Topic: Why a difficulty increase DOES help drive the price (Read 3877 times)

Actually this is why I think prices will inevitably decline once hash-rates peak and level off.

The long term sustainable price of BTC (during the coin creation phase) is the amount that all NET coin accumulating actors can sustainably spend per day on the daily coin production volume.  In a time of high mining profitability brought about by new technology a 'cheap' purchase of equipment allows miners to remove most coins from the market place by directly speculating in their own production.  With the supply of new coins to the market dried up prices go to incredible heights as a speculative frenzy ensues for the few remaining coins.  But eventually difficulty renders mining only barely profitable or even a losing activity, miners are essentially buying coins at full price through ongoing electrical consumption at this point and are at no advantage over market purchasers.  Now the total miner/market now has to shell out the FULL price for the inflated coins and if they can't the price will drop.

At $300 the total value of the ~4000 coins produced each day would require 1.2 million A DAY, from now till the next reward halving to sustain.  I suspect that their is at most only around 1/10 that much actual purchasing power available as the Coin depth on Gox declined by an average of around 1k a day during most of the post April period which had a price of around $120, I believe little or no newly mined coins moved through exchanges at that time and that means the sustained daily purchases were ~$120,000.  Some amount was also spent on mining equipment but that is an abnormal capitol investment not something most people can sustain, it's also a nearly impossible number to track down.  I'd thus estimate the sustainable price at $40-$80.

I told the exact same thing to my brother today (he feared a crash and he asked my why the price went up so fast and if he should sell, he has only a little over 1 BTC and was worried for his initial investment of 100 EUR  :p )

I would have bought a miner if i could afford a decent one, but right now i just can't. So the only way for me to be on the bitcoin train run, is to buy some few coins and hope to see the price rise alot.

You're right, I went through that thought process up until September when I decided to no longer purchase mining equipment and instead buy BTC due to poor ROI outlook.

Very nice reasoning here. Yet another way Bitcoin self-corrects.

Many people say that the difficulty follows the price, and not the other way around.  While this is largely true, it is also true that an increase in the difficulty will help drive the price up.  Let me explain.

If I am someone who believes in Bitcoin long-term, I want to invest.  But investing doesn't have to be just buying Bitcoin directly - it can also be buying miners that produce Bitcoin.  A rational investor will look at both options:

1)  Should I buy Bitcoin directly OR
2)  Should I buy a Bitcoin miner that can turn my USD today into even more BTC down the line than what that USD would buy me today?

All the way from when BFL announced their ASIC products up through July-ish 2013, mining looked to be a potentially better option than simply buying BTC directly.  It looked as though an investor could potentially receive more BTC through mining than they could through buying BTC outright.  But now?  Now, mining is a pretty terrible investment (though it gets better with the price increase).  Investors looking to acquire BTC will simply buy BTC outright instead of buying mining machines for it.  And that will drive the price up, whereas buying miners will not.

Conversely, if the price goes up significantly without a corresponding increase in difficulty, mining will again look like an attractive option to invest in.

In this way, difficulty and price are most assuredly linked both ways, and keep each other in check.