Crypto contagion risk
In the ongoing debate whether crypto is a currency or an asset class, volatility rules supreme - as witnessed in the Bitcoin prices over the past couple of weeks. Indians, like the world, are equally excited about crypto.
According to a report by Quartz, in 2018, one in every 10 bitcoin purchases in the world happened in India. And India is not far away with the newest kid on the block — non-fungible tokens aka NFTs. The NFT concept itself is yet another application of blockchain technology, which allows a widely verifiable record of trades. WazirX, India’s leading crypto exchange launched an online platform for the purchase of unique e-tokens, each designed to signify a specific object, work of art or digital creation.
It’s public knowledge that this space is witnessing a lot of action and attention — it can be also be termed as a bubble. Every bubble has a theory behind it and it is true in this case as well. Let’s look at a few of them.
Cryptos have a fixed supply
Unlike the sovereign backed currency, their supply cannot go up suddenly. This is factual for individual cryptos, but there is no limit to the supply of cryptos. There are literally 1000s of cryptos that exist.
Role of Elon Musk
Musk’s tweets have brought the adoption of the cryptocurrency (to an extent) mainstream, with large financial institutions and companies alike either owning or announcing plans to own it. His tweets have also acted as a catalyst (as reflected in the price movement) for a slew of crypto-currencies (meme or otherwise) — Dogecoin is a case in point.
Government and digital currencies
Many governments and central banks remain worried about the risks that cryptos pose for national security and economic and financial stability. Several countries, including China and the UK, are now considering central bank digital currencies, or what some think of as centralized cryptos. This will put more regulatory pressure on decentralized variants in the near term.
The sovereign backed currency has backing from the government — the federal bank can never go bankrupt. This also ties in well with the human tendency of trust in an institution. Bitcoin with its decentralised approach creates a sense of mystery, this becomes more crucial when it comes to money.
Crypto decentralisation is a myth
The Telegraph reported that, according to industry data, around 13% of all Bitcoin, or around $80 billion, sits in just over 100 individual accounts. This concentrated ownership goes against the core belief of a truly decentralised currency.
Probability of a crypto contagion
This leads to some real questions around the volatility and the possibility of contagion risk. I came across an interesting read by Mohamed El-Erian, chief economic adviser at Allianz SE, where he attempts to put things into perspective through the following questions.
- Will crypto volatility continue?
- Is there a strong formal connection between crypto and traditional asset classes?
- Are there informal contagion channels?
- How big is the contagion risk?
Read the article here. What is your take on this?
Until next time.
Disclaimer: The intention of this article is to provide information. Nothing in this article has to be construed as advice or recommendation.