Brian Armstrong, CEO of Coinbase (COIN) posted an interesting question on Twitter today, “If fiat backed stablecoins really become inflation coins (not so stable), then how will we get a coin that is truly stable? Perhaps something that tracks a basket of real world goods (purchasing power parity) using oracles?”
We think the question is worth exploring, because of how much money printing that’s going on, and quite frankly, with this much monetary expansion with the USD (as illustrated below) versus the supply cap of Bitcoin (BTC/USD) and the logarithmic function of new supply, you couldn’t imagine a more inverse function to inflationary assets like fiat versus deflationary assets like bitcoin.
Figure 1. M0 Currency Supply
Source: Federal Reserve
Currently, the M0 Currency supply is $6.13 Trillion, but only just a decade the same M0 supply was $1Trillion, and so over the past decade of great moderation, paired with on-going quantitative easing, and continued open market operations, the Fed’s balance sheet, and the corresponding base figure of currency has grown by 20% per annum over the past 10-year period.
Figure 2. M0 Currency Supply if Historical 10-Year Growth Trend Continues
Source: Cho Research
When extrapolating the pre-existing 10-year growth rate over the next 10-year period, the total monetary supply in terms of M0 currency would reach $37 Trillion by the year 2031 versus $6 Trillion today. The currency supply expanded considerably in the five and ten year period following the prior recession (mortgage meltdown), and given the quick succession of the pandemic fueled recession we anticipate a continuation of the status quo, which is the global race to print more currency and manage inflation based on deficit based trade economics, which creates a sort of environment where if the dollar devalues, and other countries and regions are just as aggressive with their fiscal/monetary policy then it sort of becomes infectious and as a consequence we anticipate a similar pace of monetary supply growth over the next 10-years as compared to the prior 10-years.
Figure 3. Bitcoin Projected 10-Year Supply
Source: Cho Research
In total contrast, Bitcoin supply is projected to increase at a slower rate over the next 10-year period and we anticipate that this divergence in pattern will translate into an explosive price shock, where excess capital in the United States doesn’t always translate into CPI (consumer basket) inflation, but rather asset inflation. It’s why many sociologists often cite an increasing divide between the rich and the poor, because excess capital among the rich doesn’t translate into higher economic activity from consumption but rather investment.
In other words, the absence of inflation when measured by the price of goods and services even with excess money printing means that the excess cash either disappeared or is being put to use in the economy, but mostly in the form of capital investment in various passive asset classes like equities, cryptocurrencies, bonds, and etc.
Hence, wealth tends to get trapped, and people at the very bottom are left wondering why the excess cash supply hasn’t translated into an immediate increase in the price of goods at the supermarket or wages aren’t increasing. It’s mainly because wealthier households that have excess capital don’t buy extra goods from the spot market or employ more people, or pay higher wages, they tend to listen to their financial advisors, or allocate capital towards investments and assets. It’s why the price of equities, real estate, cryptocurrencies, rare art, precious metals went parabolic in the past decade whereas nominal inflation metrics went flat, or as the Fed defines as the 2% targeted inflation rate.
Certain years will lead to more currency supply driven by Federal Reserve balance sheet utilization, fiscal and monetary policy, so the step-up in currency supply and trend in monetary supply isn’t exactly linear, and it’s not a smooth exponential line either, monetary supply increases in waves.
But, we wouldn’t be surprised that if we woke-up in the year 2031 and the total M0 supply increased by a factor of 6x-7x via a 20% compound growth rate given the sudden expansion of Federal Reserve authority and change in policy response following the Financial Crisis in 2009 giving the Federal Reserve more authority and emergency measures.
Figure 4. Premise of stable coins plagued by inflation?
So, when we go back to the original point of whether or not it’s necessary to create a flat currency that’s resistant to inflation, and yet not as deflationary as bitcoin. We’re talking about an asset that performs neutral to currency supply, and neutral to inflation. Basically, a monetary unit that’s capable of retaining a static value, which is difficult to achieve.
Furthermore, Jack Dorsey (CEO of Twitter) mentioned that Bitcoin “fixes this,” but the answer provided in his tweet was also vague. We don’t think Jack Dorsey implied that Bitcoin solved for a flat currency, but rather Bitcoin is the ultimate hedge against government policy and the resulting inflationary outcome.
However, this insane hedge is the total inverse of a monetary function but rather a block halving, and logarithmic (inverse of an exponential curve) reduction of output, which is the inverse of an exponential function in a conventional fiat currency.
Figure 5. Bitcoin Circulation Supply Model
Source: Cho Research
Mathematically, new supply is introduced at a reduced rate up until a cap in total supply. It’s projected that in the future the input costs of mining transactions will increase in nominal terms, because of the projected supply squeeze (smaller bitcoin blocks and an exponential increase in input costs) driven both by the inflation of fiat currencies, and the deflation of bitcoin.
It’s why people are often astounded by the steep appreciation rate of Bitcoin when in reality it’s because the value of the dollar, and the amount printed is increasing exponentially, and the availability of bitcoin from newly mined sources is rapidly declining. When you combine a hyper-deflationary property in an environment of unprecedented currency printing, it’s almost self-explanatory as to how Bitcoin could suddenly rally by 1,000% in a relatively short period of time.
Figure 6. Bitcoin 10-Year Price Chart
So, oftentimes we compare fiat currencies as a basket in comparison to other in-kind currencies that carry similar properties, but when you witness the properties of an inverse extreme in comparison to an exponential and aggregated monetary spiral globally, the two discrepancies lead to explosive price growth.
We think a combination of factors drove the price of bitcoin higher following 2015, as the coin became more popularized with investors adopting Bitcoin as an alternative asset class. It was also aided by the rapid expansion of USD currency supply following the 2009 recession, and excess capital flowing towards this new currency. Furthermore, Bitcoin halving became a phenomenon following the 2016 halving date, which led to rampant speculation as mining pool fees and the slowing of new currency supply drove the value of Bitcoin to $20,000 in 2017, however a number of scandalous ICOs, and negative press tied to these events suppressed valuation before the next wave of speculation led the price back to $60,000 with the price of Bitcoin now hovering around $50,000 at the time of writing.
We’re increasingly optimistic that this Bitcoin rally will continue given the backdrop of data we’re working with. We don’t have a specific price target yet, but we will explore more quantitative approaches to define value. Absent some exogenous risk factor not captured in our assumptions however, we anticipate that Bitcoin is certainly on the cusp of breaking out of the $60,000 price level, as activity is picking up across smaller cryptocurrency projects (based on our checks), and optimism is trending higher in the space despite the mid-summer pull back to $30,000. As such, we’re moving to a positive more bullish stance on Bitcoin, and encourage everyone to consider this asset as a hedge in the event of rampant currency supply growth.
Figure 7. How to get something truly stable?
In terms of the original premise that Brian Armstrong (CEO of Coinbase) cited as a need for a flat or neutral currency. We’re not sure how to achieve a neutral pricing objective from a cryptocurrency framework, but the definition of stable coin could certainly use some adjustment as scandals involving USD Tether clearly illustrate how things could go wrong.
Notwithstanding, a new model would need to be explored, which is well beyond the scope of this research article. What would incentivize a mining pool, or validation pool to mine, or validate transactions when there’s no economic incentive due to a flat or neutral pricing structure?
Clearly, we don’t know the answer to this question, but we’ll be ecstatic when a new cryptocurrency project finds a path to achieving liquidity, incentive, and neutral pricing.
Disclosure: Cho Research was not compensated by any cryptocurrency foundation associated in the article titled “Bitcoin Deflation versus Dollar Inflation a 10 Year Projection” Though Cho Research does use the research dollars it
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