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I noticed that there are exchange rates for Bitcoin to other given currencies. How are these rates established?

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  1. You have people that have BTC or currency already in their accounts.
  2. Those people can claim: "I will buy/sell X amount of Bitcoins for Y amount of currency". If you divide one by the other, you have the exchange rate for that particular transaction.
  3. If a buy and sell transaction overlap, they are executed and removed from the system.
  4. After all such transactions are removed, you have a gap between the exchange rate at which people want to buy Bitcoins, and that at which people want to sell Bitcoins.
  5. Average the closest buy-sell pair of transactions and you have the exchange rate, halfway between those two, or the price of the last trade may be used. In both cases, it's only an estimate of the price that the next trade will take place at.
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    I'm not sure point 5 is correct, don't exchanges instead consider the actual "last price" for that? Otherwise you could have a virtual value with no real meaning, such as people constantly raising the buy and sell price without actually ever meeting them. – o0'. Jan 16 '12 at 13:15
  • @Lohoris This is why you have the bid and ask price that are different from that. But if you want to show the current price as one number, you have to take something between those. It is just more convenient than using two numbers, but yes, it doesn't tell you everything if you want to buy/sell. – ThePiachu Jan 16 '12 at 14:01
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    maybe I wasn't clear: they do use only one number, only AFAIK it is not what you suggest, and it is the "last price" instead, which is a single number with an actual meaning (i.e. someone actually processed a transaction at that price). Look at the top-bar of mtgox. – o0'. Jan 16 '12 at 14:33
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Most exchanges use the double-auction market system for price discovery. Read more at http://www.investopedia.com/terms/a/auctionmarket.asp

In economics-speak, the auction market converges where supply and demand intersect.

  • Right now, I could buy a Bitcoin for $6.62133 US and I could sell a Bitcoin for 6.62121 US. So the exchange rate is $6.62 :) – David Schwartz Jan 14 '12 at 7:23
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The simple answer is that it is the price at which a seller and a buyer of the currency agreed on a price for it; i.e. the price at which the market clears. The sold currency is, after all, a commodity.

It may help you to strip away any superfluous notions to think of it as a pound of coffee or somesuch. Seller Sally has coffee but wants dollars. Buyer Bob has dollars and wants coffee. Sally will not part with her coffee for less than $4. And Bob will not buy coffee for more than $3 dollars. The market fails to clear at these prices. A new seller, Sam enters the market and is willing to sell his coffee for $3.50. And a new buyer, Bill, enters and is willing to buy coffee for $3.50. Sam and Bill exchange coffee for dollars. This fact is published to the rest of the market participants; who are thereby able to conclude that at some point in the recent past that two participants were able to transact at the price of $3.50. As an entrant to the market, are you guaranteed to find another buyer or seller at that price? No. But it's a useful piece of data.

If you really want to know how this -- and economy in general -- works, you'll have to do a little reading. As a start, I recommend:

Murray Rothbard, Man, Economy, and State

http://mises.org/rothbard/mes.asp

Ludwig von Mises, The Theory of Money and Credit

http://mises.org/books/Theory_Money_Credit/Contents.aspx

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It is established by people posting buy and sell orders.

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    This needs much more detail to be useful. How is it established by buy and sell orders? – Highly Irregular Jan 15 '12 at 23:57
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The MtGox exchange rate for bitcoin to USD is established in a 24/7 free market where bids meet offers to generate a last trade price. The bid/offer spread represents the distance that market participants are willing to buy or sell their bitcoin. This is no different than any other free market or any other free-market exchange-determined commodity price. See; http://mtgoxlive.com/orders

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This is an old thread from 2012.. now 8/1/2017 bitcoin price is $4200.. how quickly things change

Coming back to the question - price of bitcoin is determined on exchanges. to understand how the price of bitcoin changes you have to understand how exchanges work. Only a small fraction of all coins in circulation are deposited on exchanges. The main reason of price fluctuation is the relation and volume of demand and supply. There are other factors too, technological advancement which can only be accessible with bitcoin give bitcoin a huge boost.

Bitcoin was the best performing (fastest growing) currency last year

http://www.xrates.org/bitcoin-charts/

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