Bitcoin made simple - Part 4 - Phases of money
In the previous article, I looked at money and the requirements for any good/item/commodity like cowrie shells, silver, gold etc to become money.
A good or item does not become money overnight. Rather it has to go through multiple phases before it can be considered as money used for trading. In this article, I will look at the phases involved in the life of a good before it becomes money. It’s important to understand this so that we can evaluate which phase is Bitcoin in on this journey.
A good goes through the following phases on its journey towards becoming money.
Phase 1: Store of Value (SOV)
Phase 2: Medium of Exchange (MOE)
Phase 3: Unit of Account (UOA)
I next explain each of these phases briefly.
SOV
This is the very first phase on the journey of a good towards becoming money. In this phase, a few people believe that the good is much more valuable than what the rest of the society believes in. This small group might start hoarding the good in the expectation that the value of the good will rise over time.
During this phase, the price of the good will also fluctuate quite a bit. This is because of the fluctuation in the group of people who believe that the good will rise in price over time.
It is very much possible that the belief of the small group of people was wrong and the price of the good does not increase over time. One reason this could happen is when lot more of that good can be produced with new technology over time.
MOE
In this phase, many more people agree that the good is quite valuable. The price of the money-candidate is relatively stable when in this phase. This is due to a larger group of people who believe in this. As a result, people are willing to exchange other items for the good. So we can say in this stage the good is a money-candidate.
UOA
This is the final phase before the good becomes money. In this phase, every item is priced using the money-candidate.
Bitcoin
Considering these phases, I believe that Bitcoin is still in the SOV phase. Hence the price of Bitcoin exhibits lot of volatility. This volatility should reduce with the passage of time.
Tomorrow I will continue with this topic and explain the advantages that Bitcoin has as compared to Fiat money.