Cryptocurrency Price Drops

the story So Far: Bitcoin, the most prominent cryptocurrency around, is down more than 50% from the all-time high of $68,000 it achieved last November. In fact, a quarter of its value has been lost in the past 30 days. Bitcoin is not alone. The prices of almost all cryptocurrencies have seen similar declines over the past month. Volatile price movements are not new to the crypto world, but this time the decline has revealed new insights and weaknesses in the market.

Is bitcoin price volatility a new phenomenon?

It is not. Its history is replete with many examples of large price drops and large price increases within a short period of time. Last year, after hitting a new peak of over $63,000 in April, its value halved by June. China’s crackdown on cryptocurrency mining operations was seen as the main reason for this decline. The price reached in April itself was eight to nine times the price a year ago. It was such a steep climb. A new peak came in November.

Over the years, speculators have flocked to take advantage of such volatility. It should be noted that downside risks come quicker and faster. Also, this implied volatility effectively controls it as a medium of exchange which is something that researchers have pointed out time and again. All this and the fact that Cryptocurrencies Designed to Bypass Official Monetary Mechanism Most of the governments of any country are wary of them.

What’s New About This Phase of the Cryptocurrency Price Drop?

The story is undoubtedly new. This major sell-off comes at a time when the war in Ukraine and subsequent disruption in global supply chains has led to record-high inflation around the world. For example, inflation in the UK is at its highest level in 40 years. To deal with such situations, many central banks have hiked interest rates. Earlier this month, the US Federal Reserve raised its benchmark interest rate by half a percentage point, the biggest increase in 22 years.

“These are not normal times,” says Morgan Stanley’s 2022 Midyear Economic Outlook report. “Persistent inflation, supply chain constraints, the ongoing pandemic and war in Ukraine indicate a significant slowdown in global GDP growth this year, but not a worldwide slowdown.”

Cryptocurrencies, which are considered risky investments, are weighed down in an environment where investors seek security more than anything else. Interestingly, cryptocurrencies were promoted as the ones who could weather these storms. a recent article the new York Times “Bitcoin was conceived more than a decade ago as ‘digital gold’, a long-term store of value that would counteract macroeconomic trends and provide a hedge against inflation,” he said. The crashing price suggests that the vision is far from reality. Instead, traders are increasingly treating the cryptocurrency as just another speculative technical investment.” It has behaved more like technology stocks and less like gold on the Nasdaq in recent days, which is viewed as a store of value. But a vulnerability in the cryptocurrency ecosystem also played its part in the recent price crash.

What vulnerability was discovered during this crash?

The value of bitcoin was also influenced by what is essentially a sub-story throughout the episode – the fate of a stablecoin called TeraUSD. Stablecoins are a type of cryptocurrency that seeks to keep their value stable, even though Bitcoin’s journey around the world is difficult. This, they do by pegging in a currency such as the dollar. The idea for TerraUSD was to maintain a value of $1.

The way it maintains its peg is through an algorithmic solution, in which if it falls below $1, a trader is incentivized to obtain a ‘sister’ token called Luna, Which in turn is at a discounted price. TeraUSD, for which Luna was exchanged, then goes out of circulation. Supply falls, and is regained to peg $1. This is how it works in principle. What actually happened was that the peg was lost, and investors started pulling out, and both stablecoins had a free fall.

On May 23, TeraUSD was trading below seven cents (it was 99 cents on May 9, the day before the decline began). Luna was trading at $0.0002044, which was very close to zero. The Luna Foundation Guard, which supports the Terra ecosystem, was trying to sell off its bitcoin reserves to keep its cryptocurrency peg intact. That, among other things, could also play a role in the bitcoin price slide.

How are governments reacting to this?

Governments are responding by talking about regulating stablecoins. CNBC A UK government spokesperson was quoted as saying that “the government is clear that some stablecoins are not suitable for payment purposes because they share characteristics with non-backed cryptocurrencies.” The report states that the UK is planning to “bring stablecoins within the ambit of electronic payments regulation”.

US Treasury Secretary Janet Yellen Congress was quoted as saying in the hearing, “I wouldn’t characterize it as a real threat to financial stability on this scale but they are growing very fast.”

Although the crypto market has stabilized after the big drop earlier this month, the future course of the prices is predictable. Global inflation risk still hasn’t gone away, nor is the Federal Reserve monetary tightening.