Is Bitcoin in trouble? Or is now the perfect time for it to take off?
50% drop, Coronavirus fears and global market panic this is the ultimate test for the cryptocurrency
The macro picture
We live in unprecedented times, the world has been steadily globalising — and in the last 50 years — that globalisation has accelerated, being helped by a series of very unsustainable trends.
The macro economy
Speak to any gold bug and you’ll hear the story of how the United States went off the gold standard in 1971 thus detaching the value of the US Dollar from its monetary foundations. This set the scene for the unparalleled level of money printing we’ve seen taking place in the wake of the 2008/9 global financial crisis.
This detachment of paper currency to its underlying asset, also set the scene for unsustainably low interest rates, leading to lower and lower yields on government bonds. This is turn led to pension fund money being invested into equities and ever riskier assets in order to chase yield, which in turn pushed stock markets up even higher in to bubble territory. Not to mention the bubbles in many property markets around the world.
The net result of all this is that the global economy — up until February of this year — had become something of a mirage.
We were told in the news that the stock market is moving higher year after year, that unemployment is low and that recessions were an avoidable outcome given enough intervention by central banks. But the global economy has transformed from something that governments and central banks only intervened with when necessary, to a global economy that had become dependent on frequent intervention and increasingly extreme measures.
This financial engineering of the global economy has produced the mirage of prosperity based on a very shaky and fragile foundation, and in late February we began to see the mirage evaporate in front of our very eyes.
The reckoning
The unprecedented monetary policies of the past half century set the scene for something yet more unprecedented and perhaps unexpected. A grass roots, bottom up reaction to central bank intervention and to the bank bailouts began.
On the 3rd of January 2009, an anonymous individual or group by the name of Satoshi Nakamoto released a white paper describing a digital system for transferring monetary value without the need for a trusted 3rd party. As innocuous as that may sound, the intention of the individual or group who invented Bitcoin was not.
Bitcoin is both a direct challenge to the status quo and the path away from it.
Roll forward 11 years to March 2020, much of the ‘crypto’ world has either been co-opted by the very institutions Bitcoin was invented to challenge or it has become a trendy re-invention of old monetary paradigms (blockchain rent seeking anyone?).
These digressions might lead us into thinking that the recent 50% drop in Bitcoin’s price is a sign that this new fangled internet money is just a fad. That by the time the world has entered into a Coronavirus induced recession, it will have died off like an ICO selling magic unicorn tears.
Bitcoin’s fundamentals haven’t changed and the factors that caused it to come into being haven’t changed.
As the panic and desperation kicks in, the illusion of a functioning economy is now fading, meaning there are only two paths forward:
- Unleash even more quantitative easing and attempt to keep the dying economy alive.
- Let the economy fail and replace it with something else.
Option 1 is the path to hyperinflation. Option 2 is the path to short term chaos.
In either case, Bitcoin stands to gain greater adoption.
- In the hyperinflation case, people will seek a way to preserve their wealth outside of their national currency as their purchasing power is inflated away.
- In the failed economy case, sovereign defaults, bank runs and pension fund collapses would cause people to seek alternative ways to store their wealth.
The fundamental picture
Bitcoin was created with a very clear goal in mind:
- Create a system of sound money that does not require a trusted 3rd party to operate, and cannot be interfered with.
The significance of this goal and the consequences to the global financial system may not be immediately apparent, but as we will see in the coming months, trust in governments and in the institutions which manage our global economy is about to falter.
As that trust falters we’re about to see something new play out, something that hasn’t ever happened in any previous recession. Historically, during times of uncertainty in markets, wealth has flowed in to so called ‘risk-off’ assets (government bonds, cash and gold).
In 2020, not only are we about to see an extraordinary global recession (or perhaps even depression) play out. We’re also about to witness how a recession unfolds with an entirely new asset class at our disposal.
But what about that 50% price drop?
Yes, Bitcoin did drop an eye watering 50% on Friday 13th March. As large a drop as it was, such a drop in Bitcoin’s price is not uncommon.
Bitcoin has been banned multiple times resulting in similar price drops, only to recover weeks or months later.
So what market dynamics are we seeing which would result in such a drop? If Bitcoin’s supply schedule remains the same, stock-to-flow ratio remains the same, and aggregate demand is increasing overall?
Liquidity shock
The initial reaction of the world’s markets to the Coronavirus pandemic has been quite severe, with a lot more potential to the downside. This resulted in a lot of wealth flowing out of stocks into cash. Bitcoin, of course, took a beating as a result. However the same has proved to be true with gold (the world’s long standing favourite safe haven asset).
The true nature of a safe haven asset really plays out later on after the initial liquidity shock. A lot of the cash is now sitting on the sidelines waiting for signs of strength in the financial markets. If those signs don’t emerge, then we will see a flight to safety in to the safe haven assets.
In the Bitcoin world, Bitcoin exchanges saw a huge increase in the amount of Tether being transferred to them, suggesting that there is also a significant amount of money waiting to buy Bitcoin’s dip.
So will Bitcoin survive this?
As and when nations get a grip on the Coronavirus and markets begin to recover, we will emerge into a very different world. A world where governments are desperately trying everything in their power to keep businesses and institutions from insolvency. In doing so they will weaken the public’s faith in their currencies.
In contrast, Bitcoin — although volatile — is gaining an ever growing base of users and investors. But Bitcoin isn’t just an asset for people to park their wealth in or speculate with, it’s an open network upon which to build services and applications that seamlessly transact value.
During last recession, Satoshi carefully crafted an exit from the towering inferno of our current financial system. This recession, as we’ll see very shortly, many will be running through that exit.
