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Opinion: The two different ways coronavirus could make Bitcoin rise

Posted: 20 March 2020 6:09 pm
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Bitcoin is still a small fish in a global economy that's deep, dark and full of teeth.

The US Federal Reserve has slashed interest rates to zero for the first time since the 2007 global financial crisis and confirmed the rollout of a US$700 billion stimulus package, with much more to come.

The Federal Reserve has also said it will drop bank reserve requirements to zero as of 26 March, so banks can more easily extend credit to individuals and businesses in their impending time of need.

That proposed relief package is about the same size as the initial GFC bank bailout and subsequent recovery efforts combined.

Unsurprisingly, the markets didn't find this particularly reassuring and another spirited plunge occurred across stock markets, taking Bitcoin and other cryptocurrencies with it. The recent correlation between these markets still appears to be intact.

Despite that, the peculiar situation we're in could end up being good news for Bitcoin (but perhaps not the world as a whole) one way or another.

To understand why, the first thing to look at is where we are now and how we got here.

On that front, it's worth noting that all this rate cutting and market stimulation is business as usual, except this time we're doing it with bigger numbers.

Muscle memory

Interest rates in the United States have been crawling along at rock bottom for years. They never really picked up after the GFC and got cut again when recession reared its head in mid-2019. And while the USA's quantitative easing technically ended in 2014, stimulation to the tune of $60 billion a month picked back up again in late 2019.

And on the risk front, while banks have previously been required to maintain adequate reserves, there's still been an explosion in leveraged loans (high risk/high reward loans extended to deeply indebted companies) in recent years, neatly nesting a multi-trillion-dollar time bomb in the financial system.

When the IMF sounded the alarm on leveraged loans in 2018, it noted that more than half of the total dollar value of these loans was being used to "fund mergers and acquisitions and leveraged buyouts, pay dividends and buy back shares from investors—in other words, for financial risk-taking rather than plain-vanilla productive investment".

The $1.3 trillion tax cut of 2017 ended up going largely to the same types of financial risk-taking.

Low interest rates haven't helped. The cheap money just helped inflate a risky corporate loan bubble.

This has been a growing threat for a while, and according to the International Monetary Fund's last financial stability report, an economic downturn about half as severe as the GFC would put about $19 trillion in corporate loans at risk of default.

Let's see what's happened since then.

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Source: Larry Cermak

Bugger. That's not good.

While the $19 trillion high-risk figure is debt from multiple countries, the US is personally sitting on about $10 trillion of explosive corporate debt.

The situation is made considerably worse by the collapse of oil prices, given how many US energy companies would have likely defaulted on their loans due to the recession alone, even without oil prices collapsing.

We're now trying to fight the coronavirus-induced slowdown largely by doing the same thing that got us into this mess in the first place.

The next crop of rate cuts and stimuli are the bottom of the barrel. We've already thrown everything at artificial growth metrics like the stock market index and now there's nothing left to give.

All those growth metrics were theoretically Good For The Economy™ because they made the stock market go up and Created Wealth™

Indeed, these factors are collectively responsible for the longest stock market bullrun in history. They didn't do much to avert this crisis though and arguably made it a lot worse.

American corporate debt has more than doubled since the GFC, US government debt has roughly tripled in the same period and US household debt has grown for seven consecutive years. More Americans are now in more collective debt than they were during the height of the GFC.

We've created wealth, endured the longest stock market bullrun in history, enjoyed a high employment rate and pumped the equivalent of trillions of dollars into pure, unadulterated business growth, while simultaneously going broke, achieving record debt levels and spreading the economy too thin to react to a rainy day.

A thick layer of blubber

One potential upside that could offer some reassurance would be if those years of high employment and booming markets gave people, banks and businesses enough time to build a healthy buffer of money. Did they?

It's an important question because the plan now is basically for everyone to draw down on their savings, borrow money or be given free money to get through the crisis.

Our ability to weather this storm is directly dependent on how effectively the last decade of incessant growth has translated into cash buffers.

The Federal Reserve says it's optimistic about bank cash holdings.

"Since the global financial crisis of 2007-2008, U.S. bank holding companies have built up substantial levels of capital and liquidity in excess of regulatory minimums and buffers," the Federal Reserve says. "The largest firms have $1.3 trillion in common equity and hold $2.9 trillion in high quality liquid assets," it says.

It's not especially inspiring numbers next to the $10 trillion of potentially explosive corporate debt floating around the States.

You'll have to pardon the banks though; their reserves would have been fuller except they've been pumping up share prices with stock buybacks over the last few years.

Tens of billions here, tens of billions there, it all adds up.

Still, at least they left something in the coffers.

Credit where it's due

Other than banks, did other large businesses build a cash buffer over the last decade?

Some did — mostly the tech giants — but most large business rainy day funds are smaller and more endangered than you'd think.

The top 10 American companies with the largest cash stockpiles have less than $1 trillion between them, and many of them are also balancing large debt loads. Some of them even have net debt positions despite their cash reserves.

With a handful of exceptions for companies like Facebook and Apple who are specifically notorious for their $100 billion cash holdings, most large businesses appear to be skint as a result of all the aforementioned financial risk-taking like stock buybacks.

Over the last decade, about half the cash flow from the S&P 500 Index went towards stock buybacks. The biggest airlines in particular spent 96% of their free cash flow on share buybacks, and now they're coming at taxpayers with the expectation of a bailout.

Many energy companies are in the same boat as are coronavirus-affected manufacturers like Boeing, with a long history of share buyback programs behind them, a lot of workers under them and a lot of pain in front of them.

Those are the businesses that are asking for, and likely to receive, billions of dollars of bailouts on the current and future taxpayer's dime – not that most taxpayers can afford it.

Every Thomas, Benjamin and Hamilton

We've just come off the longest bullrun in stock market history, with trillions of dollars both directly and indirectly being poured into the pure, undiluted creation of wealth.

Yet, it seems like only the banks and a small handful of tech companies grew a thin layer of cash blubber since the GFC.

The average American certainly didn't fare any better.

First, only about 55% of Americans own stocks (less than the 60% that owned stocks pre-GFC), so only about half of the population got any direct upside from the rising markets.

And with the markets wiping out years of progress in just a few days, those holdings are perhaps not the most useful rainy day fund.

Most Americans are still probably more concerned with debt than investing. The majority are in some kind of debt, and 30% of American adults already have debt in collections (180+ days overdue).

So what the heck happened to all that wealth?

Show me the money

It went to heaven, is what happened. And like most things that go there, it doesn't look like it's coming back.

That's according to the Federal Reserve, in one of the most detailed wealth distribution analyses ever conducted.

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Source

Since the GFC, the collective wealth of the top 10% has exploded from roughly $50 trillion to $120 trillion, the collective wealth of the bottom 90% has trickled from roughly $33 trillion to $40 trillion and the bottom 50% hasn't gone anywhere.

The US cost of living (CPI) increased by about 20% since the GFC, so we can broadly assume that the bottom 50% is under growing pressure and deep in debt.

That's the same bottom 50% that owns about 40% of outstanding liabilities, so casually eyeballing the USA's blossoming $14.5 trillion household debt load, we can very roughly and unscientifically speculate that maybe $5 or $6 trillion in household debt is at risk of default in a major slowdown.

In many cases, the most at-risk are also the least likely to be eligible for a bank loan.

Proposed stimulus efforts, such as the idea of simply handing most Americans a cheque for $1,000 to tide them over, which has received broad bipartisan support, are focused largely on that problem as well as on keeping the economy ticking.

Putting it all together

So, what can we conclude from all of this?

First, that coronavirus is just the catalyst rather than the real problem. The real problem is that we've spent the last decade enthusiastically swapping real money for play money, only to find that reality won't accept all of our play money as payment.

The numbers simply don't add up, and there's nothing we can do about it.

Second, that real systemic change is needed to solve the underlying economic problems that got us into this mess.

A quick glance at the most sophisticated election polling tool in existence — the FTX presidential futures market — indicates that this probably won't occur for at least another four years.

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FTX

And third, that current levels of wealth disparity are frankly hilarious. The top income bracket is absolutely hoovering up the whole planet's wealth, and it's happening faster and faster each year.

The fact that it's not sustainable is not a question of politics so much as a basic law of physics.

Something's got to give, and we can see from the GFC that recession alone doesn't "shake it out" to the necessary extent. The more important question is whether a recession results in meaningful systemic change.

Unless it results in meaningful systemic change, the recession is just a blip on the radar.

Scenario 1: Systemic change

As we go into this recession, and hopefully come back out the other side somewhere, we could be on track to see systemic changes like higher taxes at the top income brackets and expansion of estate tax laws.

For some of the people affected by those changes, Bitcoin's features as a censorship-resistant intermediary-free global digital currency/store of value could start to look extremely attractive.

Bitcoin's market cap is currently tiny, sitting at just under $100 billion at the time of writing, so even a remote flicker of genuine interest in Bitcoin for its intermediary-free censorship-resistant properties from people other than drug dealers could be enough to significantly change Bitcoin's value proposition.

For perspective, the USA's thirty largest public pension funds have (had) very roughly $2 trillion between them. The world's pension plans contain(ed) $44 trillion all up.

But the personal wealth of the top 10% of the world's population is (was) about $80 trillion.

That's a big market for the Bitcoin "product".

Of course, even if it does drive Bitcoin prices up, it's not necessarily a good outcome for society as a whole. But this far in, it probably goes without saying that market forces aren't especially interested in what's good for society.

Similar can be said for the other scenario.

Scenario 2: No systemic change

We go into recession, we come out of it and nothing changes.

The world remains locked in its current seven-to-ten year credit cycles of boom and bust, alternately over-leveraging itself to create a lot of wealth and debt, and then catching fire.

Every time it catches fire, we try to smother the flames with money, but one day that won't be enough, and it'll all burn down. Either way, confidence in the financial system will be lost and people will start turning to more reliable peer-to-peer digital currencies. Bitcoin, with its brand recognition, does quite well for itself.

Some people would argue that this particular crash is when it all burns down.

Scenario 3: None of the above

Or maybe none of that happens. The third scenario, which admittedly sounds a bit more realistic, is that the virus comes and goes, the wheels of the economy are still turning and most of us are still left standing, albeit more rumpled and indebted than before.

Bitcoin prices keep going up and down, and its safe-haven narrative keeps loitering in the public discourse.

Somewhere in the distant future, while waiting in line to pay for a Slurpee and a candy bar, you idly think about the coronavirus recession and everything that caused it, while wondering if it could happen again in your lifetime.

Probably not, you decide.

The clerk rings you up for $142 from behind his antibacterial screen. You scan the payment QR code from a distance and walk out of the store.



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Disclosure: The author holds BNB and BTC at the time of writing.

Disclaimer: This information should not be interpreted as an endorsement of cryptocurrency or any specific provider, service or offering. It is not a recommendation to trade. Cryptocurrencies are speculative, complex and involve significant risks – they are highly volatile and sensitive to secondary activity. Performance is unpredictable and past performance is no guarantee of future performance. Consider your own circumstances, and obtain your own advice, before relying on this information. You should also verify the nature of any product or service (including its legal status and relevant regulatory requirements) and consult the relevant Regulators' websites before making any decision. Finder, or the author, may have holdings in the cryptocurrencies discussed.

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