Working Paper: NBER ID: w26816
Authors: Michael Sockin; Wei Xiong
Abstract: We model a cryptocurrency as membership in a decentralized digital platform developed to facilitate transactions between users of certain goods or services. The rigidity induced by the cryptocurrency price having to clear membership demand with supply of token by speculators, especially with strong complementarity in membership demand, can lead to market breakdown. While user optimism mitigates the market fragility by increasing user participation, speculator sentiment exacerbates it by crowding users out. Informational frictions attenuate the risk of breakdown by dampening price volatility and platform performance. Furthermore, the users' anticipation of losses from strategic attacks by miners exacerbates the market fragility.
Keywords: Cryptocurrency; Market Dynamics; User Participation; Speculative Sentiment
JEL Codes: G19
Edges that are evidenced by causal inference methods are in orange, and the rest are in light blue.
| Cause | Effect |
|---|---|
| user optimism about token price appreciation (G13) | user participation in the platform (D16) |
| user participation in the platform (D16) | market stability (D53) |
| speculator sentiment (D84) | user participation (C90) |
| speculator sentiment (D84) | market fragility (G10) |
| user costs (D61) | market breakdown (G10) |
| informational frictions (D89) | responses of users to fundamental shocks (E32) |
| informational frictions (D89) | market volatility (G17) |