Erik Weijers, 8 months ago

The high inflation numbers and the crypto market

The U.S. Consumer Price Index (CPI), a widely used measure of the cost of living, rose in March to its highest level in four decades: 8.5% annualized. In Europe, similar figures were recorded for March: 7.5%. What does this mean for the crypto market?

Incidentally, other measurement methods arrive at higher figures. The so-called Truflation index comes to 13% for the US for March. Truflation, which runs on Chainlink, is transparent and also uses actual price data. Unlike the CPI, which uses surveys.

Pressure on the Central Bank

These are concerning figures, which is why the U.S. Central Bank (the Fed) is experiencing political pressure to raise interest rates. This is because higher interest rates have a dampening effect on economic growth and prices. The hope is that this will keep inflation somewhat bearable for the American people. Only then does Biden stand a chance of being re-elected.

The big question is whether the Fed will push through with interest rate hikes in the coming months or whether the hints they have given so far are mainly acting tough. After all, the dirty secret of any government is that they need inflation. Only by printing money can they pay off their debts in a world where they are up to their necks in it.

Years of higher inflation ahead, or?

Based on the previous, there are analysts who believe that interest rate hikes and strict monetary policy are not going to be that extreme. But there is also a camp that thinks the Fed is serious about rate hikes. Even if it comes at the expense of stock markets and crypto markets. Only when equity markets fall 20% or more and investors really panic will they have to push the brakes. By then, inflation would have been largely killed already by a recession.

What has been causing the current excessive inflation?

  • Of course, it is partly the result of the huge amount of money pumped into the system during the pandemic.
  • In addition, it is an effect of the pandemic-related disrupted supply chains of goods – not just because of factory lockdowns but also because people started changing their spending patterns.
  • Finally, because of the war in Ukraine and the trade wars. If someone turns off the gas tap, the price of gas will go up.

Many of these causes will not disappear any time soon. The war and the disturbed relations between world powers will not be behind us overnight. So energy and trade will remain expensive - and on top of that, we wanted to get rid of relatively cheap fossil fuels anyway. If so, we must accept less wealth, ergo higher prices.

Also, because of the pandemic and geopolitical tensions, countries will want to re-onboard production facilities. Produce Your own facemasks, your own microprocessors. That's the safe and perhaps sensible option, but not the cheap one. It will end a twenty-year trend of increasing globalization and thus cheaper production. Reversing this trend will not do the prices of goods any good.

On the flipside of inflationary forces, there is the simple demographic fact that a bigger percentage than ever of the world population is of retirement age. Faced with these higher prices, they have no way to raise their income. It will limit their spending power and thus act as a deflationary force countering inflationary pressures.

If you add up the views of most macro investors, the majority would bet on a period of more inflation to linger. But there’s also a sizeable camp that still sees this inflation as transitory.

Bitcoin still protection against inflation?

Comparable forces are acting on Bitcoin and the crypto market as well. On the one hand, one of Bitcoin's use cases is to protect against fiat money losing value and so protecting your spending power. But in order for it to achieve that, dollars have to keep flowing into it. Bitcoin was and still is largely an investment product for the common man. And they have less money to spend due to inflation and have become cautious.

On the other hand, institutions have started to put a part of their portfolios in Bitcoin and crypto. That trend will probably only accelerate.

But it will take years for the market to slowly come to the realization that Bitcoin is a protection against the weakness of the current financial system - rather than a risky investment. But that IS what it is, in fact: insurance against the vulnerabilities of our fiat system, just like gold and commodities are. It’s not paper, it’s not based on debt. It’s a different system.

Conclusion

Almost a year has now passed since the euphoric phase of May 2021. Let's not beat around the bush: we are in the middle of a (mild) crypto bear market. It can easily last 18 months or a bit longer in crypto. Has the bottom already been reached? Many on-chain signals point in that direction. But if the Fed continues to raise interest rates as we slowly slide into a recession, it could lead to a crash in stock markets and an even harder crash in crypto. In the current financial situation, crypto correlates with (tech) stocks.

On the other hand, we also see bullish factors, both on-chain and structural. The HODL army has no intention of selling. We see this in the Bitcoin hodl waves and BTC being drawn from exchanges, among other things. Macro-economically, Bitcoin will find its place in a world that needs to find alternatives stores of value besides paper money. For Ether, there is a similar good on-chain picture, and on top of that is the upcoming merge. After the merge, staking rates will get higher and ETH holders will be even more inclined to lock their ETH away in staking contracts. Bullish.

In short, the financial markets are scared and confused, the hodlers are holding and the crypto industry continues to build. Nothing to worry about if your view is long-term.

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