How Is Bitcoin Price Determined?

Cryptocurrencies have reached mass popularity during recent years, especially thanks to the market-leading Bitcoin (BTC) as the most popular cryptocurrency in the world. 

Bitcoin is also the first crypto ever that introduced the revolutionary concept of decentralized, digital cash that doesn’t have a physical form like fiat money. With fiat currencies like USD or EUR, you can keep cash in your wallet or deposit it in a bank account and spend it from your credit card or debit card, which is backed by the money in the bank. 

Bitcoin introduced a whole new concept of financial transactions, facilitated by blockchain technology, that enabled secure, reliable, and fast transactions between bitcoin addresses anywhere in the world. As the leader of the cryptocurrency market, Bitcoin is the most traded currency, with the highest market cap, which can be monitored through sites such as Coinmarketcap. This position means that the fluctuation of the value of BTC also has a high influence on the pricing of most altcoins like Litecoin (LTC), Ethereum (ETH), Bitcoin Cash (BCH), Ripple (XRP), and others.

That’s why today, we are going to take a closer look into how BTC works and the factors that contribute to the price of a Bitcoin.

A Bit of Bitcoin History

When BTC appeared in 2009 after the publication of the Bitcoin whitepaper by Satoshi Nakamoto, the creator of Bitcoin, it was only adopted by a relatively limited community of cryptography enthusiasts. This initial crypto community was made of tech-savvy individuals that believed in the concept of a fully decentralized, peer-to-peer digital cash system with no central authority such as banks or government institutions regulating it. 

The total number of bitcoins is capped at 21 million coins, however, the supply of Bitcoin in circulation is far less than this number, which will only be available once the final BTC is mined around the year 2040.

At the time of its launch, Bitcoin introduced a totally new concept of finance, focused on the idea that people don’t need physical money to pay for services and products, send each other funds, or store value. Blockchain technology was the key aspect that made it possible for such a system to work, because it was programmed in such an advanced way that users truly started trusting Bitcoin after a few years, realizing it poses a real alternative to the mainstream fiat money financial system.

Individuals and companies from the financial industry were pretty much hostile to the idea of Bitcoin in the beginning because they saw the concept of cryptocurrency as either a potential fraud or as an unsustainable project if one looks at it from the traditional perspective that stipulates that money needs to be backed up by institutions and legal regulations. This is where Bitcoin quickly proved them wrong. 

In 2010 the first Bitcoin exchanges started appearing and people outside of the crypto community already started being interested in BTC. During the next few years, the blockchain behind BTC gained considerable trust from people, showing that it’s no fraud – that’s it’s actually very secure while also maintaining much higher efficiency and transaction speed than conventional bank transfers.

The fact that Bitcoin isn’t backed by governments or central banks proved to be one of its greatest advantages over fiat money and not an obstacle. It enabled people to invest in the coin as an inflation-proof store of value that doesn’t depend on classic inflation models.

The Rise in Bitcoin Popularity

During the 2010s, Bitcoin’s popularity started rapidly rising thanks to the top quality service enabled by the BTC blockchain. At the same time, numerous altcoins started appearing, launched by developer teams that wanted to utilize all the best aspects of BTC and upgraded them with special functionalities that could make their cryptocurrencies stand out and attract more users.

Some of these altcoins managed to reach high adoption rates, such as the highly versatile and programming-friendly Ethereum blockchain, but Bitcoin was already established as the market leader, with the highest valuation per coin.

From its value of a couple of USD per coin during the first years after its launch, Bitcoin grew to a serious financial asset worth several hundreds of US dollars per coin, all the way to the several thousand dollars mark in the late 2010s. However, the all-time high of over 60,000 USD per coin in early 2020 is something that astonished not only the crypto community but also the whole world.

Individuals that bought considerable sums of Bitcoin during its early days, or participated in Bitcoin mining while mining was still relatively easy and accessible, have amassed millions of dollars worth of BTC if they kept their coins today. 

Nowadays, Bitcoin is a truly mainstream digital asset, used by both traders, everyday people, economists, large-scale investors, and companies.

Blockchain: The Technology Behind Bitcoin

An average Bitcoin transaction takes 5 to 10 minutes and it can be conducted between any two users in the world that utilize the Bitcoin network. This network is called the blockchain and it is a form of decentralized data storage that allows fast transactions between user addresses.

The blockchain is a decentralized, distributed public ledger of all transfers on the Bitcoin network.

There is no central server or authority that stores the whole blockchain and approves transactions. Instead, numerous copies of the whole blockchain are located on the computers of Bitcoin miners, who act as network nodes. These network nodes need to approve every transaction and check if it’s a legitimate transfer and not some kind of scam such as a double-spending attempt where someone tries to spend the same coins twice. 

The proof-of-work algorithm is responsible for making sure that every transfer on the blockchain is legit and this cryptographic solution makes it impossible for a fake transfer or a double-spending transaction to take place.

Multiple network nodes have to independently verify a transaction before it can get to its final destination. This is why Bitcoin achieved such immense popularity because it provides users with full security during a transfer even though no central authority backs the process. 

Network nodes of the blockchain are the guarantee behind the security of your funds when transferring BTC and the funds can’t even be stolen by an external third party because bitcoins can’t leave the blockchain. They just change Bitcoin addresses between senders and receivers, but they constantly remain on the blockchain. This is how the Bitcoin protocol works.

The form of the blockchain is a chronological string of 1MB data blocks that are set from first to the last block and each of them is filled with approved transfer data. Once a block is added to the chain, it can’t be altered and no transaction can be reversed.

The Role of Mining in the Bitcoin Ecosystem

Given the fact that the Bitcoin blockchain is a fully decentralized network, there has to be some sort of mechanism that makes sure the transactions are legit. Since there is no central authority, this task falls on the network nodes – Bitcoin miners. Miners, with their specialized computers, mining rigs, with powerful GPUs are the ones that constantly verify transactions on the blockchain 24 hours a day.

The miners have to find the appropriate 64-digit hash for each transaction in order to be sure the transfer is legit.

Once a miner finds the appropriate combination for a transaction, they present the combination to the rest of the network as a proof-of-work which shows the transfer is eligible for processing to its final destination.

Miners always get a transaction fee from the sender of the funds as a token of appreciation for their work and as an incentive to process transfers. The transaction fee is set manually by the sender and the higher the selected fee, the quicker it will get processed and verified because miners naturally tend to choose transfers with higher fees, rather than those with lower fees. 

When a transaction is verified, it gets included in the next block of the blockchain and when that block reaches the 1MB data threshold, it gets added to the blockchain. At the point at which a new block is created, the miner that participated in the creation of the block gets awarded with freshly mined bitcoins. This is how new bitcoins are created, by mining. 

If we take into account the worth of Bitcoin, which is several tens of thousands of dollars per coin, it is understandable why thousands of people worldwide want to buy expensive mining rigs and start mining. This is why miners also team up in mining pools to join their computing power and share the block rewards.

Fiat Money

To understand how the market price of Bitcoin is determined, we need to take a quick overview of the mechanisms which contribute to the price of fiat currencies like USD or the Euro.

The fact that fiat money physically exists and is always backed by local governments and central banks is the main factor that guarantees its value. People know that the monetary system in their country is both legally and literally physically tied to the local fiat currency and its money supply. 

Governments and central banks have more or less direct control over the inflation rate of the currencies that are under their jurisdiction and they can decide on printing additional amounts of cash in order to control the inflation of the currency’s value. The whole monetary system can be controlled by central government authorities and the cash flow is subject to legal regulations and limitations.

On the other hand, virtual currencies like BTC aren’t controlled by any state institution or central authority and they can’t be effectively tied to local laws and regulations because Bitcoin, Ethereum, Litecoin, or other cryptos aren’t assets of local financial systems. Cryptos are decentralized, digital assets that transcend state borders and usual financial boundaries such as the complex paperwork and bureaucracy of bank transfers.

Factors That Determine the Price of Bitcoin

Bitcoin, just like all other cryptocurrencies except for stablecoins, is subject to constant price fluctuations which can sometimes be relatively small or, the opposite, quite dramatic, causing a real commotion on the crypto market. 

Let’s take a look at the main factors that contribute to price fluctuations in the Bitcoin market.

Bitcoin Volatility

Bitcoin is a highly volatile asset, just like most other cryptos. Fiat currency, company stocks, and resources such as gold and oil aren’t nearly as volatile as cryptocurrencies. This is because the price of BTC isn’t tied to a set of government regulations and laws like fiat money, whose inflation is firmly controlled by central banks.

The price of BTC can suddenly start jumping or falling and these volatile periods can sometimes be very short, but sometimes they can also last longer, with a constant rise or fall of the coin’s price.

This is why it’s important to monitor the market to notice a volatile price fluctuation period and use it to your advantage, whether you want to buy or sell BTC, based on the current situation. It is also worth noting that the volatility of BTC also influences the rest of the crypto market, causing a rise or crash of value for numerous altcoins.

Adoption Rate

One of the main factors that determine the price of Bitcoin is its popularity or adoption rate. It’s simple. The more people trust Bitcoin and its blockchain technology as a secure and reliable medium for transferring funds, storing value, or investing cash, the more valuable it will become.

During its first years, Bitcoin was barely worth a few dollars, but as its popularity started rising and people started using it as a real alternative to fiat money, so did the value of Bitcoin.

In recent years, there has been an increasing number of corporate investors, investment funds, and companies that are investing in Bitcoin, either by direct investments, the creation of mining farms, or by adopting BTC as a legitimate currency for their business. PayPal and Venmo are great examples of international payment services that accept Bitcoin. When such important corporate players include BTC in their business, its value always rises.

Bitcoin Whales

As the popularity of BTC increased, it gained the attention of major investors and brokers which invested a lot of cash to buy a large amount of bitcoins. These individuals gained a lot of wealth from these investments and their Bitcoin stashes can really influence the market and Bitcoin’s price. 

Large-scale Bitcoin hoarders are also called whales and their investment in the cryptocurrency can have a real impact on its price. When billionaires like Elon Musk buy 1.5 billion USD worth of BTC, it’s a sure sign for smaller crypto enthusiasts that Bitcoin is a good investment, resulting in price increases of the coin.

This sort of turmoil on the market can only be created by Bitcoin whales that suddenly buy or sell huge amounts of BTC signaling a rise or fall of the coin’s price.

The Power of the Media

In the contemporary era of social media and ever-present mainstream media, nothing can go unnoticed in the world of finance. Cryptocurrency is under a lot of media scrutiny, with some mainstream media criticizing it and showing skepticism, while some other media outlets endorse it as an innovative type of digital asset.

In any case, the media is one of the main opinion-makers and their support for a certain cryptocurrency can largely influence its popularity and, subsequently, its adoption rate. 

This is a factor that can directly determine the price of Bitcoin because the opinion people have of the currency will largely influence whether they are going to use it and thus contribute to the rise or fall of its price.

Social media can be especially influential in terms of crypto prices because there are countless Facebook groups, crypto forums, and Twitter accounts with constant debates and discussions about Bitcoin. 

Blockchain Safety

The tight security of the Bitcoin blockchain is one of the main selling points that attract new users towards BTC. Bitcoin didn’t have any case of blockchain security breaches where funds were stolen from users, unlike numerous altcoins with less reliable blockchain which have been subject to cyber attacks that have considerably lowered community trust.

One of the best guarantees of BTC quality is the safety of the blockchain, which continues attracting users even after more than 10 years, thus contributing to the rise of Bitcoin’s price.

A Few Ending Words…

Using Bitcoin is quite simple, all you need is a crypto wallet and access to the blockchain in order to facilitate transactions, but the technology behind BTC is advanced programming that utilizes state-of-the-art cryptographic solutions in order to make the network work efficiently. 

This guide has highlighted the basics of BTC works and explained some of the key factors that determine the market price in the case of Bitcoin on cryptocurrency exchanges and other trading mediums. Of course, there are also other factors that can influence the price fluctuation of BTC but the ones that are listed in this guide are all the essential ones you should pay attention to.

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