Does crypto add to the money supply?

That is a reader request from Jerry Kate:

Is crypto effectively adding to M2 or M3 money supply and hence inflationary (outside the control and models of central banks), or is the velocity of crypto so low that it acts (like stocks) as a store of value having no impact on inflation? Will the answer to the prior question change if the market cap of crypto doubles or if crypto is tweaked to add velocity, or incorporated into the banking system to generate multiplier effects? Should central banks be worried?

I think you could ask this question of monetary economists, and get “confirmed” answers, yet the answers would disagree with each other.  My views are as follows:

1. If crypto prices are bubbles, they will encourage more spending and thus they would be inflationary, though only mildly so.  And that process could not continue for very long.  In the old school “Gurley and Shaw” sense, crypto is a kind of outside money and net wealth, and so spending will rise.

2. Alternatively, let’s say crypto assets have use cases that justify the current prices, but those use cases are not yet actively in use at this moment.  The crypto assets are then mildly inflationary now, but an offsetting deflationary impetus will kick in once those use cases arrive and lower the prices of goods and services in the marketplace.

3. Or, let’s say crypto prices are not bubbly, and are justified by current uses.  You then have a more or less offsetting boost in both aggregate demand and aggregate supply.

4. An additional question is whether the velocity of (traditional) money is higher or lower in the crypto sector.  I don’t know the answer to that question.  It is a possible effect, though probably not a major one.  If crypto soaks up money in a kind of “segregated from the real economy” shell game, it can be mildly deflationary.

5. Jerry also asks about “incorporating crypto into the banking system.”  That could mean a number of things.  Under one scenario, stable coins are told to become banks and then they are regulated like banks.  It would then be like having more money market funds, and that could be broadly inflationary on a modest, one-time basis, though of course you would have to compare the effects of those money market funds to the “wild west crypto effects” they were displacing.

Any other views or scenarios to consider?  Overall I don’t see this as a significant effect in quantitative terms, but it is nonetheless worth thinking through the logic of the question.


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