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Network Effects and Bitcoin

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This article discusses Bitcoin, and how it displays network effects in that the more popular Bitcoin becomes(in terms of a greater fraction of the population (z) using the cryptocurrency Bitcoin), the more valuable it becomes to users. The idea that Bitcoin is greatly expanding is important when determining how consumers will pay in networks effects because consumers’ willingness to pay is determined by their intrinsic interest as well as the number of people who are willing to use Bitcoin.  This topic correlates with our discussion of reservation prices, and how the reservation price for “z” consumers is equal to the fraction of the population f(z) who are using Bitcoin multiplied by the r(z) which is the intrinsic interest of consumers purchasing Bitcoin. When this reservation price is greater than the “market price”, then a greater fraction of the population will be willing to purchase a Bitcoin.

In this example, the “market price” represents the cost of purchasing a Bitcoin which is now approximately $8,735.90 per one Bitcoin.For simplicity sake, the example being used will discuss people’s reservation price and the market price for purchasing one Bitcoin(8,735.90). If people value a Bitcoin at a price higher than what they are being sold at, then those people will be willing to purchase a Bitcoin. If people’s reservation prices are higher than the market price of a Bitcoin and these people hadn’t purchased a Bitcoin, they would’ve regretted that decision since when their reservation price is greater than the market price for Bitcoin, then those people would’ve received a positive payoff. This would generate upward pressure to an equilibrium value where the fraction of people who are purchasing bitcoin have a reservation price for Bitcoin that is equal to the market price Bitcoin is being sold at. We call the instances where the reservation price equals the market price equilibrium values which are  Zero, Z’ and Z. These equilibirum values would which would be the solution to the equation 8,735.90=r(z)f(z). Upward pressure when people’s reservation prices exceed the market price tends to stabilize at the third equilibrium value  Z”. Additionally, if it comes to the point that after this upward pressure, people are buying a Bitcoin at the market price which is greater than their reservation price, then the downward pressure will be generated. When this downward pressure has been generated, the fraction of the population who bought Bitcoin would regret it and fewer people would this be buying bitcoin and the thus the fraction of people using Bitcoin(z) will go back towards Z”. This is because if people were buying at Bitcoin at a price that is higher than their reservation price, then they would essentially be earning a negative payoff.  In this regard, Zero is also a stable equilibrium. Since when Bitcoin is starting out, and if people’s reservation prices for a Bitcoin is lower than what a Bitcoin is being sold at, they nobody will purchase the Bitcoin and downward pressure will result in a fewer proportion of the population buying the product, eventually stabilizing at zero.

The increased use of Bitcoin where upward pressure generating is increasing the fraction of the population who purchases the product, is probably occurring since Bitcoin has surpassed the tipping point(Z’). Z’, the only equilibria that is unstable (because no values will ever settle towards it with downward or upward pressure), represents that “barrier” that the Bitcoin Blockchain Space would have to overcome in order to generate upward pressure that will result in increased demand for people purchasing a Bitcoin. There have been fluctuations in the change of price for Bitcoin, probably because it can be realized that if the price for a single Bitcoin decreases, then a smaller fraction of people will be needed to purchase Bitcoin in order to surpass the tipping point barrier.  As a result of this price deduction, in the long-run the Z”(fraction of people using the product where their reservation price matches the market price 8,735.90) will increase and can overcompensate for the loss of profit encountered due to price reduction.

I believe that the increased use of Bitcoin can also be correlated to the idea behind a direct benefit information cascade where people tend to copy the actions of other people because they believe it will benefit themselves generating a cascade effect in which everybody starts copying each other’s behaviours of purchasing a Bitcoin.The increased use of Bitcoin in the future will fully encompasses the idea of “self-fulfilling expectations equilibria”  where if people expect a certain fraction of people to buy the product, then this fraction of population will actually end up buying the product. Thus, if a greater fraction of people expect the Bitcoin Blockchain Space currency to increase due to its many positives such as no transaction fees, no governmental restrictions, then a greater fraction indeed will be getting involved with the Bitcoin Blockchain Space. Network Effects is also said to demonstrate “positive externalities, and the Bitcoin Blockchain Space has many positive externalities which contribute to improvements in social welfare. In the case that the Bitcoin Blockchain space for some reason faces a huge issue, where there is a huge drop in the fraction of people using Bitcoin, then targeted marketing that emphasizes the positive externalities of Bitcoin can help them push over the tipping point again. Many companies and even clubs such as Cornell Bitcoin can help with this marketing if there is ever a need for it.














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