With over five and a half thousand digital tokens circulating globally, the value of each can vary exponentially. Bitcoin's prominence over altcoins significantly influences exchange rates, with potential ripple effects on the market. The value of cryptocurrencies is intrinsically tied to several determining factors, all ultimately rooted in the fundamental supply-to-demand dynamics.
In this article, we will explore the multifaceted factors that drive cryptocurrency asset prices and gain insight into their intricate price fluctuations.
Demand-Side Factors
Market sentiment plays a significant role in determining cryptocurrency price. Positive news, such as regulatory clarity or institutional adoption, can increase demand and prices. Conversely, negative events such as security breaches or regulatory crackdowns can lead to a drop in prices. The level of adoption and acceptance of cryptocurrencies also affect their value. As more merchants and businesses start accepting digital assets as payments, the demand for these currencies increases, driving prices to rise.
Usage and Features
Another factor that helps increase demand, and consequently, increases the value of cryptocurrency. For example, consider a Binance BNB exchange token. In December 2018, the exchange rate fell to a minimum of USD 4.2.
In early 2019, the trading platform announced the launch of a platform for the initial token offering — IEO. To participate in promotion, it was necessary to hold a BNB token. Since then, its rate has begun to grow, and by July, it reached a maximum of $39.6. Similar dynamics were shown by the cryptocurrencies of other companies that launched platforms for IEO. For example, cryptocurrencies exchange KuCoin, OKEx, and Huobi.
The IEO also plays an important role for another reason. Exchange users buy tokens to participate in the initial offering of a new cryptocurrency. However, more importantly, because of this, some coin holders do not sell it during a price downturn. In other words, investors "walk around" the asset to participate in the IEO, which temporarily reduces its circulation.
The BNB also has another feature. Every quarter, Binance burns its tokens. The last time this happened was in April when the company destroyed $52.5 million worth of cryptocurrencies. Thus, the issue of the coin was reduced, and, accordingly, demand increased relative to supply.
Product and users
Another important indicator is the availability of finished products. Cryptocurrencies differ in their design. Bitcoin is a type of payment system. This can also be considered as an investment asset. However, the coin itself is not a derivative of any product.
Another example is the Enjin token. This project had several products. These include a blockchain browser, a wallet, and most importantly, a platform for exchanging game items. The number of users exceeded 20 million.
This is probably one of the reasons why the Enjin token rate performed better than Bitcoin after the March downturn. The price of altcoin then dropped from $0.91 to $0.032. To date, this has increased by approximately 500%, to $0.19, briefly exceeding $ 0.23. Over the same period, BTC value increased by approximately 150%.
Popularity is another important factor that helps increase costs. A significant number of users follow and invest in the most well-known cryptocurrencies. These include, first of all, Bitcoin, Ethereum, XRP and Litecoin. This is the most effective approach in terms of reliability. The prominence of BTC and other top projects reduces the risk that the coin may depreciate in the blink of an eye.
At the same time, such a strategy has less potential for higher risk. However, the unknown coins may have been undervalued. If a reliable team is behind the project, developing a potentially in-demand product, there is a chance that the project token will seriously increase in price.
Supply-Side Factors
Scarcity is a fundamental driver of cryptocurrency market value. Many cryptocurrencies have a limited supply, such as Bitcoin's capped supply of 21 million coins, which creates scarcity and can increase prices. Mining and production costs also play a role in determining the value of cryptocurrencies. Higher production costs can lead to higher prices because miners require a certain price level to cover their expenses. Tokenomics, which refers to the economic model of cryptocurrency, including factors such as the inflation rate and token distribution, can also impact prices.
Emission of Cryptocurrency
In 2017, many new users entered the cryptocurrency market. Some people bought the more expensive Bitcoin until its price rose to $20,000. Others focused on assets that were cheaper than BTC. For example, the token of a blockchain startup Ripple XRP.
After Bitcoin set a historical maximum of $ 20,000, the XRP altcoin rate rose to a record high of $ 3.8. Investors expected multiple increases in the value of the coin but did not consider the issue of a token of 100 billion. If we recalculate the price of XRP at that time, imagining that its issue is equal to the issue of Bitcoin (21 million), it turns out that altcoin at that time cost a little more than $ 18,000. That is, it is similar to BTC.
Capitalization and Tokenomics
In addition, the cryptocurrency exchange rate is affected by the number of coins in circulation. Theoretically, the greater the pressure on the value of the asset, the greater can be exerted.
Consider Bitcoin as an example: About 18.4 million coins are currently in circulation. Every day, miners mine approximately 900 BTC more. By selling the received cryptocurrency, it increases its quantity in the market and thereby contributes to lowering its price.
Therefore, tools have been developed to reduce the number of coins in circulation. For example, this is provided in the upcoming update of the Ethereum network. Altcoins have stacking functions. Users will be able to receive passive income to store ETH. Thus, investors will be less inclined to sell cryptocurrencies, that is, their number in circulation will decrease.
Capitalization is another significant factor. It is determined by multiplying the cryptocurrency price by the number of coins issued. This indicator affects asset price dynamics. The larger the capitalization of the token, the more it will invest in it to influence the exchange rate. For this reason, cryptocurrencies with low capitalization can grow by hundreds or thousands of percent in a short period and, at the same time, are more susceptible to manipulation. For example, ParallelCoin, with a capitalization of $53 thousand in November, added 400,000% to the daily cost.
In addition to capitalization, trading volume is important. If this indicator is low for cryptocurrencies, there is less demand for it. Second, the price of such a coin is easier to manipulate.
External influences
Correlation and News
For most cryptocurrencies, an important factor influencing the price is its correlation with Bitcoin quotes. Practice shows that when the main digital asset becomes more expensive or cheaper, it affects the exchange rates of all altcoins.
For example, according to a study conducted by Binance at the beginning of the year, the prices of Ethereum, Litecoin, EOS, XRP, Bitcoin Cash, and BNB in 70% of the cases repeated the movement of Bitcoin quotes. Atom, Link, and Tezos tokens showed the lowest dependence on BTC — 24-28%.
Another significant but unpredictable factor is news background. Sometimes, a big news story can rapidly change the price of Bitcoin and accordingly affect the entire market. For example, at the end of October, Chinese President Xi Jinping stated that blockchain is one of the key technologies for the country's development. Within a day, the Bitcoin exchange rate increased from $7000 to $10,000.
Macroeconomic factors
Broader economic trends influence cryptocurrency prices. Factors such as inflation, interest rates, and geopolitical events can affect investor sentiment and drive capital into or out of cryptocurrencies. Economic instability or uncertainty can lead investors to seek alternative assets such as cryptocurrencies as a hedge against traditional markets.
Technological factors
Technological advancements and developments in the blockchain space can also influence cryptocurrency prices. Upgrades to a cryptocurrency network, the launch of new features, and improvements in scalability and security can boost investor confidence and drive prices. However, security vulnerabilities or scalability issues can lead to price decline.
Case Studies
To illustrate the impact of these factors, let us look at two case studies.
The 2017 bull run in the cryptocurrency market, marked by a surge in prices driven by increased adoption and positive sentiment towards digital assets. During this period, a wave of new investors entered the market, attracted by the potential for high returns and the growing acceptance of cryptocurrencies as a legitimate asset class. This influx of demand for cryptocurrencies, coupled with positive news and developments in the industry, led to a sharp increase in prices across the board.
On the other hand, the 2020 market crash, triggered by the COVID-19 pandemic and global economic uncertainty. The outbreak of the pandemic and the resulting lockdowns and economic disruptions created widespread fear and uncertainty in financial markets, leading to a sell-off in risky assets, including cryptocurrencies. Investors sought liquidity and safe-haven assets, causing a significant drop in cryptocurrency prices as market participants rushed to exit their positions.
These examples highlight how a combination of demand-, supply-, and external factors can drive significant price movements in the cryptocurrency market.
Conclusion
Several factors influence the formation of digital coins. Fundamental events exert pressure on the entire market. The main price movements occurred against the news background. They changed the public mood, which led to an increase or decrease in the demand for assets.
It is possible to roughly understand the further movement of the trend. However, it is not possible to constantly make accurate forecasts. To do this, one must guess and consider all the factors that can affect the cryptocurrency market’s movement. By staying informed and monitoring these factors, investors can make informed decisions and navigate the ups and downs of the cryptocurrency market.
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