Exploring the Rise and Fall of Dogecoin: A Humorous Take on Digital Currency

Dogecoin, a peer-to-peer digital currency, made a splash in 2014 due to its unique selling point: humor over technical innovation. With the community’s generosity, clever PR activities, and the inherent meme value of the Shiba Inu dog, Dogecoin quickly gained popularity. Many early adopters were new to the world of digital currency, allowing the currency’s value to skyrocket without a strong technical advantage. Dogecoin demonstrated that bootstrapping a currency can be successful with a non-technical narrative.

However, like many internet phenomena, Dogecoin’s popularity was short-lived. The exchange rate has since plummeted, and the currency’s future remains uncertain. Despite this, Dogecoin’s impact on the world of digital currency cannot be ignored.

RELATIONSHIP BETWEEN BITCOIN AND ALTCOINS

We can use various metrics to get a sense of the relative size or impact of different altcoins.

Dogecoin: Comparing Altcoins

MARKET CAPITALIZATION

Traditionally, market capitalization (“market cap”) is a simple method of estimating the value of a public corporation by multiplying the price of a share by the total number of shares outstanding. In the context of altcoins, this market cap is often similarly used to estimate the total value of the altcoin by multiplying the price of an individual unit of the altcoin (measured, perhaps, at the most popular third-party exchanges) by the total number of units of currency of the altcoin thought to be in circulation.

By this metric, Bitcoin is by far the largest—as of 2015, it accounts for more than 90 percent of the overall market cap of all of cryptocurrencies combined. The relative ranking of the other altcoins tends to vary quite a lot, but the point is that most altcoins are comparatively tiny in terms of monetary value.

It’s important not to read too much into the market cap. First, it isn’t necessarily how much it would cost for someone to buy up all the coins in circulation. That number might be higher or lower, because large orders will move the price of the currency. Second, even though the calculation considers only the coins currently in circulation, we should expect that market participants factor into the exchange rate the fact that new coins will come into circulation in the future, which further complicates the interpretation of the number.

Finally, we cannot even accurately estimate the true number of coins currently in circulation, because the owners of some coins may have lost their private keys, and we have no way to know what percentage of coins have been lost.

MINING POWER

If two altcoins use the same mining puzzle, we can directly compare them by how much mining power all the altcoin’s miners have. This is often just called the “hash rate” due to the prominence of hash-based puzzles. For example, Zetacoin is an altcoin that uses SHA-256 mining puzzles, just as Bitcoin does, and it has a network hash rate of about 5 terahashes/second (5 × 10 12 hashes/second) as of December 2015.

This number is about a hundred thousandth of Bitcoin’s mining power. It’s trickier to compare the mining power between coins that use different mining puzzles, because the puzzles may take different amounts of time to compute. Besides, mining hardware specialized for one of the coins won’t necessarily be usable for mining (including attacking) the other coin.

Even for an altcoin using a completely unique mining puzzle, we can still learn something from the relative change in mining power over time.
Growth in mining power indicates either that more participants have joined or that they have upgraded to more powerful mining equipment. Loss of mining power usually means some miners have abandoned the altcoin and is typically an ominous sign.

OTHER INDICATORS

There are several other indicators we can look at. Changes in an altcoin’s exchange rate over time gives us clues about its health and tends to correlate with changes in its hash rate over long time periods. Exchange volume on various third-party exchanges is a measure of activity and interest in the altcoin. In contrast, the volume of transactions that have been made on the altcoin’s block chain doesn’t tell us much, since it could simply be users shuffling their own coins around in their wallet, perhaps even automatically. Finally, we can also look at how many merchants and payment processors support the altcoin—only the most prominent currencies tend to be supported by payment processors.

Dogecoin: Economic View of Bitcoin-Altcoin Interactions

The relationship between Bitcoin and altcoins is complicated. In one sense, cryptocurrencies compete with one another, because they all offer a way to make online payments. If there are two standards, protocols, or formats in competition that are roughly equivalent in terms of what they offer, then one of them will usually come to dominate, because of what economists call “network effects.”

For example, Blu-ray and HD DVD were in fierce competition in the mid-to-late 2000s to be the successor to the DVD format. Gradually, Blu-ray started to become more popular, in large part because the popular PlayStation 3 console functioned as a Blu-ray player. This made Blu-ray a more attractive format for movie studios, and this popularity fed on itself: as more movies were released for Blu-ray, more consumers bought standalone Blu-ray players, leading to more movie releases and so on. Similarly, if your friends all have Blu-ray players, you’d want to buy one yourself rather than an HD DVD player, because you’d be able to easily swap movies with them. Within about 2 years, HD DVD was a historical footnote.

Cryptocurrency—presumably Bitcoin

This line of reasoning suggests that one cryptocurrency—presumably Bitcoin, which is far and away the most popular one today—will dominate, even if some successor systems could be arguably technically superior. But that would be an oversimplification. Competition among cryptocurrencies is not as hostile as the competition between disc formats for at least two reasons.

First, it’s relatively easy for users to convert one cryptocurrency into another, and for vendors to accept more than one cryptocurrency, which means that multiple cryptocurrencies can more easily coexist and thrive. In economics terms, cryptocurrencies exhibit relatively low switching costs.

Compare this situation to that for DVD players, where most people really don’t want two bulky machines in their homes and can’t convert their existing library of discs if they change to a machine that plays the other format. Switching costs are certainly not zero for cryptocurrencies. For example, users might buy hardware wallets that can’t be upgraded. But by and large, it’s easy to switch cryptocurrencies or to use more than one at the same time.