Bitcoin Killed The King & Now Network Effects Will Determine Its Future: The Only Metric That Matters

Bitcoin Killed The King & Now Network Effects Will Determine Its Future: The Only Metric That Matters

Money is a fascinating concept. It is simply a belief held by a lot of people, a collective trance. Money represents a shared confidence in the future and is distilled from this belief. Historically, money has been centralized, with an alpha King at the top issuing currency and controlling its value. This hierarchical structure worked as long as people believed in it, with belief stemming from centralization, longevity, predictability, authority, and the tax base of the people within the hierarchy.

However, Bitcoin changed this narrative. Unlike traditional currencies, Bitcoin operates on a decentralized network structure, killing the concept of a central authority and replacing it with a network. We believe in decentralized cryptocurrencies because they offer decentralization, software-encoded rules, ubiquity, and resiliency. Hierarchies and decentralized networks are fundamentally different, with hierarchies relying on power and rigidity, while decentralized networks thrive on flexibility and ubiquity. The fight between hierarchies and networks has been ongoing, but the rise of the Internet and blockchain technologies has tipped the scales in favor of decentralized networks.

To understand Bitcoin's current and potential value, we need to think from first principles and examine its network effects. Bitcoin's future will be determined by the strength of its network effects, which can be categorized into four defensibilities native to the digital age: network effects, brand, scale, and embedding. However, there are external forces that can impact Bitcoin's success or failure, namely faked transactions, responsiveness of the Bitcoin DAO, and government intervention.

Let's delve into the different network effects that shape Bitcoin's value:

1. Belief Network Effect: Beliefs become more valuable as more people believe in them. Bitcoin's value is derived from the belief that it is valuable. This belief network effect grew when the idea of a decentralized ledger currency was novel, allowing the network to grow without competition.

2. Protocol Network Effect: As the number of nodes connecting to the Bitcoin protocol increases, the network effect strengthens. The protocol's fitness to survive long-term depends on its ability to adapt and change, such as transitioning from proof of work to proof of stake.

3. Marketplace Network Effect (2-Sided): Bitcoin creates two marketplace network effects: a speculation or "store of value" marketplace and a payments marketplace. However, the store-of-value marketplace network effect is weak due to liquidity and the ease of multi-tenanting on different currencies.

4. Platform Network Effect (2-Sided): The number of developers actively contributing to a platform strengthens its network effect. In late 2020, Bitcoin had 400 monthly active developers, while Ethereum had 2,300. The more developers on a platform, the stronger the network effect.

5. Data Network Effects: Bitcoin creates two data network effects. First, it creates an immutable history of interrelationships in the network, making it difficult for competitors to replicate. Second, as the chain of blocks grows, the computational effort required to manipulate the network increases, enhancing security and value for all participants.

6. Tribal Network Effects: Our tribal networks add value to our lives by giving us a sense of belonging and identity. Bitcoin's tribal effects contribute to its defensibility as a network.

7. Bandwagon Network Effects: Bitcoin's strong worldwide brand and market cap contribute to the bandwagon effect. The network effect is strongest for Bitcoin compared to other crypto brands due to its early adoption.

In addition to network effects, two other defensibilities contribute to Bitcoin's value:

1. Embedding: Bitcoin's embedding in exchanges and its calculation and presentation of value reinforces the marketplace network effect. If more merchants and governments accept Bitcoin, it will become embedded in their operations, strengthening its position.

2. Brand Negative Scale Effects: As the network grows, it becomes more expensive and slower for miners to validate transactions. If the bitcoin price drops significantly and transaction costs continue to rise, miners may be unwilling to support the network, potentially unraveling the network effect.

To track Bitcoin's growth and success, it is crucial to define the right metric. At Twitter, the metric was visiting the platform at least 7 times in a month, predicting future visits. Similarly, for Bitcoin, the metric should focus on active users and their engagement with the network.

In conclusion, Bitcoin's future hinges on the strength of its network effects. By understanding and monitoring these network effects, we can gain insights into the potential value and longevity of Bitcoin. However, external factors such as faked transactions, the responsiveness of the Bitcoin DAO, and government intervention can impact Bitcoin's success. To navigate this evolving landscape, here are three actionable pieces of advice:

1. Stay informed about the health of Bitcoin's network effects and monitor any changes or challenges that may arise.

2. Track the development and adoption of competing cryptocurrencies to assess their potential impact on Bitcoin's network effects.

3. Stay updated on regulatory developments and government interventions that may affect the cryptocurrency market as a whole.

By staying informed and adaptable, we can better understand Bitcoin's future and make informed decisions in the rapidly evolving cryptocurrency landscape.