We are currently cruising through one of the most unstable periods in our financial and political history. Nations and governments continue their money-printing practices while unemployment numbers hit record highs.
As the world stands on the edge of a new financial crisis, individuals and corporations are facing a hard choice; keep their money in the bank and face record-high inflation rates or find another, alternative way to protect their money.
In this article, we help you explore the second option. After reading this post, you should understand why corporations could benefit from investing part of their capital into cryptocurrencies as a hedge against inflation.
Here are the points we will discuss:
- Why our current financial system is not sustainable
- Bitcoin and cryptocurrencies (market cycles, volatility, adoption)
- How corporations are allocating part of their cash reserves in crypto
- How to create a cryptocurrency wallet and buy Bitcoin
- What to expect in the future
The problems of modern money
In the past century, governments managed to monopolize the issuance of money and shift the attention away from its use as a store of value. Ever since decoupling from the gold standard in 1971, the US dollar is primarily defined as a medium of exchange. This shift became globally adopted and, as a result, modern money has several problems.
Problem #1 - It’s based on trust
Money today is not backed by any commodity or tangible store of value (e.g. gold). Its value derives from the belief in our financial system. If this system faces extraordinary challenges and the economy experiences a financial crisis, trust in the system could be questioned.
Problem #2 - Inflation
This is probably the biggest problem in modern money. Due to its decoupling from the gold standard, FIAT currencies can be printed on-demand, and there is no fixed supply. The more money that is printed, the less valuable it becomes. This has a negative effect on your savings and retirement plans. Note that, in just 20 years (2000-2020) the value of the US dollar has dropped by 50%.
Problem #3 - Negative interest rates
Over the years, banks have significantly decreased interest rates for savings accounts. With the recent pandemic-related events, interest rates in the US have dropped to zero for the first time in history. European banks have negative interest rates for several years already. This measure is expected to continue in the following years.
Problem #4 - Debt-based economy
When new money is printed, it is usually loaned out to the public through the bank. When the public pays back its debt, the increased money supply rebalances accordingly. The problem, however, is that most people can’t pay back their debt. As a result, the total global debt has reached an astounding $253 trillion and is expected to grow even more this year.
Problem #5 - Third-party control
When using the bank, you are not in control of your money; governmental institutions and central banks are. While this does not seem to be a problem, it could lead to unpleasant situations during times of financial crises. A popular example, in this case, is Cyprus. Due to the country’s bailout measures in 2013, all bank accounts lost between 6,75% and 10% of their funds overnight.
Additionally, with third parties knowing where and how you spend your money, there is no transaction privacy between parties.
Overall, it is easy to see that our current monetary system is not nearly as reliable or rewarding as it once was. Thankfully, the concept of cryptocurrency has grown in popularity and aims to solve all the issues that people face with modern money.
What is cryptocurrency?
A cryptocurrency is a virtual store of value that can act as a medium of exchange. The ownership of cryptocurrencies, as well as all their transactions, are recorded on the blockchain, a cryptographically-secure public ledger that can be accessed by anyone.
Most cryptocurrencies share the following characteristics:
- They are decentralized, meaning that no third party is able to control or confiscate your funds. You are the only person that can access and use your coins.
- They have a limited supply, which makes them inherently scarce and immune to inflation, as opposed to FIAT currencies.
- Transactions have minimal fees. When sending cryptocurrency to others, you can do so instantly, with much cheaper fees compared to the bank. This is especially important for individuals and corporations that need to transfer funds overseas.
If this sounds rather confusing, you could compare cryptocurrencies with cash:
- You are the only person in control of your money. If you lose your paper bills, or it gets stolen, there will be no way to retrieve it. The same is true with your virtual crypto coins.
- Only you decide who you give cash to. No bank or government can take the money off your hands or charge fees along the way. This is the essence of a decentralized currency.
At the time of this writing, nearly 7000 different cryptocurrencies are circulating the market. There are different types of coins, each sharing unique attributes, and characteristics. These are represented by virtual coins and tokens and can be seen in more detail on CoinMarketCap.
Obviously, this article will not delve into each and every one of them. We will focus on the most reliable and longest-standing cryptocurrency - Bitcoin.
Bitcoin is the first and most popular cryptocurrency. If you’re reading this article you probably have at least a vague idea of the concept. If not, make sure to read Satoshi Nakamoto’s 9-page whitepaper, which delves into the technical specifications of the coin.
In short, Bitcoin is a payment network that uses digital coins (bitcoins) to transfer value. These coins are created through a process known as “bitcoin mining”.
Mining bitcoins has many similarities with gold mining, with one important exception - the newly minted coins follow a predetermined schedule. The total supply of bitcoins amounts to 21 million and nearly 18.5 million coins have already been mined.
Every four years, the number of newly minted bitcoins is reduced by 50% through a process known as the Bitcoin Halving.
Here is how it works:
- Bitcoin miners use powerful computers (nodes) to confirm Bitcoin transactions.
- These transactions are grouped together to form a transaction block.
- Once the final transaction in the block is confirmed, it is “stacked” upon the previously confirmed blocks (hence the name “blockchain”).
- After a transaction block is confirmed, the miner that solves the final transaction receives a bitcoin reward. The current payout amounts to 6,25 BTC every 10 minutes, which is the time required to confirm one transaction block.
- Every 4 years, these rewards reduce in half, thanks to the pre-programmed Bitcoin Halving. The next time this event occurs (2024), rewards will drop from 6.25 BTC to 3,125 BTC.
- In turn, this process makes bitcoin inherently resistant to inflation and increases its scarcity over time.
What makes Bitcoin valuable?
When looking at an asset that is not backed by any government or financial institution, one will naturally wonder what makes bitcoin valuable.
Unlike most investment options, the value of bitcoin cannot be determined by using discounted cash flow analysis or by measuring its usability in the market. The digital coin belongs to a different category of goods, more commonly known as monetary goods. The value of monetary goods is based on the cumulative interest of market participants (market demand).
To get a better understanding of all the elements that determine the demand for Bitcoin, and how these compare against FIAT currencies, check this article.
Bubbles vs market cycles
When exploring the price performance of Bitcoin, you will most likely come across a phenomenon known as a “bitcoin bubble”.
The value, after increasing steadily for a long amount of time, experiences a sudden surge of 10%-20% per day, for several days in a row. Eventually, it outgrows its previous peak and the new price seems almost unrealistic. This is the initial phase of the so-called “bubble” - the bull run.
Since every bull run is fueled by speculation, the coin eventually reaches a price point where the sellers start to outnumber the buyers. At this point, one could say that the bubble pops and the market enters into a rapid downtrend (or “crash”). The sustained period that follows is known as a bear market.
Note: These terms are not entirely limited to cryptocurrency markets. They have existed for years and are mostly used in the stock exchange and other investment markets.
Eventually, the market stabilizes at a higher low and starts to recover slowly, until a new bull market starts. We can observe this when looking at the past 3 years of bitcoin’s performance.
The latest peak price was reached in December of 2017 ($19,650). Shortly after this occured, it decreased sharply, until a bottom was found in December 2018 ($3200). Ever since that time, the market has been recovering steadily. Many investors believe that we are currently cruising through a new bull market with strong pointers towards a new all-time high by the end of 2021.
But this is not the only “bubble” that Bitcoin has experienced. In fact, it can be seen in previous timeframes as well. This is how the previous market cycle looked like:
Bitcoin surged more than 20x from its previous top and many investors expect it to behave similarly in the next bull run.
Market cycles are natural
When zooming out, bubbles are simply market cycles that tend to repeat. This is also why many experienced investors tend to observe Bitcoin’s progress using a logarithmic scale. The pattern repeats all throughout Bitcoin’s lifecycle:
Due to its unpredictability, Bitcoin does not follow a steady and gradual increase in demand. It does, however, follow an exponentially increasing path when observed in this manner.
The peaks are usually a result of hype, and can easily be measured when looking at the coin’s price in correlation to market trends. Here is an example of the previous bull market performance compared to Google searches for “buy bitcoin”: