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Bitcoin in Utility Function : The Demand for Bitcoin

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Title: Bitcoin in Utility Function : The Demand for Bitcoin
Author(s): Vu, Wendy
Contributor: University of Helsinki, Faculty of Social Sciences, Department of Political and Economic Studies
Discipline: Economics
Language: English
Acceptance year: 2019
Bitcoin and other cryptocurrencies have been frequently on media lately. As these cryptocurrencies are relatively new, there are not much economic theory explaining their behavior and price developments. Due to these reasons, the goal of this thesis is to find an economic theory to study the demand for Bitcoin. In this thesis, I will write about Bitcoin applying it to Walsh’s Money in Utility function (MIU function). I will modify Walsh’s original model by incorporating Bitcoin to it. In this model, Bitcoin is used as payment method and as a store of value. Both Bitcoin and money can be used to buy any goods, but there are certain goods that are easier to buy using bitcoin. Hence, Bitcoin has transaction benefit and the households will always need some bitcoin holdings in their portfolio. Using Walsh’s MIU function, I will derive a demand function for Bitcoin. In addition to this, I will go through the working paper “Bitcoin Pricing, Adoption, and Usage: Theory and Evidence” written by Athey et Al. (August 2016). In this paper, Bitcoin is used both as a payment method and a store of value. From the findings by Athey et Al., Bitcoin seems to be mainly used as a store of value. I will present an overview of the paper including the results and then concentrate on their aggregate analysis on Bitcoin exchange rate. Based on the Bitcoin exchange rate equation presented by Athey et Al., I will study whether Bitcoin demand function derived from MIU model is able to explain the changes in Bitcoin’s aggregate demand in real market. As expected, due to the assumptions and restrictions of the model, Bitcoin demand function derived in this thesis is not able to fully explain the changes in demand for Bitcoin in real world. Nonetheless, subject to the assumptions and restrictions of the model, Bitcoin demand function can be used to study the relationship between bitcoin demand, domestic nominal interest rate and consumption. Finally, I will present an alternative approach to further study Bitcoin’s demand.
Keyword(s): Bitcoin Cryptocurrency Money in Utility Function Demand function CES utility function Money

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