How does liquidity affect crypto markets?

Abstract

What is money? The answer to this question has suffered changes in the past century. From coins to paper money, will the next change be from bank and credit money to digital currencies? The emergence of cryptocurrencies may challenge the status quo. This dissertation investigates the dynamics around liquidity and Stablecoins, crypto tokens pegged to fiat currencies. I found that crypto markets are inelastic as a flow of $1, proxied by the change of one dollar in Stablecoins, is associated with a variation in the market capitalization of other cryptocurrencies of $11. Besides, this relationship also happens with a lag of 1 month, led by changes in non ­stable crypto market cap, supporting the hypothesis that the issuance of Stablecoins result from demand pressures. A bi­directional causality was established. Furthermore, World Liquidity impacts crypto markets with a lag of 2 months, and for each $1000 change in liquidity, the total crypto market cap varies $3.9 in the same direction, with a significant uni­directional causality from liquidity to crypto, evidence of inefficiencies in the markets. Finally, the correlation between Bitcoin and U.S. Tech stock returns increased, on average, by 0.4 after the start of the pandemic.

Date of Award	25 Jan 2023
Original language	English
Awarding Institution	Universidade Católica Portuguesa
Supervisor	Geraldo Cerqueiro (Supervisor)