This article is available in Spanish.
Arthur Hayes, the co-founder and former CEO of BitMEX, published one essay titled “Persistent Weak Layer” on October 16, where he explores the potential impact of escalating tensions between Israel and Iran on the crypto markets. Drawing on an analogy with avalanche science, Hayes explores how the geopolitical situation in the Middle East could act as a ‘persistent weak layer’ (PWL) that could cause significant turmoil in financial markets, which could impact the Bitcoin and cryptocurrency prices.
How will the crypto market react?
Hayes begins the essay with a story about his recent ski trip, saying, “One of the most frightening conditions is a persistent weak layer (PWL), which when stressed can cause a sustained slab avalanche. He compares this to the geopolitical situation in the Middle East after World War II, suggesting that this country serves as a PWL upon which the modern world order rests.
“The trigger usually has something to do with Israel,” Hayes notes. He emphasizes that the main concern of financial markets is how energy prices will react, the impact on global supply chains, and the potential for a nuclear exchange if hostilities between Israel and another Middle Eastern country, namely Iran or his allies, escalate.
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Hayes outlines two scenarios. In the first case, the conflict between Israel and Iran ends in small, tit-for-tat military actions. “Israel continues to kill people and behead dicks, and the Iranian response is telegraphed, non-threatening rocket attacks,” he describes bluntly. No critical infrastructure is destroyed and no nuclear attacks occur; so the PWL holds. In the second scenario, the conflict escalates dramatically, culminating in the destruction of the Middle East’s oil infrastructure, the closure of the Strait of Hormuz, or a nuclear attack, causing the PWL to fail and an ‘avalanche on the financial markets’.
Hayes expresses his concerns, saying, “War is uninvestable, as they say.” He faces a strategic choice regarding his investment portfolio: whether to continue converting fiat money into crypto or whether to reduce his exposure to crypto in favor of cash or US Treasuries. “I don’t want to be under-allocated if this really is the start of the next leg up in the crypto bull market,” he explains. “Yet, I also don’t want to burn capital if Bitcoin drops 50% one day because Israel/Iran triggered a sustained avalanche on the financial markets. Forget Bitcoin; it always bounces back; I’m more worried about the crap I have in my wallet…meme coins.”
Buy or sell now?
To get around this dilemma, Hayes conducts a scenario analysis that focuses on how the second, more severe scenario could impact the crypto markets, specifically Bitcoin, which he refers to as the “crypto reserve asset.” He considers three primary risks: physical destruction of Bitcoin mining rigs, a dramatic increase in energy prices, and monetary implications as a result of the conflict.
Regarding the physical destruction of mining infrastructure, Hayes identifies Iran as the only country in the Middle East with notable Bitcoin mining operations, accounting for up to 7% of the global hash rate. Looking back at the 2021 scenario where China banned Bitcoin mining, he concludes that even the complete elimination of Iran’s mining capacity would have a negligible impact on the Bitcoin network and its price.
Hayes focuses on the risk of a dramatic increase in energy prices and considers the potential consequences if Iran were to retaliate by destroying major oil and natural gas fields or closing the Strait of Hormuz. Such actions would cause oil prices to rise, driving up energy costs worldwide. Hayes argues that this scenario would actually increase Bitcoin’s value in fiat terms. “Bitcoin is stored energy in digital form. Therefore, if energy prices rise, Bitcoin will be worth more in terms of fiat money,” he explains.
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He draws historical parallels with the oil shocks of the 1970s. During the 1973 Arab oil embargo and the 1979 Iranian revolution, oil prices rose significantly. “Oil rose 412%, and gold nearly matched its gain with 380%,” Hayes points out. He illustrates that while gold retained its purchasing power relative to oil, equities lost significant value when measured against energy prices. Hayes suggests that Bitcoin, as a form of “hard money,” would similarly maintain its value or even increase in value against rising energy costs.
Finally, Hayes examines the monetary implications, specifically how the United States might respond financially to the conflict. He emphasizes that American support for Israel involves the supply of weapons, financed by more government loans instead of savings. “The U.S. government buys goods on credit, not savings,” he points out, citing data showing U.S. national net savings are negative. He questions who will buy this debt and indicates that the Federal Reserve and the US commercial banking system would likely intervene, effectively expanding their balance sheets and printing more money.
Hayes points to historical examples where negative national savings have been accompanied by sharp increases in the Federal Reserve’s balance sheet, such as after the 2008 global financial crisis and during the COVID-19 pandemic. “The Fed and the US commercial banking system will buy up this debt by printing money and growing their balance sheets,” he claims. He suggests that this monetary inflation would significantly increase the price of Bitcoin. “Bitcoin has outpaced the Fed’s balance sheet increase by 25,000%,” Hayes points out, pointing to Bitcoin’s strong performance in expanding the monetary base.
However, he warns investors about the potential for intense price volatility and uneven performance between different crypto assets. “The fact that Bitcoin will rise over time doesn’t mean there won’t be intense price volatility, nor does it mean that every shitcoin will share in the glory,” he warns.
Hayes reveals that he had invested in several meme coins, but dramatically reduced those positions after Iran launched missile strikes. “When Iran launched its final barrage of missiles at Israel, I dramatically lowered those positions. My size was too large, given the unpredictability of how crypto assets will respond to increased hostilities in the short term,” he admits. Currently he only has one meme coin, noting: “The only meme coin I own is the Church of Smoking Chicken Fish (symbol: SCF). R’amen.”
At the time of writing, BTC was trading at $66,907.
Featured image created with DALL.E, chart from TradingView.com
