In the aftermath of the World Health Organisation’s decision to officially declare Covid-19 a pandemic last month, pretty much every asset in the world fell in value, even supposed safe haven assets such as gold and bitcoin. While gold has since recovered and reached levels not seen since 2012, the so-called “digital gold” is still down more than 30 per cent from the year-to-date highs made back in February.
But wasn’t this supposed to be bitcoin’s time to shine? The idea that bitcoin was completely uncorrelated with the rest of the market and could potentially act as a safe haven during times of economic turmoil gained popularity in 2019. So why is the crypto asset basically following the S&P 500 wherever it goes? Has bitcoin failed to live up to its ultimate promise?
According to Messari co-founder Dan McArdle, bitcoin has not failed, at least not yet. Instead, there has been a massive misunderstanding in terms of the cryptocurrency’s key value proposition. He believes that bitcoin is a hedge against inflation and loss of confidence in fiat currencies (such as the pound, the dollar or the Euro), not a hedge against a typical recession. Two years ago McArdle predicted that bitcoin would not perform well in the sort of liquidity crunch that was seen last month.
“People have/had this notion that bitcoin is a hedge against a recession, or specifically the S&P,” McArdle says. “I’ve thought that’s wrong for a while, and indeed we saw high correlation with the S&P last month as investors everywhere sold everything in the first real global liquidity crunch we’ve seen since 2009. No surprise bitcoin did not outperform.”
“This is looking to be especially important over the next few years as central banks globally add many trillions to their balance sheets,” he explains. “If they’re successful in preventing further asset price declines, the new liquidity may very well seek out scarce assets such as bitcoin.” He also sees the potential for current and future central bank activities to cause people to think more deeply about money and how fiat currencies work in the coming years. “When the Fed prints trillions of dollars out of nowhere and uses some of it to buy corporate junk bonds, but the government still takes 30 per cent of your paycheck, people start to feel like there’s something wrong with how our money works,” said McArdle. “In an environment where people begin to question the monetary system, alternatives such as bitcoin can draw a lot of attention.”
Based on McArdle’s reasoning, it’s clear that how governments react to Covid-19 may have a greater impact on bitcoin than the virus itself. Indeed, this is the sort of sentiment that was recently shared by billionaire investor and former Facebook executive Chamath Palihapitiya. According to Palihapitiya, the current economic crisis has increased bitcoin’s chances of having a valuable role to play in the world from one per cent to five or ten per cent. In such a scenario, Palihapitiya sees a single bitcoin being worth millions of dollars. (At the time of writing one bitcoin is worth $6,841).
bitcoin proponents were already bullish on the crypto asset due to government spending and debt levels before Covid-19, so current national stimulus packages are just adding more fuel to the fire. Berkshire Hathaway vice chairman Charlie Munger recently told the Wall Street Journal: “I don’t think we’ll have a long-lasting Great Depression. I think government will be so active that we won’t have one like that. But we may have a different kind of a mess. All this money-printing may start bothering us.”
That said, the US dollar has such a dominant role in the global economy that it has actually strengthened during the past month, despite all indications that the Federal Reserve will create as much new money as necessary to combat the economic crisis.
“The US has a luxury other countries do not – owning the world’s reserve currency,” says McArdle. “Since the end of World War 2, key international markets and trade between nations have been priced and settled in US dollars, and central banks globally overweight US dollars and US treasuries in their reserves. This puts the US in the unique position of being able to effectively print money without oversupplying the market, at least for longer than other central banks can. In this liquidity crunch and deleveraging process we’re seeing now, there are simply trillions of dollar-denominated debt, so the demand for dollars is especially strong. I think this is the best explanation for how the Fed can print unprecedented amounts yet the dollar still strengthens in the near-term.”
Amid all this turmoil, bitcoin has a halving event, in which the amount of new Bitcoin issued roughly every ten minutes is cut in half, happening next month. Market analysts have been speculating on how the halving will affect the bitcoin price for more than a year, which the main area of contention being whether or not the effects of this even are already priced into the market. In two recent reports, crypto asset data company Coin Metrics and blockchain infrastructure company Blockware Solutions both indicated that the halving could lead to an initial Bitcoin price drop due to the significant effect miner sell pressure can have on the market.
“There is a consistent sell pressure on the price of bitcoin due to miners having to sell their bitcoin to fund their operations,” explains Blockware Solutions chief executive Matt D’Souza. “Miners receive newly minted bitcoin and are selling fiat out of the system.”
Miners are one of the largest sources of selling pressure because they need to sell bitcoin to fund their operations. This varies according to market conditions, profit margins, and the timing of new mining hardware releases, says Coin Metrics data scientist Kevin Lu. “In recent months, selling pressure has been high since profit margins have been squeezed and because many miners are liquidating existing bitcoin on their balance sheet to purchase the latest generation of mining hardware.”
But D’Souza believes that the market could become much stronger for it in the end. “Ultimately, this will create many inefficient miners and the bitcoin network to experience extreme miner capitulation if these miners remain unprofitable for many weeks or months,” he says. “This will be a healthy cleanse for the network. Inefficient miners that must sell their bitcoin rewards will have to shut off their operations as they will be unprofitable. Now more bitcoin will be allocated to more efficient miners and sell pressure will be reduced from the network.”
Due to the fiat currency inflation and government spending that are expected to occur in the coming years, it’s possible that bitcoin’s ultimate fate could be decided this decade. It’s still possible that the asset could fade away into obscurity, but it also still has the potential to develop into a global, apolitical store of value and medium of exchange.
Digital Society is a digital magazine exploring how technology is changing society. It’s produced as a publishing partnership with Vontobel, but all content is editorially independent. Visit Vontobel Impact for more stories on how technology is shaping the future of society.
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