What is a Store of Value and Why is Crypto Becoming One?
| — The smallest percentage of inflation can compound over the years and deteriorate the purchasing power of the money you own. |
— This is because new money is constantly being printed, making the value of your savings less over time
— To prevent that, the best option is to invest your money in a store of value — a type of asset that can increase or at least retain the purchasing power of the money you invest in it.
— But what exactly is a store of value? How do you identify a good store of value?
— In this article, we dive into the concept of store of value, explore the popular stores of value that people used in the past and now, and then delve into why cryptocurrencies are becoming an effective store of value.
What’s a store of value? And if not my money – then what?
Earning money is one thing – knowing how to save it is completely different. No matter how big your paycheck, if you’re not saving it in the right way some of its value will be robbed by inflation. That is why you need a reliable store of value that lets your earnings retain their worth.
What is a store of value?
The term “store of value” is almost self-explanatory, but the fact is, what it refers to has changed drastically over time. Presently its definition can only be specified once you understand the terms “value” and “inflation”, and how they apply to your earnings.
So, what do these two terms mean? Well, the value of cash refers to the purchasing power (how much you can buy with it) it has at a given point in time, while inflation is the gradual decrease in the purchasing power of cash due, to the increasing supply of the cash. Simply put, there is no limit to the number of banknotes or coins a country can issue; and by the simple principle of economics, when the supply of something increases, its value decreases.
That brings us to the term “store of value”. To store value, an asset must have a growth rate that’s higher or equal to the inflation rate (the amount of new money is being produced). It must also be easily transferred through time (doesn’t deteriorate), otherwise it won’t really store the value.
Storing value: an example
In the years that followed the First World War, Germany’s response to its financial crisis was to issue an extra 496.5 quintillion marks into its economy. The result? The price of a loaf of bread in January 1923 cost 250 marks; by November of that year, the same loaf cost 200,000,000,000 (200 trillion) marks.
The insatiable issuing of money had caused the value of each mark to fall until it bought virtually nothing – this is inflation at work.
What’s interesting is that, had you used your cash savings to buy gold, the inflation in Germany would have had little to no impact on your wealth; gold’s scarcity is known and its supply cannot be increased. So gold is one way of conserving the value of the money used to buy it.
Historical Stores of Value
The Barter System
Before the concept of money was introduced, people relied on the barter system. Back then, cattle was currency: people used them in exchange for goods and services. BHowever, they could grow sick or die in a short span, and they were hard to transfer.
The perfect solution to that seemed to be commodities — agricultural materials, metals, and services. But even they did not have a specified value, which caused issues in defining their exchange value.
The genesis of money
That was when humans devised the concept of coins. Initially, the supply of coins was limited by the supply of the metal itself, which meant they possessed actual value. Then when paper notes were introduced, the banking ensured these too had actual value by backing them with gold; because gold itself is scarce, the notes acted as a decent store of value.
And watered down money
However, in 1971, the gold standard of money was scrapped. In this new system, paper notes and coins simply had their value because everyone believed they did – but there was nothing of intrinsic value backing them. Plus, governments could print these banknotes and add them to the total existing supply as and when they deemed fit.
Just like Germany, this results in the depreciation in the purchasing power of your bank notes. At present, the average annual inflation in the U.S. over the last five years has topped 1.86%. If we speak of developing countries, the case is worse, as the same could vary from 5% to over a thousand percent.
Nonetheless, some people still use savings accounts, where they store cash at the bank for a small percentage of the interest banks earn by lending it. But with interest rates always in competition with inflation, the rewards for using this type of service are ever decreasing.
So with cash seeming like a pretty poor store of value, what other options are there?
Other popular commodities
Commodities such as gold and silver are a relatively effective hedge against inflation. However, physically storing or transferring gold or silver is difficult. Further, these assets are also difficult to divide into smaller parts for regular purchases.
The same arguments stand true for real estate. And on top of being impossible to divide into practical amounts, investing in real estate also requires a huge one-time capital, which prevents most people obtaining it to start with.
So all told, gold and silver – and to some extent real estate – do retain value effectively, but are simply not practical enough to be an every-day store of value, as they’re difficult to transport and cannot be easily kept in big quantities.
And that bring us to the most popular stores of the value of the current time — stocks and bonds. They are easily transferrable and can sustain over a the longterm; but the returns on them often fail to beat inflation rates. You also rely on a third party to own and store these assets, which poses a security risk to your funds.
These challenges combined lead us to what is very likely to be a key future store of value — cryptocurrencies.
Cryptocurrency as a store of value
There are a number of reasons why cryptocurrency is considered an effective store of value.
It’s a long-term hedge against inflation
Limited supply? Sky’s the limit!
Bitcoin laid the foundation for cryptocurrencies. Although it started off as a new way for people to make payments, it has today become one of the most reliable stores of value. The reason for that is Bitcoin’s total supply is coded into its architecture and only 21 million coins can ever come into circulation. This known and provable scarcity of Bitcoin places it well above other stores of value in existence. This is probably why its current market capitalization has beat that of most major companies.
Ethereum v inflation
Ethereum’s native currency Ether (ETH) too has shown commendable growth, despite the fact that it does not have a fixed supply. Its growing footprint across the DeFi landscape and its increasing use cases on Web3 reflect its immense potential for expansion to a wide population. This intrinsic value, along with the famous deflationary EIP1559, sets the table for ETH to potentially become a great store of value.
A dollar can be divided into 100 cents – but did you know one Bitcoin can be divided into 100 million Satoshis? Similarly, one Ether can be divided into one billion Gwei, and each Gwei is further divisible into one billion Wei.
So, as far as making small payments goes, cryptocurrencies have got your back.
Fiat currencies are limited by geographical boundaries; crypto knows no borders. Coins are based on global, decentralized networks called blockchains. So, whether you want to use it in a grocery store two blocks away or transfer it to a family member who stays on the other side of the world, you can do it within minutes or even seconds. It’s all the same.
This flexibility enhances crypto’s profile as a store of value.
People have time and again lost their life savings due to failure of central systems. That’s because although a sheet of paper assigns you as the owner of a certain property or asset, it is still ultimately controlled by a central entity.
Conversely, cryptocurrencies are decentralized currencies that no one controls. When you own cryptocurrencies, you are the true owner of the assets and they cannot be affected by anything except the market itself. And thanks to crypto’s increasing acceptance, you may not even have to convert your coins back into money.
Where does the future lie?
The future isn’t one-dimensional. Stocks, bonds, gold, silver and real estate will no doubt remain popular investments. But with its ingrained ability to store value, we’re sure to see crypto being leveraged more and more often by people who want to safeguard their earnings.
That’s a great question, we were just asking that ourselves! Check our out School of Block episode for answers in plain English.