Why the $2 Trillion Cryptocurrency Market Crash Won’t Kill the Economy

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The carnage in the cryptocurrency market will not abate as token prices plummet, companies lay off employees in waves and some of the most popular names in the industry go bankrupt. The chaos frightened investors, erasing more than $2 trillion in value in a matter of months — and wiping out the life savings of retail traders who bet big on cryptocurrency projects considered safe investments.

The sudden drop in wealth has fueled fears that the cryptocurrency crash could help trigger a wider recession.

The sub-$1 trillion market capitalization of the cryptocurrency market (which is less than half of Apple’s) is small compared to the country’s $21 trillion GDP or $43 trillion housing market. But American households own a third of the global cryptocurrency market, according to estimates by Goldman Sachs, and a Pew Research Center survey also found that 16% of American adults said they had invested, traded, or used a cryptocurrency. So there is some degree of national exposure to deep selling in the cryptocurrency market.

Then there’s all the mystique surrounding the nascent crypto industry. It may be among the smaller asset classes, but the bustling industry attracts a lot of attention in popular culture, with advertisements at major sports championships and stadium sponsorships.

That said, economists and bankers tell CNBC they are not concerned about a knock-on effect of cryptocurrency to the wider US economy for one big reason: cryptocurrency is not tied to debt.

“People don’t really use cryptocurrencies as collateral for real-world debt. Without that, that’s just a bunch of paper losses. So that’s at the bottom of the list of problems for the economy,” said Joshua Gans, an economist at the University. from Toronto.

Gans says it’s a big part of why the cryptocurrency market is still more of a “secondary aspect” to the economy.

No debts, no problems

The relationship between cryptocurrencies and debt is critical.

For most traditional asset classes, their value is expected to remain moderately stable for some period of time. That’s why these property assets can be used as collateral to borrow money.

“What you haven’t seen with crypto assets, simply because of their volatility, is the same process by which you can use it to buy other real-world assets or more traditional financial assets and borrow on that basis,” Gans explained. .

“People used cryptocurrencies to lend to other cryptocurrencies, but that is contained in the cryptocurrency world.”

There are exceptions — MicroStrategy made a $205 million bitcoin-backed loan in March with cryptocurrency-focused bank Silvergate — but for the most part, crypto-backed loans exist within an industry-specific echo chamber.

According to a recent Morgan Stanley research note, cryptocurrency lenders are mainly lending to cryptocurrency investors and companies. The risks of spillover from cryptocurrency prices to the broader fiat dollar banking system therefore “may be limited”.

For all the enthusiasm for bitcoin and other cryptocurrencies, venture capitalist and celebrity investor Kevin O’Leary points out that most holdings in digital assets are not institutional.

Gans agrees, telling CNBC he doubts the banks are all of this exposed to the sale of cryptocurrencies.

“There have certainly been banks and other financial institutions that have expressed an interest in cryptocurrencies as an asset and as an asset that they would like their customers to be able to invest in as well, but in reality, there is not much of that investment. happening,” Gans explained, noting that banks have their own set of regulations and their own need to make sure things are appropriate investments.

“I don’t think we’ve seen the kind of exposure to this that we’ve seen in other financial crises,” he said.

limited exposure

Experts tell CNBC that the exposure of pop moms and investors in the US is not that high. While some retail traders have been hit by the recent sell-off period, overall losses in the cryptocurrency market are small relative to the $150 trillion net worth of American households.

According to a note from Goldman Sachs in May, cryptocurrency holdings account for just 0.3% of US household equity, compared to 33% tied to equities. The company expects the impact on aggregate spending from recent price drops to be “very small”.

O’Leary, who said that 20% of his portfolio is in cryptocurrencies, also points out that these losses are spread across the world.

“The big news about the crypto economy, and even positions like bitcoin or ethereum, are decentralized holdings. It’s not just the American investor exposed,” he said. “If bitcoin dropped another 20%, it wouldn’t matter, because it’s scattered all over the place.”

“And it’s only $880 billion before the correction, which is a big no-no hamburger,” O’Leary continued.

By way of comparison, BlackRock has $10 trillion in assets under management, and the market cap of the four most valuable tech companies — even after this year’s correction — is still over $5 trillion.

If bitcoin dropped another 20%, it wouldn’t really matter because it’s scattered all over the place.

Kevin O’Leary

venture capitalist

Some Wall Street analysts even believe that the fallout from failed crypto projects is a good thing for the industry at large – a kind of stress test to weed out the obvious flaws in the business model.

“The collapse of weaker business models like TerraUSD and Luna is likely healthy for the long-term health of this sector,” said Alkesh Shah, global cryptocurrency and digital asset strategist at Bank of America.

Shah says weakness in the cryptocurrency and digital asset sector is part of the broader correction of risky assets. Instead of dragging the economy down, crypto prices are tracking lower tech stocks as both succumb to pressure from larger macroeconomic forces, including spiraling inflation and a seemingly endless succession of Fed rate hikes.

“The higher-than-expected rate hikes, along with the risk of recession, have hit risky assets broadly, including software and crypto/digital assets. With central banks globally constrained, my strategy colleagues expect central banks to get around $3 trillion in liquidity from markets globally,” Shah continued.

Mati Greenspan, CEO of cryptocurrency research and investment firm Quantum Economics, also blames the Fed’s tightening.

“Central banks were very quick to print lots of money when it wasn’t needed, which led to excessive risk taking and a reckless increase in leverage in the system. Now that they’re withdrawing liquidity, the whole world is feeling the pinch. . “

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