20 Oct 2022
Macroeconomics for dummies: A Comprehensive Guide
In this article, we'll do our best to help you understand how the big picture of macroeconomics influences crypto and financial markets.
If you somehow found yourself reading this article, just know you’re not a dummy. We're here to help you make sense of the broader crypto landscape - and part of that means understanding the broader macroeconomic landscape.
This article is part of Flagship’s ongoing series of crypto-industry news and updates from across the Cryptoverse. Join our Discord and never fall behind on what’s happening in crypto!
So, what do we mean by macro and what does it have to do with crypto? Currently, we’re experiencing international conflicts, supply chain issues, inflation is soaring and so much more (that I can write a weekly article about recapping the weekly macro news). Notably, macroeconomic factors have affected nearly all the asset markets, not just cryptocurrency, as investors struggle to find a safe haven for their money.
Let’s just break down the financial market really quickly. Financial markets are just a form of prediction businesses. Most investors (The reader) do not freely admit this. Probably because predictions by nature involve error, probabilities, and uncertainty. Whatever one decides to call it, your job as an investor is to properly forecast an assets direction.
I can say with confidence that you probably will not always be right. Having a good “inside view” of an asset is necessary. An example of an inside view is a company’s cash flow is doing or how the ecosystem within Ethereum is developing.
Outside views (or top-down) are usually referred to as macro and inside views (or bottom-up) are called micro. How we define macro: anything that affects an asset that is not within the scope, examples are interest rates, investor sentiment, industry changes and central bank policies. Having a good understanding of how the world is changing (and how it is not changing) will lead one to better evaluate the potential success of financial markets. A thorough outside view will lead to a formulation of key trends that is a source of insight over other market participants and provides a necessary foundation to better predict the likelihood of an asset’s direction.
Stock market Indices are becoming an essential and inseparable part of the economies in many countries. Just look at America. They have Jim Cramer on air every day, being a counter indicator. The fact is that the health of the stock market has become the indicator to determine the healthiness of a country.
Research has mentioned that the stock market is reflecting expectations about economic conditions in the future because the stock market is showing the willingness of investors to buy at a high price level when they expect companies to be profitable. The rise in index prices indicates that investors expect the economy to grow rapidly; a decrease in index prices suggests that investors expect an economic slowdown. Whenever the stock market experiences a substantial decline, there is reason to fear that a recession may be around the corner.
Thus, the government and central bank need to pay attention to measuring the efficiency of the stock market and even interfere if it is necessary. We saw a great example of this when the pandemic hit, The Federal Reserve of America (FED) decided to print more money and buy government bonds to stimulate growth in the economy.
The crypto investor in you must be wondering why macro influences things like Dog and meme coins? Crypto has been a consequence of the 2008 financial crisis and the price increase largely is due to the narratives stemming from central banking policies after that (The FED doing Quantitative Easing, there will be many articles about this don’t worry). Like any market, liquidity (Money) is what drives it. Bitcoin specifically has rallied off the back of an ABUNDANCE of liquidity; literally, central banks flooding the market with dirty, cheap funding, pushing asset prices higher.
Your next question might be "why does the stock market matter to my dog coins?" Well, the stock market and crypto are tied at the hip. As crypto morphed into an asset class, more interest was created. Brokerages and institutions gained traction with regulators and offered investment opportunities like Bitcoin-linked ETFs and 401(k)s that allowed investors to place Bitcoin in them. Because institutions were providing familiar instruments, investors appeared to become more comfortable with cryptocurrencies.
In late 2021 and till now, cryptocurrency prices rose and fell similarly to different Indices around the world. The chart below shows Bitcoin's (Green) price compared to the S&P 500 (Orange) and the Global Dow Jones (Yellow), Nikkei 225 (Pink) and Euro Stoxx (Purple). You can see prices rising and falling with each other.
This correlation means that you as investors should approach cryptocurrency cautiously. It is difficult to tell how the market and prices will act in the future as our coins are so closely correlated to the rest of the world. Bitcoin and other cryptocurrencies could remain correlated to equities, or they might not.
I know I bombarded you with a load of information in this macroeconomics for dummies guide, and it might take you some time to understand everything. If you want to ask any questions, you should join the Flagship discord where we have discussions and a thriving community of people learning about crypto!
Disclaimer: Nothing on this site should be construed as a financial investment recommendation. It’s important to understand that investing is a high-risk activity. Investments expose money to potential loss.