For the values of Bitcoin and other cryptocurrencies, bear markets are now almost commonplace. Bitcoin’s price has decreased by more than 50% six times since its 2009 inception.
In spite of the most recent Bitcoin meltdown and the hammering of other cryptocurrency currencies, Brian Armstrong, CEO of Coinbase (COIN), expressed confidence in a letter dated June 14 that announced an 18 percent employee reduction. The cryptocurrency exchange, according to Armstrong, “has lived through four significant crypto winters” and is taking the necessary precautions to do so once more.
However, this storm is altogether different in kind. According to Mizuho analyst Dan Dolev, “we are in a crypto ice age.” I believe this will be a very serious and protracted situation, and many cryptocurrencies won’t make it.
Deleveraging has been intensified by the collapse of the purported “stablecoin” TerraUSD, which destroyed $40 billion in market value. This deleveraging tsunami has not yet reached its peak. This month, the cryptocurrency lending platform Celsius Network, which managed $20 billion in deposits and loans in cryptocurrency, stopped accepting withdrawals due to a lack of liquidity.
A double-digit interest rate was available through Terra, a blockchain payment and savings network, and Celsius, but only in the event that cryptocurrency prices rose. But far from being the root of crypto’s demise, the failure of such Wild West economic models is only one of its symptoms. Bitcoin and the other nearly 19,000 digital currencies are facing their first Federal Reserve tightening cycle as a result of an inflationary outbreak, which is the actual cause of the collapse of the cryptocurrency market.
Easy Money Fueled the Price of Cryptocurrencies
The most favorable financial circumstances have existed for the majority of the history of cryptocurrencies. Since Bitcoin’s inception, the Fed has mostly worked to support demand. The Fed acquired Treasury securities and government-backed mortgage securities worth $6.5 trillion during that period. In an effort to promote risk-taking, raise asset prices, and increase demand via wealth gains, this kept rates low.
The majority of the Fed purchases, $4.5 trillion, were made after the economy was severely damaged by the coronavirus shutdown in March 2020. Ultra-easy Fed policy combined with repeated rounds of fiscal stimulus worked very well. All of that financial fuel accelerated the vaccine-enabled economic recovery and sparked the largest inflationary wave in 40 years.
Most asset values are now falling due to the Fed’s abrupt end to its enormous stimulus program. Growth companies have been particularly hard impacted by the spike in the 10-year Treasury rate. Based on a greater risk-free rate of return, their future revenue streams are less valuable when discounted to the present. This explains why the Nasdaq, which is heavily weighted in technology, has lagged the overall market.
But there are no projected cash flows to discount when determining the value of Bitcoin and other cryptocurrencies.
The Crash of Bitcoin Proves It’s Not Digital Gold
The notion that Bitcoin provides a hedge against inflation, similar to digital gold, has been “debunked,” according to economists Marion Laboure and Galina Pozdnyakova of Deutsche Bank. The ups and downs of cryptocurrency values have connected with the Nasdaq to a “staggering” extent rather than trading like gold, they said.
However, compared to cryptocurrencies, the Nasdaq’s volatility is moderate. The Nasdaq is down 31% from its intraday high of November 22 as of June 28. Bitcoin, which reached its high on Nov. 10, has fallen by about 71 percent.
Increased Fed Rate And Other Tightening Measures
Only a few days before Bitcoin started to decline, the Fed said it will reduce its $120 billion monthly asset purchases. It doesn’t seem like the time was a coincidence. In fact, changes in the Fed’s asset purchases have generally coincided with the peaks and dips in Bitcoin’s history.
In June 2011, the first Bitcoin meltdown started just as the Fed’s second round of asset purchases after the financial crisis came to an end. The second occurred at the same time as the taper tantrum in April 2013 over a potential wind-down of yet another round of asset purchases. The third Bitcoin fall occurred at the same time that the real tapering process began at the end of 2013.
The Federal Reserve rate increases that occurred as it started to gradually reduce asset purchases and the late 2017 meltdown happened at the same time. However, none of those occurrences experienced the tightness of today.
The Fed’s benchmark interest rate only hit 2.5 percent – 2.75 percent in late 2018, when monetary tightening helped spark a global market crash. That set a new record for Bitcoin. However, Fed officials indicated a shift in strategy when the S&P 500’s decline reached the 20 percent bear market threshold. By fall 2019, the Fed has lowered interest rates and increased asset purchases.
Although the S&P 500 and Nasdaq had already entered a bear market, authorities nevertheless opted to speed up their tightening plans last week.
The Fed does not focus on any one asset class. However, the $2 trillion destruction of the cryptocurrency markets is entirely planned.
As expected, financial conditions have tightened, according to Fed Chairman Jerome Powell, who spoke on June 15.