Bitcoin could bankrupt you, but could it trigger a recession?

Some fear the cryptocurrency could be a "Lehman moment" that affects how we all make a living.

  • By Tom Mullaney,
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First came the bitcoin boom, now come the bitcoin-led recession warnings. But let's be serious: There have been two recent, painful experiences with financial bubbles bursting, and bitcoin doesn't resemble either one.

Truth is, the bitcoin (BTSC) trading market is so small, the first billions made are all there is to lose. When the bitcoin bust happens, it will not be a "Lehman moment" that affects how you and I making a living.

Taking on Bitcoin

Read on for the risks and dangers of buying into a Bitcoin bubble.

If bitcoin went to zero today, the maximum paper loss would be the value of all bitcoins in circulation, a not insignificant $276 billion as of Dec. 8. In fact, the stakes are nowhere near that, since most owners paid much less than the current price.

Bloomberg reports that an estimated 1,000 people own 40% of the bitcoin in circulation — the Winklevoss twins, who almost-but-didn't-quite co-found Facebook (FB) before falling out with Mark Zuckerberg, together own about $1.5 billion worth.

Most of those 1,000 people dominating the market probably paid far less than the $1,000 per coin bitcoin cost just six months ago. The twins reportedly paid less than $11 million for their stash in 2010, a fraction of what Facebook paid them to go away.

If the 16.7 million bitcoins in circulation attracted, on average, $1,000 of investment in real money (rather than paper gains on bitcoin trading used to buy more), then sunk-cash investment is about equal to the current market value of Dr Pepper Snapple Group (DPS).

To the U.S. economy, $17 billion is nothing. Even $276 billion is a loss that can be borne. Neither will make the coming bitcoin bust anything like the 2000 dot-com crash or the 2008 collapse of the U.S. housing market.

Even the dot-com implosion didn't cause a recession by itself. A bust in telecom capital investment and the end of the surge in technology investment after Y2K passed without incident also contributed. When that spending evaporated, a downturn followed. The 2001 dip wasn't even much of a recession. It lasted eight months, and the unemployment rate peaked at 6.3%, not much above what early-1990s economists considered full employment.

The 2008-09 recession was much worse, and the triggers it were far more powerful. The housing equity alone lost in that bust reached $7 trillion. The notional value of credit default swaps in the market was more than $60 trillion. The U.S. stock market lost $10 trillion in value, and U.S. households shed $16 trillion in net worth.

At my assumed $17 billion in sunk investment into bitcoin, the global effects of bitcoin going to zero overnight — which it won't -— are about those of Dr. Pepper going bankrupt, or of Netflix (NFLX) shedding $35 a share after a bad quarter. Netflix dropped $23 a share last summer — did you even notice? In fact, bitcoin lost $10 billion in value just while I was writing this article. I was so upset I made tea.

To be sure, bitcoin's bust could make securities firms sweat if they unwisely extended credit to speculators. So they shouldn't. And commodities exchanges shouldn't make things worse by creating leveraged bitcoin derivatives, although they are beginning to. Bitcoin futures started trading Sunday.

And it goes without saying that spending thousands of dollars for an electronic token someone tells you is "money" is stupidity defined. Don't do it.

But unless commodities markets make bitcoin a multi-trillion problem, its bust will burn speculators and not much else. The rest of us will return our attention to mutual funds and ordinary investing concerns, like drivers rubbernecking at a roadside fender-bender and then continuing on their way.

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