Bitcoin and the power of perceived value

Silver Bitcoin next to many cryptocurrency coins like defocused Ethereum, Neo, Tether on black background. Central composition, low key photo for banners and news about BTC crypto.

People have their ideas about Bitcoin. For the believers, it’s the long-awaited alternative to the evil dollar. For the sceptics, it’s little more than digital trading cards.

This year, the price of Bitcoin hit a new “record” and continues to push higher. Whether you think Bitcoin is valuable is irrelevant. Millions of people perceive that it has value, and therefore, by a strange sort of logic, Bitcoin must be valuable.

This flaw in human psychology underpins almost all conceptions of that weasel word “value.” Why is this or that object valuable? Because people think it is. That’s what it comes down to. Of course, this is a bit cartoonish, but value really is all in our imagination.

Economic value vs perceived value

There are two buckets into which everything in this universe can be poured: things with economic value and things with perceived value. Often, the perceived value of an object interacts in complex ways with its utility value. But generally, the utility value of an object has almost nothing to do with its perceived value.

Water, for example, has a utility. It keeps humans alive. It also falls from the sky which makes it perfectly sustainable. Since everyone needs water, water is pretty much everywhere and it’s free, the price (which is not the same thing as value) of water is essentially zero.

Delivering water to people isn’t free, however. Consider bottled water. This is simply water stored in a fun little bottle that’s easy to hold, chilled and has tons of branding to help convince customers that its value is greater than water out of the tap. But it’s not. It’s just water. Bottled water is more expensive mostly because of its perceived value.

Perceived value is real value. Don’t misunderstand what’s happening here. Perceived value shouldn’t be dismissed as an illusion. It may be an irrational part of human nature, but perceived value is also what fuels the economy.

Any value beyond the economy of an object can be considered its perceived value. Perhaps a $4 bottle of water has a economic value of 50c (reflecting the cost to collect and distribute the fluid) but at each step along a value chain, more perceived value is added by middlemen until it is virtually impossible to separate the bottle’s economic value from its perceived value. By the time you reach for the bottle on the shelf, it’s priced at $4.

There is no real rhyme or reason for that price. It is simply the sum of all value, both perceived and economic, at a specific time and place. People talk about the “market price” of an object, but there has never been an objective mechanism that determines prices. Companies always set prices as high as they can get away with and the true value of an item is only what customers are willing to pay for it.

Determining worth

So, what is Bitcoin worth?

This is the same as asking: what is a Taylor Swift concert ticket worth? It’s worth what her millions of fans are willing to pay for it.

How valuable is Taylor Swift? Well, it depends on how wide her appeal is at a given time and place and how good her marketing team is at selling her image. Is any person worth a billion dollars? Not really. But she provides value to people, and that value has a price – somewhere in the range of a billion dollars, to be precise.

Yes, it is aggravating that both Bitcoin and Taylor Swift tickets are likely overpriced compared to the economic value they each bring. But unfortunately, that’s just how the world works.

Understanding the value of Bitcoin must begin by defining its economic value. What does Bitcoin do? Answers to that question range from: “it’s an alternative for the US dollar;” “it’s a store of wealth, like gold;” or “it’s built from blockchain technology.”

Bitcoin is often compared with gold to explain its economic value. But at least gold can be used in solar shielding, electronics, jewellery and other things. This utility value of gold at least partially justifies its market price. The price of gold still has some links to its economic value while boasting plenty of inflated perceived value.

In that case, Bitcoin is not like gold at all. Bitcoin’s economic value has clearly decoupled from its perceived value. Judging solely by what it might be used for, Bitcoin is drastically overvalued. At best, the use cases for Bitcoin might price it in the hundreds of dollars. There is no justification whatsoever for a $US70,000 price tag based on its economic value.

When the perceived value of an object becomes decoupled from its economic value, this creates what economists call an unstable pricing environment, to put it mildly.

With no universal agreement about the economic value of Bitcoin (what is it for?), an unstable pricing environment means the exact price of Bitcoin is effectively infinite. The neat thing about infinities is that zero is the same as the biggest number you can imagine. In other words, nothing is stopping the price of Bitcoin from oscillating between zero and all the money in the world. This is not a good thing.

Hitting the pricing strategy sweet spot

And yet, there is still value in Bitcoin.

What makes Bitcoin interesting is that it is not a special case in the discussion about value. These same questions could be levelled at any product on the market today – physical or digital. Bitcoin just happens to be the most visible example right now of perceived value decoupling from economic value.

For example, what’s the actual value of your company’s goods or services? Do you price them at exactly their economic value? Of course not. There would be no profit in that strategy. The price of a product is heavily inflated by its perceived value, which is supported by sexy advertising, market inertia and good old business hocus pocus.

While finding a sweet spot for pricing is sensible business, the logic of perceived value means that every company is incentivised to push for the highest price possible for its goods. They dream of creating a product that is so bereft of utility value like Bitcoin, and yet has so much perceived value.

Said differently, if a bottle of Evian water could be sold for $US70,000, then Danone would do that. Immediately. Today. Don’t think Danone is being nice by pricing its bottled water at $4. If it could generate the same hype as Bitcoin for its bottled water, it wouldn’t hesitate to do so.

The lesson of Bitcoin is not to despair at the irrationality of markets. The lesson is to rejoice that the markets are irrational. There’s opportunity in irrationality.

Bitcoin shows that people are willing to overspend on all sorts of things – they just need to perceive that there is value in your product and to understand why they ‘need’ or ‘want’ your product in their lives. That’s why doubling down on intangible assets can be such a powerful business strategy.

The customers are out there waiting to give you their money. Are you going to take it?

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