Although there have been several written papers attempting to analyze the impacts of cryptocurrencies on the government monetary policy (Kee-Youn et all., 2019; ECB, 2019; Claeys et al., 2018; O’sullivan, 2018), there is a dearth of analysis on the factors affecting the global crypto market that often engender severe price fluctuations. This situation of uncertainty is the main concern for both crypto neophytes and even experienced investors/traders who eagerly seek profit maximization. The plausible causes of such rapid market changes can be ample, sometimes making it impossible to predict future price changes. However, if certain patterns are observed closely and examined scrupulously, our chances to make the right decisions increase respectively. Below, this article attempts to expatiate on some of the major factors that may affect the crypto market and cause certain price changes.
To begin with, cryptocurrency prices and their trading fees (buying or selling coins) can often vary among different exchange platforms. Primarily, this can be explained through the decentralized nature of cryptocurrencies. Since exchange platforms issue disparate amount of transaction fees (starting from 0.05% up to 0.25 %) to buy, sell and withdraw their assets basing on their order book, the price of coins and tokens may greatly vary on different platforms. Moreover, the fact that no cryptocurrency is pegged to any fiat currency (aside from stablecoins) also explains why crypto prices tend to be volatile.
Supply, demand and equilibrium in crypto market
Changes in demand and supply of cryptocurrencies affect the market pricing to a certain extent as the classical law of supply reveals that higher prices are followed by the greater supply quantities. In other words, in the case of cryptocurrencies where their supply is not capped, coins can be produced at any amount making them prone to devaluing over time. This situation can be analogous to hyperinflation in Venezuela, Zimbabwe and several other countries with poor fiscal management. These corrupt bureaucrats pursuing their own economic interest print more money than it is necessary, damaging market equilibrium. Likely, some crypto coins offered have no supply cap that sets a fixed end amount. Examples of such coins can be Ethereum, Ethereum Classic, NEM, Monero, Stratis etc. Although very few coin developers state fixed supply amount in their white papers, there is no credible system to monitor the actual process. Bitcoin has a production limit of 21 million BTC which is one of the main reasons for its relative popularity among many cryptocurrencies.
Decrease in mining reward amount for Bitcoin is expected to change the supply-demand in crypto market. Bitcoin developers designed the supply of the coin in a way that its production will be gradually decreasing over time. The rewards for Bitcoin miners will be decreased every four years and starting from May 2020 the algorithm reduces the rewards for miners from 12.5 BTC to 6.25 BTC per mined block. Therefore, as the supply of Bitcoin decreases, its value in the market is expected to strengthen respectively since there will be an increased demand and less supply of Bitcoin.
Although exchange platforms claim for reliable security systems to prevent plausible hacks, we can say with confidence that no single one of existing exchange platforms are guaranteed total safety. Blockchain gave a hope for a new way of storing and transferring value securely and transparently but the infrastructure holding and transacting outside of a hardware wallet is not completely trustworthy yet. Fund losses and privacy breaches have caused fear in customers that has lowered the adoption rates of cryptocurrencies. Security breaches and the loss of funds at Mt.Gox exchange platform in 2014 was the first big event that caused panic and rapid decrease in the value of Bitcoin. More exchange platforms such as, Bithumb, Coincheck and NiceHash have also been the victims of huge hacks which had an adverse effect on crypto market stability. People’s trust in cryptocurrencies deteriorated causing crypto prices to plummet.
International political, economic and legal aspects
Globalisation has eliminated the national boundaries across countries and thus, substantially changed the ways the markets operate. Cryptocurrencies are also subject to an influence of the significant events occurring all around the world. Geopolitical changes drive the markets towards certain directions often causing turmoil. Hostile statements by the officials of the leading economies and major powers’ attempts to impose tighter regulations on cryptocurrency exchanges, raise a skeptical attitude to cryptocurrencies in people. A single statement by financial watchdogs on banning cryptocurrencies or conversely, facilitating a convivial atmosphere for crypto markets have a capacity to cause fluctuations in the market. Imposing tighter regulations also impacts the market. The news about Facebook’s initiative to launch Libra coins has galvanized the crypto enthusiasts and augmented people’s trust in cryptocurrencies further. However, captious posts of Donald Trump on Twitter demanding the Libra association get a banking charter and follow the domestic and international banking regulations as well as immediate testimony of Facebook’s crypto chief in Congress engendered more negativity in the market paving the way for speculations on the future of cryptocurrencies controlled by large corporations.
In a nutshell, there are a number of reasons impinging on the crypto market. Carefully examining the supply-demand conditions in the market as well as staying abreast of the significant events happening all across the globe and reacting in a timely manner to them can work for the benefits of crypto investors.
1. Claeys G., Demertzis B. M. and Efstathiou B. (2018). Cryptocurrencies and monetary policy. Monetary Dialogue.
2. Kang K. Y. and Lee S. (2019). Money, cryptocurrency and monetary policy. Journal of Economic Theory.
3. Nakomoto S. (2008). Bitcoin a peer-to-peer electronic cash system. Retrieved from: https://bitcoin.org/bitcoin.pdf
4. O’sullivian A. (2018). How do cryptocurrencies affect monetary policy?. Coincenter. Retrieved from: https://coincenter.org/entry/how-do-cryptocurrencies-affect-monetary-policy