Why Are Cryptocurrencies So Volatile? When Will Prices Stabilize?

While plenty of investors are already engaged in Bitcoin, Ethereum, and the hundreds of other cryptocurrencies now floating on the open market, many others are hesitant to jump in. The main thing keeping investors away from cryptocurrencies is price volatility.

For example – while Bitcoin peaked at around $3,000 USD per BTC this year, it also plummeted to around $2,500 in the month of June, wiping out $3.4 billion of stakeholder value before rallying and gradually working its way back up.

Potential investors are rightly concerned that if they buy in now, they may see their assets wiped out by another "flash crash" of this sort. At the same time, potential users are waiting for cryptocurrency to become a more widely accepted form of payment. Both of these things will only happen once volatility dies down.

Understanding Volatility

Volatility is by no means unique to cryptocurrencies. Gold is a safe-haven asset prized by investors for its stability, but only because it is no longer the standard value underpinning national currencies. During the era of the Gold Standard, gold prices were incredibly volatile.

Paper money is no different – between the First and Second World Wars, the value of Weimer Germany's Reichmarks hyper-inflated to impossible proportions, ruining the country's finances. The same thing happened less than a decade ago in Zimbabwe when the farming industry was redistributed.

Importantly, these historical instances of currency volatility occurred because of government intervention – something that cryptocurrencies are pretty well shielded against since they share no central authority. In this sense, cryptocurrencies – especially Bitcoin – are somewhat like gold:

• Both are durable. Neither gold nor cryptocurrencies "expire" in any meaningful way, like paper money does.
• Both are fungible. Fungible currencies are ones where a specific unit can be replaced for any other. An ounce of gold is worth an ounce of gold once it is melted and purified. A Bitcoin is always worth whatever the market says Bitcoins are worth at the moment.
• Both are scarce. There is a finite amount of gold on Earth. Likewise, the Bitcoin protocol stipulates a hard limit of 21 million BTC – the most that will ever exist.

When it comes to cryptocurrencies, volatility happens for a slightly different reason – speculation.

Cryptocurrency: Investment Vehicle or Currency?

In the absence of a centralized authority empowered to assert cryptocurrency market values, market participants produce value through speculation and investment – a particular coin is worth what the market will pay for it. Since that price changes as people invest money and withdraw profits on a constant basis, stabilization has not yet occurred.

This is a common situation for novel investment vehicles and commodities. One of modern history's first examples of this is Dutch Tulip Mania – where imported tulips obtained astronomical prices before crashing. Speculative bubbles have risen – and popped – ever since.

However, calling the current flurry of activity in cryptocurrency markets a bubble would be unfair. Unlike tulips, you can spend Bitcoins and Ethereum tokens on goods and services. The reason that prices are volatile right now is because people can't spend their cryptocurrencies on any good or service. These currencies have not yet permeated financial culture enough to be widely accepted.

Once enough major brands and governments adopt cryptocurrencies as a valid form of payment, price volatility will slow to rates not uncommon on Forex markets. Speculation will become less profitable, hedging the system's bets against speculative bubbles and allowing every day people to focus on the use of cryptocurrencies, rather than their values.

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