How to Value Bitcoin Objectively Using Real Economic Units
Introduction
The current economic environment is characterized by exorbitant debt levels. As I outlined in my July-2020 article “When Inflation Starts it Won’t be Contained”, both public and private debt have reached levels that make it impossible for central banks to stop printing money. In the following graph the blue line shows total debt in the U.S. and the orange line shows interest rates over the last 100 years.
In essence, extreme debt levels prevent central banks from raising interest rates to contain inflation without obliterating an economy that is reliant on low rates and asset purchases. The implications of this monetary trap are beginning to have an effect on day to day life; in Spain CPI is rising at 5% this October, the highest level in the last 30 years.
The systematic and arbitrary alterations of the money supply by central banks make it harder by the day to make accurate and sober valuations of different asset classes such as equities or real estate; even the valuation of alternative monetary assets such as Bitcoin is becoming ever more complicated. Are we forever doomed to denominate the value of Bitcoin using the colored papers printed by central banks or might we have other options at our disposal?
In the coming paragraphs I would like to propose a framework for determining the value of Bitcoin in what I have named; real economic units (REUs). It is argued that by using economic magnitudes that are not defined by central banks such as the gross domestic product (GDP) or the total wealth we might be able to carry out a more objective and accurate valuation of Bitcoin.
A Framework for Valuating Bitcoin Using Real Economic Units (REUs)
The following graph shows the historical evolution of the value of Bitcoin denominated not in fiat money but in percentages of wealth and World GDP.
We can note how by the end of 2020 Bitcoin was worth about 0.59% of the world’s GDP and 0.12% of the world’s wealth. To determine whether this value is excessive I have sought to compare it to the valuation of gold using the same metrics; the following graph shows the historical valuation of gold measured in REUs:
Notice how gold has historically traded considerably higher than Bitcoin´s present REU valuation; by the end of 2020 gold was worth about 15% of global GDP and about 3% of global wealth. Given that Bitcoin is superior to gold in all relevant monetary attributes, it seems very likely that Satoshi´s invention will eventually surpass the precious metal in its REU valuation.
Practical Examples
Perhaps it is possible to use historical gold data to project a target value for Bitcoin that is not denominated in arbitrary monetary units such as fiat money, but in real economic units such as economic activity or total wealth.
For example, if over the next ten years Bitcoin surpasses the $1 million per coin mark(a capitalization of $21 trillion) many people might conclude that its price is too expensive and that it is no longer a good time to buy. However, if over that same space of time the world’s total wealth increases by a factor of 5, from the current $400 trillion to $2 quadrillion, Bitcoin would only be worth 1.05% of total wealth — less than the current 3% of total wealth at which gold trades at present. By denominating Bitcoin’s value in REUs instead of in fiat money, one might conclude that it is still undervalued relative to the historical value of gold in REUs.
Furthermore, one might use the same framework to try to determine the target value or “fair price” of Bitcoin. Can the digital currency be worth the same as World GDP? What percentage of the value of total wealth can accrue to Bitcoin: 10%, 30%, 100%? Perhaps by studying the historical valuation of gold in REUs we can begin to answer these questions.
Conclusions
The current economic climate is forcing central banks to print massive amounts of money to avoid economic and financial collapse. Unpredictable and arbitrary alterations in the money supply make fiat money an increasingly unreliable economic valuation tool.
Hence, it might be worthwhile to start denominating Bitcoin’s value in economic units that cannot be manipulated by central bank bureaucrats. Currently, Bitcoin trades at 0.59% % of global GDP and 0.12% of global wealth but historically gold has maintained much higher valuations in both metrics. From the above one might infer that bitcoin still has an extended period of appreciation ahead.
In addition, bitcoin valuation in REUs can be a valuable tool in determining its “fair price” or market equilibrium.
