Questions are raising, after central banks flood markets with rescue money.
Central banks in the US and EU are putting together rescue packages to deal with the corona crisis that is currently infecting stock markets around the world with panic. While the measures largely fizzle out, Bitcoin is recovering without any help at all. Was it too early to write off Bitcoin as a lifeboat?
If you have already dealt with Bitcoin, you certainly know: the maximum number of Bitcoins is limited to 21 million units. There are currently close to 18.3 million in circulation. The protocol states that there will never be more than 21 million monetary units, and it is almost impossible to change this protocol in a decentralized network.
Critics of Bitcoin sometimes complain that this control of the money supply is too rigid. Too inflexible to respond to crises, too deflationary to create the kind of value stability that central banks define as ideal. The Corona crisis, which has dominated minds, media, and stock markets for a few weeks now, once again shows what central banks mean by managing a crisis.
The US Federal Reserve was the first to react with several measures: On the one hand, it lowered the key interest rate to just over zero percent, and on the other hand, it announced that it would buy government bonds and other securities worth 700 billion dollars. In addition, it wants to offer emergency loans to banks at favorable conditions and has lowered the rate for the banks’ “partial reserve” to 0 percent.
Meanwhile, the European Central Bank ECB has also announced a “pandemic emergency purchase program” for bonds worth 750 billion euros. The “Pandemic Emergency Purchase Programme (PEPP)” is intended to buy both public and private securities. “Special times require special reactions,” tweets ECB President Christina Lagarde, “Our commitment to the euro has no limits. We have a duty to realize the full potential of our tools”. According to the press release, the ECB would “support all citizens of the euro area in these extremely challenging times”. All sectors of the economy should receive the necessary help to absorb the shock. The central bank is prepared to increase the size of the program “by as much as necessary, and for as long as necessary.”
So far, however, the announcements of the central banks do not appear to be having the desired effect. Both the DAX and the American Dow Jones and S&P indices continue to fall undaunted, and the “Fear” index of the US stock exchanges has risen to a new all-time high. According to analysts, purchases by central banks will not be sufficient to halt the slump in share prices. This alone could be a foreseeable end to the Corona crisis.
At the same time, governments must implement further measures to prevent the economy from collapsing. For example, with its short-time working program, the German government is helping companies that have to reduce their capacities, announcing a “billion-dollar protection shield” with unlimited volume for companies, expanding programs for liquidity assistance, making it easier to defer taxes and, under certain circumstances, waiving enforcement and fees for tax debts. But all this pales in comparison to the US program: it plans to use $850 billion to cut taxes, provide targeted assistance to certain industries and send a check of $1,000 to every citizen.
It is quite complicated what these measures actually do to the monetary system. When the Fed and the ECB buy securities, it is very much like creating new money. If the ECB really were to invest 750 billion euros in the stock markets by crediting itself with money, it would increase the M1 money supply, which is currently around 6,300 billion euros, by a good 10 percent. However, the money supply can also fall at the same time, for example when loans burst or debts are repaid.
It is more difficult to assess the Fed’s further measures. If it lowers the prime rate, this means that banks can take out a loan from the Fed at lower rates. This could indirectly increase the money supply, as money is created through loans, and these now become cheaper. Moreover, by lowering the rate of the partial reserve of banks to 0 percent, the Fed will allow banks to lend more or less indefinitely and thus create not central bank money, but fiat money. Such a measure seems downright desperate because it threatens to undermine the stability of the banking system.
It is even more difficult to assess the consequences of the measures taken by governments. It is clear that they will put a large amount of money into circulation. Since central banks are formally independent, governments cannot directly recreate this money. To a large extent — perhaps even completely — you will be able to raise the money from savings. However, it is conceivable that the ECB will retroactively finance governments with new money, for example by buying government bonds.
Besides, not all countries have such a good financial cushion as the US and Germany. Many European countries will not be able to support the economy for long as sales collapse due to the global quarantine. If the state of emergency drags on for a few months, things will get tight for many companies, and spirals of ruin are imminent: restaurateurs and retailers will go bankrupt, they will burst credit, which will put the banks in trouble, their employees will become unemployed, which in turn will cost the welfare state money and lead to further losses in retail sales, and so on.
There is a relatively broad spectrum of disaster scenarios for the economy that could come true in the coming months. It could lead to both deflation and inflation, even if inflation seems more logical: the money supply has increased, but the number of goods produced is dwindling because supply chains are damaged and companies are ruined. At the same time, there is a risk that the measures the government is taking to combat the crisis could end up in an even greater expansion of the money supply.
We, therefore, have not unrealistic scenarios in which the corona crisis triggers inflation — an expansion of the money supply, accompanied by a reduction in the number of goods. Should this occur, Bitcoin is still the optimal protection currency: scarce but flexible to transfer and perfect to store. If there is only a small risk of sliding into an inflation crisis, Bitcoin’s attractiveness will explode.
There are already many indications that private demand for Bitcoins has increased dramatically with the beginning of the crisis. Many companies report that their customers are buying more than ever before. Bitwa.la, for example, states in a press release that 75 percent of its customers have bought more, and the US company Coinbase, the top contact point for US Bitcoin buyers, also reports a record volume with allegedly similar levels of buyers. The slump in the share price appears to have been driven by companies and institutional investors but has been gratefully received by private buyers to establish or expand a position in Bitcoin.
Accordingly, the Bitcoin price has picked up again. While stock market prices continue to fall, Bitcoin has risen from around $5,100 to $5,800 6,200 in the last 24 hours alone. One could almost think that the cryptocurrency recommends itself as a safe haven in times of crisis.