The share prices of various AI-related companies have soared in this past year. Recently, however, they have fallen – in some cases dramatically. Is this a classic case of a bubble that is bursting, or at least deflating?
Take the case of NVIDIA, the world’s most valuable company, with a market capitalisation of around $4.2 trillion (at current share prices). It designs and produces graphics cards and is a major player in AI. From a low of $86.62 April this year, its share price rose to a peak of $212.19 on 29 October. But then began falling as talk grew of an AI bubble. Despite news on 19 November that its 2025 Q3 earnings were up 62% to $57.0bn, beating estimates by 4%, its share price, after a temporary rise, began falling again. By 21 November, it was trading at around $180.
Other AI-related stocks have seen much bigger rises and falls. One of the biggest requirements for an AI revolution is data processing, which uses huge amounts of electricity. Massive data centres are being set up around the world. Several AI-related companies have been building such data centres. Some were initially focused largely on ‘mining’ bitcoin and other cryptocurrencies (see the blog, Trump and the market for crypto). But many are now changing focus to providing processing power for AI.
Take the case of the Canadian company, Bitfarms Ltd. As it says on its site: ‘With access to multiple energy sources and strategic locations, our U.S. data centers support both mining and high-performance computing growth opportunities’. Bitfarms’ share price was around CAD1.78 in early August this year. By 15 October, it had reached CAD9.27 – a 421% increase. It then began falling and by 24 November was CAD3.42 – a decline of over 63%.
Data centres do have huge profit potential as the demand for AI increases. Many analysts are arguing that the current share price of data centres undervalues their potential. But current profits of such companies are still relatively low, or they are currently loss making. This then raises the question of how much the demand for shares, and hence their price, depends on current profits or future potential. And a lot here depends on sentiment.
If people are optimistic, they will buy and this will lead to speculation that drives up the share price. If sentiment then turns and people believe that the share price is overvalued, with future profits too uncertain or less than previously thought, or if they simply believe that the share price has overshot the value that reflects a realistic profit potential, they will sell and this will lead to speculation that drives down the share price
The dot.com bubble of the late 1990s/early 2000s is a case in point. There was a stock market bubble from roughly 1995 to 2001, where speculative investment in internet-based companies caused their stock values to surge, peaking in late 1999/early 2000. There was then a dramatic crash. But then years later, many of these companies’ share prices had risen well above their peak in 2000.
Take the case of Amazon. In June 1997, its share price was $0.08. By mid-December 1999, it had reached $5.65. It then fell, bottoming out at $0.30 in September 2001. The dot-com bubble had burst.
But the potential foreseen in many of these new internet companies was not wrong. After 2001, Amazon’s share price began rising once more. Today, Amazon’s shares are trading at over $200 – the precise value again being driven largely by the company’s performance and potential and by sentiment.
So is the boom in AI-related stock a bubble? Given that the demand for AI is likely to continue growing rapidly, it is likely that the share price of companies providing components and infrastructure for AI is likely to continue growing in the long term. But just how far their share prices will fall in the short term is hard to call. Sentiment is a fickle thing.
Articles
Questions
- Using a supply and demand diagram, illustrate how speculation can drive up the share price of a company and then result in it falling.
- What is meant by overshooting in a market? What is the role of speculation in this process?
- Does a rapid rise in the price of an asset always indicate a bubble? Explain.
- What are the arguments for suggesting that markets are/are not experiencing an AI share price bubble? Does it depend of what part of the AI market is being considered?
- What is meant by the market capitalisation of a company? Is it a good basis for deciding whether or not a company’s share price is a true reflection of the company’s worth? What other information would you require?
- Find out what has been happening to the price of Bitcoin. What factors determine the price of Bitcoin? Do these factors make the price inherently unstable?
The election of Donald Trump saw the market price of bitcoin rise from $67 839 on election day (5 November 2024) to £106 168 on 18 December: a rise of 56%. It was $104 441 the day before inauguration (20 January 2025).
Trump has been a keen supporter of cryptocurrencies. He has stated that he wants the USA to become the world’s ‘crypto capital’. Indeed, he and Melania Trump have launched their own meme coins hosted on the Solana blockchain. Meme coins are tokens, a form of cryptocurrency, inspired by specific individuals, characters, cartoons or artwork.
On 23 January, three days after his inauguration, President Trump signed an Executive Order. This states that it is:
…the policy of my Administration to support the responsible growth and use of digital assets, blockchain technology, and related technologies across all sectors of the economy, including by … protecting and promoting the ability of individual citizens and private-sector entities alike to access and use for lawful purposes open public blockchain networks without persecution, including the ability to develop and deploy software, to participate in mining and validating, to transact with other persons without unlawful censorship, and to maintain self-custody of digital assets…
The full Executive Order can be read here.
Cryptocurrencies
Although cryptocurrencies can be used for certain transactions and avoid the need for banks, their use as a medium of exchange or unit of account is limited by their price volatility. The supply of national or regional currencies, such as the US dollar, the euro and the pound sterling is controlled by central banks, and central banks have a key mandate of achieving price stability, where price is in terms of their currency’s consumer price index. Although exchange rates fluctuate and thereby affect the prices of internationally traded goods and assets, such fluctuations are small in comparison with crypto price fluctuations.
The supply of many cryptocurrencies is not controlled with the objective of achieving price stability. Indeed, certain cryptocurrencies, such as bitcoin (the coins with the highest total market value of approximately $2060bn) have a limited maximum supply. The supply of bitcoin in January 2025 is officially 19.81m, 94.3% of the eventual official total of 21m. However, with some 1.8m coins lost, the current effective total supply is more like 18m and the ceiling 19.2m. New coins are created by ‘mining’, involving massive computer power to perform complex calculations. Coins in circulation at any one time are therefore fixed and increase only slowly and at a decelerating rate over time, with increased mining costs per coin. On any one day, however, the supply offered for sale can fluctuate wildly.
Some other crypto currencies also have a long-term supply ceiling and are created by mining. Others, such as ether (the coins with the second highest market value of approximately $394bn) do not have a fixed supply ceiling. They are not created by mining, but by a system known as ‘Proof-of-Stake (PoS)’. This uses the cryptocurrency’s owners, who stake some of their currency, to validate transactions on the Ethereum blockchain. They receive new ether as a reward. PoS uses considerably less energy than mining and hence is regarded as greener.
Unlike mined coins, Ethereum coins (ether) created by PoS can be ‘burned’: i.e. removed from circulating supply. This can more than offset new coins created and lead to a net decrease in supply. See the Fidelity Digital Assets and Paxful links below for a discussion of what determines the net burn/net creation rate of ether. Other coins, such as BNB (Binance’s cryptocurrency), have regular burns to control supply.
There are some cryptocurrencies that are suitable as a medium of exchange and as a unit of value. These are ‘stablecoins’, whose value is linked 1:1 to a major currency, such as the US dollar or euro. Supply is adjusted to maintain this value. Stablecoins are used primarily for transactions. They account for some two-thirds of all transactions using crypto. They are particularly used for transactions in parts of the world with monetary instability and/or limited access to major currencies.
With the exception of stablecoins, crypto currencies are best seen as assets, rather than as a means of exchange or unit of account. As such, they are more comparable to gold than to conventional currencies.
The market for crypto in the long term
The market price of cryptocurrencies is determined by supply and demand. With limited supply, their price is likely to increase as demand is forecast to increase relative to supply. This is particularly the case with mined cryptocurrencies where there is a ceiling to supply. But even with PoS-created currencies, the amount supplied is likely to increase more slowly than demand, especially with burn mechanisms in place.
With many countries recognising and embracing cryptocurrencies as an asset, so the long-term price should rise. The endorsement by Donald Trump is likely to hasten this process.
The market for crypto in the short term
While the total supply of cryptocurrency is limited, the supply to market can fluctuate wildly, as can demand. This can cause huge gyrations in price.
Short-run demand and supply decisions are governed largely by expectations of future price changes, over anything from the next few hours to the coming months. If people think the price will rise, people will demand more, while those already holding crypto and thinking of selling will hold back. These actions will amplify the very effect they had predicted, namely a rise in price.
This is illustrated in Figure 1. Assume an initial rise in demand for a particular cryptocurrency from D0 to D1. Equilibrium moves from point a to point b and the price of the cryptocurrency rises from P0 to P1. Speculators believe that this is a trend and that prices will rise further. Demand increases to D2 as purchasers rush to buy; and supply falls to S2 as potential sellers of the crypto hold back. Equilibrium moves to point c and price rises to P2.
But in their exuberance, people may have pushed the price above the level that reflects underlying demand and supply. People respond to this overshooting by selling some of the currency to take advantage of what they see as a temporary high price. In Figure 2, supply rises from S2 to S3. Meanwhile, potential purchasers wait until price has settled back somewhat. Demand falls from D2 to D3. Equilibrium moves to point d, with price falling to P3. (Click here for a PowerPoint of the two diagrams.)
A similar process of speculation takes place when people expect prices to fall, with price potentially plummeting before it then recovers somewhat.
With computer algorithms interpreting underlying economic/political data, the price changes are likely to be frequent, with speculation amplifying these changes.
Articles
- Trump orders crypto working group to draft new regulations, explore national stockpile
Reuters, Hannah Lang and Trevor Hunnicutt (24/1/25)
- Bitcoin soars past $109,000 ahead of possible early action on crypto by Trump
MSN, Alan Suderman (20/1/25)
- 3 Things to Watch as Trump Becomes Memecoin Billionaire and US President
PYMNTS (20/1/25)
- Crypto Community Reacts to Trump and Melania Meme Coins as Market Sinks
Decrypt, Vismaya V (20/1/25)
- Trump’s plan for a strategic bitcoin reserve could trigger a crypto ‘arms race’ and reshape the global economic order
The Conversation, Huw Macartney, Erin McCracken and Robert Elliott (14/1/25)
- Bitcoin’s resurgence: A regulatory reset and a path to innovation
crypto.news, editorial (17/1/25)
- Bitcoin Retreats As Traders Await Trump Crypto Executive Order
Bloomberg on NDTV Profit (21/1/25)
- Bitcoin edges higher as investors shake off initial Trump Day One disappointment
Reuters, Tom Westbrook and Elizabeth Howcroft (21/1/25)
- Has bitcoin’s limited supply driven its rally? Experts weigh in
ABC News, Max Zahn (10/12/24)
Background information
Data
Questions
- What determines the supply of cryptocurrencies (a) in circulation; (b) to the market at any given time?
- Why are the prices of digital currencies so volatile?
- Why or why not are cryptocurrencies a good asset to hold?
- How may speculation (a) amplify and (b) dampen price fluctuations?
- What determines the net burn/net creation rate of ether?
- Should cryptocurrencies be classified as ‘money’?
The development of open-source software and blockchain technology has enabled people to ‘hack’ capitalism – to present and provide alternatives to traditional modes of production, consumption and exchange. This has enabled more effective markets in second-hand products, new environmentally-friendly technologies and by-products that otherwise would have been negative externalities. Cryptocurrencies are increasingly providing the medium of exchange in such markets.
In a BBC podcast, Hacking Capitalism, Leo Johnson, head of PwC’s Disruption Practice and younger brother of Boris Johnson, argues that various changes to the way capitalism operates can make it much more effective in improving the lives of everyone, including those left behind in the current world. The changes can help address the failings of capitalism, such as climate change, environmental destruction, poverty and inequality, corruption, a reinforcement of economic and political power and the lack of general access to capital. And these changes are already taking place around the world and could lead to a new ‘golden age’ for capitalism.
The changes are built on new attitudes and new technologies. New attitudes include regarding nature and the land as living resources that need respect. This would involve moving away from monocultures and deforestation and, with appropriate technologies (old and new), could lead to greater output, greater equality within agriculture and increased carbon absorption. The podcast gives examples from the developing and developed world of successful moves towards smaller-scale and more diversified agriculture that are much more sustainable. The rise in farmers’ markets provides an important mechanism to drive both demand and supply.
In the current model of capitalism there are many barriers to prevent the poor from benefiting from the system. As the podcast states, there are some 2 billion people across the world with no access to finance, 2.6 billion without access to sanitation, 1.2 billion without access to power – a set of barriers that stops capitalism from unlocking the skills and productivity of the many.
These problems were made worse by the response to the financial crisis of 2007–8, when governments chose to save the existing model of capitalism by propping up financial markets through quantitative easing, which massively inflated asset prices and aggravated the problem of inequality. They missed the opportunity of creating money to invest in alternative technologies and infrastructure.
New technology is the key to developing this new fairer, more sustainable model of capitalism. Such technologies could be developed (and are being in many cases) by co-operative, open-source methods. Many people, through these methods, could contribute to the development of products and their adaptation to meet different needs. The barriers of intellectual property rights are by-passed.
New technologies that allow easy rental or sharing of equipment (such as tractors) by poor farmers can transform lives and massively increase productivity. So too can the development of cryptocurrencies to allow access to finance for small farmers and businesses. This is particularly important in countries where access to traditional finance is restricted and/or where the currency is not stable with high inflation rates.
Blockchain technology can also help to drive second-hand markets by providing greater transparency and thereby cut waste. Manufacturers could take a stake in such markets through a process of certification or transfer.
A final hack is one that can directly tackle the problem of externalities – one of the greatest weaknesses of conventional capitalism. New technologies can support ways of rewarding people for reducing external costs, such as paying indigenous people for protecting the land or forests. Carbon markets have been developed in recent years. Perhaps the best example is the European Emissions Trading Scheme (EMS). But so far they have been developed in isolation. If the revenues generated could go directly to those involved in environmental protection, this would help further to internalise the externalities. The podcasts gives an example of a technology used in the Amazon to identify the environmental benefits of protecting rain forests that can then be used to allow reliable payments to the indigenous people though blockchain currencies.
Podcast
Questions
- What are the main reasons why capitalism has led to such great inequality?
- What do you understand by ‘hacking’ capitalism?
- How is open-source software relevant to the development of technology that can have broad benefits across society?
- Does the current model of capitalism encourage a self-centred approach to life?
- How might blockchain technology help in the development of a more inclusive and fairer form of capitalism?
- How might farmers’ co-operatives encourage rural development?
- What are the political obstacles to the developments considered in the podcast?
Today’s title is inspired from the British Special Air Service (SAS) famous catchphrase, ‘Who Dares Wins’ – similar variations of which have been adopted by several elite army units around the world. The motto is often credited to the founder of the SAS, Sir David Stirling (although similar phrases can be traced back to ancient Rome – including ‘qui audet adipiscitur’, which is Latin for ‘who dares wins’). The motto was used to inspire and remind soldiers that to successfully accomplish difficult missions, one has to take risks (Geraghty, 1980).
In the world of economics and finance, the concept of risk is endemic to investments and to making decisions in an uncertain world. The ‘no free lunch’ principle in finance, for instance, asserts that it is not possible to achieve exceptional returns over the long term without accepting substantial risk (Schachermayer, 2008).
Undoubtedly, one of the riskiest investment instruments you can currently get your hands on is cryptocurrencies. The most well-known of them is Bitcoin (BTC), and its price has varied spectacularly over the past ten years – more than any other asset I have laid my eyes on in my lifetime.
The first published exchange rate of BTC against the US dollar dates back to 5 October 2009 and it shows $1 to be exchangeable for 1309.03 BTC. On 15 December 2017, 1 BTC was traded for $17,900. But then, a year later the exchange rate was down to just over $1 = $3,500. Now, if this is not volatility I don’t know what is!
In such a market, wouldn’t it be wonderful if you could somehow predict changes in market sentiment and volatility trends? In a hot-off-the press article, Shen et al (2019) assert that it may be possible to predict changes in trading volumes and realised volatility of BTC by using the number of BTC-related tweets as a measure of attention. The authors source Twitter data on Bitcoin from BitInfoCharts.com and tick data from Bitstamp, one of the most popular and liquid BTC exchanges, over the period 4/9/2014 to 31/8/2018.
According to the authors:
This measure of investor attention should be more informed than that of Google Trends and therefore may reflect the attention Bitcoin is receiving from more informed investors. We find that the volume of tweets are significant drivers of realised [price] volatility (RV) and trading volume, which is supported by linear and nonlinear Granger causality tests.
They find that, according to Granger causality tests, for the period from 4/9/2014 to 8/10/2017, past days’ tweeting activity influences (or at least forecasts) trading volume. While from 9/10/2017 to 31/8/2018, previous tweets are significant drivers/forecasters of not only trading volume but also realised price volatility.
And before you reach out for your smartphone, let me clarify that, although previous days’ tweets are found in this paper to be good predictors of realised price volatility and trading volume, they have no significant effect on the returns of Bitcoin.
Article
References
Questions
- Explain how the number of tweets can be used to gauge investors’ intentions and how it can be linked to changes in trading volume.
- Using Google Scholar, make a list of articles that have used Twitter and Google Trends to predict returns, volatility and trading volume in financial markets. Present and discuss your findings.
- Would you invest in Bitcoin? Why yes? Why no?
How much do you know about cryptocurrencies? Even if you don’t know much you are very likely to have heard about the most popular member of the family: Bitcoin. Bitcoin (BTC) has been around for some time now (see the blog Bubbling Bitcoin). It was first released in 2009 by its inventor (the mysterious Satoshi Nakamoto, whose real identity still remains unknown), and since then it has gradually increased in popularity.
According to the Bitcoin Market Journal (a specialised blog, commenting on trends in digital currencies – primarily Bitcoin), there are currently about 29 million digital wallets holding at least 0.001 BTC, although some individual users may own multiple wallets.
Although BTC is the most popular digital currency (and the first one to become widely recognisable), it is certainly not the only one. There are currently more than 400 recognisable cryptocurrencies traded in special digital exchanges (twice this number if you count smaller, less successful ones) with a total capitalisation of $700 billion at its peak (January 3, 2018) – although since then the market has lost a significant part of this value (but it’s still worth 100s of billion of US dollars).
If you have heard about Bitcoin before, chances are you first searched for it sometime between December 2017 and January 2018; that is when the value of Bitcoin soared to $20 000 a piece. A search on Google Trends (a Google utility that shows how many people have searched over a period of time for a certain term – in this case “Bitcoin”) shows this very clearly.
So what do people do with Bitcoin and other cryptocurrencies? The truth is that the majority of users use them for speculative purposes: they buy and sell them, in the hope of making a profit. Due to its extreme volatility (it is very common for the price of the larger cryptocurrencies to fluctuate by 10–20% daily) and the unregulated nature of the cryptocurrency market, it is hardly surprising that most users treat them as very high-risk commodity. This is also why digital currencies tend to attract attention (and new users) when their price soars.
However, cryptocurrencies are not only used for speculation. They can also be used to facilitate transactions. Indeed, according to Wikipedia, there are currently more than 100 000 merchants accepting BTC as a form of payment (online or offline with wallet readers). Financial technology (‘Fintech’) is catching up with this market and some new companies try to compete with the traditional payment networks (Mastercard, Visa and others) by launching plastic cards linked with crypto-wallets (primarily Bitcoin).
Santander bank has expressed an interest in exploring this market further. It is certain that if the market for cryptocurrencies keeps growing at this pace, there will be a lot more challenger fintech firms launching new products that will make it easier to use digital currencies in everyday life.
Cryptocurrencies, therefore, are likely to have a significant impact on the way we pay for our transactions. They can be used to lower transaction costs (e.g. by simplifying the process of sending money abroad), speed up the processing of payments, facilitate microfinancing and transactions in some of the poorest places on earth – where the closest bank may be 50 miles away or further from where people live).
But there is a dark side to these products. They have been linked to tax-evasion for instance, as many people who trade digital currencies fail to declare capital gains to national tax authorities. They can be used to overcome capital controls and other restrictions imposed by national governments (the case of Greece comes to mind as a recent example).
They have also been blamed for facilitating illegal trading activities, such as in drugs and weapons, due to the anonymity that some of these coins are thought to offer to their users – although quite often they are much easier to trace than their users believe.
Cryptocurrencies do have the potential to change the way we live. They also have the potential to become the biggest Ponzi scheme in the history of mankind.
Over the next few months, I will write a number of blogs to explore the literature on the economics of cryptocurrencies, and discuss some of the major challenges that needs to be overcome if this technology is to become mainstream.
Articles and information
Questions
- How much do you know about Bitcoin and other cryptocurrencies? When did you first find out about them and what triggered your interest?
- Would you be willing to accept payment in BTC? Why yes? Why no?
- Identify five ways in which the use of cryptocurrencies can benefit or damage the global economy.
The world’s biggest company just told everyone to chill out