What is Stock to Flow Again…?
This stock-to-flow model treats Bitcoin as being comparable to commodities such as gold, silver or platinum. These are known as 'store of value' commodities because they retain value over long time frames due to their relative scarcity. It is difficult to significantly increase their supply i.e. the process of searching for gold and then mining it is expensive and takes time. Bitcoin is similar because it is also scarce. In fact, it is the first-ever scarce digital object to exist. There are a limited number of coins in existence and it will take a lot of electricity and computing effort to mine the 3 million outstanding coins still to be mined, therefore the supply rate is consistently low.
Stock-to-flow ratios are used to evaluate the current stock of a commodity (total amount currently available) against the flow of new production (amount mined that specific year).
For store of value (SoV) commodities like gold, platinum, or silver, a high ratio indicates that they are mostly not consumed in industrial applications. Instead, the majority is stored as a monetary hedge, thus driving up the stock-to-flow ratio.
A higher ratio indicates that the commodity is increasingly scarce - and therefore more valuable as a store of value.
Key Take Aways:
The stock-to-flow approach originating in commodity-market analysis serves to quantify the “hardness” of an asset. Applied to Bitcoin, an unusually strong correlation emerges between the market value of this cryptocurrency and the ratio between existing stockpiles of Bitcoin (“stock”) and new supply (“flow”).
When it comes to making forecasts on the basis of this model, however, we would counsel caution. For even the best statistical model can fail miserably when seeking to predict the future. A major challenge for the stock-to-flow model is the next Bitcoin halving (50% reduction in supply growth) which is due to take place next year.
Nevertheless, the stock-to-flow approach is a good heuristic for understanding Bitcoin. It becomes clear that Bitcoin is designed as an ultra-hard type of money. Next year, it will already exhibit a similarly high degree of hardness as gold. In 2024 (when halving is set to take place again), Bitcoin’s degree of hardness will again increase massively.
Whereas gold has had to earn its high stock-to-flow ratio “the hard way“ over the course of millennia, Bitcoin’s purely digital character enables “supply engineering,” which causes the stock-to-flow ratio to rise at a breakneck pace.
Engineering accountability globally with Bitcoin.
The stock-to-flow ratio also serves as a quality criterion for monetary commodities. Historically speaking, it has invariably been the commodity with the highest stock-to-flow ratio at that juncture which has been used as money because this enabled the best value transfer over time. On this score, it is not the limited stock of an asset which plays the dominant role but rather the ratio of stockpiles to current “production.” In absolute terms, the stock of palladium, for example, is far smaller than the stockpile of gold (only 5% as high). However, this does not make palladium a harder asset because new production of palladium (“flow“) is high in relative terms and, in the event of a price hike, could easily dilute the metal’s stockpile (“easy money trap”).
Many precious metals which are above all used as industrial metals, such as palladium, display low stock-to-flow ratios, i.e. yearly production roughly corresponds to the initial stock at the beginning of each year. At this point, it also becomes clear that it is advantageous for a monetary commodity if it has few other uses except as money (means of exchange and store of value). Only in that way can a large stock pile up and be maintained over time.
Bitcoin was conceived to be an even harder asset than gold…Did Satoshi Know?!?
As a forecaster, one knows only too well that even the best statistical model can fail miserably when attempting to predict the future. Undoubtedly the biggest acid test for the stock-to-flow model will be this year’s halving. In the meantime, the stock-to-flow approach will serve, at any rate, as a good heuristic for understanding Bitcoin. It becomes clear that Bitcoin has been conceived as an ultra-hard type of money.
In 2024 (when the next next halving is due to take place), its degree of hardness will inexorably increase even further, to a level unprecedented in human history (a stock-to-flow ratio of more than 100!). Nobody really knows what repercussions such a monetary standard would h ve. Only one thing is clear: if Bitcoin is indeed to become the money of the 21st century, it will be because its properties (above all its high degree of hardness) have been preferred to those of alternative types of money - after all Bitcoin is a completely open monetary system operating on a purely voluntary basis.
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