3 ways crypto is an inflation hedge

For the longest time, gold has been one of the most popular assets to hedge against inflation. Because of its intrinsic value, there is less danger that gold’s value will be eroded the way that fiat’s can be (and is). Commodities and a diversified portfolio allocation in stocks and bonds have also been options as an inflation hedge. But crypto is quickly climbing the list of popular ways to exit fiat currency.

However you decide to hedge your bets against the devaluing of the dollar, one thing is sure—the dollar is definitely being devalued. The CPI surged to 6.1% in October of 2021 after continued money printing throughout the previous two years. From December 2021 to December 2022 consumer prices for all items increased 6.5%.  And that only indicates what the government will admit to. Even though inflation is well above the Fed’s desired rate of 2%, some suggest that the current CPI calculation is lowballing inflation and, by calculating as the government did in the 80s and 90s, percentages could be as high as 15%. 

With this clear problem that everyone sees but few know how to strategize for, how can you make sure your wealth grows rather than shrivels up over time? That’s where crypto comes in.

Bitcoin as an inflation hedge

There’s a reason Bitcoin is the crypto big daddy. 

Not only was it the first on the decentralized digital currency scene, many argue it’s the strongest fighter in the battle against inflation. Perhaps you have your own opinions on which cryptocurrencies are good bets as an inflation hedge, but prevailing sentiment often names Bitcoin as number one. Hard assets are typically considered good inflation hedges because they have three characteristics, all of which BTC shares. 

Scarcity

To maintain value, something must be scarce. Even if we all need air to live, it’s quite readily available on earth and, therefore, cheap. Underwater or in outer space, however, air becomes quite valuable because it’s scarce. Finite supply ensures that anyone needing some will be willing to place a high price on it. This is true of Bitcoin since its supply is capped at 21 million.

Accessibility

If you have something that’s scarce and valuable but no one will accept it in trade, you’re out of luck. Tigers are quite scarce (endangered even) and valuable to nature and ecosystems. But you probably won’t be using them as currency because they’re not easily accessible or acceptable in the market. Cryptocurrency is easily tradable and has, in a decade, become increasingly acceptable in the market. Countries and corporations are even adopting it as a medium of exchange.

Durability

Hard assets should also be durable. Snowflakes in hell may be valuable and quite acceptable on your burning skin, but they’re not very durable for use in multiple transactions. Crypto can be transferred securely and immutably as many times as it needs to be. Because it’s virtual, it can’t be damaged or worn out the way printed currency or commodities can be.

So crypto, and especially Bitcoin, has the characteristics of hard assets, but let’s look at three ways it can be an inflation hedge and their pros and cons.

1: Liquidity

Unlike gold, crypto is quite liquid. While storing value is more important than liquidity for an inflation hedge, it doesn’t do a lot of good to have a valuable asset that you cannot use—like a gold bar when you need to buy a coffee.

Pro: greater accessibility than gold

From the old west to our modern, sci-fi future, gold is pretty accessible to the market in the sense that people are willing to accept and exchange it. However, it’s not always feasible to use gold. With just the touch of a button and an internet connection, crypto can be used to make transactions of any size to any person.

Pro: easy to swap or exchange

Most crypto exchanges have wallets, and more and more crypto wallets have exchanges. If you’re holding crypto, it’s not that difficult to change it into something else—it just takes the right trading pair and enough excess to cover network and trading fees.

Pro: very divisible

The higher an asset’s value, the more divisible it needs to be when it comes time to exchange it. This is one reason real estate is difficult to obtain. Because it’s often high-value and property is not very divisible, using real estate as an inflation hedge requires a large chunk of capital, giving it low liquidity. Bitcoin, however, is divisible to satoshis which equal 0.00000001 BTC.

Con: fiat on-off can be a pain

While crypto has excellent liquidity compared to gold or real estate, it’s not as liquid as cash. It can sometimes take multiple transactions of varying time and cost to move it from a wallet, to an exchange, and into the currency you need—fiat or otherwise. The more transactions that can be made with crypto itself, eliminating the need to exchange back to fiat, the greater liquidity it will have.  

2: Purchasing power

One of the main reasons people want an inflation hedge to begin with is to maintain their purchasing power. If you were around back in the 1960s when $1 could buy a drive-in movie ticket, you understand that the dollar has lost purchasing power over time. Inflation is not a secret or questionable possibility—it’s a goal, as everyone who subscribes to modern monetary theory will tell you.

Pro: scarcity preserves its purchasing power

Like we discussed earlier, a limited supply of something the market has demand for ensures that its value will be maintained. 

As the US government floods the economy with trillions of dollars through quantitative easing, those dollars become less scarce, debasing their value. Bitcoin’s supply is increasing, but more slowly and with a defined ceiling. Some cryptocurrencies like Ethereum are even deflationary at times.

(source: cfr)

Pro: the Fed can’t manipulate crypto

However much the central bank and the Fed may feel the need to manhandle the money supply and interest rates to “protect” the stability of the dollar, the end result has very clearly been Americans losing wealth. Crypto was created specifically to be outside the jurisdiction of centralized powers. Bitcoin and other cryptocurrencies that fail the Howey Test have yet to be cracked by controlling powers who want influence over it.

Cons: collective belief in the currency is required

In order for a currency to have purchasing power, it must maintain the market’s willingness to use it. Fiat, of course, is acceptable by government mandate. And while crypto’s purchasing power has been increasing as more people become willing to use it, that is not guaranteed by force the way fiat is guaranteed. This lack of coercion is certainly a plus in many ways, but it’s also a consideration for uncertainties in the future.

3: Portability

Lastly, a good inflation hedge should be portable. Crypto is definitely that. All you need is a phone, a hardware wallet, even a paper wallet, and you can carry it with you anywhere.

Pro: easy and fast to move

Unlike real estate, gold, or even traditional bank transfers, crypto can be moved immediately with the tap of a button. Sending it from one wallet to another happens as fast as the blockchain can be updated.

Pro: borderless

Crypto is also easy to send internationally. While making transfers across countries and currencies can be a big pain because of fiat exchange hoops, crypto can be sent in P2P transactions from anywhere, to anywhere. There are no intermediaries, which greatly increases portability.

Con: need digital access to use it

One downside of crypto, unlike cash or physical gold, is that you do need to transfer it digitally. A computer and an internet connection are pretty much a necessity to maintain the portability of your crypto. This is not generally a problem in today’s modern world but it could be in the future.

Conclusion

Inflation is upon us. 

No matter how “experts” bob and weave around the issue, whether denying it or justifying it, the purchasing power of the US dollar is quickly being debased. Ensuring that you have an inflation hedge in your portfolio that maintains liquidity and portability is not something you want to be sleeping on. 

What do you think about crypto as an inflation hedge?