Is cryptocurrency a hedge against inflation?
What is inflation and what’s happening now?
High inflation is an ongoing problem in economies around the world, negatively impacting the cost of living, business and mortgages. Inflation happens when there’s a general decrease in fiat value, which itself is often caused by an increase of money supply.
According to data from Statista, inflation in the UK is at 1.15% and is predicted to increase to 2% by 2026. The Bank for International Settlements (BIS) also warned of an inflation spike that would reach “post war highs” during the post-pandemic recovery – the highest since the early 1990s. Meanwhile, the US has recently faced the highest increase in consumer prices since 2009.
What is deflation?
Deflation is, as the name suggests, the opposite of inflation. This means that unlike inflation, the cost of the economy’s goods and services decrease. While lower prices may be good news for the average consumer, they can also cause economic problems. The main issue with deflation is that it tends to involve lower levels of spending, which can lead to lower income. As a result, unemployment levels increase. It can also cause higher interest rates, making debt a lot harder to pay off.
Deflation is usually caused by a decrease in demand, which happens when people prefer to save their cash instead of spending it. This can be influenced by uncertainty surrounding major economic events, as was seen in the early days of the Covid-19 pandemic. Personal consumption expenditure (PCE) declined in the US during this period, as even employed people held back on spending due to economic and health-related concerns.
Does cryptocurrency hedge against inflation?
The current situation with inflation certainly sounds bleak, so it’s no surprise that people are hailing cryptocurrencies such as bitcoin (BTC) a hedge against inflation.
BTC has a fixed limit of 21 million coins, which allows the cryptocurrency to resist inflation. This means that the demand for BTC will increase as it nears its maximum limit, which in turn pushes its price up. According to an article by AMBCrypto, BTC has protected 85% of its investors from inflation on a yearly basis.
On the other hand, Ether (ETH) could also potentially hedge against inflation. Unlike BTC, ETH doesn’t have a limited supply. However, it’s a common misconception that cryptocurrency without a hard limit is inflationary, and that it’ll only decline in value over time. Plus, a limited supply isn’t the only way to hedge against inflation.
So, how could ETH do it? Rather than using a finite supply, ETH can hedge against inflation with certain monetary policies. Specifically, its fixed assurance schedule. This means that for every block produced on the network, two new coins are issued into circulation. Its supply is only programmed to increase gradually, despite the number of active users, transactions or market price. As long as demand for ETH is higher than its supply growth, it won’t become an inflationary currency.