We must make a few assumptions first before analyzing the impact of a firm’s decision to accept Bitcoin. These assumptions are critical to establishing the basic economic theories that influence profit margins in a business that has some control of their prices.
Each firm will always attempt to maximize profits.
We will assume that all firms are owned by an owner that seeks to maximize profits. Profit margins are defined as net income divided by total revenue. Revenue is defined as sell price times the number of units sold. Margins represent the amount of each dollar that the firm earns in profit. Profit-seeking firms will attempt to maximize profits by selling at the price that sells the most units at the cheapest cost to the firm.
Each customer of each firm is a marginal thinker.
A marginal consumer is one that thinks on the margin, or evaluates the value of every action taken. Each action will have an opportunity cost. Therefore the cost of any good or service is what is given up to obtain it.
Each firm will attempt to maximize the size of their market.
Firms will constantly try to improve their customer base and expand the targeted audience of their goods or services, so long as the cost of doing so does not exceed the benefits. Firms will market their goods to expand their customer base. To a firm, a loyal customer is incredibly valuable.
A basic scenario.
Now that we have established the assumptions let’s create a scenario that can be used to explain the impact of allowing customers additional means to pay for their goods or services.
There is an island with several shops that offer various goods and services in the middle of the island. One one end of the island, the people of Shell Town reside and use shells as their currency of choice. On the other side of the island, the people of Coconut Town live and use coconuts as their currency of choice. Both populations have an equal number of people and currency units which are worth the same when exchanged. Let’s say that there are ten shops that offer various goods and services in the center of the island, half of them accept only shells, and half of them accept only coconuts. If another shop opens that offers goods and services that are not offered by any of the other shops on the island, the currency they choose to accept will increase in value (so long as those goods or services do not have a good substitute.)
The new shop opens and chooses only to accept shells. While the people of Shell Town will immediately benefit from the new shop, the people of Coconut Town are immediately put at a disadvantage, they can’t shop there. Not only can the people of Coconut Town not purchase goods and services from the new shop, but the new shop is missing out on doubling their amount of customers if they accepted both coconuts and shells as payment. When the new shop chooses only to accept shells, they limit their revenue (which limits profit.)
Let’s further expand on the situation to say that all shops trade in both shells and coconuts for gold coins, a central bank charges exchange fees when converting shells and coconuts to gold coins. The fee charged by the central bank reduces net income and is categorized as an expense. This means that as total revenue increases, so does the amount paid in fees for exchanging coconuts and shells into gold coins.
If Bitcoin is introduced to the island, and it allows shops to exchange the cryptocurrency for the gold coins that they prefer for cheaper than the exchange rate of shells and coconuts to gold coins, than the profit maximizing firm will choose to accept Bitcoin. Something unique happens with Bitcoin that doesn’t happen with shells or coconuts though. Let’s assume that the new shop is the only place on the island that accepts Bitcoin payments. If a certain amount of Bitcoin is distributed randomly to citizens on the island (equally to both towns), then those citizens would have an incentive to spend their new-found currency (assuming that the new shop offered them a discount for Bitcoin purchases over those made using coconuts and shells.) If the new shop provides a special discount for people using Bitcoin (the discount would be lower than the fee payed to exchange Bitcoin to gold coins) they can create an incentive for customers to pay with Bitcoin.
For each good or service that a firm provides for Bitcoin, rather than shells or coconuts, they can increase their margins by reducing the transaction costs for converting other currencies to gold coins. For each additional sale in Bitcoin, the number of sales that would have been made with shells or coconuts would decrease, further increasing margins. By creating an incentive (discount) for using Bitcoin, a firm can increase their margins, and expand their market to new customers (ones that wouldn’t purchase goods or services if that firm didn’t offer Bitcoin.). By offering customers more options to pay, firms can attract more customers.
Because Bitcoin reduces transaction fees, firms that choose to accept it increase their profit margins for each sale made in Bitcoin rather than with Paypal or credit card. Many of the firms that accept Bitcoin choose to offer special discounts to customers, creating an incentive to spend their Bitcoin for goods and services instead of selling their coins for fiat currency. While many firms inevitably attract new customers simply by accepting Bitcoin, firms that choose to offer an incentive for spending Bitcoin can actually increase their profit margins significantly. Firms in markets with perfect competition wouldn’t receive as much benefit for accepting Bitcoin as a firm that offered unique goods and services though they might be able to increase margins by a significant amount. At wholesale level, an increase of 1-2% in profit margins is huge.
While Bitcoin is still young, it presents an opportunity for profit-maximizing businesses to increase their profit margins. Companies choose to accept Bitcoin because it provides them with a benefit that is greater than the cost of learning how the technology works (time, possible small fiat cost.) As Bitcoin continues to grow, more businesses choose to accept the currency. As we move forward, it is obvious that new firms will choose to accept Bitcoin going forward, given that they can choose to accept it and convert it to fiat instantly (avoiding the market fluctuations.)