A general increase in prices and fall in the purchasing value of money.

A general increase in prices and fall in the purchasing value of money.

What Is Inflation?

Inflation is the slow depreciation of currencies over time. This refers mostly to fiat currencies, like the dollar or euro, since some cryptocurrencies like Bitcoin have a fixed supply and a predictable rate of inflation that will eventually end at zero. Fiat currencies, on the other hand, do not have predictable rates of inflation. For example, a dollar in 1972 had more value than a dollar in 2022 because it loses a few percentage points in value each year due to inflation. 

For this reason, prices rise in an inflationary system. Producers and consumers seek to maintain their purchasing power. In other words, they want to be able to buy the same amount of goods despite a nominal rise in prices. 

How Does Inflation Work?

There are three types of inflation:

  • Monetary Inflation: The expansion of the money supply. This is the amount of currency in circulation and refers to cash, deposits at commercial banks and the general account of the Treasury at the Federal Reserve (something like the government’s bank account in case of the US).

  • Consumer Price Inflation: Rising prices cause consumer price inflation. This can be due to scarcity of goods, for example, if supply chains are not working as they should, or a sudden increase in monetary inflation.

  • Asset Price Inflation: The increase in asset prices like real estate, stocks, gold and cryptocurrencies. 

Is Cryptocurrency Causing Inflation?

Cryptocurrencies do not cause inflation since they do not expand the money supply. However, inflation can cause a rise in the prices of cryptocurrencies. For instance, Bitcoin is a cryptocurrency with a fixed supply of 21 million coins. The scarcity of Bitcoin attracts many investors that look for a hedge against monetary inflation. 

Is There Inflation in Cryptocurrencies?

Cryptocurrencies also experience inflation. But inflation in crypto works differently than with fiat currencies, depending on their token model. Bitcoin, for example, has a fixed and predictable inflation rate that will go to zero once all 21 million coins will have been mined. Therefore, many expect Bitcoin to rise in value over time since its fixed rate of inflation makes it a scarce good. 

Ethereum, on the other hand, has a rate of inflation that depends on several factors like the amount of tokens staked and how many transactions need to be processed. This can make Ethereum even deflationary, meaning more ETH is burned than created. 

Yet there are some cryptocurrencies that have no fixed supply and are inflationary similar to fiat currencies.