Satoshi Nakamoto envisioned Bitcoin as a kind of digital gold, and Bitcoin has often been positioned as a kind of competitor to gold.
But despite that, they’re more similar than they’re different. To highlight this, we compare their respective scarcity, as measured by the stock-to-flow ratio, the culture of value that’s emerged around both and the practical applications of both gold and Bitcoin.
Disclaimer: This information should not be interpreted as an endorsement of cryptocurrency or any specific
provider, service or offering. It is not a recommendation to trade.
You can skip ahead to learn more about reasons to buy Bitcoin and gold as well as what to consider.
Scarcity of gold vs Bitcoin
To compare their scarcity, we’ll use a stock-to-flow ratio.
This measurement refers to the ratio of the new annual supply (flow) to the total existing supply (stock). To find the stock-to-flow ratio, simply divide the stock by the flow.
You could think of the stock-to-flow ratio as an all-in-one “scarcity score”.
Gold has a scarcity score of 54 (very scarce) and Bitcoin currently has a scarcity score of 27, which is also pretty darn scarce.
For perspective, no other well-known asset comes close to the stock-to-flow ratio of gold or Bitcoin. Silver’s stock-to-flow ratio is estimated to be about 20, while most usable commodities such as non-precious metals tend to have a stock-to-flow ratio closer to 1, meaning the world produces and consumes roughly the same amount each year.
When a commodity has a stock-to-flow ratio near 1, it’s highly vulnerable to market conditions. With a stock-to-flow ratio closer to 50, it’s much more resistant.
How scarcity insulates value
A stock-to-flow ratio indicates how robust the price of something is in the face of outside influences.
For example, demand for gold often increases in India around the festival of Diwali because it’s traditionally celebrated with gold and jewellery, so there’s typically a corresponding bump in local gold prices.
But gold prices globally would barely notice if Diwali was cancelled for one year. An asset with a lower stock-to-flow ratio would crash in the same situation because the market would end up grossly oversaturated in anticipation of the Diwali that never was, but gold would barely notice. Even if you were to double the total supply of gold produced in one year, you’d only make a small difference to the total amount in circulation.
Bitcoin’s stock-to-flow ratio may be imbuing it with a similar robustness.
At its current rate, it would take 27 years of Bitcoin mining to double the current supply.
But it won’t stay at its current rate. Bitcoin’s stock-to-flow ratio is designed to increase over time, with periodic cuts to the supply, commonly referred to as “halvings” or “halvenings” if you want to be cute about it.
Despite all its volatility and mania, Bitcoin prices have been consistently finding a price floor in a way that correlates with the asset’s stock-to-flow ratio.
Year
Bitcoin yearly low
BTC stock-to-flow ratio most of that year
2009–2011
$0
0
2012
$4
9 – the first halving
2013
$65
10
2014
$200
11
2015
$185
12
2016
$365
25 – the second halving
2017
$780
26
2018
$3,200
27
The next halving is on track for late May 2020. And as you can see, the market has historically priced it in beforehand, so assuming that trend holds, 2019 is going to be a big year for Bitcoin. It certainly has been so far.
Practical applications of gold vs Bitcoin
But scarcity alone isn’t enough to give something value. Gold, Bitcoin and everything else need something to make them valuable in the first place.
Let’s start with the more interesting stuff: a culture of value.
Practical applications in gold
Gold gets dug out of the ground in Africa, or someplace. Then we melt it down, dig another hole, bury it again and pay people to stand around guarding it. It has no utility.” – Warren Buffet
We can see this in gold, where a few practical applications in electronics and other industrial applications exist, but most of the gold mined each year goes to jewellery, bars, coins, ETFs, central bank purchases and other purely store-of-value applications.
Source: Statista
The thing about many of those more utilitarian applications is that gold is the single best material for them. It’s a highly efficient non-tarnishing conductor and a consistently reliable non-reactive metal. The high price is actually a downside here, but gold is still the best tool for the job.
There is no practical substitute for gold there and a cultural undercurrent of value wrapped around a core of practical applications makes the metal an effective store of value.
Practical applications in Bitcoin
[Bitcoin is] just dementia. It’s like somebody else is trading turds and you decide you can’t be left out.” – Charlie Munger
Bitcoin also has a core of practical applications. The primary function of the Bitcoin digital currency (BTC) is to serve as the incentive mechanism that powers the Bitcoin blockchain. Bitcoin miners are rewarded with BTC, so the more valuable BTC is, the more energy they can afford to put towards mining it.
And the more energy that goes towards mining it, the more resilient the Bitcoin blockchain becomes. Resilient, in this case, means immutable and tamper-proof. Having a properly immutable and tamper-proof digital ledger opens up a range of practical applications.
The first and most obvious is censorship-resistant payments of BTC itself. The second is the use of BTC as a resilient digital store of value.
In the same way the gold content of jewellery lets people easily carry a reliable amount of monetary value on their person, Bitcoin lets people carry around a store of monetary value in their heads (if they have an incredibly good memory), write it on a piece of paper, get it tattooed on their favourite body part and so on.
And the Bitcoin blockchain itself, which only works if BTC is sufficiently valuable, can also be bent to a wide range of practical applications. Chief among them is the ability to run “side-chains” alongside Bitcoin, borrowing its security for a wide range of practical applications.
Example: The Bitcoin metronome
One example is a system called Factom, which turns the Bitcoin blockchain into an immutable, robotic data management and notary service.
When people use Factom, they’re essentially using a machine that takes in data and then uses the immutable heartbeat of the Bitcoin blockchain to automatically timestamp the managed data as it goes. Because it leans on Bitcoin, it provides an almost perfect, near 100% guaranteed tamper-proof way of managing data.
To do this, the Factom network consumes small amounts of Bitcoin with each timestamp.
It’s already making its way into the real world. Factom is working with the Department of Homeland Security in the USA to use the Bitcoin blockchain to create lifetime records of individual devices, immutably secured against the Bitcoin blockchain. At a time when international cybersecurity is a growing concern, the ability to trustlessly guarantee the immutability of data is uniquely valuable.
This is just one of many examples of systems that rely on the Bitcoin blockchain.
* This is a fictional, but realistic, example.
As with gold, there is no practical alternative to Bitcoin for many of the applications that currently use it.
It’s true that anyone can “fork” the Bitcoin code and create a technically identical replica, but these replicas don’t capture the monetary “culture of value” of BTC, which is exactly what makes the Bitcoin blockchain so useful.
The intrinsic value of gold vs Bitcoin
If something is desired, it will become valuable. With a sufficient stock-to-flow ratio and enough people who want something, this “culture of desire” spreads more easily than it shrinks and is well insulated against market shocks.
This has been seen in gold in previous centuries. Where 2 societies, one which values gold and one which does not, encounter each other, the former spreads its gold appreciation to the latter rather than the latter spreading its gold indifference to the former. This is because of the following:
Carrying a lot of monetary value is a practical application in itself, so when more people believe in the value of gold, it genuinely becomes more useful and valuable.
A high stock-to-flow ratio insulates the value of gold against supply shocks that would otherwise undermine this trend.
This culture of desire is now alive and well in gold. You probably don’t remember anyone ever sitting you down and teaching you that gold is valuable. It’s just one of those things that’s ingrained in almost every culture and passed on as a simple truth. You never had to learn gold is valuable for the same reason you never had to learn the sky is blue.
Today, we live in an increasingly digital world. A lot of people are now manually learning that purely digital assets can be valuable, but for the younger and more Internet-oriented, this is just one of those pieces of ingrained knowledge.
Gold mining is a waste, but that waste is far less than the utility of having gold available as a medium of exchange. I think the case will be the same for Bitcoin. The utility of the exchanges made possible by Bitcoin will far exceed the cost of electricity used. Therefore, not having Bitcoin would be the net waste.” – Satoshi Nakamoto
There were 2.6 million Internet users in 1990. 10 years later, in the year 2000, this had grown to 500 million. By the time the first Bitcoin block emerged in 2009, the world had almost 2 billion Internet users. Since then, it’s more than doubled to over 4.5 billion and today more than half the world’s population is connected to the Internet.
We live in a digital world, so it’s only natural that we would invent some kind of digital gold for it.
Things to know about buying gold vs Bitcoin
What to know about buying gold
Reasons to buy gold:
Proven value. Gold has been a proven store of monetary value for thousands of years.
Funds available. If you want exposure without owning physical gold, there are a lot of funds available.
Uncorrelated. Gold prices show little correlation with other asset classes.
Things to consider when buying gold:
Physical costs. You need to be able to physically access your gold to depend on its value.
Storage and transport. Gold is heavy and valuable, making it expensive to store and transport.
Smaller upside potential. Bitcoin arguably has more room for price growth than gold.
What to know about buying Bitcoin
Reasons to buy Bitcoin:
Large upside potential. Some theories hold that Bitcoin has more potential for price growth than gold.
Ease of digital distribution. As a purely digital asset, Bitcoin can be transported and stored almost freely and accessed globally as long as you have the keys.
Uncorrelated. Bitcoin prices show little correlation with other asset classes.
Things to consider when buying Bitcoin:
Volatile. Bitcoin prices are volatile, making it less suitable as a reliable store of value in the short term.
Funds are less available. Safe and regulated Bitcoin funds are uncommon.
Unproven value. Bitcoin does not have thousands of years of proven value.
Disclaimer: Cryptocurrencies are speculative, complex and involve significant risks – they are highly
volatile and sensitive to secondary activity. Performance is unpredictable and past performance is no guarantee of
future performance. Consider your own circumstances, and obtain your own advice, before relying on this information.
You should also verify the nature of any product or service (including its legal status and relevant regulatory
requirements) and consult the relevant Regulators' websites before making any decision. Finder, or the author, may
have holdings in the cryptocurrencies discussed.
Disclosure: The author holds BNB and BTC at the time of writing.
Andrew Munro was the global cryptocurrency editor at Finder, covering all aspects of cryptocurrency and the blockchain. Andrew has a Bachelor of Arts from the University of New South Wales.
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