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Inflation and Cryptocurrencies: Why All the Confusion?

Inflation is one of those concepts that is much mentioned, but little understood. I am afraid that the term as such is used very loosely. And that is precisely part of the problem. We need to talk about inflation with some precision. And, above all, completely eliminate political bias. Here we will talk about inflation (US) and its effect on the price of Bitcoin.

What is inflation? Inflation is a rate published by the US Bureau of Labor Statistics. Consumer Price Index is an economic indicator that values ​​the prices of a certain set of goods and services. This index is the main benchmark for inflation in the United States. Keywords: “Set” and “Goods and services”. This implies that the increase in the price of bananas does not necessarily imply an automatic increase in inflation as a whole. The person walks into a supermarket and can see that practically everything has increased in price by 20% or more. To his surprise, the news reports that inflation is 5% or less. “Lie!”. Nevertheless, anecdote is not the best indicator to measure inflation.

Let’s recall the key words: “Set” and “goods and services”. Real estate in New York may be through the roof, the price of bananas in the stratosphere and the cost of electricity may be breaking records. Nevertheless, these are not the only items considered by the indicator. During the worst of the lockdown, food prices rose dramatically. But the service sector was hit hard. Suddenly, we had a deflationary picture. “Why is everything so expensive?” Well, because the downturn in the service sector counteracts the increases in the food sector in the statistics.

For people with dollar savings not living in the United States, inflation in the United States is not the most relevant data. The most important thing is the exchange rate. For instance. If your savings are in dollars, at this precise moment, it is better to live in Argentina than in Venezuela. Inflation in the United States is quite secondary in this case. One dollar, in the United States, buys less than in Argentina. And a dollar, in Venezuela, buys less than in the United States and Argentina. Not in all areas. Obviously I speak in general. Let’s say I mean a McDonald’s hamburger.

Now, the impact of inflation in the United States is not the same for a wage earner living in the United States as it is for an investor living elsewhere. For the employee it means a reduction in their purchasing power. But, for the investor, the matter is a bit more complex. Generally speaking, inflation is so fatal to the asset owner. Logical. Your assets go up in price with inflation. In fact, it could be helpful. It all depends on the type of assets in your portfolio.

If the “asset” is the dollar, we will have a loss. It all depends, of course, on the country of residence. This loss can be large or small, depending on the situation in each country (exchange rate, internal inflation, etc.). If the asset is a debt, inflation also means losses. In an inflationary scenario, it is better to be a debtor than a creditor. Now, if your asset is a “defensive” business, a conservative stock, or real estate, inflation is a good thing. In other words, if you have a bakery, a house in a good area and actions in Coca-Cola, you can relax, because inflation is not the worst of problems for you.

Why are markets so concerned about inflation? While it is true that inflation puts pressure on companies’ operating costs, and this hurts revenues, we are not in an end-of-the-world scenario either. Companies usually adapt by adjusting their prices. The real concern of the markets is not inflation per se. The fear is an eventual increase in the interest rate by the Federal Reserve of the United States due to inflation. A withdrawal of liquidity is the real concern of investors.

If money becomes expensive, the market (usually) becomes conservative. Because in a scenario of high rates, in order to pay the debts, you have to be very prudent and careful. In other words, risks are avoided. We have the last few months as an example. When markets worry about inflation, investors take refuge in safe assets (cash, T-bonds, defensive stocks, and value). When markets relax, the most speculative assets flourish (startups, technology, growth sector, crypto). This is not a hypothesis. It is a fact. This is how the markets behave.

Why is there inflation? Due to failures in the production and distribution chains. The machine was shut down during the pandemic and, due to the inertia of the stoppage, they are having trouble recovering. Why isn’t the Federal Reserve withdrawing liquidity from the system? The high prices are a stimulus for the reactivation of the chain. If liquidity is withdrawn now, there will be no such stimulus and the chains stagnate. In other words, current inflation is a Fed strategy to boost employment.

Now the Reserve is playing with fire. While it is true that we were warned of inflation in advance, the fear of investors is that things will get out of control. Can the Reserve have everything under control? Frankly, I don’t think so. This means that sooner or later the Reserve will be forced to withdraw liquidity from the system. Does it mean the end of the world? No but It could mean the beginning of a bearish cycle especially for the most speculative assets (startups, technology, growth sector, crypto).

The best scenario for investors is a gradual withdrawal of liquidity with a gradual increase in corporate income. That would create an optimistic scenario that would allow a moderate tolerance for risk on the part of investors. In other words, not everything is hopelessness for speculative markets. If the production and distribution chains recover in time, what we will have is growth. And growth brings abundance. Which, in turn, allows for a loose monetary policy. Be very careful what they say that cryptocurrencies perform well in all scenarios. That is not true. There is no wonder asset. Every asset has its cycles. Cryptocurrencies are no exception. I’m not saying it. Its own history says so.

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HELEN HERNANDEZ

Helen Hernandez is our best writer. Helen writes about social news and celebrity gossip. She loves watching movies since childhood. Email: Helen@oicanadian.com Phone : +1 281-333-2229

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