In 2018, the executive on the board for the European Central Bank (ECB) declared Bitcoin, “the evil spawn of the financial crisis” — referring, of course, to the economic disaster 10 years prior. Interestingly, also born from the ashes of the mortgage crisis was the United States government’s adoption and unabated use of quantitative easing (QE).
However, according to some, there’s more of a connection between Bitcoin (BTC) and the government’s use of QE than just their origins. A recent tweet from BitMEX CEO Arthur Hayes highlighted this supposed correlation:
“QE4eva is coming. Once the Fed gets religion again, get ready for #bitcoin $20,000.”
Nodding to the Federal Reserve’s latest decision to pump the economy with billions of dollars, Hayes brazenly suggests a relationship between a growth in Bitcoin’s price and an increase in QE. But is this idea entirely out of the realms of possibility?
A bailout for banks
At the start of last week, banks all over the U.S. ran out of cash, as interest rates in the overnight market — a platform reserved for interbank lending — shot up to 10%. forcing the Fed to act. On Tuesday, $53 billion was mainlined into the financial sector in order to quell short-term interest rates. Known as an “overnight repo operation,” the Fed spent $40.8 billion on treasuries, $11.7 billion on mortgage-back securities and a further $600 million on agency bonds, all in an attempt to lessen borrowing costs from the proverbial line in the sand.
This line was drawn back in July, when the Fed set a renewed target range for interest rates of 2% to 2.5%. Come Wednesday, and with overnight lending rates still sky-high, this target was redrawn to a range of 1.75% to 2%, resulting in another $75 billion siphoned from the Fed’s coffers.
However, it didn’t stop there. On Thursday, with rates citing a spike of approximately five times the acceptable benchmark, the Fed released a statement bracing the market for an additional $75 billion. Friday marked yet another $75 billion in capital injections.
In total, $278 billion funneled into the markets. Finally, the Fed did away with the daily charade and announced that further operations would continue regularly through to mid-October. Previously, sky-high repo rates declined following the injection of $278 billion.
Fed Chairman Jay Powell mostly brushed the repo operations off, suggesting that while they were integral to the smooth running of the market, they had no “implications for the economy or the stance of monetary policy.”
These repurchasing agreements, or repos, typically involve the overnight lending of government securities on the open market, with distributors selling to investors with the expectation of repurchasing the following day. While these generally take place between financial institutions, once in a while, the Fed will get involved — entering into agreements to regulate the monetary supply. This latest flurry of investment marks the first time in over a decade that the Fed has intervened with a repo agreement, with the last being the 2008 global financial crisis.
The Goldilocks paradigm
It’s perhaps important to make a distinction between the Fed’s recent repo agreements and QE. Broadly speaking, while open-market operations are an inevitable step toward quantitative easing, these two policies differ significantly. To use a reasonably reductive explanation, within repo operations, the Fed uses reserves to buy government assets such as treasuries on the overnight lending market to influence interest rates. Whereas under QE, the Fed “prints” money — or rather, generates it electronically — and uses it to purchase securities with the direct intent and consequence of expanding the monetary supply.
QE is typically used as a last resort. For the Fed, this last resort comes when it fails in its mandate to keep interest rates in their designated sweet spot — thus, we have the principle of a goldilocks economy. If interest rates climb too high, pricing people out, a recession can occur; too low, and there’s a risk of excessive economic growth, inflation and subsequent currency devaluation.
Currently, the pressure from rising lending rates is forcing the Fed into a corner by which it needs to reduce its target to maintain an equilibrium. However, with four consecutive days of repo transactions last week, and a new pledge to continue buying government assets, it looks like quantitative easing could be next on the agenda.
Can quantitative easing act as momentum for Bitcoin?
While the objective of QE is to revitalize the economy via low rates, providing a new incentive for borrowing and investing, it can also drive investors to diversify more risk into their portfolios, as they look to maintain the same yield. Speaking to Cointelegraph, Alex Krüger, a cryptocurrency trader and economist, explained what this expanding desire for risk may entail for Bitcoin:
“QE would push longer interest rates lower and thus push some investors out the risk curve, i.e., seeking riskier investments to achieve desired returns. One can theorize some of that money would end in Bitcoin, adding upward pressure to prices.”
Additionally, this notion of excessive risk-taking during quantitative easing was highlighted in a report by the International Monetary Fund (IMF), which said that “prolonged monetary ease may also encourage excessive financial risk-taking, in the form of increased portfolio allocations to riskier assets.” Thanks to its widespread stigma as a “risk-on” asset, Bitcoin could, in theory, reap some of the benefits afforded by increased demand for more perilous investments.
A modest supplement of the previous theory is established from the increase in monetary supply. Simply put, the more fiat funneled into the financial system, the more disposable capital there is for investments. Mati Greenspan, eToro’s senior market analyst, noted this while talking to Cointelgraph, suggesting that, “Some of that money will likely be channeled into Bitcoin.”
So, why Bitcoin? The nascent protocol is known as the antithesis of the financial system. It was born literally to oppose and subvert traditional banking. With such an option at their disposal, and with growing concerns of a systemic collapse, it’s not inconceivable that people are turning to Bitcoin for capital refuge.
Furthermore, a somewhat darker theory relates to the relationship between QE and currency devaluation. As interest rates decrease and the monetary supply rises, domestic currency inflates and loses value. Interestingly, for some — especially during a trade war — a weaker currency is a welcome byproduct of QE due to exports becoming cheaper and more competitive on a global scale. For Bitcoin believers, it is just another sign of the imminent collapse of the financial system.
With the defacto world reserve currency on its last legs, Bitcoin’s purported role as a macro hedge is becoming more of a reality. Broadcaster, Bitcoin bull and fiat doomsayer Max Keiser is one such propagator of this theory. In a conversation with Cointelgraph, Kieser suggested that much of Bitcoin’s value is based on the denigration of the financial industry:
“QE (debt-monetization) is designed to keep zombie banks alive. Bitcoin was introduced to battle zombie banks and QE and the price has exploded higher in response to the increase in global reliance on the accounting fraud and chicanery of QE. There is no end to QE. There is no scenario other than all fiat everywhere crashes to zero (as all fiat has done over 300 years). And there is no top to the Bitcoin price. $1 million and above is virtually a certainty at this point.”
Bitcoin: A hedge against economic uncertainty?
If a genuine connection between QE and Bitcoin’s price is to be seen, then a clear definition of BTC’s asset status needs to be made. Seemingly in accord with Kieser, economist and CEO of Global Macro Investor Raoul Pal has been especially vocal on this topic as of late.
In August, Pal delivered a tweetstorm, declaring a worldwide currency crisis and advocating for investment in Bitcoin, as it “trades like a call option on a new system.” Speaking to Cointelegraph, Pal communicated that while Bitcoin may not be the best bet against macro risk, it will likely play a significant role in the event of a financial collapse:
“I view BTC as an option on the End Game to the current monetary system. No, it is not a good day to day macro hedge. It is a macro systemic risk hedge, however. That is very different. It does play a decent role in capital flight too in emerging markets.”
Wall Street veteran and a member of the Wyoming Blockchain Task Force Caitlin Long similarly believes in Bitcoin’s budding utility as a hedge against economic instability. Within a recent article, Long lambasted the fragile nature of the financial system, referring to last week’s repo events as “a modern version of a bank run.” Nevertheless, Long maintains that it provided further confidence in Bitcoin:
“Bitcoin is not a debt-based system that periodically experiences bank run-like instability. In this regard, Bitcoin is an insurance policy against financial market instability. Bitcoin is no one’s IOU. It has no lender of last resort because it doesn’t need one.”
Krüger appeared to agree that Bitcoin is only a hedge against the additional, tail risk of central bankers and/or governments losing control. However, Krüger added the caveat that the Fed’s execution of QE “would not represent losing control.”
This is an important distinction to make when weighing up any correlation between QE and Bitcoin’s price action. On this point, Krüger remarked that there had been no precedent that shows any such relationship, yet:
“There is no evidence BTC has benefited from prior QE rounds. However, the more engrained with traditional markets Bitcoin becomes, the higher the impact one should expect. The QE impact should be significant if by then BTC is already behaving from a macro standpoint as digital gold, which is not yet the case.”
Krüger’s assertion seems to hold some merit. During Bitcoin’s short history, QE has had very little impact. However, it could be argued that price discovery during these periods was still underway. As Krüger notes, this correlation could strengthen as Bitcoin matures. The Fed’s balance sheet tends to increase in conjunction with various QE rounds, as it did from 2008 to 2014, but it also seems to share very little correlation to any increases in Bitcoin’s price.
How likely is QE, anyway?
While the ongoing repo agreements hint to some further measures to avoid inflation, it isn’t exactly concrete proof that QE will be initiated in its traditional sense. However, if the Fed continues to follow the global monetary policy of other sluggish economies, it will perhaps be an inevitability.
In September 2019, the ECB announced a fresh bout of economic stimulus, reintroducing an aggressive phase of quantitative easing to the tune of 20 billion euros per month, starting in November.
The ECB also slashed interest rates further into the negative, from -0.4% to -0.5%, much to the anguish of President Donald Trump, whose competitive nature came out in full swing. In a trademark Twitter tirade, he remarked.
“European Central Bank, acting quickly, Cuts Rates 10 Basis Points. They are trying, and succeeding, in depreciating the Euro against the VERY strong Dollar, hurting U.S. exports... And the Fed sits, and sits, and sits. They get paid to borrow money, while we are paying interest!”
Trump’s pressure on the Fed to cut interest rates to the negative gives a fair bit of credence to the possibility of the U.S. entering its own QE phase. On this point, Greenspan remained unperturbed, suggesting that the ongoing repo operations were enough to sustain the economy for now:
“The ECB has rekindled their QE program. For the moment, the Fed in the United States is content to ease policy through interest rate manipulation.”
Similarly, Krüger noted that U.S. interest rates still had room to breathe before Federal Reserve Chairman Powell considered implementing QE:
“Powell has explicitly said the Fed would consider using QE again if ‘we were to find ourselves at some future date again at the effective lower bound — again, not something we are expecting.’ Rates are at the moment far from the effective lower bound (i.e. 0%).”
Nevertheless, Kruger included the caveat that QE might be adopted “during Trump’s 2nd term.” Indeed, with the ongoing trade war between China and the U.S., it isn’t likely that Trump will give up exerting his dovish will on the Fed. In recent months, a quasi-currency war has threatened to develop between the two nations. In June, the first rate cut in Bitcoin’s nascent history was imposed by the Fed, with Powell alluding to the escalating U.S.–China trade war.
Come early August, China combatted a fresh batch of U.S. tariffs by devaluing its own currency. To counter the move, Trump pressured the Fed to lower interest rates once again, to which it eventually acquiesced last week. Ruminating on this to Cointelgraph, Naeem Aslam, market analyst for a trading platform ThinkMarkets, suggested that QE may advance if the trade war lingers:
“I think if the trade war continues, then the Fed will be left with no other option but to continue the path of rate cuts. What matters the most is the pace and the aggressiveness of the Fed through which they cut the interest rates.”
Thanks to the possibility of a looming currency war and the subsequent economic depression that may bring, a Reuters poll relays that the median probability of a U.S. recession in the next two years stands at 45%. With such high estimations of a rising recession, it seems almost undoubtedly that QE will continue and proliferate.
As for a consensus on Bitcoin’s potential reaction to quantitative easing, it’s perhaps too early to tell. While numerous outcomes such as a systemic breakdown, an escalation between China and the U.S., or even something as simple as an increased risk appetite could all lead Bitcoin higher, there has been no real precedent to allude that it will.
Nonetheless, a predilection toward using Bitcoin as a safe haven is seemingly on the rise. And if sentimentality is anything to go by, the market dictates at least some movement from Bitcoin following economic strain in the future.