Inflation and Dollar Rising: What’s in Store for Bitcoin?


Bitcoin is not a hedge against inflation. A rising dollar or a falling dollar affects Bitcoin price, which rises or falls along with technology stocks. The Bitcoin narrative needs to change.

While the dollar is rising, the price of cryptocurrencies is falling. What could be the cause? In the background, inflation and Federal Reserve’s (Fed, the US’ central bank) quantitative easing and quantitative tightening policies all play a role.

Inflation Soaring

The term inflation describes the phenomenon of continuously increasing prices. Inflation is determined by considering the duration and magnitude of price increases, whether the quality level of goods has improved and whether the black-market price has risen due to government price control, to name just a few aspects. While these factors are all subject to debate, in general, if the price of goods increases by 4-5% a year, inflation is considered to have occurred.

Recently, there is consensus that inflation has arrived for economies around the world. Last month, the US recorded 8.6% inflation compared to previous year. This is the sharpest increase in 41 years. Inflation also stands at around 8% in Europe, which certain Eastern European countries even observing more than 10% inflation. Considering that the US’ target inflation rate is 2%, this is a remarkably high level. In Korea, too, June consumer price inflation reached 6%. As recently as early last year, US Federal Reserve Chairman Jerome Powell described high inflation as ‘temporary’, but when price increases remained high at year end, he was forced to recognize inflation and change his stance on monetary policy.

So, why is inflation so high? It is because supply is not meeting demand. Reasons for the supply shortage include high wages and transportation costs, as well as the threat to the supply chain.

Last year, central banks around the world released a lot of liquidity into the market to combat economic stagnation due to the Covid-19 pandemic. Central banks lent money to businesses at low interest rates and provided emergency relief to the unemployed. But stimulus recipients did not return to the job market, which led to an increase in labor costs. From the perspective of companies setting prices, this had the effect of increasing their production costs.

There's a better way to HODL earn invest with Haru Invest

Watch your earnings grow with Haru Invest.

There's a better way to HODL earn invest with Haru Invest

Watch your earnings grow with Haru Invest.

In addition, a supply chain crisis has hit the world as factories in China that produce the world’s goods are shutting down due to Covid-19. The conflict between Russia and Ukraine has also significantly increased the price of oil, which is needed for transportation. In other words, reasons for price increases have been pouring in from all directions. The cost of producing goods has risen, but supply has decreased, which naturally causes prices to rise.

If there are more dollars in the market, why is the dollar rising and BTC falling?

During the Covid-19 pandemic, the US Federal Reserve released dollars into the market and made the currency more abundant, causing prices to rise. And yet, the dollar price keeps going up. Why is that?

The reason is that the US Federal Reserve has changed its monetary policy stance as inflation numbers grew worryingly high. As it started getting nervous, the Fed began to withdraw funds from the market. Measures such as tapering (stopping bond purchases) and hiking interest rates have raised the hurdles for companies seeking to take out loans. This is the beginning of quantitative austerity.

As the Fed tightens money supply, the investment market has also responded strongly. While the Fed was releasing huge amounts of money into the market at low interest rates, liquidity flooded into risky assets such as stocks and cryptocurrencies and drove up their price. But now that the Fed is raising interest rates, people are looking for safe haven assets. The dollar, which is considered a representative safe-haven asset, is in the spotlight as a double reserve currency.

This is the reason why the dollar is rising while the prices of cryptocurrencies such as Bitcoin are falling. For a while, Bitcoin was considered a hedge against inflation, but this scenario no longer applies. This is because as interest rates climb, people are no longer willing to invest in stocks and Bitcoin that are on a continued downturn. Now, people are instead depositing dollars in bank accounts at high interest.

Bitcoin is no hedge in the era of high inflation

Currently, Bitcoin is not acting as a hedge against inflation. Depending on whether inflation is present, the Bitcoin price either rises along with technology stocks or falls counter to the appreciating dollar. In the current situation, Bitcoin needs a new narrative.

According to data from TradingView, the correlation coefficient between Bitcoin and the US dollar stood at -0.77 for the week from June 27 through July 3. This is the lowest figure in 17 months. On the other hand, the correlation between Bitcoin and the tech-heavy Nasdaq index is 0.78, which continues to show a high correlation.

Following this high correlation, the price of risky assets continues to fall together. In Q1 and Q2 of this year, the Bitcoin price fell by more than 60%, while the Nasdaq declined by around 30%. In the second quarter, Bitcoin recorded its worst decline in 11 years. The crypto data site CinGecko shows that the price of Bitcoin has fallen by about 56% from $45,000 in the beginning of Q2 down to $20,000 as of July 7. This marks the steepest decline since Q3 2011, when Bitcoin fell from the $15 range to around $5.

At the same time, the US dollar – as a classic safe haven asset – has been on a continued bull run. TradingView’s data shows that the US Dollar Index (DXY), which measures the strength of the US dollar, stood at about 106.9 on July 7, the highest level since August 2002.

“When inflation goes up, there are other things that are changing, and Bitcoin is not resilient to all [this change], which is bringing down Bitcoin as well” said Itay Goldstein, a professor of economics and finance at Wharton School of the University of Pennsylvania. “People put money into cryptocurrencies as speculation, and these are the same people speculating on stocks”, he continued. “When the mood changes, they’re becoming more pessimistic. […] Money sapped from the financial markets has a big effect on Bitcoin”.

Yves Longchamp, head of research at digital asset-focused SEBA Bank, told CNBC “Bitcoin continues to be under pressure as other assets are. The mix of high inflation, rising interest rates and recession weigh on cryptocurrencies”.

Disclaimer

All investment strategies and investments involve risk of loss. Nothing contained in this website should be construed as investment advice. Any reference to an investment’s past or potential performance is not, and should not be construed as, a recommendation or as a guarantee of any specific outcome or profit.
Start earning effortlessly with the

Haruinvest Mobile App

We’ve assembled the best strategies with minimized risk for you.

Continue reading