Can Bitcoin be an Effective Hedge Against the Dollar?

The legendary economist John Maynard Keynes once said, “When the facts change, I change my mind. What do you do, sir?”

In the last few weeks, several major global banks have collapsed. These include Silvergate, Silicon Valley, First Republic and Signature in the US, and Credit Suisse in Switzerland. This has spread panic of contagion. While on the contrary, Bitcoin has climbed to its nine-month high of USD 28,500.

The situation validates the original use case of cryptos as a global financial alternative and a protection against the debasement of global currencies like the USD. It also raises the prospect of returning to a monetary policy that will benefit Bitcoin and may distract regulators that have otherwise appeared hell-bent on quashing digital assets.

Bitcoin was founded during the 2008-2009 financial crisis as a decentralised alternative to the traditional banking system, with its programmed monetary policy expected to be a hedge against inflation. As a fractionally reserved banking system teeters on the brink, Bitcoin’s resilience, predictability, and relative safety stands in stark contrast.

Bitcoin has limited supply. Its code is programmed such that there will only ever be 21 million Bitcoins in circulation (about 19 million are in circulation now). Additionally, those 21m are set to be released on a defined schedule where fewer and fewer Bitcoin enter circulation around every four years. This four-year cycle is known as ‘halving’. Bitcoin miners earn a reward for successfully ‘mining’, or verifying, transactions of the next block on Bitcoin’s blockchain. At first, miners earned 50 bitcoins. Four years later that was cut in half to 25. Enough time has passed that miners today earn just 6.25 bitcoins. Sometime in May 2024 when the next halving occurs, that reward will dwindle to 3.125 bitcoins.

This set schedule drives a simple characteristic that Bitcoin advocates believe is missing in the USD – supply and demand. In the last decade or so, the Federal Reserve undertook an experimental approach known as ‘quantitative easing’ to stimulate the economy. This strategy led the central bank to buy bonds, injecting more money into the economy.

Although markets around the world have been spooked by inflation, we can see that despite its recent slump in price, Bitcoin is performing just as it was designed to. More recent Bitcoin investors are perhaps sitting on losses, but those who invested over the last ten, five, four or even three years are sitting on huge gains. And it all comes down to the simple dynamics of supply and demand.

If the current trends continue, there should be increased demand for the world’s most valuable cryptocurrency. And with limited growth in supply, that price increase should outpace inflation. In the short term, Bitcoin has not been a good hedge against inflation, but when evaluated over a longer period, that narrative shifts.

Author: Lucky Bahl

Co-Founder & Managing Partner

Image by Tumisu on Pixabay