How Dogecoin undermines cryptocurrency hype

It started as a joke – and now it’s the best performing cryptocurrency around.

Crypto markets have had a rough week. Bitcoin is currently down more than 10% from its recent peak, and other “serious” cryptocurrencies like Ethereum have seen similar declines.

There’s one coin that is consistently going in the other direction, and it spells trouble for the broader crypto market.

Very currency – much hype – wow

Early adopters in the cryptocurrency markets needed to build credibility if they wanted their investments to be taken seriously as a medium of exchange. Dogecoin took a different path, basing its identity on memes and inside jokes. Where bitcoin fought to be taken seriously, Dogecoin pursued fun and community.

As such, the two alternative cryptocurrencies were often seen at odds – and that dynamic continues to play out today with the wild swings in valuations we’ve seen over the last two months.

In other words, what’s good for Dogecoin isn’t necessarily good for Bitcoin – or the broader crypto market.

Memes to the moon

Dogecoin doesn’t claim to be an effective means of facilitating commercial transactions. The number of companies that accept it as payment is small and has grown slowly, at best.

Meme power has always been central to Dogecoin’s rise. Unlike Gamestop stocks or Bitcoin, it’s self aware in this regard. Without this meme magic, we’d have to look at things like underlying financial fundamentals. For a currency with no backing assets, no official government support, and volatile valuations, those fundamentals look pretty bleak.

The eternal question: what is money?

In economics, money is simply defined as a medium of exchange. Whatever people use to conduct transactions can be viewed as a type of currency. It could be dollars, or seashells, or metal coins. What matters most is the socially agreed upon fact that the medium of exchange has a set value that can be portable from one exchange to the next. By this definition, nearly anything that people agree on can be money.

Determining the value of money is a little trickier. Economics and currency traders tend to look at interest rates, inflation, GDP growth, and current account balances. Over the long run, international currencies fluctuate such that the cost or value of a product is equal across borders. If a book costs $22 in location A and $20 in location B, then the assumption is that location B uses a currency that has higher value. If prices suddenly start to rise in location B, traders will view that currency as having lost relative value.

So what is Crypto worth?

We could just say “supply and demand” determine this, but the idea of globalized currencies that aren’t attached to a country puts a lot of complication in to standard models of currency. There are no interest rates to speak of, and GDP growth isn’t particularly relevant – except, perhaps, on a global scale.

The value of crypto then, must always come back to the more simplified supply and demand. But demand is hardly fixed because the direct applications remain limited. You can’t go in to a grocery store and pay your bill with crypto, and most banks aren’t taking it as payments on mortgages. It also can’t be used to pay taxes, which monetary theorists suspect has a lot to do with sustaining demand for national currencies. Even if your job pays you in gold or Bitcoin, you’ll need to convert that to dollars when tax time comes around.

Conversion costs reduce liquidity

Coinbase is making waves as the newest cryptocurrency exchange to go public, and a large part of their business model involves facilitating transactions from one currency to another.

But these transactions have costs, and for smaller amounts (like $10) that transaction fee can be as high as 10%. Only larger exchanges, the rate drops down toward 3%, but that still represents a significant friction in the system. Spending this money costs money.

Is it a store of value, or a speculative asset?

With fees in mind: If bitcoin held a purely fixed value, it would cost money to use it. The only way around this is for the value to continually rise such that anyone holding it earns more than their fees ultimately reduce their holdings by. This requires constant, rapid increases in value – or longer holding periods in between transactions.

None of these factors bode well for the long term stability of cryptocurrency. A rapidly appreciating currency discourages spending: why spend bitcoin today if it will be worth more tomorrow?

Memes, or very serious currency?

While cryptocurrency shows a lot of innovation and potential, there are still a lot of reasons why they don’t work well as currency.

So what ends up being the better investment: memes, or very serious cryptocurrency?

Turns out the memes, like Dogecoin, have out performed the very serious cryptos such as Bitcoin and Ethereum. In fact, over the last two years, Dogecoin has outperformed Bitcoin by a factor of 20.

None of this is fueled by increased adoption of Dogecoin. The number of stores that accept it as payment hasn’t increased exponentially with the price.

The main drivers of value have been… more memes.

Tension between Dogecoin and the the crypto markets is forming

In viewing the evolution of the crypto markets, it’s starting to become clear that an inverse relationship has formed between Dogecoin and other more serious cryptocurrencies. When Dogecoin is up, Bitcoin and Ethereum are down. When Bitcoin is up, Dogecoin is down.

Markets are starting to view these as competing signals rather than one holistic system.

Will the memes win out, or will crypto become a very serious currency?

So far, markets say this is really just about the memes. So by all means: Enjoy and have fun! But don’t bet anything you can’t afford to lose… Memes thrive on novelty, and like all good jokes, they get old and tired after a while.