Bitcoin, Inflation and the Expectations Game

The biggest crypto news and ideas of the day

Jan. 12, 2022

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Welcome to The Node.

In today's newsletter: Bitcoin devs get legal support. Strike plans Latin America expansion. And an OpenSea competitor launches.

Questions? Feedback? We'd love to hear from you – simply reply to this email.

–Daniel Kuhn

Today's must-reads

Top Shelf

STABILITY, PLEASE: A group of U.S. banks plans to offer its own stablecoin, called USDF, in an effort to tackle concerns about the reserves behind nonbank-issued equivalents. Founding members of the USDF Consortium include New York Community Bank, FirstBank and Sterling National Bank – all FDIC-insured institutions. Meanwhile, the Federal Reserve's highly anticipated report on stablecoins and central bank digital currencies (CBDC) will be published in the coming "weeks," Fed Chair Jerome Powell told a U.S. Senate committee on Tuesday.

EXPANDING REGIONALLY: Strike, the Bitcoin Lightning Network payments app tied to El Salvador's embrace of the crypto, began services in Argentina. In 2022, Strike plans to expand into Brazil, Colombia and "other Latin American markets." Meanwhile, the parent company of Brazil's largest crypto exchange, 2TM, purchased a controlling stake in CriptoLoja, Portugal's first regulated crypto exchange, as it plans a European expansion.

LIQUIDATED: Bearish crypto futures traders lost over $82 million in the past 24 hours when an upswing in the market liquidated their positions. Bitcoin rose to $43,000 during Asian hours on Wednesday while major altcoins surged as high as 19% at the time of writing. The jump came soon after U.S. Federal Reserve Chair Jerome Powell said the central bank will be combating the current high inflation, signaling the Fed may reduce its balance sheet at a faster pace this year.

DEV SUPPORT: Block CEO Jack Dorsey proposed creating a legal defense fund for Bitcoin developers as the community faces "multi-front litigation" and "threats" that have forced some without legal support to "capitulate." Chaincode Labs co-founder Alex Morcos and academic Martin White also signed the email to the bitcoin-dev mailing list announcing the "Bitcoin Legal Defense Fund Board." The effort will help developers retain counsel, beginning first with a series of lawsuits filed by Craig Wright, the Australian technologist who claims to have invented Bitcoin.

LOOKS FAKE? LooksRare, a more decentralized alternative to dominant NFT marketplace OpenSea, saw $105 million in trading volume, garnered 75,000 Ethereum addresses claim airdropped LOOKS tokens and generated 613 ETH (nearly $2 million) in platform fees going to said token holders on its first day operating. OpenSea did about $160 million in trades over the same period. There's some evidence of wash trading by LooksRare users looking to earn generous platform rewards.

Elsewhere ... Hong Kong's monetary regulator gives stablecoins some consideration. Bored Ape Yacht Club owns a Fan Controlled Football League team. USDC is coming to the Chia Network.

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Overheard on CoinDesk TV...

Sound Bites

"The SEC is being, to some degree, excessively conservative and withholding its approval of these ETFs."

–Former SEC Branch Chief Lisa Braganca, discussing spot bitcoin exchange-traded funds, on CoinDesk TV's "First Mover."

What others are writing...

Off-Chain Signals

Fed Chair Defends Blocking Wyoming Crypto Banks, Including Kraken (Decrypt)
Zero Hash raises $105 million in series D round (The Block)
Man sells 933 selfies as NFTs for $3 each — and the collection's now worth millions (The Block)
Swiss Digital Asset Bank SEBA Raises $119M to Grow International and Institutional Adoption (Blockworks)
Kim Kardashian and Floyd Mayweather sued by investors over alleged crypto scam (CNBC)
Analysis: Crypto companies bet new mayor will make New York digital asset hub (Reuters)
Terra's Do Kwon on a Harvard Business Review podcast
Cryptocurrency is suddenly everywhere — except in the cash register (the Washington Post doth protest too much, methinks)

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Draeth's project, which is informed by earlier work done at Zcash, accounts for about $250 million of the $13 billion privacy coin space.

Putting the news in perspective

The Takeaway

Bitcoin, Inflation and the Expectations Game

The U.S. Bureau of Labor Statistics published new monthly Consumer Price Index (CPI) data Wednesday, and as far as the state of the macro-economy is concerned, the numbers seem about as good as could have been expected. The rate of inflation declined in December, down to a 0.5% monthly rise in the standard CPI measure, compared to 0.8% rise in November. The main driver of the month-to-month change was a broad decline in energy prices in December. In particular, fuel oil used for winter heating dropped 2.4%.

Make no mistake: The December numbers are still abnormally high and would be worrying in a vacuum. On an annual basis, 2021 inflation was 7%, which is the highest annual rate since 1982. But the 37% month-over-month decline in CPI growth, hopefully, means we're headed back to more normal territory – "more normal" here meaning 3%-4% yearly inflation in 2022, not the 2% target inflation rate set by the Federal Reserve, which was maintained or even undershot for years before the coronavirus pandemic.

The new CPI numbers had a noticeable effect on bitcoin, the price of which bounced about 1.6% on the announcement before retreating slightly. The effect on the S&P 500 and Dow Jones Industrial Average (DJIA) was milder, with small pops that have now been mostly given back.

Those numbers make for an interesting contrast. A naïve reading would suggest bitcoin is reinforcing its inflation-hedge thesis, but the stock performance might seem more confusing. In a vacuum, this morning's numbers were still quite high, which in a different year would have sent stocks tumbling over fears of a Fed interest rate hike.

Stocks didn't crash for a reason so simple it can be easily overlooked by market newbies: the role of expectations. The professional traders who dominate equity markets are not, by and large, frantically trading in response to CPI numbers the morning they're released. Instead, they've been trying to predict the CPI numbers for weeks and trading on those projections ahead of the actual numbers. By the same token, the Fed has already announced its plans to raise interest rates and cut its bond balance sheet this year, tightening the money supply and likely hurting stock performance.

As it happens, actual CPI growth came in just barely higher than Wall Street's "consensus expectation," which was for a 0.4% rise, according to Barron's. So in the simplest terms, equities didn't move much this morning because the actual CPI number was "priced in" based on trading before the announcement: That's why tech and other "growth" stocks in particular, which are generally more dependent on cheap capital, have been slumping for months. We might have seen big equity swings today if inflation had instead come in well above or below the consensus.

Understanding how these sorts of expectations work is key to parsing asset markets. While they're suddenly gaining significance in the CPI discourse, they've been central to the stock market for decades in the form of analysts' quarterly revenue projections for publicly traded companies. Weirdly, and for reasons I still don't understand after nearly a decade of finance reporting, the business press isn't in the habit of citing its sources for various "consensus projections," so they can seem like they're just pulled out of thin air. But they generally come from surveys of analysts or an average of their published projections, and are one of the pieces of data that are still easiest to find through an old-fashioned Bloomberg terminal.

(Crypto assets are notable here for lacking the regular reporting structure that makes professional projections so acutely significant, though crypto-linked stocks like Coinbase are subject to the same dynamic.)

So now we turn to bitcoin, where the expectations game appears to be played much differently. It should be noted first that overall, inflation still has less influence on bitcoin's price than many other speculative factors – the idea that bitcoin is an "inflation hedge" is still at least somewhat theoretical. After a sharp drawdown over the last two months, bitcoin is currently seeing a short-term rebound that's arguably mostly about bargain hunters buying the dip.

But in the shorter term, inflation is clearly guiding investor behavior. BTC trading volumes surged immediately after the 8:30 a.m. ET (13:30 UTC) CPI drop, meaning a significant number of people are trading bitcoin as if it were a functional inflation hedge. If you bet heavily on a slight inflation beat by buying bitcoin at 8:29 a.m. this morning, you made money by 9 a.m. That's a risky trade analogous to what stock traders do frequently.

But the contrast with stocks is revealing. In bitcoin, for reasons that would be too complicated to dive into here even if I fully understood them, it appears inflation projections are not smoothly "priced in" ahead of monthly announcements. You could have bought BTC on the actual CPI print at 8:31 a.m. and made nearly the same amount of money by 9 a.m. as the guy who was taking a risk on unknown numbers at 8:29 a.m.

Assuming the inflation-hedge narrative holds up, this trade is basically an inefficiency that won't last as the bitcoin market matures. A lot of pros and serious traders are clearly taking advantage of it, but at least for the time being it's also still available to the little guy.

–David Z. Morris