Bitcoin is circling $10,000 again, and of course, you are wondering what will happen next. 2020 is a special year for Bitcoin in many ways. One of them is even written by Satoshi Nakamoto himself into its DNA — yes, the halving. The next halving is estimated to occur on 12 May 2020, so let’s take a closer look at what will happen afterwards.
There are many theories about what halving does to price, and most have some reasonable basis in economics. Although they often do not speak about it explicitly, they point to changes in the supply and demand side. Economists like this simple model. If we expect a decrease in supply or an increase in demand, Bitcoin should grow. Let’s together economically dive into halving and see why Bitcoin should — or shouldn’t — rise to new all-time highs.
Supply: Bitcoin Inflation Falls to 1.8%
That’s the whole principle of halving. Instead of 12.5 BTC, the reward is halved in May 2020 to 6.25 BTC. Only about 900 coins will be created every day instead of the current 1800. The annual increase to the total Bitcoin money supply will thus fall by more than half to 1.8%.
To compare it with something we know better, in 2019, money supply growth in the United States was 5.15%. Over the past 50 years, the US dollar has managed to fall below two percent only in 1993 and 1994.
Of course, someone may argue that many bitcoins are lost, so inflation is actually higher. If all the lost or unspendable bitcoins represent one-fifth of the overall supply, the actual BTC inflation is around 2.25%. That would change almost nothing in comparison to the US. We would just have to add one year on each side of 1993–1994 (meaning 1992 and 1995) where dollar inflation was lower than 2.25%.
In other words, Bitcoin already has little monetary inflation, which will drop even further.
And what does it mean economically? Fewer new bitcoins mean reducing supply growth. Miners now spend part of the newly mined bitcoins or send them to exchanges to be able to pay for electricity and other costs. Buyers will fight for fewer bitcoins, and at the current demand, it should drive the price up.
This was the case with the last two halvings, and that is why many people cannot wait for the next to come. But of course, it is not so easy. That’s when basic economics can come to the rescue.
Supply: Forget Stock-to-Flow
More than a year before the third halving, all the Bitcoin fans were challenged by a PlanB article, which anticipated that the next halving will drive the price up to $ 90,000. Mathematically the model looked convincing, and the idea behind it was also impressive. The smaller the flow of new money to the total stock, the rarer the commodity. The more unique the commodity, the higher the price. And with halving, the scarcity measured by this Stock-to-Flow model will increase dramatically. Is it possible to predict the price like this? It would clearly deserve its own article, but let’s just try it briefly.
No need to beat around the bush; Using Stock-to-Flow to predict prices is absolute nonsense. First, the price is the result of supply AND demand. Looking at the supply is certainly useful, but without demand, we simply cannot find the price. If the demand for Bitcoin falls, the price will drop even at the same Stock-to-Flow. After all, just look at Bitcoin Cash, and you immediately see that the model does not work. Or make your own cryptocurrency, with ten times the Stock-to-Flow of Bitcoin. It will probably be worthless because there will be no demand for it.
Second, if we knew Bitcoin had to moon because of the magical Stock-to-Flow and shoot up ten times with every halving, why aren’t we there yet? Are speculators so irrational? But probably you can defend it as it is way too risky (which PlanB did). Thirdly, in a few decades, according to the stock-to-flow model, the value of Bitcoin should be higher than the GDP of all countries in the world. And as soon as there are the same amount and then fewer new coins created than they are lost, the model predicts an infinite and then a negative price of Bitcoin.
Scarcity is a necessary but not sufficient condition of value. The Stock-to-Flow model correctly draws attention to scarcity but omits the second necessary variable from the equation. As a result, it is unusable to predict the price and remains just a wish of all Bitcoin fans.
Demand: Halving attracts attention…
There is no historical necessity. People tend to use history to predict the future and believe that there are repetitive cycles. Of course, there is no such thing, but interesting is the very fact that people believe in it. As a result, repetitive history sometimes becomes a self-fulfilling prophecy.
In short, the expectations associated with halving attract attention, which helps to meet those expectations.
Indeed, this article is proof of that. We speak, write, and lecture about halving. If it nudges the indecisive to try Bitcoin, halving itself will increase demand and, consequently, price.
Demand: …but for some only temporarily
Not everybody is attracted by Bitcoin’s technical and economic characteristics. It is healthy to admit that many people are just looking for a place to get rich quick.
There is nothing wrong with that, and it happens at all possible markets. With their own money, speculators risk to correctly estimate the future price and provide the market with an important information function. Thanks to them, the current price carries information about the future expectations of those who actually have the skin in the game.
However, the market price is continually changing, and the upward movement attracts more and more people to the market. As with any asset, there are unreasonable short-term expectations that inflate bubbles that later burst.
Historically, in a relatively short time after the previous two halvings, the bubbles were inflated. After the first of 2012, the price grew 100× in only a year. After the second in 2016, it took Bitcoin a year and a half to increase the price 30×. In both cases, Bitcoin exceeded the symbolic thresholds, first $ 1,000, and then $ 10,000. However, in both cases, it collapsed from its peaks and lost approximately 85% of the value. We are prone to bubbles.
But is there anything that follows from it for the future? Unfortunately, no. It seems tempting, but taking two points and trying to approximate them to the future would be extremely irresponsible.
Demand: Are markets efficient?
But even if it all makes sense to you, one thing brings chaos to it. If we know almost precisely when halving will happen, then it should not be difficult to prepare for it. Speculators aren’t foolish, and this would be an opportunity they wouldn’t miss. In the past, we might be tempted to explain that they were unaware of Bitcoin. But in 2020, this is untenable.
Economists call it the efficient-market hypothesis. Any known information should already be included in the price. But do markets behave like that in reality? Well, more than we would expect.
Much of the growth from the last bottom that Bitcoin found slightly above $ 3,200 at the end of 2018 can undoubtedly be explained by the expectations of increased attention before the approaching halving. So, if you expect a sharp increase in Bitcoin value immediately after halving, adjust it downwards according to how much you believe others are expecting the same. And try to separate for yourself the people who know about the real and media effect of halving on supply and demand from those who will only temporarily jump in due to price increases.
Of course, markets are not fully efficient, and no one thinks that. Especially for such risky assets where there is, in fact, a marvelous asset on the one hand, but on the other hand, an unpredictable government, fierce competition, unremitting fraudsters, and many other risks. At any time, there is a constant reassessment not only of risks but also of opportunities. And with it the price.
Supply and demand: A place for optimism
The recipe for Bitcoin’s long-term success is not waiting for halving after halving. It is in reducing existing risks, seeking new opportunities, and patiently explaining the existing risks and opportunities.
There is optimism in all this because Bitcoin can offer much more now than before the first or the second halving. It seems almost unbelievable, but let’s remember that before the last halving, for example, there was no SegWit yet. And just imagine there was no safe way of hodling; Trezor didn’t even exist before the first halving.
Expectations of what happens after halving are supported by both supply and demand. Limited supply is a necessary but not sufficient condition for the price increase. The next Bitcoin halving is a natural demand stimulus that has the potential to inflate a bubble unless the general public realizes that it has changed beyond recognition since the last halving. And it has changed for the better.