Bitcoin is one of the most liquid assets in the world, which means it could be one of the first things people look to sell during a liquidity crunch. There is also significant leverage across the Bitcoin and crypto markets, and much of that leverage would likely unwind in a major credit crisis.
However, in a prolonged credit crisis, I think the creditors — the banks — eventually get cooked as borrowers go delinquent on their loans. The banks are already in a vulnerable position, with over $300 billion in unrealized losses sitting on their balance sheets (slide 2). If credit continues collapsing, bank failures become increasingly likely. That’s where I believe Bitcoin flips the script.
As traditional financial institutions weaken, Bitcoin presents an alternative form of money outside the traditional financial system. If banks begin failing, Bitcoin could benefit as capital looks for a safe place to hide. We saw a microcosm of this in 2023 during two of the largest bank failures in U.S. history involving Silicon Valley Bank and First Republic Bank. Bitcoin emerged as one of the primary beneficiaries during that period (slide 1, source: Yahoo Finance).
The big question is whether governments would allow a credit crisis to unravel far enough to let major financial institutions fail, or if they would step in early and flood the system with liquidity through money printing and stimulus measures. In that scenario, Bitcoin — along with other non-dollar assets — would likely benefit as they are repriced higher in dollar terms.
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