Behind Bitcoin’s rally is a simple fact: Supplies are limited

The computer code behind bitcoin imposes a hard cap of 21 million bitcoins. So far, about 19.8 million bitcoins have been created, and it will take more than a century to create the rest, a process that will become increasingly difficult over time.

Proponents of bitcoin argue that its scarcity will fuel rising prices as buyers scramble to acquire the last new coins to come online, or to buy existing coins from people fortunate enough to own bitcoin already. It is the same argument for buying Gutenberg Bibles, limited-edition baseball cards and beachfront real estate: There is a finite supply.

Skeptics counter that bitcoin has no intrinsic value and that a wave of selling could wipe out its recent gains. Bitcoin has been hugely volatile over its short history, alternating between feverish rallies and spectacular crashes. It plunged nearly 80% from its peak in 2021 to its low point the next year, after the collapse of the FTX crypto exchange.

Whatever it is really worth, bitcoin is a wild technical experiment unlike any the world has ever seen: an internet-based currency created by tech enthusiasts, without the backing of a government or central bank.

Traditional currencies such as the dollar are subject to inflation because governments can print more of them. Economists say that is actually good—the threat of inflation pushes people to spend money and make productive investments, rather than hoarding cash. But inflation has always rankled savers and investors who view it as an insidious form of tax.

Enter Satoshi Nakamoto, the pseudonymous inventor of bitcoin, who envisioned the hard cap as a way to avoid inflation.

“Escape the arbitrary inflation risk of centrally managed currencies! Bitcoin’s total circulation is limited to 21 million coins," Nakamoto wrote in a 2010 post to an early bitcoin message board.

To create new bitcoins, bitcoin miners use computers to solve complex mathematical puzzles and are rewarded with new units of the cryptocurrency. The size of the rewards is cut in half roughly every four years. Eventually the rewards will dwindle to nothing.

At that point—which is expected to happen around the year 2140—the supply of bitcoin will reach 21 million and stop increasing.

It is theoretically possible that the hard cap could be raised, through a change to the computer code underpinning bitcoin. But since bitcoin is a distributed piece of software running on the internet, pushing through such a change would be difficult. It would require consensus among numerous miners, developers and others who help keep bitcoin running.

Most analysts say it is unlikely that such a change could ever happen—especially since lifting the cap above 21 million could depress the price of bitcoin, by opening the door to a larger supply, and that would hurt the very same bitcoin insiders who would need to approve the change.

Nakamato proposed bitcoin in 2008 and created the first bitcoin in January 2009. In the years since, various developments have made bitcoin an even scarcer commodity than Nakamoto intended, with its real circulating supply unlikely to reach the full 21 million.

For one thing, more than 1.5 million bitcoins worth around $150 billion have been lost, according to estimates by River, a bitcoin brokerage. Bitcoin can be lost when its owners lose the alphanumeric keys needed to access their holdings. Owners frequently lost their keys during bitcoin’s early years, when it was worth little. In one prominent case, an IT worker from Wales has been fighting for years to excavate a landfill and recover a lost hard drive containing the key to hundreds of millions of dollars worth of bitcoin.

Similarly, close to one million bitcoins were mined by Nakamoto and have lain dormant since 2009, River’s data shows. Nakamoto disappeared in 2011. If the inventor of bitcoin is dead, as some crypto researchers believe, then about 12% of the ultimate bitcoin supply of 21 million bitcoins is either lost or stuck in inaccessible “Satoshi wallets."

River estimates that some 14.7 million bitcoins—or about 70% of the ultimate supply—is held by individual investors. These are often large holders who have been sitting on their stashes of digital wealth for years. Crypto investors pay close attention to signs that such “whales" are moving their bitcoin, out of concern that big sales could tank the bitcoin market.

In recent years, big institutions have amassed a growing slice of the bitcoin supply. This includes public companies such as MicroStrategy and Tesla; financial firms, including exchange-traded funds that hold bitcoin on behalf of investors; and governments. The U.S., which acquires cryptocurrencies seized from criminals, is the biggest government holder of bitcoin, according to BitcoinTreasuries.net, a website that tracks bitcoin holdings.

The emergence of such hoards is bullish for the price of bitcoin because it means more of bitcoin’s supply is locked up. Crypto investors are hopeful that Uncle Sam will become an even bigger holder of bitcoin under President-elect Donald Trump, who pledged during the election campaign to create a strategic national bitcoin stockpile.

“For too long our government has violated the cardinal rule that every bitcoiner knows by heart: Never sell your bitcoin," Trump said in July.

Write to Alexander Osipovich at alexo@wsj.com