How Bitcoin Is Inflationary

The problem with fiat currency, we often hear, is that issuing governments can create as much as they want; they are always tempted to create too much; and if they create too much, wages and prices will be inflated by the excess money supply.

Bitcoin, we hear, avoids this problem because its supply is limited. In a Bitcoin-based monetary system, the money supply will not inflate wages and prices.

But here's the problem: The money supply, in the real world, is neither fiat nor Bitcoin. The money supply is fiat plus Bitcoin plus all other currencies in circulation. Creating Bitcoin, or any other token that is traded for goods and services, has the same inflationary effect as printing the equivalent amount of fiat currency.

In practice, Bitcoin does not greatly inflate prices of goods and services. The annual value of newly mined Bitcon is a fraction of a percent of the annual printing of new U.S. dollars, and Bitcoin is distributed around the world. Moreover, relatively few sellers of goods and services accept Bitcoin as payment, so it can't directly bid up many prices.

However, as we saw in the wake of pandemic fiat-printing, excess money supply inflates prices of financial assets before it inflates non-financial prices and wages. Bitcoin and other cryptocurrencies are used in crypto trading markets more than they are used to buy goods and services. We can expect that the creation of Bitcoin and other cryptocurrencies increases the amount of currency circulating on cryptocurrency markets, thereby inflating crypto prices, including Bitcoin's.

The idea that Bitcoin can solve inflation depends on an unrealistic fantasy of a post-fiat economy. In the real world, Bitcoin and other cryptocurrencies contribute to inflation, even if most of their contribution is contained on crypto markets.