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Bitcoin tanks even as inflation jumps

July 14, 2021, 12:30 AM UTC

Bitcoin backers praise the leading cryptocurrency as an inflation-proof “store of value.” They contend that because the number of coins that can ever be issued is fixed, Bitcoin isn’t subject to the kind of manipulation practiced by the Federal Reserve. The Fed’s easy money policies, the argument goes, threaten to cause heavy inflation in the years to come because the central bank keeps swelling the money supply to spur economic growth. That practice is bound to create new dollars faster than the U.S. produces new products, hiking prices faster than salaries, and denting the purchasing power of America’s households.

That can’t happen with Bitcoin, say its adherents. Their idol can’t be debased. Park your savings in Bitcoin or collect your paycheck in coins instead of dollars, and you’ll safeguard your purchasing power. Over time, as dollar prices rise, the value of your Bitcoin holdings will rise at least in tandem to keep you whole. It’s one of the few places were you can both protect your standard of living, and still make a killing.

Today, we’re witnessing a shocking, unexpected surge in inflation that may or may not be long-lasting. That’s a major test for Bitcoin’s alleged virtues. So how’s it performing as a hedge against prices for groceries, appliances, used cars, gasoline, and sundry other consumer and producer items that at least for now, are far outpacing incomes?

We’ll examine Bitcoin’s record versus two inflation measures, the Consumer Price Index, and the Treasury’s 10-Year Breakeven Inflation Rate. The CPI is a current yardstick that shows the change each month over the previous year. The breakeven numbers are forward-looking. They project the average yearly rate of price increases over the next decade.

Bitcoin versus the CPI

We’ll start with Bitcoin versus the CPI. From January to October of 2019, the CPI was rising most months at an annual clip between 1.6% and 1.8%. But from late that year through February of 2020, the economy strengthened, and shortly before the pandemic struck, consumer prices were waxing at 2.3%. Not even close to a scare, but still a significant uptick.

Over those fourteen months, Bitcoin staged a big rally, vaulting from $3700 to $10,200. In hindsight, it like more a speculative bull run than a reaction to modestly rising prices. Still, inflation and Bitcoin moved in the same direction, though not nearly in the same proportions.

From mid-February to the end of August of last year, the CPI readings plunged below 0.5% in the depths of the COVID-19 crisis, before rebounding to 1.4% in September. Investors stuck with Bitcoin even though its protection might have seemed less important as inflation eased well below early 2020 levels. It began and ended that span at nearly the same level of around $11,000.

From September of 2020 through February of this year, inflation as measured by the CPI remained extremely mild, toggling between 1.4% and 1.7%. But Bitcoin more than quadrupled from $10,000 to $47,000. Bitcoin wasn’t dancing to the CPI’s tune. The big inflation surge started in March at 2.6%. In April the CPI waxed 4.2%, followed by ascending increases of 5.0% in May and 5.4% in June.

At first, Bitcoin appeared to be responding to the inflation alarm. It hit an all-time record of almost $65,000 in mid-April. But as inflation kept accelerating, Bitcoin suddenly reversed course, dropping by 50% from the peak to $32,500 at mid-afternoon on July 13. Americans’ purchasing power, as measured by the CPI, was eroding at a pace not seen in years. Yet if you’d invested in Bitcoin as a safe haven when inflation took off in March, rather than staying even, you’d have lost a big chunk of your investment. Using the CPI as a metric, Bitcoin flops as an inflation hedge.

Of course, timing is everything: If you invested in Bitcoin as a counterweight to inflation a year ago, or in 2019 or 2017, the coin’s stellar rise is no doubt making you feel like a genius today. It’s the newcomers who turned to the asset as inflation started to soar who are suffering now, as CPI and $BTC move in opposite directions.

Bitcoin versus the breakeven rate

The 10-year Breakeven Index miorrors the rate on TIPs, Treasury Inflation Protected Securities that give investors a return in excess of expected price increases across the economy. The Breakeven rate was steady from January of 2019 to the pre-pandemic period in February of 2020, averaging around 1.7%. It didn’t show the same upward tilt at the end of 2020 into 2021 that registered in the CPI. In contrast, Bitcoin’s price tripled in those fourteen months to over $10,000. It showed no relationship with the steady-as-you go future anticipated by steady-as-you go Breakeven rate.

From February to September of 2020, the Breakeven dove and then rebounded to about where it started at 1.65%. Bitcoin didn’t move much either, bouncing around but ending the period about even at $11,000. Then, the Breakeven and Bitcoin took off in tandem. From September 1, the Breakeven roared from 1.65% to 2.53% on May 17, 2022. Over the same interval, Bitcoin exploded from $11,400 to $43,200. Bitcoin looked like gold on steroids. It was not only outracing inflation, but delivering a giant windfall along the way.

It didn’t last. Bitcoin was already on a downward spiral when the Breakeven rate reached its peak. Since then, that rate has eased slightly while the CPI kept rising fast. But the promise that Bitcoin would provide a shield against outsized price increases in the future isn’t playing out. It’s lost one-quarter of its value since inflation reached that new plateau in mid-May.

At $32,500, Bitcoin is selling at the same price as on January 1, 2021, when the Breakeven Rate was 1.7%, one-third lower than today.

Bitcoin marches to its own drummer, and neither today’s inflation, nor its expected trajectory in the years ahead, sets the beat. Fans are struggling to explain Bitcoin’s crazy rhythm. To love Bitcoin, it’s better to believe, and forget about getting wonky and analytical about something that’s too crazy to explain.

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