Bitcoin as a Hedge Against Inflation for Countries with Local Currencies

One of the big promises of Bitcoin is that it offers protection against inflation. Since Bitcoin is based on a decentralized peer-to-peer network, centralized authorities like governments and banks cannot control its circulation and value. This is why Bitcoin has been called an effective hedge against inflation. Bitcoin advocates and supporters usually tout Bitcoin as “digital gold.” This is because government-issued currencies printed by central banks lose value with time due to their infinite supply.

On the other hand, Bitcoin has a finite supply of 21 million units. However, such universalist claims have been challenged by critics and skeptics. A recent survey has demonstrated that Bitcoin is a good hedge against inflation, but it depends on who you ask and where they live. The survey suggested that people living in countries whose currencies’ value has dropped by over 50% against the US dollar in the last decade (South Africa, India, Mexico, Brazil) - were five times more interested in buying cryptocurrency in the next year. The survey was conducted between November 2021 and February 2022 across 20 countries worldwide. It surveyed 29,293 adults with at least an annual household income of $14,000. 

In regions with long-term hyperinflation like Latin America and Africa, more than half of respondents believed that “crypto is the future of money,” while 46% of respondents said certain cryptocurrencies are the best way to protect against inflation. These results stand in sharp contrast to the response of people in the US and the European Union, where only around 15% of people saw Bitcoin as a hedge against inflation. The study concluded that cryptocurrencies are seen as a hedge against inflation in countries plagued with long-term hyperinflation. In countries with stable currencies, crypto was seen as a way to diversify the investment portfolio rather than an inflation hedge. 

Bitcoin Versus Gold 

Last year in October, JP Morgan released a report called Markets Insider that revealed that the institutional investors favor Bitcoin over gold. The report said that investors were taking their money out of gold and reinvesting that in Bitcoin. The reason for the interest in Bitcoin was cited as being its potential to serve as an inflation hedge. Institutional investors seemed to be viewing Bitcoin as a better hedge against inflation than gold. As compared to Bitcoin, the prices of gold have been relatively flat as concerns about inflation are rising. Additionally, the report listed three factors that were driving interest in Bitcoin, due to which its price increased from $40,000 to $55,000 in a matter of mere weeks:

1. After China banned cryptocurrencies, people in the US were concerned that the country would follow in China’s footsteps. However, US senators have assured people that they would take no such measures. Instead, they have demonstrated their commitment to developing a comprehensive framework for cryptocurrency regulation that is supposed to protect investors. Such regulation will give cryptocurrencies greater legitimacy and stability, leading to more mainstream adoption. 
2. The renewed interest in Bitcoin as a hedge against inflation has increased the prices of Bitcoin. With stagnant gold prices, institutional investors are taking action by moving to a more reliable inflation hedge. In 2021, over $10 billion has flown out of gold ETFs, while over $20 billion has flown into Bitcoin funds. Coinbase, the largest crypto exchange in the US, reported that out of $315 billion worth of trades hosted by Coinbase, $215 billion came from over 8,000 institutional investors. 

3. The rise of the Lightning Network adds a second layer to the Bitcoin blockchain allowing off-chain transactions between parties that are not even connected through the blockchain network. The new feature, which enables transactions outside the blockchain, improves the scalability of Bitcoin. Since Bitcoin was conceptualized, scalability has always been one of the top problems that hindered mainstream adoption of cryptocurrencies. The lightning network lowers the transaction fees allowing for use cases like instant payments. 

4. The adoption of Bitcoin as legal tender in El Salvador has encouraged investors to look at Bitcoin in a more positive light. It has become the first country to adopt Bitcoin as legal tender. It was primarily done to give El Salvadorans better and broader access to financial services, especially those who are not well-served by banks and traditional financial institutions. 

Bitcoin During the Russia-Ukraine Crisis 

It is no surprise that cryptocurrencies are playing a significant role in the Russian-Ukrainian crisis. The trading volume of crypto rose multifold after Russia attacked Ukraine. People were rushing to get their Russian Roubles and Ukrainian Hryvnia converted into cryptocurrencies to protect against inevitable devaluation. Ukraine also collected over $100 million worth of cryptocurrencies through donations from all over the world. In a political crisis like this, where central banks are not operating, cryptocurrencies are acting as an efficient medium for faster transfer of funds. 

On the other hand, inflation in the US is rising at the fastest pace in decades. This was the perfect opportunity for Bitcoin to portray itself as an effective inflation hedge, but it couldn’t. Even though it did not fall apart, crypto prices have not been steady. There are no big surges. There are several reasons why Bitcoin is not performing as well as it was expected to do. Firstly, the circulation of Bitcoin has only gone up by around 1.8% in the last 12 months. This means there have been fewer coins in circulation. Secondly, for Bitcoin to act as an inflation hedge, people must believe that it holds value even during a crisis. Investors still think that Bitcoin is too volatile and risky to be useful as a hedge against inflation in political and economic instability. This is why it could not act as the inflation hedge people expected it to be. 

However, this does not mean that Bitcoin could never become an effective hedge against inflation–it just takes some more time. With increased adoption, wider circulation, and greater real-world utility, it will become the hedge that investors have been hoping for.

Author Bio

Ian Kane is the Co-Founder at Unbanked, a global fin-tech platform built on blockchain. Kane has worked in technology & digital media for over 10 years with a heavy focus on business development, sales, and strategy. His diverse professional background enables him to bring unique insight and experience to every challenge he takes on.