High inflation – the problem that bitcoin does not have

Thousands of billions were pumped into the economy to combat the COVID crisis. Now inflation is at its highest in years. There are several causes, but could the unprecedented expansion of the money supply also play a role? Monetary depreciation due to unbridled monetary policy – that is impossible with Bitcoin.

Everywhere you read about it: inflation. According to Statistics Netherlands, inflation in the Netherlands rose to 5.6% in November. Inflation in Germany is 6% and in the entire eurozone it is 4.9%. The US has an inflation rate of 6.2%. These are the highest numbers in years.

Inflation is usually defined as a general increase in the prices of goods and services: everything becomes more expensive. The ECB summarizes it as follows: “that means that you can buy less today for 1 euro than yesterday. In other words: inflation makes the currency worth less over time” . Another word for ‘inflation’ is therefore ‘money devaluation’.

Surprised

Central banks are surprised by the high inflation. Last year they thought inflation was still too low and they are aiming for slightly higher inflation to boost the economy. In January, US Federal Reserve Chairman Jerome Powell said he was not worried about inflation and that it would be some time before inflation rose above 2%.

When inflation did come higher later, he said it was ‘transitory’ – a rather unclear concept. Christine Lagarde, president of the ECB, also recently said that inflation is temporary. This week, however, Powell clarified that by “transitory,” he didn’t mean “ephemeral ,” but “not permanent . ” DNB President Klaas Knot has been cautious for some time now. He already warned this summer that inflation may remain high and DNB recently repeated this.

Various reasons are given for the higher prices: logistical problems due to a disrupted market, higher gas prices because more heating was used last year, chip shortages and increased raw material prices.

Monetary inflation

Less often, the role of money creation in inflation is mentioned. Yet that is the classic example from which the concept derives its name. The word ‘inflation’ means something like ‘inflate’ and what is being inflated is the money supply.

When the money supply in a society increases and people therefore have more money to spend, they generally buy more goods and services. If, as a result, demand rises faster than supply can grow with it, prices will rise. Nowadays, inflating the money supply is also known as monetary inflation .

Top: Eurozone M2 money supply, tradingeconomics.com

Above: Dollar M2 money supply, Federal Reserve St. Louis

The phenomenon is widely recognized. World- renowned economist Milton Friedman once stated: “Inflation is always and everywhere a monetary phenomenon, in the sense that it exists and can only be caused by a faster increase in the quantity of money relative to output” . According to him, this creates a situation in which ‘too much money is chasing too few goods’ .

Since the outbreak of the COVID crisis, the global amount of money has grown considerably. In the eurozone, M2 money supply increased by 16% over the past two years, doubling the previous two years. During the same period, the global amount of US dollars increased by a whopping 37%.

The new money was created and injected into the economy to combat the economic impact of the COVID crisis and went to distressed businesses and sometimes consumers. They spend it, so that others earn it and spend it again. Thus, the new money slowly penetrates the economy and begins to circulate.

In principle, central banks can create unlimited money, as they see fit. They make no secret of that.

Wealth distribution

In addition to more expensive consumer goods, monetary inflation often leads to rising investment prices. After all, inflation makes saving money unattractive, because the value of savings evaporates and interest rates do not outweigh inflation. After all, if inflation is 5%, then you have to achieve a minimum return of 5% in order not to deteriorate.

This encourages not to save, but to invest or invest in things that yield returns and are not subject to inflation, which increases demand on the financial markets and causes price rises. Perhaps that is why the crisis year 2020 was a record year for the stock markets and why house prices rose at an unprecedented rate. The AFM is now warning about the bubbles that have arisen.

In any case, it does not do much good for the distribution of wealth. The richest 1% in the US gained $6.5 trillion last year, while the majority of people with only savings and an income do not benefit from increases in value and now mainly notice that their money is depreciating.

Bitcoin as a tool against inflation

Historically, in times of inflation people often sought refuge in gold. Paper money is virtually free and unlimited to create, but gold is scarce and expensive to mine. It is not easy to make more of it and that protects the economic value.

If the demand for gold increases, the supply on the market cannot simply grow with it. After all, the inflation of the gold supply is limited to the production capacity. If the inflation of money is greater than the inflation of gold then gold retains value relatively better than money – in theory at least. Because of that property, gold is sometimes an economic haven and if its popularity increases, it can lead to additional price appreciation.

Nowadays there is also bitcoin. It is sometimes referred to as ‘digital gold’ because it has similar properties. Bitcoin is also scarce and expensive to produce, and the production capacity of bitcoin miners is also very limited.

Proponents even think bitcoin is better than gold. Gold can be dug deeper if the gold price is high enough, and there is always more to be found somewhere. Bitcoin, on the other hand, is limited to an absolute maximum of 21 million bitcoins and production capacity is impossible to scale.

Indeed, inflation in the bitcoin economy is limited by math that is immutably coded. Miners can mine 6.25 BTC per block (about once every ten minutes), and that drops by half every four years, until inflation in the bitcoin economy is finally zero around the year 2140. Due to the decentralized nature of Bitcoin, no one can change that, and that gives a certain certainty. But gold? We do not know exactly how many of these exist and what the future will bring. Maybe one day we’ll get that out of space.

Unlike gold, bitcoin is also a means of payment. You can pay with it and send it to the other side of the world in a flash. It is divisible to eight decimal places, so you can also own a little bit and use it for small amounts. It is also easier to transport than gold. And because it is digital and programmable, all kinds of innovations are possible. Moreover, the bitcoin market is young and emerging; there is still a lot of growth potential. The gold market, on the other hand, is already mature and ten times larger.

There are therefore more and more people who prefer bitcoin as a hedge against inflation. Since 2020, there has even been a trend among companies and wealthy investors. Often it is a modest percentage of a few percent, because there is of course still a great risk involved, but others take a bigger approach.

Elsewhere in the world

Bitcoin has already been discovered in a number of countries where inflation has been high for some time. For example, the popularity of bitcoin has been increasing in parts of Africa for some time now, and bitcoin is also increasingly being discovered in countries such as Venezuela, Lebanon, Iran and Turkey.

For them, bitcoin is often not a speculative investment, but an exit opportunity and a way to protect their wealth against currency depreciation – no matter how big or small that wealth may be. The volatility of bitcoin is sometimes dwarfed by the price movements of the local currency. The decentralized Bitcoin network can then be an attractive alternative, because it is a neutral network where no party can turn the knobs. The inflation of Bitcoin is therefore unchanging, reliable, predictable and above all: incorruptible. That makes Bitcoin unique.

Investing in bitcoin? Remember that Bitcoin offers certain certainties, but at the same time also introduces many risks. The market is still small and the price can therefore fluctuate more than in more mature markets. Also, some basic knowledge is needed to manage bitcoins securely. You can read how that works in our quick guide for beginners.

Related Posts

Leave a Reply

Your email address will not be published. Required fields are marked *

© 2024 Cryptocoin Budisma.net