How Does Inflation Affect BTC Prices?
Countries throughout the world began pumping trillions of dollars into their economies since the COVID-19 outbreak provided the ideal conditions to test this theory. Many countries, including the United States, printed money to meet their citizen’s stimulus needs. Market jitters pushed asset values higher despite a severe decrease in global economic output and unemployment. Therefore, the stock market concluded the year with record gains.
Even Bitcoin, which is considered a speculative asset, had a historic price run by the end of 2020 increased more than 250 percent. Traditional investors who recognized Bitcoin’s potential to function as an inflation hedge contributed to these increases. However, the type of inflation that investors were anticipating has not yet been manifested. Inflation in the United States remained constant throughout 2020. Some experts predict that inflation in America will be running rampant any time soon. In contrast, others believe that a small amount of post-pandemic inflation is beneficial.
There’s no hiding that people buy Cryptocurrencies for a variety of reasons. Some people see a quick method to enhance their money, while some seek to book profits while others consider it a store of value. However, the majority of them feel that Cryptos, particularly Bitcoin, is an excellent inflation hedge. The value of money depreciates when inflation rises. Therefore, many people invest in assets that are nearly likely to increase in value faster than inflation to avoid this reoccurring problem. This technique assures that their investments’ net worth remains positive even while inflation eats away at the value of their money. Bitcoins’ remarkable increase over the last year has attracted investors who believe it can outperform inflation. As a result, rather than investing in gold or real estate, many of them are turning to the Crypto market.
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Now, you must be wondering why Cryptocurrency advocates frequently mention Bitcoin as a form of inflation protection? The argument is that printing money by central banks will result in inflation or a reduction in the value of money over time. On the other hand, Bitcoin has a hard limit of 21 million coins that can be minted at any given time. Thus, BTC can withstand inflation because of its restricted supply.
What is inflation, and how does it occur?
The United States Federal Reserve defines inflation as an increase in the price of goods and services over time. But many associate it with a change in the money supply or the total amount of money in circulation. “In the Bitcoin realm, the term ‘inflation’ isn’t used in the same manner that economists use as a general rise in consumer prices. Instead, they tend to use it to refer to a growth in the money supply”, said Frances Coppola, an economist and CoinDesk columnist.
Let’s say- you paid around $1.37 per pound for a loaf of bread, which cost around $0.14 a pound about 70 years ago. Over the years, the price has increased roughly tenfold, and here inflation is to be blamed for the price increase. In an economy, a small amount of price inflation is beneficial. Thus, inflating the pricing of goods and services shows a natural demand for those items. On the other hand, when an economy suffers from deflation, prices fall, and businesses lay off workers or go bankrupt, producing a negative feedback loop. People can be perplexed by the concept of inflation vs deflation at times. The truth is that anything can be inflated or deflated, whether it’s a bicycle tire or a market’s pricing. As a result, it’s critical to grasp what’s being discussed when the terms inflation and deflation are mentioned.
Also read: Factors That Determine The Price Of Bitcoin
Inflation of Bitcoin Supply and Protocol
As we discussed earlier, anything from money in an economy to bicycle tires can be inflated. Bitcoin was designed to function as money and a store of wealth, and its inflation rate is built into the code. As you may know, BTC is the fuel that keeps the Bitcoin Blockchain running and secure, and thus, new transactions are confirmed to the next block of the Bitcoin network every 10 minutes or so. Miners that confirm those blocks are rewarded with newly minted Bitcoin as a reward for their efforts. As a result, a new BTC is added to the economy every 10 minutes and is accessible for spendings.
Satoshi Nakamoto programmed a halving cycle into code to limit and cap the number of Bitcoins ever created. The compensation a miner receives is slashed in half every four years or so. Although at a slower pace, Bitcoin is still being made. The next halving cycle is expected around 2024, and at that time, the creation of new Bitcoin will reduce even more. The reward will eventually fall below 1 Satoshi, and no more Bitcoins will be created. There will be 21 million Bitcoins available at that time. However, it will not occur for some generations, since it is projected to occur around 2140. The scarcity of supply is one of the main reasons why people have been investing in Bitcoin. The quantity of Bitcoins that will ever be available is limited, and thus the inflation rate can be calculated mathematically at any time.
What happens to BTC prices during inflation?
Now that we know the supply of Bitcoin is fixed; the demand for Bitcoin and the availability of money in the economy will be the key factors influencing its price. It is a fact that the demand for Bitcoin will fluctuate due to a variety of variables. But in the case of Bitcoin, even if it’s in the early stages of new technology adoption, it can be claimed. According to a recent survey, 14 percent of Americans have invested in Bitcoin, which hardly qualifies as widespread use. Perhaps driving prices higher, it may be claimed that overall demand for BTC is expected to increase as well.
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Now, let’s ignore the demand for a while and assume that it will remain stable or expand modestly. How might the price of Bitcoin be affected by global fiat currency inflation or deflation? The answer to this is, while the major developed economies in the world are increasing their money supply. When we have a worldwide economy with more money in it and a fixed number of bitcoins, Bitcoin’s price in the fiat currency will rise.
Why are prices for goods and services rising?
Because most financial experts believe that a certain amount of inflation is beneficial to our economy, for example, the government has printed more money than we require. On the other hand, Bitcoin has typically been gaining in value considerably faster than the US dollar has decreased, rising from around zero in 2009 to moreover $65,000 by mid-2021. Since it’s a volatile market, BTC has witnessed significant increases and decreases, but the long-term trend has been upward. As a result, Bitcoin has become a popular hedge against inflation in fiat currencies. Bitcoin was created to withstand inflation because its supply is restricted and predictable; thus, the generation of new BTC will undoubtedly decrease over time shortly. There will only be 21 million Bitcoins, and the quantity of Bitcoin that is extracted is reduced by fifty percent every four years.
Also read: All You Need To Know About HODL
Should you HODL or spend your Bitcoin?
There’s a usual cycle going on right now that’s beneficially been affecting Bitcoin’s price. To begin with, when the economy slows, central bankers and politicians rush to provide stimulus. That stimulus comes from the printing of more money, which fuels inflation. As inflation rises, central bankers may contemplate reducing stimulus, resulting in deflation of the money supply. The economy then begins to suffer, and further stimulus is planned. Bitcoin has reacted favourably to a series of such events, and as a result, it has lagged benefits in terms of deflation. The traditional reaction is that deflation causes stimulation, which causes inflation causing Bitcoin prices to rise. As a result, if you have the patience to wait, then HODLing is a viable investment strategy for acquiring additional Bitcoin at lower prices.
Disclaimer: The author’s thoughts and comments are solely for educational reasons and informative purposes only. They do not represent financial, investment, or other advice.