By John Tamny for RealClearMarkets
The market speculation that is Bitcoin has risen to prominence for a variety of reasons, but it’s not unreasonable to say that the dollar, euro, yen, pound, yuan (or name your county’s currency) have served as the cryptocurrency’s greatest publicists. Owing to rising skepticism about government-issued “fiat” money, Bitcoin has had much more than its day in the sun.
On the supposition that government monetary authorities can no longer be trusted to credibly oversee their currencies, Bitcoin has been viewed as a replacement. Since total supply of the cryptocurrency is limited such that its issuer can’t “print” more of the private money form, supposedly Bitcoin is the ultimate inflation hedge.
Or so it’s been said, or thought.
It’s safe to say that skepticism about Bitcoin is rising amid a stretch in which the value of the “coin” has fallen. After hitting an all-time high of $68,000 last November, the price has more than halved. As this is being written, one can be purchased for $28,000.
To which some will mutter that this wasn’t supposed to be. Particularly as government measures of inflation like the CPI are registering multi-decade highs, Bitcoin should if anything be rallying. When inflation rears its ugly head, investors pile into hedges; thus bidding them up. Or so some imagine.
Along these lines, gold has long been viewed as the inflation hedge par excellence. If the conventional wisdom about gold is to be believed, the rising prices that some deem inflation instigate a rush into the yellow metal that exists as a safe haven of sorts against rising prices; investors once again rushing to gold’s safety on the way to bidding it up.
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The seeming mystery here is why Bitcoin hasn’t outperformed gold. Figure that the supply of gold continues to rise roughly 2% per year, while the supply of Bitcoin will never exceed 21 million. What gives?
Oh well, these rhetorical questions speak very loudly to how much inflation and gold are impressively misunderstood. As the title of this piece makes plain, those who expected Bitcoin to mimic gold, or better yet, exceed gold as an inflation hedge, haven’t a clue about gold, or for that matter, inflation itself.
To begin, it’s useful to stress up front what’s not stressed in just about every media discussion of inflation: It’s not rising prices. There’s a major, major difference between rising prices and inflation. To understand this truth better, consider the recent shortages of baby formula. Because it’s in short supply, those with hungry babies are willing to pay a great deal more for it right now.
Inflation? Not in the least. If parents are paying triple what they used to pay for already expensive formula, that means they have many fewer dollars to purchase other items. Rising prices by their very name signal falling prices for other goods.
Inflation is a decline in the value of a currency, period. Rising prices are a consequence of inflation, or better yet, can be a consequence. But they’re not inflation itself. To presume that rising prices cause inflation is the equivalent of asserting that wet sidewalks cause rain. Causation is reversed. Stop and think about this in thinking about Bitcoin, gold, and inflation hedges.
In particular, stop and think about what inflation actually is in trying to understand why Bitcoin has been declining so substantially amid what so many deem “inflation.” What’s going on here? Why hasn’t it beat gold the supply of which continues to grow?
That the question is being asked speaks to a fundamental misunderstanding of gold itself. To be clear, gold doesn’t rise as a result of inflation; rather gold’s rise is the signal of inflation. When the dollar weakens, gold reflects this weakness. Gold’s rise IS the inflation.
To understand why, it’s crucial to understand that the price of gold itself doesn’t move. Repeat the previous truth over and over again. Gold is the constant. And it’s the constant due to highly unique stock/flow characteristics such that increases in supply or demand for the yellow metal don’t move its price. Put more specifically, gold doesn’t rise when the inflation-fearful pile into the metal. Gold’s value as an inflation hedge is rooted in the essential truth that its price does not move.
To which some will shake their heads and say gold is very volatile. It was $300/ounce in 2002, but $1840/ounce in 2022. That’s a mistaken assertion. When the price of gold moves, it’s in truth the value of the dollar moving up or down, not the metal itself. Gold is yet again the constant, and because its value is least affected by everything else, it’s the best signal of whether a currency is moving up or down.
That gold is so immobile speaks to why it’s an inflation hedge where Bitcoin isn’t. Gold exceeds its would-be replacement yet again because changes in its headline value are always and everywhere a consequence of changes in the value of the currencies in which it’s priced. If the dollar is being devalued, gold’s price in dollars will yet again reflect this truth. And vice versa.
All of which doesn’t describe Bitcoin, or for that matter, the myriad other cryptocurrencies. They’re not currencies for one thing. They’re just speculations. Demand doesn’t bid up gold any more than a lack of demand pushes the price down. Gold just is. Conversely, Bitcoin’s value is demand determined, or market determined.
Is there demand for it at $68,000, $28,000, $2,800, or name your price? There’s a big difference, though it’s one that most never considered. Naturally Bitcoin is falling amid worry about the future. When people are fearful they’re not bidding up much of anything.
Gold isn’t bid up because gold is reality. It’s yet again the constant; its price a reflection of the direction of the dollar. It’s the ultimate inflation hedge because it doesn’t move up or down at all.
John Tamny is editor of RealClearMarkets, Vice President at FreedomWorks, a senior fellow at the Market Institute, and a senior economic adviser to Applied Finance Advisors (www.appliedfinance.com). His most recent book is When Politicians Panicked: The New Coronavirus, Expert Opinion, and a Tragic Lapse of Reason.
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