Deflation is a common term in the world of fiat money, but how does it work in crypto?
Here’s an insight into deflationary cryptocurrency.
What Is Deflationary Cryptocurrency?
A deflationary cryptocurrency is a form of cryptocurrency with a depreciating supply of coins. In simple terms, the number of coins in circulation decreases, making an individual coin more valuable.
Deflationary cryptocurrencies often have a fixed, maximum supply cap embedded within their code that cannot change.
This contrasts to inflationary cryptocurrencies, which tend to feature high supply caps or no caps on their supplies. Inflationary cryptocurrencies are similar to traditional fiat money in this sense, with the value of a currency decreasing as banks (or blocks) mint new coins, with a seemingly unlimited supply.
Aside from hard caps, some cryptocurrencies are deflationary due to their high burn rates. A cryptocurrency burn can take several forms.
Some currencies and tokens opt for a flat burn rate per transaction, with a certain percentage of each transaction destroyed, or burned.
Alternatively, some blockchain foundations or organisations may implement a buyback scheme. Here, it buys a significant amount of cryptocurrency, and then sends it to a dead wallet, taking the currency out of circulation.
Finally, we have halving. Here, the total block reward halves at a fixed point in time – usually after a certain number of blocks. This isn’t deflation per se, but causes a reduction to the inflation rate.
Is Bitcoin Deflationary?
Yes and no, depending on your definition on deflationary cryptocurrency.
As deflation requires a decrease in the supply, bitcoin does not meet this criterion for a deflationary currency. Bitcoin mining adds 6.25 BTC to the supply after every block, totalling 900 BTC each day.
However, this will eventually change. Bitcoin has a fixed supply cap of 21,000,000 BTC, with 18,783,668 BTC now in circulation. Around the year 2140, miners will mine the final block of bitcoin, after which they cannot mint any new bitcoin.
So, does this mean bitcoin will become deflationary in 2140? Not exactly.
Every year, a number of bitcoin holders will lose their bitcoin. This could happen if they lose their passwords to a crypto wallet, they voluntarily burn their supply, send bitcoins to the wrong address, or just forget about their holdings.
Indeed, one of the most common rumours surrounding bitcoin’s founder Satoshi Nakamoto suggests he may no longer have access to his bitcoin wallet.
As such, wallet manufacturer Trezor states that if holders lose 0.5% of all BTC each year, bitcoin could be deflationary by 2036. If this number was 0.05%, this could happen in 2048.
At this point, the amount of lost bitcoin will outnumber the amount of newly minted bitcoin, which halves every four years or so – curbing bitcoin’s inflationary aspect.
Is Ethereum Deflationary?
Ethereum is not deflationary at the moment, although some analysts think this could soon change.
Prior to the London Hard Fork and the introduction of EIP-1559, there was little talk of Ethereum being a deflationary currency. However, the upgrade introduced a new base fee that the network would then burn after a transaction.
If the total amount of burned ETH in a block outnumbered the 2 ETH reward, the block is deflationary as it takes more ETH out than it rewards. For ETH to be deflationary, it requires a consistent amount of deflationary blocks.
In the past week, hundreds of deflationary blocks went through the Ethereum network – although this is a fraction compared to the number of inflationary blocks. The ETH Burn Bot recorded an annual -3.12% deflation rate during one hour on August 11, but every block since has been inflationary.
Deflationary Cryptocurrency Examples
The most notable deflationary cryptocurrency is SafeMoon. SafeMoon has a transaction fee of 10% - with 5% redistributed to investors, and 5% burned.
According to BSCScan, SafeMoon’s burn wallet holds over 421 trillion SAFEMOON valued at $821 million. With a maximum supply of 1 quadrillion, this represents some 42.1% of the total supply.
Binance’s BNB coin also utilises a deflationary burn to take significant amounts of BNB out of circulation. Every quarter, Binance buys a proportion of BNB to burn, with the latest BNB Burn destroying 1,296,728 BNB. This will continue until only 100,000,000 BNB remains.