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BUS114-Introduction to Economics

Questions:

1.Consider the situation where bitcoins experienced extensive negative media coverage that emphasized the risk of holding bitcoins and the lack of regulatory controls. Using the supply and demand model, show the effect this may have on the market price and quantity of bitcoins. Your answer should include a diagram.
2.Using the supply and demand model, show (and explain) what happened to the market price and quantity for bitcoins when it was announced that bitcoins would be allowed as legal tender in Japan. Your answer should include a diagram.
3.If the computing power required for mining bitcoins was reduced at the same time that Japan made the announcement in Question 2, explain what effect this would have on the market price and quantity. Your answer should include a diagram.
 

Answer:

1.When bitcoins experience extensive negative media coverage, people feel risk to hold this digital currency. This phenomenon also highlights insufficient control of the government on the bitcoin market. As a result, people will sell this cryptocurrency in market and consequently, supply of bitcoins will increase. On the other side, demand for bitcoins will decrease further due to this negative impact (Gandal, Hamrick, Moore and Oberman 2018). These changes in demand and supply of bitcoins in market can influence the market quantity and price, significantly. The following figure can describe the situation.


Figure 1: Chang in demand and supply of Bitoins in market

Source: (created by author)

In above figure, change in demand and supply of bitcoins is represented where supply increases in market from S0 to S1 and demand decreases from D0 to D1. As a result, market price of bitcoins decreases from P0 to P1 while quantity remains at Q. Hence, it can be said that, price of bitcoins will decrease while quantity will not change.

2.Through announcing bitcoins as legal tender, Japan can stimulate the demand for this cryptocurrency in market. However, it is not possible to increase the supply of bitcoins in market instantly (Pieters and Vivanco 2017). In this situation, market price and quantity of this digital currency can be described with the help of following diagram.

Figure 2: Increase in demand for bitcoins

Source: (created by author)

The above figure has represented change in demand where the curve has shifted upward from D0 to D1 for representing increase in demand. On the contrary, supply curve remains at its initial level S0. This increase in demand shifts the market price from P0 to P1 while quantity demanded increases from Q0 to Q1.

3.When the computing power required for mining bitcoins is decreased, supply of this digital currency decreases as well. Considering the situation of answer 2, the impact of this decrease in supply on market price and quantity of bitcoins can be described further (Cocco, Concas and Marchesi 2017). Using figure 2, this situation can be explained accurately.

Figure 3: Change in demand and supply for bitcoins

Source: (created by author)

In figure 3, demand curve increases from D0 to D1 while supply curve decreases from S0 to S1. As a result, market price increases from P0 to P1 while quantity remains at Q. 

References:

Cocco, L., Concas, G. and Marchesi, M., 2017. Using an artificial financial market for studying a cryptocurrency market. Journal of Economic Interaction and Coordination, 12(2), pp.345-365.

Gandal, N., Hamrick, J.T., Moore, T. and Oberman, T., 2018. Price manipulation in the Bitcoin ecosystem. Journal of Monetary Economics, 95, pp.86-96.

Pieters, G. and Vivanco, S., 2017. Financial regulations and price inconsistencies across Bitcoin markets. Information Economics and Policy, 39, pp.1-14.

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