Four Factors Driving The Price of Bitcoin
Alicia (Lucy) Cameron, Kelly Trinh, 15 Nov 17
       

The price of Bitcoin has slumped after a failure to agree on a new direction. Shutterstock

The price of Bitcoin has dropped to around A$8,000 in the last few days, after almost hitting A$10,000 in the past month, and rising over 1,850% since 2015. All of this shows how volatile the currency is, prompting the question, what leads to such huge movements?

Our ongoing research reveals four factors that affect the price of Bitcoin. These include media hype and uptake by peers, political uncertainty and risk (such as the election of Donald Trump or the vote for Brexit), moves by governments and regulators, and the governance of Bitcoin itself.

It is likely the last factor that has driven the latest drop in the price, as a proposed Bitcoin split (or “fork”) failed to gain support from developers towards the end of last week. The split would have doubled the number of coins in circulation (as previous splits have) and increased transaction speed.


1) Animal spirits

Economists have long had a notion that psychological factors affect investor decisions. This is called “animal spirits” and refers to investors making decisions based on the behaviour of other market participants and their own intuitions, rather than hard analysis.

Analysis of the price of Bitcoin shows that positive media coverage is one of the main factors driving the price.

Positive media coverage of new technologies causes a well-known hype-cycle – a peak of hype is followed by a “trough of disillusionment”.

This was most apparent in the early days of Bitcoin, when mainstream press started to report on the new currency and caused a number of short price spikes and collapses. As media coverage increases and other factors are brought in, it is harder to distil the effect of the media alone.

Something similar happens when high-profile companies go public, as investors “pile in” and the value rapidly increases from a low base. Think of a company like Twitter, which saw a huge sharemarket “pop” when it went public.

2) Political risk

Political risk around national currencies can also affect the price of Bitcoin as people use it to hedge against price movements in a particular currency, or they need to quickly move large amounts of value out a country or currency.

The economic crisis in Greece in 2015 was followed by reports of increased buying of Bitcoin by Greek citizens wishing to protect their wealth. This did not seem to affect the price of Bitcoin on global markets, however, which remained steady between A$300 and $400 for most of that year.

But nervousness about the national referendum for Britain to leave the European Union (Brexit) on June 23 2016 did lead to an increase in the price of Bitcoin alongside a decrease in the value of the British pound.

The pound started plummeting around May 20 2016. By July 25 it was more than 10% below its pre-Brexit value. For the same period the price of Bitcoin increased by over 65% (from £302 to £502).

The election of Donald Trump as US president was also followed by two months of steep rises in the price of Bitcoin. Many attributed this to uncertainty in the US economy.


3) Regulatory moves

Regulators around the world have had to catch up to the rise of Bitcoin. They must decide, for instance, how it will be treated by the tax system, or whether and what regulation applies to its use.

Two events in particular highlight the impact regulations can have on the price.

The announcement that Bitcoin would be considered legal tender in Japan pushed the price of Bitcoin up by 2% in just 24 hours, and increased the price globally by 160% for the next two months.

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