Bitcoin Rally Sends 3
Signals to Governments
The drivers behind the surge will impact the design and
effectiveness of economic policies.
By Mohamed A. El-Erian
February 25, 2021, 3:00 PM EST
Officials write off the cryptocurrency phenomenon at their
peril.
Bitcoin’s price has tripled in just three months, bringing
the last 12-month
appreciation to more than 400%. Analyzing this rally from the
perspective of investors is a good way to understand what has driven this
impressive rally and what it says about global finance and money. It also has
important messages for governments and central banks, particularly in Europe
and the United States, where several officials have warned about the Bitcoin
phenomenon.
The widely covered announcements by Tesla and Square that
they were buying Bitcoins highlight a broadening process of adoption. More
companies are having to consider the possibility that Bitcoin is evolving
into a more widely used form of payment and store of value, two key
characteristics of money. With that comes a clear message to the public
sector, especially in countries with currencies that are used worldwide such as
the dollar and the euro: Take a lot more seriously both the technology underpinning cryptocurrencies and, on the more
worrisome side, the potential of a growing
migration away from traditional money and its implications for the
effectiveness of monetary policy and the ability to profit from issuing
currency (“seigniorage”).
The second driver of Bitcoin’s meteoric rise has come from
those attracted to it not for positive reasons, such as Tesla and Square, but
for negative ones instead. Several are in play here. Some fear inflation and
currency debasement. Others have been pushed to Bitcoin in search of a
financial risk mitigator when yields on government bonds are low, though a
little less so recently, and when their traditional negative correlation with
risk assets, such as stocks, has weakened significantly. With that comes higher
threats to future financial stability as the risk-mitigating positioning now
attracts a more volatile component.
Speculator flows
have driven the third influence. Bitcoin is part of a set of assets seen by
some as providing the possibility of quick outsized gains. This is part of a
more general phenomenon of excessive
risk-taking that is playing out in many segments of the financial
markets — from record debt issuance
and the notable compression of risk
spreads on the lowest-rated high yield bonds to the proliferation of celebrity SPACs and the meme stock phenomenon. Here, once
again, the message to
governments and central banks about the risk of future financial volatility and
instability is far from reassuring.
At Bitcoin’s birth and during its early childhood, too many
were quick to dismiss the phenomenon as short-lived and irrelevant, if not
prone to fraud. They have been proved wrong so far. Today, too many officials
are inclined to look at in the cryptocurrency in a rather narrow way. They
shouldn’t. What is happening to the price of Bitcoin is indicative of broader
developments that are relevant to the design and effectiveness of policies.
This column does not necessarily reflect the opinion of the
editorial board or Bloomberg LP and its owners.
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