Each cryptocurrency has a different value, and this value isn’t just made up by someone who created this currency. Just like traditional fiat currencies, cryptocurrencies get their value due to a range of value determinants. The formation of cryptocurrency value is more complex than that of fiat currencies that are traditionally supported by the government, while digital currencies don’t have any centralized authority like a central bank controlling them and maintaining their value.

Despite the differences, most factors that form the value of both cryptocurrencies and fiat money are similar. Both types of currencies are a means of exchange carrying the value to buy goods or services, with crypto being a digital means of exchange and fiat currency being a physical one.

One of the main factors that form the value of a currency is a supply/demand ratio. The supply of the cryptocurrency is usually pre-determined by a team or an individual creating and launching the currency, while fiat money has an unlimited supply. This is the reason why there’s no inflation-caused devaluation in the cryptocurrency space.

Another important factor is market trends that change over time and determine the direction of innovations and developments in the crypto field. For example, the switch toward decentralized networks and currencies working on decentralized blockchains are more valued – at least, on a subconscious level – than currencies representing centralized networks.

The value of a digital currency is also determined by its utility – the ability of the assets to be spent within the blockchain ecosystem. Such tokens are issued to further fund the evolution of the network by giving its holders an ability to purchase goods or services of the token issuer.

Finally, there’s the mining difficulty that is also playing a big part in a cryptocurrency’s value formation. Let’s look more closely at all these factors to define their influences on cryptocurrency value.

Supply/Demand

Traditional economics is based on the rule of supply and demand that in different correlations creates a particular price. If a cryptocurrency enjoys high demand, but its supply is relatively low, the price goes up. On the contrary, if the currency has poor demand from users and traders and its supply is large, the price will start falling to balance out these two forces.

The main trigger for a rise of a cryptocurrency value is the scarcity issue. This is the very reason why prices for Bitcoin reached their heights – Bitcoin has a particular, finite supply of 21 million coins, and there’s no central bank that would be able to “print” more, as it happens with fiat currency. There’s only 21 million, which is quite not much compared to the supply caps of other digital currencies, and the demand is overwhelming.

In light of the above, if supply can’t be increased, the main focus switches to demand. Cryptocurrencies are highly volatile, and the balance between supply and demand is often violated, causing price fluctuations. Understanding demand means examining the reasons why traders buy, or refuse to buy, a particular cryptocurrency. Demand is formed by the combination of people’s perceptions and real applications of a particular asset, as well as its liquidity and extent of adoption.

Market Trends

Market trends influence the growth or falling of prices for cryptocurrencies tremendously. Apart from trends to more advanced, sophisticated and cutting-edge technological solutions that networks are chasing, big events in the field of crypto – and even in the real world - also have a say in what happens to the value. For example, the well-known Bitcoin reward halving that takes place every 210000 blocks – around every 4 years – cutting the rewards for mining the leading currency by half and influencing the market behavior of many altcoins and the Bitcoin itself. The crypto community is generally divided into two groups: one expecting the prices to go up as the supply of coins that can be mined with a greater reward is getting cut each day, and the other group expecting miners to soon lose the interest in mining the coin that gives fewer rewards every 4 years. These expectations impact the demand for altcoins, as the first group of traders focuses on Bitcoin losing interest in other currencies, while the rest of traders start looking for prospective alternatives for Bitcoin.

The price for a cryptocurrency may change due to changes in real world finance. For example, world crises, drops or rises of stock prices, the level of evolution of traditional financial systems – all these factors are correlated to the value of cryptocurrencies. Thus, people who are afraid that a financial crisis can lead to the value of fiat currencies dumping may want to put their faith in crypto, therefore increasing demand and price. Or vice versa, traders may suppose that once the world hits financial problems, no one would be interested in investing in digital currencies, which can lead to lower demand and prices.

Regarding the constant changes of directions of each currency, the crypto market uses the terms “bull market” and “bear market”, accordingly indicating the market of growing prices and falling prices for each particular currency.

Utility

Utility tokens are issued to fund the innovative growth and the evolution of a cryptocurrency and enable users to purchase goods or services sold by the issuer.

The utility is the extent to which a cryptocurrency can be used and is useful for a regular user. Some cryptocurrency companies issue utility tokens that can be used only within their cryptocurrency ecosystem. It means that there’s no other platform or any other way to get any benefit from holding the token other than using it on the issuing platform. Tokens with such limited utility generally have lower values as their liquidity gets restricted. As a rule, they are purchased with the aim to use their functionality in the future rather than get a return on investment.

On the other hand, tokens that can be used on multiple platforms and exchanges and aren’t narrowed down to one particular network have greater liquidity and demand and, therefore, are more valued. The more use cases a token has, the higher potential the price for the cryptocurrency of this token represents on a crypto market.

Mining difficulty

The mining difficulty is the extent to which mining of a particular cryptocurrency can be considered complex and complicated. In general, it is measured by the amount of resources that must be spent on mining. Of course, it influences the final price of the currency as miners are businessmen that try to earn by selling coins at a higher cost, spending less money and resources on the mining process.

For example, mining Bitcoin is highly complicated. First of all, mining Bitcoin requires high levels of energy consumption. Bitcoin miners consume tons of electricity that they buy at a fixed price, and they have to maintain the operation of huge mining farms, providing them with top-notch hardware and hashrate. The hashrate is the amount of computing power that computer owners globally contribute to the process of mining to compensate for astonishingly high hardware speed. All these resources take money, and the more difficult and therefore expensive the mining is, the higher the cryptocurrency’s value must be for mining to be profitable.

Mining operational costs can be reduced by using renewable energy, alternative sources of electricity such as power from hydro plants or enjoying discounts for large volumes of consumed energy. These measures help balance out the ratio between expenses and prices. Operational costs can also be reduced if the value of a national fiat currency of the country where mining facilities are located fall down, as the services and goods to support the farm are paid for in local fiat money.

There are cryptocurrencies that can be mined relatively easily with fewer expenses and effort required to mine a block, but the mining rewards can be lower.

The mining difficulty is a very important characteristic that shapes a currency’s value, but it works vice versa as well. Thus, if the price for a currency is relatively low, there’s little chance that many miners would like to get down to mining it. If the price for an asset is relatively high, miners are more inclined to join the mining community and mine blocks to earn more.

The mining difficulty defines the price levels, but it can be adjusted to current mining circumstances. It happens when the number of miners decreases (for example, because of dropping prices for an asset), and the network must maintain relatively equal intervals between mined blocks. The networks are generally designed to automatically adjust the mining difficulty if any of its elements (like the hashrate) change. Therefore, the influence of the mining difficulty over the value of cryptocurrencies isn’t always straightforward and must be examined closely for fair conclusions to be drawn.

Conclusion

The value of cryptocurrencies is the result of numerous factors that shape the industry’s evolution. There are many other aspects apart from those covered above that contribute to the value formation, so the prices for cryptocurrencies are definitely not taken out of the blue. Factors such as supply and demand, market trends, utility and mining difficulty are considered major ones, but the industry is developing at such a fast pace that anything can happen, and soon we may find tons of other characteristics determining the price.