The sell-off in cryptocurrencies over the past few weeks has gotten so bad that calling it a mere “crash” apparently doesn’t quite cut it anymore. Instead, as the CEO of cryptoexchange Binance tweeted early Wednesday morning, “It’s a bloodbath out there.” The total market cap of all cryptocurrencies has declined by more than $2 trillion since the peak last fall, while flagship cryptocurrency Bitcoin is now down almost 70% from its all-time high, and has fallen more than 30% in just the ten days, to just around $21,000.
Of course, sell-offs in the crypto market are nothing new. There was a mini-crash last spring, and Bitcoin itself has seen its value decline by more than 70% a number of times over its history, though never from such lofty heights. This particular crash, though, is distinctive and distinctively important, because it’s happening at a moment of high inflation, a moment that was supposedly tailor-made for crypto, and Bitcoin in particular, to shine relative to other investments. Instead, the value of Bitcoin has plummeted, puncturing the myth that it’s what many have called “digital gold.”
The original promise of Bitcoin was that it was going to be a digital currency, a true alternative to fiat money, offering people the possibility of making trustless transactions without having to use an intermediary. But that vision of Bitcoin soon faded. While it’s still useful for buying illicit goods and evading capital controls, it has never taken off as a medium of exchange for everyday transactions. Some of that is logistical—it still takes too long to do transactions with Bitcoin—and some of it is built into the structure of the currency, which has a permanently limited supply of coins, an attribute that encourages people to hoard Bitcoin rather than use it. On top of all of this, Bitcoin is simply too volatile for most people to rely on it as a medium of exchange; why sell you a car for a Bitcoin today if there’s a chance that it’ll be worth 15% less tomorrow?
As a result, over the years, the investment thesis underlying Bitcoin changed. Instead of being a cryptocurrency, it became seen, and talked about, as a kind of crypto asset. More specifically, people—including high-profile investors like Bill Miller and Paul Tudor-Jones—started to call it “digital gold.” Bitcoin’s limited supply—there will only ever be 21 million Bitcoins in the world—makes it an ideal store of value, the argument goes. While central banks can print more dollars or euros whenever they want, making each existing dollar or euro worth less, Bitcoin’s value cannot be inflated away.
That was supposed to make Bitcoin, like gold, a proverbial hedge against inflation. If you were worried about the dollar being devalued by the Fed increasing the money supply to pay for the U.S. government’s deficit spending, Bitcoin was supposed to be a way to protect yourself from that. After inflation reared its head in the U.S. last year, JPMorgan wrote in October, just as Bitcoin was nearing its all-time high, “The reemergence of inflation concerns among investors has renewed interest in the usage of Bitcoin as an inflation hedge.” While the value of fiat currencies tumbled, the argument went, Bitcoin’s value would stand tall. In fact, JPMorgan suggested, some institutional investors now saw Bitcoin as “a better inflation hedge than gold.” Bitcoin had also, for much of its history, been uncorrelated with other assets, like stocks, so holding Bitcoin was supposed to serve as a hedge against a sell-off in the stock market.
It seemed like a pretty picture for crypto investors, who were pouring money into the market last fall. And if the investment thesis had been correct, Bitcoin would have done quite well (at least relative to other assets) over the past eight months, during which U.S. inflation has soared above 8% and the stock market has sold off.
Instead, exactly the opposite has happened. Bitcoin has seen its value drop by more than two-thirds, while other cryptocurrencies have seen even steeper declines. The sell-off has vaporized entire parts of the crypto ecosystem, like the so-called stablecoin Terra, which went from being worth $60 billion to almost nothing in a matter of weeks this spring. Things are so bad that crypto lending platform the Celsius Network has frozen withdrawals, which means crypto investors have their money locked up with no way to get it out.
The massive decline in Bitcoin’s value is—it’s worth noting—in stark contrast to actual gold. While the price of gold has fallen around 10% since its peak in October, that’s obviously much better than stocks and bonds have done. And gold is roughly flat over the past year. It has functioned, in other words, as a moderate hedge against inflation (even if it’s been dinged, like all assets, by the rise in U.S. interest rates). Bitcoin, by contrast, has behaved like a tech stock on steroids. And instead of being uncorrelated with the decline in the stock market, it’s actually far outpaced the drop in stocks.
Why? The most obvious answer is that the steep rise in the value of crypto that peaked in fall 2021 was not the product of investors soberly buying into the crypto thesis, and adopting Bitcoin as a long-term investment analogous to digital gold. Instead, it was a speculative mini-bubble, with speculators treating cryptocurrencies as juiced-up versions of Nasdaq stocks. And since most cryptocurrencies—including Bitcoin—have weak economic fundamentals (meaning their value depends mostly on what people think they’re worth, rather than on their use-value in the real world or any cash they generate), once that speculative bubble burst, there was nothing in particular to prop the value of these currencies up.
To be sure, Bitcoin itself has now been around for more than a decade. People have seen it weather massive sell-offs and then rebound in value. And Bitcoin is still useful for illicit transactions and for people who need to do things like evade capital controls. So it will not be surprising to see Bitcoin stabilize here and eventually rebound, even as many other cryptocurrencies will disappear for good. (On Thursday, Bitcoin’s price was roughly flat, while stocks fell sharply.) But this sell-off, coming when it did, doesn’t just raise the question of whether the entire crypto market should be worth $1 trillion or more. It really raises the question of what cryptocurrencies are for, of what actual purpose they serve for most investors. If they’re not, with some exceptions, actually useful as currencies, and they’re unreliable stores of value and not good hedges against inflation, what good are they?