Bitcoin NVT Ratio or BTC Dominance Factor: Which Most Important For End of 2018?
How Will the Lightning Network Affect Bitcoin’s NVT Ratio?
Bitcoin’s circulating supply is constantly increasing – and it will continue to increase until 2140. This inflation inevitably has an effect on the network value to transactions (NVT) ratio of the bitcoin network.
In an article published earlier this week called, “Bitcoin’s NVT Ratio Normalized for Inflation in the Circulating Supply”, a biomed student and self-described BTC maximalist “cryptopoiesis” explains his analysis after taking into account bitcoin’s coin supply inflation.
It’s a follow-up to cryptopoiesis’s previous article called, “Brief Observations and Questions on the Lightning Network’s Effect on Bitcoin’s NVT Ratio.” Both articles were published over the past week.
What did cryptopoiesis’s analysis reveal? How will the Lightning Network and bitcoin inflation affect the NVT of the bitcoin network over time?
According to cryptopoiesis, the Lightning Network will make it more difficult to calculate the network value to transactions (NVT) ratio of the bitcoin network.
The problem with the Lightning Network and NVT is that transactions are settled off-chain. Yes, the final values are ultimately settled on-chain, which means the full value of the transactions eventually appears on the bitcoin blockchain. However, calculating the specific transaction value of each transaction can be difficult:
“The benefits provided by the Lightning Network (LN), not least in regard to discretion, pose however, some limitation on the TV estimation (transactions which I believe should be taken into account for the purpose of the accuracy of the NVT Ratio).”
Nevertheless, cryptopoiesis believes that we can use the day to day percentage change to calculate transaction value even once Lightning Network adoption continues:
“After several attempts of trying to correlate the recently adopted and rapidly evolving LN parameters to those of the decreasing TV & MC of this year’s bear market, I had settled on Lightning Network Capacity percentage change. The day to day percentage change in LNC and TV, I believe provides reasonable proof that LN is used and stable and that LNC displays a good degree of correlation to the overall TV since the June 2018. This would imply that Lightning Network Capacity could act as a proxy metric for estimating Lightning Network Transaction Value, if there was a way of knowing how it should be interpreted.”
In other words, Lightning Network Capacity percentage change correlates with that of the on-chain transaction value. That means Lightning Network Capacity could serve as a proxy metric in determining the overall, more inclusive transaction value, both on-chain and over the Lighting Network.
How to Normalize Bitcoin’s NVT Ratio for Inflation in the Circulating Supply
Bitcoin’s total supply is constantly growing. Bitcoin will continue to “inflate” with more bitcoins released until 2140. This inflation, understandably, will have an impact on bitcoin’s network value to transaction ratio. Cryptopoiesis decided to investigate the issue and normalize the bitcoin NVT ratio for inflation in the circulating supply.
The end result is similar to cryptopoesisis’s previous post discussed above, but normalized with inflation for greater accuracy:
“To follow up on the previous article, I have adjusted the Bitcoin’s NVT Ratio (more specifically Woo’s NVT Signal) as to take into account Bitcoin’s inflation of coin supply. The upwards skewing of NVT Ratio is more precisely the results of the long-term differences in the trends of both on-chain transaction vol (BTC), and coin supply in circulation.”
Lightning Network Could Make It Difficult to Track On-Chain Transaction Volume
The Lightning Network could also make it more difficult to track on-chain transaction volume.
“The large volume of on-chain transactions that typically follows a bull market might not be as obvious as in the previous cycles if Lightning Network adoption continues,” explains cryptopoiesis. “regardless of the fact that the net values are settled on chain.”
Cryptopoiesis has already established that Lightning Network Capacity correlates with on-chain transaction volume, which means it can be used to calculate a more accurate transaction volume number.
“However, it is unclear how exactly this metric can be interpreted/processed.”
Ultimately, you can read both of cryptopoiesis’s posts on the NVT ratio of the bitcoin network here.