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Cryptocurrency Is Not a Hedge Against Inflation – Here Is Why and What To Do

‘Inflation’ is a word on many people’s lips right now, and with good reason – rates of inflation are the highest they have been in a generation in many countries around the world. Because of their decentralised nature, cryptocurrencies like Bitcoin were considered by many to be a potential hedge against inflation, but this hasn’t come to pass, with crypto valuations dropping along with traditional stocks.

But what exactly is inflation, why is it happening, and why weren’t cryptocurrencies immune? Let’s find out.

What causes inflation?

Inflation is when prices of all sorts of goods and services, from building materials to your TV streaming service, rise at the same time. This is not a problem if the value of the money used to buy them is also increasing, but, of course, fiat currencies were designed to become less valuable over time, not more. This means that prices rise while the value of the money to buy them doesn’t, meaning that the cash in your pocket simply doesn’t go as far.

Causes of inflation are many and varied, but the most typical ones include:

  • The printing and giving away of money to citizens
  • Legal devaluation of the sovereign currency
  • Purchasing of government bonds (first created by loaning new money into existence)

Of these three, the last one is the most common in countries with central banks, which is something we saw in earnest during the coronavirus pandemic – central banks ‘printed’ trillions of dollars worth of capital in order to support their own economies. However, the net result of this, through a number of mechanisms, is inflation.

Can inflation happen with cryptocurrencies?

Inflation theoretically can happen with cryptocurrencies, although in most cases the answer is no. This is because most cryptocurrencies have mechanisms in place to avoid the supply of coins increasing suddenly, meaning that there can never be too many minted.

Using Bitcoin as an example, the supply is strictly controlled in two ways:

  • When more miners come on board, the mining difficulty is increased. This makes it harder for everyone to mine bitcoin, ensuring that the supply rate remains intact.
  • The Bitcoin halving reduces the amount of BTC offered to new miners every four years, controlling the supply on a macro scale.

Cryptocurrencies that don’t use miners, such as Binance’s BNB coin, ‘burn’ tokens every few months in order to keep the supply at a satisfactory level and avoid inflation. Interestingly, one of the long term impacts of Ethereum’s change to a proof-of-stake mechanism is that it will become deflationary, where more coins will be burnt through transactions than will be created.

How can you beat inflation if you run a crypto business?

Being a crypto business during this period has been a challenging time, with the crypto bear market coinciding with a time of rapid inflation. However, the best way to survive such periods of external trauma is to focus on growth. No one knows how long these episodes of financial uncertainty will last, and so the only thing to control is what you can control.

For companies that hold cryptocurrencies, staking or lending can be a way of generating a side income. Lots of cryptocurrencies allow you to stake their coins and get more as a reward, while lending platforms still pay out inflation-beating rates of interest, so these are areas certainly worth considering.

One thing that crypto businesses should not be doing at times like this is withdrawing from the public’s gaze. In such times it’s tempting to hold back from marketing, but as Bitmedia CEO Tanya Petrusenko explained earlier, companies that remain in the public’s gaze during these times will reap the benefits when the markets come back to life.

Crypto advertising platforms like Bitmedia carefully choose where to target your ads to make the most of the reduced competition, focusing on the next generation of crypto projects and users. As the leading crypto advertisement platform, it allows projects and businesses to create instant conversions with their target market, increasing brand awareness, sales and turnover at a time when other projects are allowing themselves to be bullied by the poor market conditions.

Bitmedia 3 Cryptocurrency Is Not a Hedge Against Inflation - Here Is Why and What To Do

How to survive during the crypto inflation? Cooperate with influencers and increase your brand awareness. Image source: Bitmedia.io

Surviving bear markets is one thing, but doing so simultaneously as a global economic downturn presents added complications. However, with Bitmedia, you can navigate this wintery landscape and come out on the other side in a position to welcome in the spring.

Why hasn’t cryptocurrency worked as a hedge to inflation?

There are numerous reasons why cryptocurrencies have failed as an inflation hedge:

  1. When inflation began to increase rapidly, the crypto market was coming to the end of a two-year speculative bubble, so prices were naturally about to decline
  2. Cryptocurrency prices are famously volatile, making them unsuitable as a long term hold
  3. Cryptocurrencies still aren’t easily exchanged for a good or service, so they’re not in demand during difficult financial conditions
  4. Many prices are still based on consumer sentiment rather than fundamental use, and when sentiment is poor, they drop
  5. Cryptocurrencies came along after the 2008 financial crash – they have never experienced a global downturn and so their potential as a hedge was entirely unknown

Once the current economic downturn is over and inflation is brought under control, it will be interesting to see which cryptocurrencies have survived and which have lost the least value. These may be spoken about as hedges during the next financial crisis.

What does inflation mean for crypto investors?

What have we learnt from cryptocurrency’s performance during the current economic downturn? It’s clear that, while cryptocurrencies looked like they could be a good hedge to inflation, it has turned out to be the opposite, so that particular bubble has burst.

However, much depends on how the likes of Bitcoin come out of the current period of financial uncertainty. If cryptocurrency prices can, generally speaking, retain their current value over the next couple of years while the markets reset, then this could bode well for the future.

Many cryptocurrencies are sitting at vastly higher valuations than they were in the 2018-2019 bear market despite the economic downturn – in fact, the entire crypto market is some eight times more valuable compared to this point in the last bear market.

If total devastation can be avoided, then this will put crypto in a good stead for its recovery and may lead to people looking to it again in future financial crises as a hedge.

Featured Image: MexPixel

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