In times of international economic crisis, governments print money. This leads to inflation and investors subsequently save their investment capital in long-term stable investments. Historically, that has been gold, but in the current economic crisis, gold has been joined by another store of long-term value: Bitcoin (BTC).
There are multiple good reasons for this. The United States Federal Reserve is handling the crisis terribly, and has responded to the rising unemployment figures in the same way it always does: by printing money. The dollar has already lost 5% of its value, and predictions say this is only the beginning. The currency is expected to lose up to 20% in the coming years, according to Goldman analysts.
Along with this devaluation has come another threat to investors: deflation. With the value of dollar assets falling rapidly (and the worst is thought to be yet to come), investors are looking to Bitcoin as a hedge against deflation. This seems to be the main reason why Bitcoin has maintained its value, despite the unfortunate news from other parts of the economy.
But are these investors right? Can cryptomoney act as a hedge against dollar inflation? Let’s check it out.
What does a weak dollar mean for the world economy?
Inflation and deflation
For cryptomoney investors accustomed to dealing with the daily – or even hourly – movements of the market, it can sometimes be easy to forget the macro-level trends that drive our economy. Inflation is one of them, and it is useful to have a broad definition of the term before we look specifically at the role of cryptomoney in combating it.
Essentially (and as you will recall from Economics 101), inflation generally occurs due to a general decrease in the purchasing power of fiat money. Many things can cause this loss of purchasing power: foreign investors leaving a particular currency, or even investors attacking a currency. However, most of the time inflation is the result of an increase in the money supply, such as when the Federal Reserve unilaterally creates billions of dollars and sends checks to millions of Americans, for example.
Deflation is the opposite. In deflationary scenarios, prices fall as the fiat currency increases in value relative to different goods and services. Again, there can be different causes for this, but it usually occurs because of tightly controlled fiscal policies, or technological innovation.
The global pandemic and inflation
The key point of these definitions is that inflation can only occur in fiat currencies, i.e. those that are not based on the market value of a tangible asset, but largely on confidence in the growth of gross domestic product. Since the Bretton Woods agreement of 1944, the latter has been the basis for the value of the United States dollar.
Having a fiat currency gives governments a fairly high degree of freedom to print money, and supposedly control inflation. However, when trust in the government is low (as it is now), government spending programs can lead to inflation quickly getting out of control. In the 1970s, gold boomed because investors saw it as a hedge against rapid dollar inflation.
This is similar to what is happening now. The global COVID-19 pandemic has led to massive inflationary monetary policy and aggressive expansion of the money supply, while prices in certain key areas, such as basic foods, continue to rise due to supply fluctuations caused by quarantines in individual countries.
In this environment, it is not surprising that gold is booming. After all, there is only a limited supply of gold on earth, and therefore its price cannot easily be affected by government policy. Some crypt coins, however, are also booming, apparently for the same reason. Billionaire investors are therefore comparing Bitcoin Compass and gold.