Why Most Cryptocurrencies Have a Limit on How Many Can Exist?
Digital assets known as cryptocurrencies can be exchanged using networks of computers that employ cryptography to secure transactions and control supply. A defining characteristic of many cryptocurrencies is that the number of units of the currency that may ever exist is fixed. The reason why most cryptocurrencies have a limited supply is linked to the medium’s characteristics, the objectives of the cryptographers, and its tendency to scarcity.
Scarcity is a significant aspect of most economies: natural resources have a clearly defined supply, which directly impacts their demand. Gold remains popular despite the metal not being particularly special or valuable compared to other elements. The appeal comes from its scarcity and how little gold can be produced. With information being challenging to reproduce and near-instantaneously distributable, information theorists and cryptographers have proposed a medium that would have the traits of naturally scarce resources. Thus, the very nature of most cryptocurrencies is to create and enforce scarcity through limited or even decreasing supply.
Another significant feature of most cryptocurrencies is the attempt to resist the inflationary pressure on most fiat currencies. The central banks of states can and do print money, increasing the supply of a currency beyond its existing needs. While doing so deliberately to facilitate the economy is not an inherently logical solution, the practice has been used and is frequently followed. Cryptocurrencies such as Bitcoin were created to have a predicted, non-subjective supply that would be theoretically impossible to print by central banks. Thus, inflation resistance is also a factor that affects demand and, consequently, price.
A cryptocurrency with a pre-set maximum supply that will never change will experience different dynamics than those with a continuously growing supply. When an economy has a fixed supply of money, its value can be enforced: should demand increase, the price will follow. Therefore, scarcity and the ensuing price increase can impact supply-demand dynamics. The economic principles that apply to gold or other resources also apply to cryptocurrencies. A currency with a very limited supply has a higher likelihood of being valuable. With that said, the value is not guaranteed as an asset’s demand depends on several factors beyond supply and price.
The characteristics of a cryptocurrency’s supply do not necessarily apply to value and supply. If two currencies have a supply of 1,000,000, the one with a higher value will most likely be more desirable, even when the supply is equal. Similarly, a currency does not need to have a very low supply to have a considerable increase in price. Another aspect to consider is that most cryptocurrencies are divisible: 1 Bitcoin, for example, can be split into 100,000,000,000 Satoshis. Therefore, the supply of a cryptocurrency is not relevant to its price: increased divisibility decreases supply’s impact on the price.
The rationale behind most cryptocurrencies’ fixed, inflation-resistant, and scarce supply is that it creates value for early adopters and investors. Scarcity is enforced either by design or by code, which ensures that a growing number of coins will not devalue existing ones. The cryptocurrency’s value will depend on its supply and demand, which will be impacted by its characteristics and the market’s confidence in its stability. While Bitcoin was the first cryptocurrency to introduce those traits, many other digital assets seek to create value for their holders and users. However, even with a capped supply, a cryptocurrency is not guaranteed to gain value: other factors affect an asset’s demand and price.
