One of the most common criticisms of Bitcoin is that it cannot function as money because people hoard it instead of spending it. This criticism, known as the “velocity problem,” misunderstands both Bitcoin’s current stage of development and the nature of money itself. In fact, Bitcoin’s low velocity is not a bug – it is a feature.
What Is Velocity?
In economics, the velocity of money is the rate at which money changes hands. A high velocity means money is being spent frequently; a low velocity means money is being saved or hoarded. The equation of exchange (MV = PQ) relates money supply (M), velocity (V), price level (P), and economic output (Q).
Critics argue that Bitcoin’s low velocity (people hold it rather than spend it) means it cannot function as money. But this argument misses several key points.
Store of Value Comes First
Throughout history, money has evolved in stages. First, an asset becomes a store of value. Then it becomes a medium of exchange. Finally, it becomes a unit of account. This is the natural progression, and Bitcoin is following it:
- Stage 1 – Store of value: People begin holding the asset because they believe it will maintain or increase its purchasing power. This is where Bitcoin is today.
- Stage 2 – Medium of exchange: As the asset becomes more widely accepted, people begin using it for transactions. This is beginning with Lightning Network adoption.
- Stage 3 – Unit of account: Eventually, prices are denominated in the asset. This is the final stage and is still years away for Bitcoin.
Gold followed the same path. For thousands of years, gold was primarily a store of value. It was only in the last few centuries that it became widely used as a medium of exchange (through gold coins and gold-backed paper money). Bitcoin is following the same trajectory, but much faster.
Why Low Velocity Is Bullish
Bitcoin’s low velocity is actually a bullish signal. Here is why:
- Holding reduces supply: When people hold Bitcoin, they are removing it from the circulating supply. This reduces the effective supply, which (all else being equal) increases the price.
- Holding signals confidence: When people hold Bitcoin, they are expressing confidence that it will be worth more in the future. This confidence attracts more holders, creating a virtuous cycle.
- Holding is rational: Given Bitcoin’s historical appreciation, holding has been the optimal strategy. Spending Bitcoin that will be worth 2x more next year is economically irrational.
- Spending will come later: As Bitcoin matures and its price stabilizes, people will become more comfortable spending it. The Lightning Network makes spending Bitcoin fast and cheap.
The Bottom Line
The velocity problem is not a problem at all – it is a natural stage in Bitcoin’s evolution. Bitcoin is currently in the store-of-value stage, where holding is the rational behavior. As Bitcoin matures, its price will stabilize (as a percentage change, even if the absolute price continues to rise), and spending will become more common. The Lightning Network is already making Bitcoin spending practical for everyday transactions. The velocity problem will solve itself – in time.