By Zach Pandl and William Ogden Moore 

• Bitcoin today functions as a scarce digital commodity and an alternative to physical gold. Compared to the size of the investment market for gold, Bitcoin is still relatively small. We expect that Bitcoin will continue to take market share from gold as a store of value asset more suited for our digitized age. 
• But Bitcoin’s possible uses are not limited to its role as a potential gold substitute, as falling transaction costs–via Lightning Network adoption or other solutions–may help Bitcoin compete with fiat currencies in parts of the global economy, and new and continued innovation on the network (e.g. NFTs and the development of Layer-2 protocols for smart contracts) may contribute to Bitcoin’s potential over time. 
• The collective size of these addressable markets can imply there is substantial room for growth in Bitcoin’s valuation over time.

Even though Bitcoin is more than 14 years old and is owned by tens of millions of people¹, there are still debates about the network’s possible uses. At some level this is not surprising: because Bitcoin was so different from what came before, it has taken time for the core technology and the ecosystem around it to mature. For investors, this has meant that the asset’s addressable market – the existing economic structures that the technology can disrupt – has always been a moving target. While we can quantify certain aspects of Bitcoin’s market opportunity, innovation is always expanding possibilities for the world’s first public blockchain. We see a progression of potential use cases: from a digital store of value, to a medium of exchange, to a settlement layer for non-monetary blockchain activity.

Bitcoin as a Store of Value

Today, Bitcoin is already established by some as a scarce “store of value” asset and digital competitor to gold. This use case was apparent from its beginning – Bitcoin creator Satoshi Nakamoto compared the token to a scarce base metal with a special property: that it “can be transported over a communications channel.”² Although gold has been around longer, Bitcoin has certain features that its holders find attractive, especially its portability; Bitcoin is available anywhere in the world as long as holders have access to the internet and their private key. The economic conditions since Bitcoin’s creation–the financial crisis, the pandemic, the surge in inflation–have accelerated demand for instruments that might help protect the real value of assets, and have supported Bitcoin’s adoption as a digital alternative to gold. Compared to the physical gold market, Bitcoin’s market cap of about $500bn³ is relatively small. We estimate that the market value of the above ground gold stock is approximately $13 trillion, of which about $3tr represents private investment in gold (ETFs plus holdings of bars and coins) and just over $2tr is held by central banks (Exhibit 1).⁴ Although Bitcoin has grown significantly over the last decade, the investment gold market is still about five times larger (or nine times larger, including gold held by central banks). We expect that Bitcoin will likely continue to take market share from gold as a store of value asset that is more suited for our digitized age.

Exhibit 1: Bitcoin still small compared to investment gold market

Bitcoin as a Medium of Exchange

Bitcoin’s intended use case was as a peer-to-peer electronic cash system, but Bitcoin has been slower to take off as this digital medium of exchange. This likely reflects a variety of factors, including its historical volatility, the network benefits of existing monetary systems, and Bitcoin’s transaction costs. In the network’s early history, Bitcoin transaction costs were relatively low, and the token was often used as an experimental medium of exchange. As network usage increased and blocks began to fill up, its transaction costs became much higher and more volatile (Exhibit 2). These fees are a function of transaction complexity–the number of bytes they take up in the block–rather than their Dollar value. Therefore, Bitcoin transactions are more cost-effective for high-value payments, and in fact may be cheaper than traditional payments systems, but are not cost-effective for low-value or retail payments. 

Exhibit 2: Bitcoin transaction costs increased when block size limit reached

Could Bitcoin become more widely used as a medium of exchange? In developed market economies with stable money systems this seems unlikely, even in the longer-term. Blockchain technology may help improve existing payments infrastructure, but the vast majority of retail transactions are more likely to use stablecoins, in our view, and perhaps eventually central bank digital currencies (CBDCs). Although some users may value the fact that Bitcoin transactions avoid centralized intermediaries, the dominance of bank card-based digital payments today suggests that the majority of users value speed, convenience, and stability.

That being said, we could envision Bitcoin being used more widely as a transaction medium in parts of the global economy where certain conditions are met. For example, Bitcoin could be a preferred medium of exchange in a country with a domestic currency or banking system that is unstable; in these instances, users may also appreciate Bitcoin’s censorship resistance properties, especially if transaction costs are lower or the network benefits of existing money/monetary systems have been overcome. Bitcoin’s use in El Salvador meets some of these conditions: the Chivo wallet⁵ covers all retail transaction fees, and the network challenges were overcome by government decree,⁶ but – importantly – the nation did not have a volatile domestic currency beforehand (it was Dollarized) and it remains to be seen to what extent Bitcoin will remain a durable transaction medium.

Organic adoption may increase as a result of efforts to reduce Bitcoin transaction costs via the Lightning Network, a “Layer 2” protocol. Layer 1 blockchains are the base level database, or “digital ledger,” where transactions settle. Layer 2s are additional protocols that exist alongside Layer 1 chains and benefit from its consensus mechanism and security. Layer 2s typically provide additional application functionality and/or lower costs.

The Lightning Network is a Bitcoin Layer 2 scaling solution designed for low cost and high volume payments. Instead of settling every transaction on the Layer 1 blockchain, users send and receive payments through off-chain channels, which can then be periodically settled to the main network. The Lightning Network had low adoption initially, but is showing more progress as development continues (Exhibit 3).  Notably, the Lightning Network is capable of more than just direct Bitcoin transactions; in the future, it could also support stablecoins⁷ or fiat payments that are routed through Bitcoin (i.e., fiat-to-Bitcoin-to-fiat payments). In these instances, Bitcoin would accrue value as the settlement asset of a network used for digital payments, even if it is not used as a digital payments medium directly.

Exhibit 3: Lightning Network development improves prospects for transaction use case

If Bitcoin can make inroads as a transaction medium or as a network facilitating digital fiat transactions, the potential market opportunity could be large. For example, we estimate that global “M1” (economists’ traditional definition of transaction money) totals about $60 trillion.⁸ Therefore, if Bitcoin were to capture even a small fraction of this market, we believe it would have a meaningful impact on the token’s potential valuation.

As noted above, we do not expect Bitcoin to become a major transaction medium for retail transactions in developed market economies, as we predict that stablecoins are more likely to fill this role. But not all types of “money” are the same, and there will be segments of the existing stock of money-like assets that should be easier to displace.

Consider international uses of the US Dollar: The Dollar is widely used outside of the United States, including in transactions that do not include US residents. These uses may be more easily disrupted by a blockchain-based medium. In a domestic economy, the national government can control the public’s use of specific currencies through rules and regulations (e.g. by demanding that taxes be paid in the domestic currency, or limiting the amount of foreign currency that can be held in bank deposits). In contrast, in international markets, the de facto medium of exchange and store of value is a matter of choice, and determined by public demand. For this reason, the dominance of any one international monetary medium can change over time.

Although smaller than the domestic stock of US Dollar money, the international Dollar market is also very large (Exhibit 4). For instance, estimates suggest that there are around $1 trillion in paper Dollar bills circulating outside the US (mostly in high denominations), and roughly $12 trillion in Dollar-denominated deposits in major country banks outside the US. The latter figure does not include all Dollar-denominated deposits of less developed economies in Latin America, many of which are heavily Dollarized.⁹ The complex geography and multifaceted function  of money in the global economy may mean that there is a market opportunity for Bitcoin and/or other cryptocurrencies as mediums of exchange, even if fiat-backed stablecoins are the dominant transaction medium in the future. 

Exhibit 4: Bitcoin could compete with the Dollar as an international currency

Bitcoin as a Settlement Layer

While Bitcoin was originally envisioned for financial applications, the potential uses for the network might extend beyond these in the longer-term. Over the past year, smart contracts and NFTs on the Bitcoin network have gained traction, effectively broadening the network’s reach.   In December 2022, Bitcoin developer Casey Rodarmor released the ORD software, paving the way for Ordinals, or NFT-like assets on the Bitcoin network.  Enabled by a 2021 Bitcoin protocol upgrade that lowered costs to store arbitrary data, Ordinals allow users to inscribe the smallest unit of Bitcoin (a satoshi) as an non-fungible token (NFT). This use case also opens up the Bitcoin network to the digital art and collectibles markets. Early excitement for the functionality helped drive a total of 1,390 BTC¹⁰ in fees for miners in May 2023, representing 30% of the total 4,540 BTC collected as fees¹¹ across the network that month. While Ordinal trading volume has since slowed, new inscriptions have continued at a consistent pace, leading to 26mm in total¹² this year, indicating that digital artwork on Bitcoin may be here to stay (Exhibit 5).

Exhibit 5: NFTs on Bitcoin May be Here to Stay via Ordinals

The potential for smart contracts on the Bitcoin blockchain would open up the network’s reach even further. One early leader in this effort is Stacks, a Bitcoin Layer 2 bringing smart contract functionality to the Bitcoin ecosystem, and offering decentralized applications (dApps) that include financial, gaming, and social applications. With only $20mm in TVL¹³, Stacks could still be considered a pilot program; larger smart contract platforms – like Ethereum, its largest scaling solutions, and Solana – each maintain over $300mm TVL. The platform also gained significant developer interest and traction this past year with over 90 Dapps¹⁴ and 43 full time developers¹⁵, ranking 28th among all smart contract platforms, ahead of Lido, Chainlink, The Graph, and XRP. Overall, early progress across both Ordinals and Stacks suggest potential Bitcoin relevance for sectors ranging from digital art and collectibles to any asset that may be programmable into a smart contract. These new use cases are in the preliminary stages of bringing new end users into the network, including artists, developers, speculators, collectors, or gamers, but if Bitcoin can translate growing activity and developer interest into globally meaningful traction in these areas over the long-term, we believe it would also benefit from exposure to new sectors (e.g., the $67bn art market¹⁶, the $372bn collectibles market¹⁷, and the $227bn video game market¹⁸).

A Progression of Use Cases

From its prevailing status as a digital counterpart to gold to its usage as a means of payment and future potential relevance in other areas, Bitcoin’s utility and significance have and will continue to evolve. For now, we expect that Bitcoin will likely  continue to grow as a store of value,  capturing an even greater portion of the global gold investment market. Looking further ahead, assuming the substantial adoption of scaling solutions, such as the Lightning Network, Bitcoin’s usage as a means of payment could open up the network even larger markets, and Bitcoin’s status as the first and most-trusted cryptocurrency may also make it a formidable competitor to other smart contract platforms, which could unlock the opportunity of several new markets.

Bitcoin’s addressable market can only be crudely estimated, and naturally there is a very wide range of uncertainty when providing this sort of estimate, as Bitcoin is only one asset, and it will need to compete with other cryptocurrencies (or unknown future innovations) to capture  market share from gold and fiat currencies. Moreover, as the experience with Ordinals demonstrates, it can be difficult to predict how developers might apply the Bitcoin network in the future. That said, Grayscale Research is optimistic about the multiple pathways for Bitcoin’s continued growth.

1. As of August 2023, there were about 40 million Bitcoin addresses with a balance greater than $1; Source: Coin Metrics.
2. Bitcoin forum, August 27, 2010.
3. As of September 7, 2023.
4. Data on above ground gold stocks in tonnes in 2022 from the World Gold Council, valued at current market prices.
5. Chivo is a Spanish language digital token wallet.
6. For details see “El Salvador: Staff Report for the 2021 Article IV Consultation”, International Monetary Fund, January 2022.
7. CoinDesk.
8. Grayscale estimate based on data from national sources for 2022 or latest available year, depending on data availability by country.
9. In Uruguay, for example, about 75% of deposits and 65% of loans are denominated in foreign currency, according to the IMF’s Financial Soundness Indicators.
10. Dune Analytics.
11. Coin Metrics.
12. Dune Analytics.
13. Total Value Locked (TVL) is a measure of the dollar value of digital assets deposited in smart contracts.
14. Stacks.
15. Electric Capital Developer Report.
16. UBS and Art Basel.
17. HSBC.
18. PwC.