Stablecoins as inflationary tool

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Using stablecoins for the debt party – a new inflationary tool 

By Christian Stadermann and Peter Brock, BeeWyzer GmbH

One of the many reasons for Donald Trump's election success consumer price increases in the US, which were very challenging for many people. The president has not yet been able to fulfill his election promise to reduce inflation and, looking at his political decisions, the question has to be asked whether this is a goal at all: 

- Closing off the economy through tariffs makes imports more expensive and reduces competitive pressure. The result is, ceteris paribus (meaning if all other influencing factors do not change), rising prices.

- The US budget continues to grow despite savings in areas that attract media attention. And rising government debt means - ceteris paribus - rising prices.

- As a major creditor of the US, China has a direct influence on the market for government bonds and can push down prices, which is likely to happen if the conflict continues. If bond prices fall, yields rise, which means that the cost of government debt also rises. Ceteris paribus, the prices of interest-sensitive economic goods also rise.

- This overall uncertainty leads to a weaker US dollar - despite fluctuations. However, a lower external value of the currency my trigger imported inflation, i.e. rising prices.

- The crypto market is being used by the Trump administration: 

Not only has the President issued his own currency, but the market for stablecoins, this means cryptocurrencies that are based on a traditional reference currency, has also been comprehensively regulated for the first time with the GENIUS Act. Stablecoins are now even considered a currency reserve alongside gold. In future, only stablecoins can be issued that are fully backed by US Treasuries, bank deposits or cash. The reserves must be disclosed on a monthly basis and big techs are no longer allowed to issue stablecoins. Thus, stablecoins will become kind of a money market fund and a home-grown alternative to China in the purchase of government bonds. Tether is already one of the major creditors today, and the entire sector is likely to build up substantial positions in the future. In this way, government debt can be elegantly leveraged further without being too exposed to market pressure. At currently around USD 250 billion, the volume of USD stablecoins is small in relation to GDP (29 trillion), the budget (just under 7 trillion) and the national debt (just under 35 trillion) of the USA, but as a creditor it is already systemically relevant.

What does this mean for investors?

- US investments are less attractive as long as there is pressure on the USD - after all, investors receive less return in Euros. However, selling everything in the US is not a solution, as the financial market there is too important and attractive in the long term.

- You can earn money from the growth of stablecoins: But not by buying these currencies themselves. After cost and exchange rate a return is not likely to be very attractive. But investing in the managers and the companies that provide the infrastructure can be interesting. At least as long as the debt party continues and does not implode, which is a serious risk in the long term.

- We should also think about inflation in Europe: even if the signs here are pointing towards an easing of tensions, we cannot give the all-clear. The interdependencies in the movement of goods, services and capital are too great for a longer phase of higher inflation in the USA without an impact on our part of the world.

- Real assets and inflation-protected bonds should therefore be at the forefront. And when investing in companies - listed or not - attention must be paid to low capex, short production cycle and pricing power in the relevant markets.

- Even a 0.25% rise in key interest rates can cause a 4% fall in the price of ten-year bonds – holding such positions without die option to switch into inflation-linked bonds should therefore consider partial hedging with interest rate derivatives. This should be implemented soon in the case of US bonds and prepared for possible implementation at a later stage for euro-denominated bonds.

- Alternative asset classes with a tangible asset character are the best long-term investments for a sustained phase of global inflation, from real estate at a good entry level or with developer add-on to private equity or venture capital, i.e. investment in the equity of promising companies.

- In any case, investors need to calculate more precisely: The potential returns must be estimated lower at present and the consideration of transaction costs, exchange rate effects and loss of purchasing power cannot be quickly put into figures by everyone. Hidden costs must be identified and included, and the overall calculation of all costs of an investment should be done accurately. Exchange rate effects should either be hedged for large foreign positions or run as a permanent tranche for the target country with automatic reinvestment of returns. The British magazine The Economist provides a useful estimate for purchasing power parities in the form of the Big Mac indicator: Since the primary products for the hamburger are directly sourced from the respective country of production, the price of this Fast-food item reflects the purchasing power differences between countries -and currencies- very well when adjusted for currency effects.

- But investors should never rely on one world view alone: A turnaround in U.S. policy could quickly trigger a repatriation of US investment money, which has flown abroad on a massive scale this year.

Overall, we have a mixture of the familiar and the unfamiliar: after all, the world has long known politicians who do the opposite of what they announced during the election campaign. The same with governments that, despite other rhetoric, take national debt to new heights. But the incorporation of a new and innovative asset class such as cryptocurrencies into the government sphere is new. We will be watching this attempt to become less dependent on foreign creditors of US debt closely: It remains to be seen whether this instrument will enable an easy extension of the debt party in the long term.