Busting Crypto Myths: Bitcoin Isn’t Backed By Anything

A recurring criticism of bitcoin is that it has no backing from a government or reserve of assets. Because of this, critics say it has no intrinsic value.

To some extent, these comments have merit. Bitcoin does not share the same underpinnings as traditional currencies, nor is it backed by reserves of real-world assets, cash, or cash equivalents like stablecoin cryptocurrencies. But many see bitcoin’s lack of government backing or involvement as a feature rather than a shortcoming.

Image for busting crypto myths bitcoin isnt backed by anything

Why does bitcoin have value?

The rules of the Bitcoin protocol state that only 21 million bitcoin will ever exist. These monetary units are programmatically released into circulation and follow a predetermined issuance schedule that cannot be altered by any single person, company or government.

Currently, over 19 million bitcoin have already been released into circulation. The remaining coins are expected to be released gradually into circulation over the next one hundred years or so.

This provably finite supply combined with the censorship-resistant, borderless, and permissionless nature of bitcoin transactions is what makes the cryptocurrency valuable. These are unique inherent traits that fiat currencies and other asset classes do not possess.

Additionally, bitcoin is more portable, divisible and fungible than physical currency. It can also be accessed by anyone in the world with a smart device and an internet connection, making it a truly global currency system.

What is bitcoin backed by?

Bitcoin is backed by a combination of complex mathematics and cryptography techniques that allow the protocol to operate. More specifically, Bitcoin uses a series of cryptographic algorithms to secure its network and issue the currency.

Together, these algorithms lay the foundation for a robust electronic payment system that is permissionless, borderless and censorship-resistant.

The Bitcoin protocol, as it is known, operates based on a set of computer-coded rules that dictate important parameters for its native cryptocurrency. A distributed network of volunteers follow these rules and perform key roles, like mining, to help maintain and secure the network using their computers. The volunteers are often rewarded for their work on the network via mining rewards.

In this way, Bitcoin is able to replace a great deal of human-involvement with software. You can think of it like a vending machine. The protocol largely works automatically but still requires humans to help maintain it.

How is bitcoin secured?

Bitcoin relies on its network of volunteers to provide security. 

Each volunteer maintains their own copy of the Bitcoin blockchain, essentially acting as an independent ledger owner. This means even if the Bitcoin network were theoretically compromised, a full history of all transactions could be recovered from a single person’s computer and, with enough nodes reporting in, can be confirmed to be true and accurate.

The biggest threat to a public blockchain network like Bitcoin’s is a 51% attack. This is when a person or group of people pool enough resources to gain majority control of the network. 

If a single entity is able to control more than 51% of a network’s hash rate (the total sum of all computational power directed at mining) they gain the ability to corrupt the integrity of the ledger. This could involve being able to double spend funds and block inbound transactions at will.

The likelihood of a 51% attack decreases, however, as the network grows in size. The more volunteers that are committed to mining bitcoin, the larger the hash rate. This, in turn, means malicious agents must source an even greater amount of computational power to take over the network. At current levels, it would cost a staggering sum of money to stage this type of attack against Bitcoin.

What backs national currencies?

Traditionally, national currencies such as the U.S Dollar or Great British Pound were backed by equivalent reserves of gold. This meant every unit of physical currency could be redeemed at any time for its worth in gold.

By pegging paper notes to a precious, finite commodity, it helped assure the value of the underlying currency and limited the amount of new units that could be issued. 

Eventually, the scarcity of gold stifled economic growth and countries were keen to expand faster than the availability of gold would allow. This led to them abandoning the gold standard and delinking their currencies from any physical backing.

To date, all national currencies have transitioned to “fiat” currencies. These have zero backing from real-world assets. Instead, the value of the underlying currency relies on the ability of each country’s respective government to pay off its debt.

The prices of fiat currencies are no longer fixed to the value of a commodity, but based on the stability of the government issuing it as well as the general principles of supply and demand. Generally speaking, the stronger a country’s economy, the higher the demand and value of its fiat currency.

Why does fiat money have value?

Without the backing of gold, fiat currencies have no intrinsic value. Their only monetary value is set by the faith its users have in their respective governments to maintain economic stability.

Through excessive printing of new currency and its knock-on effect of causing inflation, the purchasing power of these fiat currencies typically falls significantly over time. Between 1900 and 2010, the purchasing power of the U.S dollar fell by 98%.

In some cases, surging prices can lead to hyperinflation which often spells doom for the underlying fiat currency. It’s generally accepted that hyperinflation occurs when the rate of monthly inflation exceeds 50% (when the prices of general goods and services become 50% more expensive within a one-month period).

Over 35 fiat currencies have collapsed from hyperinflation in the twentieth century alone. When citizens recognize their money is depreciating rapidly they may decide to exchange it for other foreign currencies or commodities to hedge against rampant inflation. Hyperinflated currencies also lose their international appeal, causing countries to cash out and hold more stable assets.

Fiat currencies, therefore, only have value and function when governments properly maintain them as a trusted medium of exchange.

How are fiat currencies secured?

At a national level, fiat currencies are secured by the banking network and enforcement agencies.

Banks safeguard depositors’ funds and are trusted to secure master records, their customers’ personal information and so on. 

Local agencies like the police ensure citizens do not create or circulate their own money.

At an international level, countries ultimately rely on their militaries to secure their fiat currencies. As the world’s reserve currency, the U.S dollar is used to settle international trades and investments. This emerged shortly before the conclusion of World War 2, following an international meeting known as the Bretton Woods Conference.

This provided a number of privileges to the United States, namely consistent global demand for their currency. The United States abandoned the gold standard in 1971 and the end of Bretton Woods agreement was formally ratified a few years later. In order to maintain the dollar’s status as the world’s reserve currency, the United States must now maintain its military might to ensure countries continue to use it.

Overall, it’s clear that Bitcoin represents a transparent, globally-accessible currency system which is provably scarce, has a clear-cut monetary policy and is managed exclusively by its users. Further, Bitcoin works as a cross-border, trusted payment system that works 24/7, 365 days a week.

Fiat currencies, on the other hand,  are a coercively enforced medium of exchange that only a select few have the right to manage. In other words, fiat is also not “backed by anything.” This consideration should give anyone using the same argument against bitcoin some pause.

Get started with Kraken

Ready to take the next step in your crypto journey with the trusted and transparent exchange? Click the button below to get started with Kraken today!


Kraken's crypto guides