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Inflation in the World of Cryptocurrencies (with a Focus on Bitcoin)

For a long time, one of the advantages of cryptocurrencies was their natural deflation. What does it mean? Is it really so?

Inflation in the World of Cryptocurrencies: Is It the End of Financial Stability?

Written by Ethan Goldenberg

Financial expert @ Global Asset Finance Limited, 10+ years in the finance and cryptocurrency market

In any economic system, people are striving for stability. Over the past decade, several waves of the global economic crisis have fundamentally shaken our confidence in the future. Although such events certainly bring some experience, no one likes losing money.

Inflation of the traditional currency occurs due to the increase in the money supply in excess of the real commodity demand. For a long time, one of the advantages of cryptocurrencies was their natural deflation. It means the risks of inflation associated with the excessive activity of the issuer are simply excluded. The initial amount of, for example, bitcoins is limited by the algorithm. That is why, when the last bitcoin is mined in 2100+, the coins will not depreciate. The usage of cryptocurrency will not be over, but everyone will understand that new bitcoins will not appear anymore.

Natural deflation is a tempting property of cryptocurrencies that has long made them perfect for hoarding and saving. It would seem that the crypto exchange rate is not tied to traditional market relations; it is indifferent to fluctuations in oil prices, which means that some of the most popular coins, such as Bitcoin, Ethereum, Ripple, Litecoin and others, are many times more stable and secure than any fiat money. It is the high volatility (instability of the exchange rate) inherent in any fiat currency that prompted people to carry their funds to the crypto market.

HOW IT WAS AND HOW THINGS ARE NOW

During 2017, the crypto market showed significant growth, and, by December, it was at the peak of its capabilities. There were no doubts about the idea of investing currency in crypto. However, in 2018, when the value of the cryptocurrency began to gradually decline.

So, in just a year, market changes have led to the fact that cryptocurrencies, which previously seemed a panacea for residents of countries with weak economies, showed some form of inflation. That was a reliable means of protection against depreciation of the national currency. People who used to believe in a bright future, simply began to lose their money. It led to a sharp drop in confidence in the entire crypto ecosystem.

On September 11, 2018, fintech and blockchain publication “Diar” expressed their fears that cryptocurrencies cannot become a global solution to economic instability. The authors of the published study suggested that, by their very nature, cryptocurrencies will most likely never be a suitable replacement for fiat funds, especially given the typical behavior of the modern economic system.

In a study that looked at cryptocurrencies such as Bitcoin, Ripple, Bitcoin Cash, ZCash, Nano, and others, Diar showed that many coins suffer from supply inflation or significant degradation in purchasing power.

How Well Is Bitcoin Protected?

Due to the loose monetary policy of the Fed, the ECB, and other central banks, inflation of world currencies will accelerate in the coming years. Bitcoin is protected from inflation due to its technical features. In favor of the further growth of bitcoin, first of all, the growth factor of the money supply will rapidly change.

The next driver is the development of legislation loyal to cryptocurrency. The best option would be to recognize cryptocurrency as a full-fledged means of payment. So far, Bitcoin has this status only in Japan. The more countries follow its example, the better for the coin's rate.

However, the loyalty of the governments of many countries to Bitcoin is in question. Many states have a positive attitude towards digital money, but instead of uncontrolled and decentralized bitcoin, they prefer to develop national digital currencies. The Bank of Russian Federation, for example, is considering the possibility of issuing a digital ruble. China is already testing the digital yuan, while Sweden is testing the digital crown. It turns out that bitcoin is becoming an "unwanted" competitor for national currencies.

Outdated technology will partially play against bitcoin. Bitcoin is the first cryptocurrency, and this is both a pro and a con. On the one hand, it has the largest capitalization. On the other hand, many more technically advanced cryptocurrencies have appeared since the creation of BTC. Bitcoin works on the Proof-of-Work (PoW) protocol. Because of this, transactions are slow, and a lot of electricity is spent on mining.

As for the further dynamics of the main world’s cryptocurrency, no one can provide accurate forecasts. However, both the technical analysis and fundamental factors suggest that Bitcoin will continue to grow. By the end of the year, it has every chance of reaching the mark of 100 thousand dollars. If the upward trend continues, next year BTC may overcome the historical maximum.



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