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U.S. inflation breaks 40-year record: Can Bitcoin serve as a hedge asset?

Many have likened BTC’s anti-inflation properties to those of gold, but there are important differences between the two assets.

On Feb. 9, the United States Bureau of Labor Statistics reported that the Consumer Price Index, a key measure capturing the change in how much Americans pay for goods and services, has increased by 7.5% compared to the same time last year, marking the greatest year-on-year rise since 1982. In 2019, before the global COVID-19 pandemic broke out, the indicator stood at 1.8%. Such a sharp rise in inflation makes more and more people consider the old question: Could Bitcoin, the world’s largest cryptocurrency, become a hedge asset for high-inflation times?

What’s up with the inflation spike?

Ironically, the fundamental reason behind the unprecedented inflation spike is the U.S. economy’s strong health. Immediately after the COVID-19 crisis, when 22 million jobs were slashed and national economic output saw a massive decrease, the American economy kickstarted a massive recovery on the heels of the relative success of the vaccination campaign. However, supply chains appeared to be unprepared for such a rapid return of business activity and consumer demand.

The rebound was fueled by the Biden administration’s grandiose $1.9 trillion COVID-19 relief package, with the majority of American households receiving thousands of dollars in direct support by the federal government. Tom Siomades, chief investment officer at AE Wealth Management, believes that the stimulus was excessive, given the overall financial conditions of U.S. households. Speaking to Cointelegraph, he remarked:

“The $1.9 trillion CARES act in March, when Americans were already saving at a 20% rate, put more money into the economy than it could bear. That money allowed people who would otherwise have returned to work to rethink their options. This created a worker shortage, which in turn led to demand for higher wages, which meant higher costs and prices.”

Some economists point out a more subtle factor: an alarming exercise of corporate pricing power by U.S. businesses. “Now producers know people can pay more, and will be unwilling to accept lower prices for their products,” Siomades explains.

Now that inflation has become a major political problem for the Democratic Party, all eyes are on the Federal Reserve’s efforts to solve it. The inflation wave is likely to gradually fade, if not to pre-pandemic levels, then to at least more moderate levels by the end of the year. Nevertheless, as rising prices are becoming a matter of increasing public concern, private citizens and investment professionals alike begin to look around searching for a safe haven for their funds — and here’s where Bitcoin comes in.

Bitcoin as the “new gold”

With every year that Bitcoin and the cryptocurrency sector become more mainstream, the frequency of comparisons with gold in terms of reserve-asset potential multiplies. Many observers suggest that Bitcoin could even be more attractive than the precious metal in this regard. In November 2021, the preeminent cryptocurrency was up by 133% year-on-year against gold’s mere 4%.

As Milton “Todd” Ault, III,  founder and executive chairman of investment company BitNile Holdings, observed, in the last 13 years, Bitcoin has massively outdone U.S. inflation thanks in no small part to the asset’s deflationary properties. Ault commented to Cointelegraph:

“What makes it a great store of value and inflation hedge is: there’s a cost associated with mining it; there will only be $21 million Bitcoin. Meaning, there is a finite amount of Bitcoin to be mined […] Really, it’s still a standard hedge people traditionally think about; there’s limited supply, and even in the current financial climate, it will continue to be in demand.”

Unlike gold, Bitcoin lacks the key features of a predictable, low-volatility asset. Maybe this doesn’t pose as much of a problem for a faithful, diamond-hands hodler who believes in Bitcoin’s ultimate monetary dominance, but for someone who has invested a significant share of their personal savings as a shield from inflation, the unpredictability could be unnerving. In some sense, Bitcoin’s price swings strongly contrast the relative stability of gold, which serves not as a wealth multiplier, but as a preserver of purchasing power.

“In theory, Bitcoin should make for a good inflation hedge because there’s a limited supply of tokens that can be mined. That creates a form of scarcity, which could help it hold its value over time compared to fiat currencies,” as Katie Brockman, analyst at investment advising firm The Motley Fool, explained to Cointelegraph. However, Bitcoin can only be a store of value if a significant number of people find it valuable. Brockman added:

“It doesn’t appear that Bitcoin has reached that stage. While inflation has soared, the price of Bitcoin has plummeted in recent months. It has also fallen at roughly the same rate as meme tokens like Dogecoin, suggesting that many investors perceive Bitcoin as simply another cryptocurrency rather than a store of value.”

However, just because Bitcoin is an imperfect hedge against inflation right now doesn’t necessarily mean it will never be a dominant store of value. But if the currency is to become inflation-proof, it will need to gain both widespread acceptance and a robust mainstream reputation.

Hedge over time

Bitcoin’s status will also depend on how investors choose to use it. If people are holding their BTC bags as a hedge against inflation, it may not be subject to the same volatility cycles as equity markets. But if most investors are trading Bitcoin like they would stocks, the asset’s price could be more correlated with the market’s fluctuations.

The future looks bright for the top cryptocurrency, although the timeline is less clear. Ault believes the volatility may stop at the price of about $2 million per BTC. He added:

“In the process, Bitcoin is expected to become a multi-trillion-dollar asset class. That doesn’t make it a direct hedge, but rather a hedge over time.”

One problem that could become more pronounced in the future is uneven distribution of crypto wealth. As the interest in BTC grows in waves and the entry cost for investment grows rapidly, it is inevitable that large chunks of its monetary stock will concentrate among a limited number of wallets.

That brings us to Bitcoin’s paradox. It seems that to become the “new gold” in terms of conservative inflation hedging, the original cryptocurrency needs to outgrow its speculative attractiveness and become a broadly (and, perhaps, more evenly) dispersed mass of money. A sound regulatory framework for crypto is one thing that could definitely help the asset class achieve these goals.