Bitcoin: A Barometer Of Liquidity

The growth of M2 global liquidity correlates closely with bitcoin price action.

Global liquidity is rising, and so it bitcoin.

Bitcoin has enjoyed a reputation as "digital gold" since its early days, thanks to its limited supply and position outside of the control of any single national government or corporation.

Gold, of course, is the traditional "safe haven" asset, and a popular hedge against inflation. This does not mean it holds its value perfectly; the chart of gold over the past few years shows it is vulnerable to significant swings in price. Nonetheless, over the long term, it has maintained its value against a depreciating dollar.

Bitcoin is not old enough to have been tested to the same extent as gold, and there are questions about how well it might stand up in a recession. As a "risk asset", like stocks, there's the possibility that traders might sell it in favor of safer assets (like cash and bonds) when the economy turns down.

That might be a small part of the picture, but there's another way of looking at Bitcoin's movement against the wider macroeconomic backdrop: Global liquidity.

The Global Liquidity Cycle

Global liquidity is a measure of the total amount of available money in the economy. This depends on various things, but one of the key components is the money supply: How much cash actually exists in the world. A chart from MacroMicro shows how M2 has grown, and occasionally shrunk, over the past 12 years.

The M2 money supply has consistently increased, with few exceptions.

M2 is a measure of the money supply that includes the most liquid (readily available) forms of money—physical cash and checking account deposits—as well as slightly less liquid forms, such as savings and retail money market funds. It's effectively the money that can be deployed into the market with minimal friction.

Unsurprisingly, liquidity has a big effect on the price of certain financial assets. To put it simply, when there's extra money in the system, it tends to find its way into other investments.

It turns out that Bitcoin is one of the big beneficiaries of increasing liquidity.

Bitcoin's Correlation With Global Liquidity

Bitcoin's recovery and new bull trend has followed the recovery in global liquidity, as crypto analyst Will Clemente points out.

Bitcoin is a hedge against monetary debasement. It goes down when liquidity declines and goes up when liquidity rises. After December 2021 liquidity declined and so did Bitcoin, as it should have... as a monetary debasement hedge. With inflation coming down currently, it's highly likely that peak monetary tightening is behind us, and therefore liquidity should only rise from here – this is especially true if we do see a recession. Bitcoin does not have cash flows and therefore is not tied to the economy necessarily, as again, it's historically tied to liquidity.

As another analyst, Jamie Coutts, notes, blockchain adoption consistently increases year-on-year, but increasing liquidity brings an acceleration in price rises.

There's even a theory that Bitcoin's cycle corresponds not with Halvings, but with the global liquidity cycle. That becomes clearer when changes in liquidity are compared with changes in the crypto market cap. Peak liquidity coincides with peak crypto prices, lower liquidity correlates with lower prices.

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Indications from the Fed are now that the era of monetary tightening is over. Rates may stay where they are for the time being, but they are at, or near, their peak. Liquidity is rising.

And that bodes well for bitcoin, as the leading digital hedge against monetary debasement.


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