How Cryptocurrency Prices Work and What Determines Its Prices, Explained.
How do fiat currencies differ from cryptocurrencies?
The most significant difference between fiat money and cryptocurrency values is that fiat currencies are backed by the central bank and the central government in a country and it is considered to be legal. The reason that fiat currencies have value in the today’s medium of exchange is that the central government declared it to have and people put their trust in that currency for purchasing goods and services.
All recognized countries that exist today operates in a fiat currency system, where the monetary reserves and central banks control the supply of money and, as such, indirectly and sometimes even directly control inflation. How do they directly control the inflation? Basically, The amount of money is printed or the amount of money that is given a loan by the central banks.
For example, Germany after world war one, where they tried to pay their debt that was imposed on them after the treaty of Versailles by printing money, this caused for the value of their fiat currency to drop since there was more money in the market. In November 1922 the cost of bread was 163 marks, exactly after a year, in November 1923, the price of bread became 200,000,000,000 Marks, Crazy huh. And there are many more examples of how the central bank can control the value of a currency but more on that another day.
On the other hand, cryptocurrencies are not controlled by an authority or by the central government, and it is not accepted as legal tender in most regions. Also, almost all Cryptocurrencies, if not all, have a fixed supply because of that, the devaluation of cryptocurrencies is mostly nonexistent through inflation.
Other than that, both cryptocurrency and fiat values are supported by almost the same characteristics. Both methods can be used to purchase goods and services, and both ways have a relative store of value.
Why are the cryptocurrency values are so volatile?
The whole concept of cryptocurrency, the technology, and its market is new. A lot of people still haven’t even heard of it and many people that have heard of it, still do not understand what it is and how it works till’ this day.
Nascent markets have a few of qualities that make them so volatile.
A large number of people are joining the cryptocurrency market every single day. In fact, At the start of 2018, cryptocurrency exchanges reported that they were adding about 100,000 new users each day. This causes the increase in the volatility of the market since Many of these newcomers will have a significant vested interest in the value of cryptocurrencies going up or down.
Secondly, Limited liquidity exists within the crypto market comparing it to traditional economies like the foreign exchange market which is a far more established market. Since the crypto market is still new, it has a very thin market that naturally moves quickly which increases the volatility of the prices of the cryptocurrencies.
the biggest determinants of cryptocurrency prices are the supply and the demand concept. Basically, if a token has a very high demand with a limited supply, naturally its value will go up. Another huge factor is the media. For example during the late 2017, around December where the price of bitcoin was the highest. The only thing the press was talking about was bitcoin, almost every conversation that I overheard was about bitcoin and how everyone wanted to invest in it. All these publicity was one of the reasons that drove people to invest in this new technology back in 2017.