The narrative that Bitcoin is a Giffen good was proposed by Chris King of Morgan Creek as of late, and I thought this is a good time to take a look into it and see if if it holds ground (hint: it doesn't).
All of these bitcoin narratives are misguided. The two most important drivers of the market are the monetary policy and economics:
— Chris King (@cjking711) April 23, 2019
1. Monetary Policy: Third Halving Event
2. Economics: Bitcoin is a Giffen good (demand increases as prices increases and falls as price falls)
I get how one can fall into this trap - Bitcoin's reflexive properties, do give it some of the characteristics that Giffen goods bear. But Giffen goods are not the only types of goods that violate the law of demand. Everybody is entitled to their opinion, but nobody is entitled to their facts. That said, there seems an audience for everything...
A “Giffen good”..didn’t know that was a type of good. Learn something new everyday😎
— Devon (@digibytehelper) April 23, 2019
A Giffen good is a product that people consume more of as the price rises and vice versa. Giffen goods are so strongly inferior goods (inferior goods are goods whose demand decreases, as the the income of consumers increases - e.g. broomsticks) in the minds of consumers (being more in demand at lower incomes) that the income effect more than offsets the substitution effect, and the net effect of the good's price rise is to increase demand for it.
The econ 101 example is that of potatoes in Ireland during the great famine - note that potatoes were not a Giffen good before the famine, but only became one as all substitutes became incredibly scarce.
Here are the conditions for a good to be considered a Giffen good:
the good in question must be an inferior good,
there must be a lack of close substitute goods, and
the goods must constitute a substantial percentage of the buyer's income, but not such a substantial percentage of the buyer's income that none of the associated normal goods are consumed.
How many of the above criteria does Bitcoin satisfy? You guessed it - NONE ❌
Be that as it may, the underlying idea that Bitcoin becomes more desire-able as its price rises, does hold some ground. Here's why:
It attracts more hash-power and is therefore more expensive to 51% attack, and as such is a better store of value. Its fundamental properties improve, which in turn pushes the price higher.
Bitcoin's market cap is like votes of confidence - every dollar exchanged for Bitcoin is a vote towards BTC becoming established as a global medium of exchange. The more votes in favour, the more likely you are to be on the losing side if you don't participate.
Lack of proper valuation models, make Bitcoin more reflexive - there is no objective measure of value, and so people are more easily subjected to a bandwagon effect and a confirmation bias.
I will go as far as to argue that, given the amount of attention that Bitcoin has currently, and considering its deflationary schedule (artificial scarcity), Bitcoin more closely resembles a Veblen good, than it does a Giffen good. That is to say Bitcoin is more like the original Aston Martin DB5 from Goldfinger, than potatoes in the Irish famine - but really is like neither.