January 26, 2018 Reading Time: 3 minutes

This article is based on the excellent research of Alexandra Emily, Benjamin Loeper, and Edward Koharik, under the supervision of their professor Dr. Ana Ichim and AIER staff.

The volatility of the Bitcoin/dollar exchange rate is frequently discussed in the media and often cited as the primary reason why Bitcoin does not currently function as a reliable store of value and medium of exchange, generally accepted requirements for something to count as a money. AIER collaborated with undergraduate students from the Missouri University of Science and Technology, through a fall-semester course followed by an intensive two-week program at AIER, to investigate various aspects of Bitcoin’s volatility and the determinants of its price. In the coming weeks, we will publish multiple articles summarizing our findings. The first article in this series focuses on work done by a group of students during the fall semester on the causes of Bitcoin’s largest daily changes in price.

If Bitcoin trades in an efficient market with enough buyers and sellers, theory holds, its price should reflect all publicly available information about it, and changes in price should reflect new information. However, Bitcoin might not yet meet this standard. First, if the number of market participants is relatively small, the idiosyncratic behavior of a few individuals may significantly impact the price. Second, there have been accusations of market manipulation by traders of Bitcoin. Third, many observers believe Bitcoin to be in a speculative bubble, which may or may not imply large price changes not driven by newly revealed information.

While the scope of the study does not extend to all daily changes in Bitcoin’s price, we focused on the largest daily changes in price from the beginning of 2016 through the end of November 2017. We found evidence largely consistent with Bitcoin’s largest price changes occurring on dates when significant or widely discussed new information about the cryptocurrency was revealed. This does not mean we consider the market for Bitcoin to be efficient; we do not directly study the size of these price changes, nor can we establish certain causality between the events and price changes in question. However, the fact that one can point to specific events coinciding with the largest changes in price suggests at least some degree of rationality in the market.

The table below summarizes the seven largest daily price changes of Bitcoin in terms of absolute value during the period in question. Each coincides with a new event or piece of information that investors may have found important.

The largest daily increase in Bitcoin’s price during the period occurred on July 20, 2017 (25.4 percent), when an agreement appeared to be reached regarding the scaling of Bitcoin’s blockchain-based payment system. The largest daily price decrease occurred on September 14, 2017, when the Chinese government announced plans to shut down domestic cryptocurrency exchanges.

We also examined the 50 largest price changes in absolute value during the period, summarized in the table below. We categorized potential news events into eight categories: BS (change in structure of Bitcoin), PO (personal opinions), GR (government regulation), OC (other currencies), NI (new investment opportunities), UI (under investigation), CS (cybersecurity), and NF (nothing found). Of these categories, we found that news about changes in the structure of Bitcoin (such as scaling and potential forks) had the largest effect on the price. Looking closer at the dates for which we did not find news about Bitcoin itself, thus categorized NF, we found there were often news releases about changes in major currencies around the world, such as large inflation of the euro or increases in the value of the dollar. Large changes in the price of Bitcoin on those days might be explained by these events, or might be instances of price changes driven by smaller numbers of individuals, as discussed above.

While the nature of the news events does not necessarily explain the magnitude of Bitcoin’s price changes or its daily volatility, it does suggest that the market is not being driven entirely by manipulation or the behavior of small numbers of traders. In the next brief in this series on AIER’s collaboration with the Missouri University of Science and Technology, we will look directly at Bitcoin’s volatility and compare it with that of widely used currencies and other assets.

Max Gulker

Max Gulker

Max Gulker is a former Senior Research Fellow at the American Institute for Economic Research. He is currently a Senior Fellow with the Reason Foundation. At AIER his research focused on two main areas: policy and technology. On the policy side, Gulker looked at how issues like poverty and access to education can be addressed with voluntary, decentralized approaches that don’t interfere with free markets. On technology, Gulker was interested in emerging fields like blockchain and cryptocurrencies, competitive issues raised by tech giants such as Facebook and Google, and the sharing economy.

Gulker frequently appears at conferences, on podcasts, and on television. Gulker holds a PhD in economics from Stanford University and a BA in economics from the University of Michigan. Prior to AIER, Max spent time in the private sector, consulting with large technology and financial firms on antitrust and other litigation. Follow @maxg_econ.

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