Bitcoin is often sold as protection against adverse macroeconomic consequences. This column argues that this image as a macro hedge does not stand for verification. Recent events – from covid and inflation to war – provide a window into what bitcoin is actually like. If this is a true macro hedge, Bitcoin will be positively linked to macroeconomic uncertainty. Instead, it acts as a leveraged bet for speculators. And unlike gold, which has been believed as a macro hedge for millennia, Bitcoin requires electricity and internet access, an uncertain service in times of turmoil.
We have no consensus on the motives served by Bitcoin and other cryptocurrencies. Is it a replacement for Fiat money or protection against a corrupt and incompetent government? Perhaps the most persistent pro-crypto argument is that it is a Macro hedge, Provides a treasure trove of value that protects against major economic shocks, government corruption and mismanagement: the 21st century version of gold. We certainly need a macro hedge. With the recession, stock markets are crashing, and inflation has surpassed 10% – while central banks appear to be crippled and governments intend to monetize increased spending – a useful macro hedge will be welcomed.
So why would Bitcoin be a good macro hedge? With the Fiat currency in general, it has no underlying value. Fiat holds the value of money because we trust the central bank to operate it sensitively. If it is not, then inflation or hyperinflation, as in Venezuela today. Bitcoin replaces trust in government with confidence in technology. According to crypto advocates, the technology is authentic. Unlike a corrupt government, it cannot abuse its money-printing privilege and the money-making limit promises to make Bitcoin a macro hedge. Does that argument stand up to scrutiny?
What kind of assets is Bitcoin?
The evidence is mixed, as noted by Feyn et al. (2022). The events of the past two and a half years give us a great opportunity to investigate what kind of assets Bitcoin is. In early 2020 we had the volatility of the Covid market, the post-Covid economic and market upsurge, high inflation and Russia’s invasion of Ukraine. In all these situations a macro hedge should have predictable characteristics.
To test what actually happened, we took monthly monitoring of six economic variables from the beginning of 2020 to the present. The variables were returns on bitcoin and gold, the S&P 500 index and U.S. inflation, as well as the percentage change in the monthly macroeconomic uncertainty index (Bloom and Davies 2022), and an elasticity index that was created capturing the probability of a 90% decline. Over the next 10 years in the S&P 500 (Bevilacqua et al. 2021). We took 30 observations for each variable except the Consumer Price Index (CPI), where we took 29.
Table 1 shows the correlation between these variables. For a sample size of 30, a 35% correlation differs significantly from zero in 5% significance.
These results suggest that Bitcoin is a useful macro hedge. It is significantly and positively related to the stock market, and negatively related to resilience, macro uncertainty and inflation. If it is a macro hedge, then those negative relationships will be significant and positive. Moreover, since both the stock market and Bitcoin are negatively related to resilience, these numbers indicate that speculation rather than fundamentals drives both markets. These results make it abundantly clear that Bitcoin may not be a good hedge against the macro fears we have seen in the last two and a half years.
The interrelationship of inflation is particularly interesting. A macro hedge, and in particular Bitcoin, should be positively correlated with inflation. Central banks greatly expand the money supply, a certain supply with a certain supply like Bitcoin will increase with inflation, not go in the opposite direction.
Gold and bitcoin, internet and electricity
When considering Bitcoin as a macro hedge, the most helpful analogy – and one usually made by crypto advocates – is gold. Gold has been a macro hedge around the world for millennia. The legend of King Midas praised its virtues three millennia ago and it was revered long ago. Gold has good properties for a macro hedge. It doesn’t rust, or it doesn’t rely on technology. It is the heaviest of the metals, and so it is easy to verify whether a coin or bar actually contains gold. Most importantly, there is evidence of this. It has been believed to be a macro hedge for millennia, which comforts us that it will continue to serve that function. Stories that families hid their gold during the war can be recovered years or decades later when the situation calms down. This is the essence of a good macro hedge. And since we have had gold price data for centuries, it’s easy to verify how its value relates to historical key economic variables and alternative investment choices, making it easy to make sure gold acts as a macro hedge.
Bitcoin is none of these. It is 13 years old, and the only real experience of how it behaves during stress has come from the last two and a half years, as the previous years of its existence were relatively quiet. Will a family facing civil war and willing to hide their wealth be confident that the bitcoin they are buying today will be accessible in 50 years? Will bitcoin exchanges still exist, or will they become faded memories of the frenzy of the second decade of the century?
We don’t need such an extreme scene. One needs electricity and internet access to use Bitcoin. There are ways to disrupt both the civil war and the government. Gold does not depend on internet or electricity. Even a relatively temporary barrier to global Internet access can divide the Bitcoin blockchain into two or more competitive branches. This will cause considerable disruption to Bitcoin users – even losses. Although the cryptography of the bitcoin blockchain easily resists attacks using today’s technology, there is no guarantee for the future. Technologies such as quantum computing can facilitate token theft in blockchain.
Finally, it is worth remembering that the Bitcoin blockchain is publicly visible. This may not be entirely appealing to those who see the confiscation by the authorities as a sufficient threat.
Bitcoin and the stock market
Although Bitcoin does not appear to be a macro hedge, it is related to the 64% stock market. Throughout its history, Bitcoin has largely outperformed the stock market, but it is 2.6 times more risky than equity.1 Therefore, the price of Bitcoin is like a leveraged bet on the stock market. When the stock market performs well, its price rises rapidly and similarly falls with the stock market.
This is not surprising, since most crypto investors buy it because they have seen its price rise. This means that the overall sentiment of the financial markets drives the price of crypto, not the desire to hedge against macroeconomic uncertainty. Because crypto prices are driven by speculation, not fundamental or politics, it is not a macro hedge.
Crypto advocates argue that Bitcoin and other cryptocurrencies are part of the future of money because they are a macro hedge that protects against inefficient and corrupt institutions and governments. A series of stressful events since 2020 – cowardice, inflation and war – have allowed us to test whether this is true. If Bitcoin is a true macro hedge, it will be positively correlated with macroeconomic uncertainty. But it is not. Instead, the prices of Bitcoin and other cryptocurrencies are similar to those of a high-risk asset.
Bitcoin doesn’t live up to the promises of its promoters, and it’s a bad macro hedge. This may be his ultimate weakness.
Bevilacqua, M, L Brandl-Cheng, J Danielsson and JP Zigrand (2021), “Moral Dangers, Market Fear and How Central Banks Responded to Covid-19”, VoxEU.org, 26 January.
Bloom, N. S. Davis and S. Baker (2022), indicators of economic policy uncertainty.
Feyn, E., Y. Kawashima and R. Mittal (2022), “Climbing Crypto Resources: Evolution and Macro-Financial Drivers”, VoxEU.org, 19 March.
Gandal, N (2021), “Microeconomics of Cryptocurrency”, Vox Talk, 15 January.
1 See http://extremerisk.org and Gandal (2021)