Wealth Concentration And Illiquidity Prevent Overspending

At first glance, all this money being magicked out of nowhere sounds very inflationary. Crypto’s total market cap is now measured in trillions. And billions more have been produced by other frothy markets such as tech IPOs, NTFs, and Magic Cards.

Most people’s first instinct when they see this wave of surging prices in basically everything that “can’t be printed” is — inflation is coming!

After all, where there was nothing a decade ago, there are now huge piles of money. So why do I say it’s not inflationary? After all, doesn’t inflation occur when there’s more money chasing the same amount of goods? And isn’t that exactly what’s happening right now?

Let’s take a step back — outside of an external shock such as a natural disaster or war in a resource-producing area of the world, the biggest drivers of inflation are abnormally high wage increases.

When we get paid more, it drives inflation in three mutually reinforcing ways:

1. When we all get paid more, on aggregate we also consume more.
2. When labor costs rise, corporations try to raise prices to preserve their margins.
3. When inflation and inflation expectations are high, borrowing becomes more attractive (the money we pay back is worth less than the money we borrowed). More credit extended to everyone means more money to buy things.

But the key thing to notice is that for there to be lots of inflation, aggregate spending and borrowing across everyone must be rising and rising fast. That’s why rising wages does the trick — it’s something that flows through to everyone.

If all the new money is spread out evenly across everyone, then we all buy more and prices of goods and services will rise. But what if it’s not? If the new money is held by just a few, then there will be little effect. Sure there will be more purchases of Ferraris, yachts, and fine art, but by and large the aggregate demand for day to day goods and services will remain relatively unchanged. After all, there’s only so much steak and lobster these newly minted multi-millionaires can consume before they’re full.

Moreover, the newly created wealth must be in a liquid format. That’s why the new round of stimulus checks might be inflationary — it’s liquid cash ready to be spent as soon as it hits your bank account during a time when the economy is already recovering rapidly.

This leads me to the two conditions for high inflation:

1. The new money must be evenly spread across many people.
2. The new money must be easy to spend en masse.

Let’s apply this to crypto. Crypto wealth is concentrated. Depending on where you look the exact numbers vary, but you often see stuff like “40% of Bitcoin is held by just 1,000 Bitcoin whales”. That’s opposite of spread out. So the big beneficiaries of the surging price over the past few years are very few in number. Most of us either don’t own it, own very little, or bought in very late so it doesn’t affect our spending habits.

Ironically, by sucking in FOMO money, it might even have a deflationary effect — money that would have been spent on goods and services is instead now used to HODL crypto and chase returns.

And the crypto millionaires? They’ll probably buy some beachfront property, luxury cars, NFT art, etc. But their demand for day to day things like gasoline and groceries is obviously limited.

OK so what about with asset prices? Shouldn’t at least some of the billions and billions “created” in the crypto market eventually flow into traditional assets such as stocks or real estate. I’m sure some of it already has despite the tendency for crypto bulls to hold forever.

But at the end of the day, crypto, stocks, real estate, gold, etc. are all rough substitutes for each other. They are places for us to put our money when we don’t want to hold it as cash. And like any other investment, if enough people try to cash out and sell, the price will decline. Nothing is impervious to supply and demand, not even Bitcoin.

So those that worry or dream of a tsunami of crypto money flooding into other assets should temper their concerns. If such a liquidation event ever occurred, the total amount of money extracted out of crypto would be orders of magnitude less than whats implied by the current market cap — because the flood of sells would cause a price crash.

Finally, it’s worth noting that while the supply of certain things are somewhat fixed in the short-term (houses, certain natural resources, childcare facilities, etc.), the supply of investible assets of questionable quality can and has been easily expanded. When there’s money sloshing around, there are always folks with questionable business ideas (or digital art) looking to take some of it off your hands. It’s probably poetic justice that some of the money created by a bubble will ultimately be destroyed by a different bubble.

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Source: https://medium.com/alpha-beta-blog/why-crypto-nfts-ipos-and-other-bubbles-are-not-inflationary-ab0e79a472cd?source=rss——-8—————–cryptocurrency