What is an Inflation Hedge?
In the current geo-political situation, the majority of world population suffers from issues such as unprecedented rise in inflation. Inflation is a phenomenon where the price of goods and services increase on account of factors such as money devaluation, decline of GDP, and other economic setbacks.
One way to combat rising inflation is investing in products as a hedging strategy. Investment products that are classified as hedge against inflation offset the impact of inflation for an investor by preserving purchasing power and preserving value of the savings.
Is Bitcoin a Hedge Against Inflation?
Bitcoin has been ranked as an effective hedge against inflation since its conception. Bitcoin was introduced following the aftermath of 2009 financial crisis. However, since printing an ATH of $68K, BTC prices have retraced by more than 70%.
Therefore, at the outset it can seem that BTC is not an effective hedge against inflation. However, detailed analysis of the product provides empirical evidence that Bitcoin is an effective investment strategy to offset negative impact of inflation.
Hedging Properties of Bitcoin
In order to understand the effectiveness of Bitcoin as a hedge against inflation, the investors have to learn about all the factors that the investment product has incorporated to ensure this property. Some of the most important hedge against inflation features of Bitcoin as mentioned as under:
Bitcoin programming ensures that the total supply of BTC is capped at 21 million. This method ensures that the total supply of Bitcoin does not increase over time. In this manner, the blockchain retains the value of Bitcoin based on demand and supply principles. Since Bitcoin supply cannot exceed a total amount it gains more value.
Another important mechanism that ensures Bitcoin value is halving. Bitcoin incentivizes miners to verify transactions on the network by issuing Bitcoins as rewards. However, the blockchain has a halving program that decreases mining rewards by half after every 4 years. In this manner, the total supply of BTC diminishes over time and ensures that Bitcoin value continues to gain momentum.
Bitcoin is based on a blockchain network and it is a permissioned network. It means that anyone can make BTC transactions from anywhere using centralized or decentralized exchanges.
Traditional financial institutions can face an abrupt halt on account of regulatory sanctions or internal issues. However, if Bitcoin undergoes banning in one country it can remain active and online in other jurisdictions.
Bitcoin is a decentralized network meaning that it stores all transaction records on fluid servers that are nodes. Nodes are independent computers or systems that store a verified copy of Bitcoin blockchain in various places at the same time.
This prevents a single point of failure such that if one Bitcoin node goes offline others remain active and updated. This feature also ensures long-term value preservation for Bitcoin blockchain and the native currency.
Bitcoin and Traditional Finance
Bitcoin advocates invest in the cryptocurrency on account of qualities that are not present in the traditional legal tender or financial systems.
Cryptocurrency investors argue that Federal Reserve and other Central Banks have the independence to implement monetary policies without any input from public at large. This has led to some policies that have led to lose of fiat currency value such as money printing.
As per a statement from Federal Reserve, since 2008 the balance sheet of the Central Bank has expanded by 300%. At one end, some analysts state that policies such as quantitative easing are necessary to ensure financial stability and address economic constraints such as COVID pandemic.
On the other hand, the critics of the policy take up an issue with its negative impacts such as money devaluation and rise in inflation. This is one of the main reasons for investors flocking around Bitcoin as a hedge against inflation since it maintains a capped total supply to preserve total value.
The historical price analysis of Bitcoin indicates that the cryptocurrency has undergone a consistent increase in inherent value. Since its inception, Bitcoin has gained global adoption and acceptance on account of its status as a deflationary product.