount of value in Bitcoin required to allow this to happen will need to be as large as the current working set of real estate transactions in progress. This logic applies to online sales and brick and mortar sales. If, on a daily basis, $250 Billion is required to allow all Bitcoin transactions to occur, the Bitcoin price only in terms of TX requirements, is $20,500.

    The price of Bitcoin (PB) = (SW + TX) / BC. SW and TX will both change as time passes. In geek terms, SW, TX, and BC are functions of time f(t). Therefore to more accurately predict the price of Bitcoin, you need to estimate these two components for a given time, and then divide by the number of Bitcoins in circulation. BC can easily be obtained from many websites and is updated live.

    Bitcoin works well as a storage of value and for financial transactions, therefore it will often be used as a substitute for both currency as well as common wealth storage assets (e.g., gold). Bitcoins utility (global register – the block chain) is what makes this possible. The worth of Bitcoin comes into play because of this utility, wealth storage and transactions will happen ontop of this platform. And using the formula above, the price of Bitcoin (PB) can be computed by estimates of these two quantities.

    John DeRegnaucourt

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