Blockchain creates volatile bubbles with zero value assets

An asset bubble is defined as the difference between the asset's price and its fundamental (or intrinsic) value. The fundamental value is the present value of future cash flows from the asset’s ownership (dividends for stocks, coupons for bonds, rents for rental property, imputed rents when the property is owner-occupied...). To answer the question of viability, a cryptocurrency is what economists call a pure bubble, an asset with no intrinsic value - its price will fall to zero if market confidence in it disappears - in other words, its fundamental is zero. More generally, whether its fundamental is zero or positive, the price of any asset available in limited quantities can reach very high values, well beyond this fundamental, thanks to self-fulfilling beliefs: I'm prepared to pay a high price for an asset if I think someone will buy it back from me tomorrow at an even higher price on average; and this next buyer will hold the same reasoning, ad infinitum. Technically, one must correct for the interest rate on other available assets and for any risk aversion, especially as these bubbles are so volatile. [For the exact conditions under which an asset can become the subject of a bubble, see my two Econometrica articles (1982 and 1985), as well as my article with Emmanuel Farhi in the Review of Economic Studies (2012) on the potential use of bubbles as a store of value by financial intermediaries, generating booms and then crashes in economic activity. The 1985 article also discusses the complex link between the value of an asset as a medium of exchange and the existence of a bubble; even if a pure bubble such as bitcoin can a priori serve as a medium of exchange, the fact remains that its value falls to 0 when confidence disappears].

The risks

Bubbles are generally even more volatile than fundamentals. In the case of crypto-currencies, the uncertainty stems not only from the variability of investors' "sentiments" (using Keynes' expression) and the concomitant possibility of the bubble bursting. It also stems from the behavior of miners (the actors who verify and record transactions on the blockchain, in return for remuneration via the creation of crypto money). No one can prevent a fork, the process by which the cryptocurrency splits into two branches, neither of which is recognized as legitimate by all players (though small minority forks tend to vegetate); the holder of one bitcoin, say, then ends up with two bitcoins: let's call them the "yellow" bitcoin and the "red" bitcoin. The money supply is immediately doubled by the splitting of a single currency into a yellow and a red currencies! Another source of uncertainty is that a consensus may develop if the maximum issuance quantity decided at the outset is challenged as deflationary or insufficient for exchanges, and concomitantly increased.

A lasting bubble?

There are long-lasting bubbles: gold (which has intrinsic value, but whose price far exceeds what it would fetch if treated as a commodity and used for industrial or decorative purposes - i.e., its fundamental value), or fiat currencies (the dollar, pound or euro). Yet the history of financial markets is punctuated by bubbles that end in crashes, from the Dutch tulip bubble of the 1630s and the South Sea bubble of 1720, to countless stock market and real estate bubbles. No one can say with certainty that bitcoin will collapse. It could become the new gold. But I wouldn't bet my life savings on it, and I certainly wouldn't want regulated banks and insurance companies to speculate on its value without sufficient capital, reaping the gains and mutualizing the losses (with the state through a bailout or with uninsured depositors footing the bill in the event of financial difficulty), as the saying goes.

Social value

Risk is part of the market economy and an essential driver of growth. That's not to say that all risks are socially equal. The companies that set out in search of a vaccine against Covid took a considerable risk, despite generous public subsidies. Those that succeeded made substantial profits; they provided immense social value in terms of lives saved, mental health and the avoidance of unprecedented economic costs. On the other hand, and with an important caveat to which I'll return later, the social value of bitcoin seems to me rather elusive.