Why the administration is letting crypto burn
I have been on this forbut as we head into what could be the first vanilla recession of the 21st century, it’s worth reflecting on how unusual the period between 2008 and 2021 was in retrospect.
During these 12 years, federal funds rate was largely zero, slowly rising to a whopping 2.25% before the pandemic, and then down to zero until earlier this year when inflation returned. The Fed has raised interest rates in four months as much as it had in four years before the pandemic.
It was in that intervening period between highly unusual crises – when the normal laws of gravity had apparently been suspended and accommodative monetary policy had been turned on its head – that the crypto market emerged. Bitcoin, the proof-of-concept original cryptocurrency, was outlined in a white paper published on 31 October 2008, just as the financial crisis was approaching. The cryptocurrency was founded the following year and gradually built not only a dedicated following, but also a number of imitators and innovators, eventually becoming a multi-trillion dollar global industry by last November.
Bloomberg News
As we all know, times have changed. The total cryptocurrency market cap has lost roughly two-thirds of its value since its peak; crypto is on fire and no one is coming to put it out. It’s a remarkable departure from the last two times trillions of dollars have gone up in smoke. After the 2008 financial crisis, Congress and regulators went to extraordinary lengths to retain Titans of Wall Street, General Motors, General Electric, AIG and other central cogs in the financial system are floating. During the initial economic fallout from the COVID-19 pandemic, Congress and the Fed bailed out all otherwhich could potentially contribute to a number of factors that woke inflation from its long hibernation.
But while in these previous crises the Fed and Congress were unwilling to stand by and let the markets correct themselves, this time they are taking a very different tack, and there is no better example of this than the lack of any real discussion anywhere to support himself. the crypto market.
I suspect it is for several reasons. Crypto is a speculative market and it’s full of bad actors, but the same could have been said for banks and insurance companies before 2008. What’s different this time is that crypto is sufficiently screened from the wider financial system that it can deflate dramatically without a great deal of collateral damage. And more to the point, the government — and especially the Federal Reserve — needs to send the message that the music stops and not everyone will get a chair when it does.
The low interest rate environment of the last decade or so has had a number of effects, but one of the most prominent has been that if you want your money to turn into more money, you have to invest it in something. What it is hardly matters – values have spread in everything from residential to commercial real estate to stocks to commodities to the magic beans that many crypto tokens have proved to be.
And all along, there’s been a nagging concern about what we used to call “moral hazard”—the idea that markets had internalized the message that even if you screw up, someone will come through to bail you out. Until recently, there have been few viable ways for government to dispel this notion without pulling the needle on the global economy just to make a point – 2008 was not the time for that, and neither was 2020. But now the government – and again, especially the Federal Reserve – means business.
The pain of coming recession has not yet arrived, but it will, and just as the last decade or so has been called “everything boom,” the indefinite period between now and when we peek our heads out again will see values fall across the board. I don’t think crypto will disappear completely, just like stocks and commodities and housing and everything else won’t disappear completely But neither I nor anyone else have a very good sense of what the true fundamental value of cryptocurrencies or DeFi protocols is.
As the administration – and perhaps the following – moving forward with its efforts to set up regulatory and supervisory expectations for crypto markets, we will likely gain a better understanding of which of the crypto innovations are here to stay and which are not. But for now, the crypto winter is here – and it’s going to be a hard winter.
