Let’s see why the liquidity is drying up, and what consequences can it have on the broader crypto markets.
 
Crypto liquidity
 
Market liquidity reflects the ease with which an asset can be bought or sold without causing a significant price shift. It is essential for the smooth functioning of financial markets because it allows investors to enter and exit positions easily. It is also essential for the price discovery process. If liquidity is insufficient, any sizeable order will result in a massive price swing, possibly triggering liquidation events for leveraged traders and further amplifying the situation.
 
This can benefit the crypto space if prices surge or induce disastrous consequences if they drop. Hence, even if all crypto players are waiting impatiently for the new growth cycle to commence, low liquidity is mostly a threat. The monthly trading volume, a key liquidity indicator, currently stands at around $475 billion for the crypto market (on the main exchanges). The derivatives trading, which exploded at the beginning of the year, brings this number to $2 trillion. However, this is still half of what it was a year ago, showing just how passive the traders have become.
 
What impacts crypto liquidity?
 
The crypto space has been lacking enthusiasm lately: the bear market was (according to some – still is) long, regulatory clarity in the US is still elusive, and macroeconomic conditions are not getting any better.
 
Bloomberg analyst Mike McGlone recently voiced the last concern, speaking about Bitcoin: "It may be logical for a revolutionary digital asset/currency that came of age during an unprecedented period of zero and negative interest rates to revert some when rates rise."
 
This is not a good thing for crypto liquidity. Indeed, the more expensive it is to borrow money, the less inclined people are to invest, and the less liquidity is there in the markets.
 
The extreme concentration of liquidity in the crypto markets adds to the trouble.
 
A recent study by Kaiko, a crypto intelligence firm, revealed that 64% of spot trading volume occurred on just one exchange – Binance. This is a noticeable change from only 38% in 2021. What's more, together with just 7 other exchanges – OKX, Coinbase, Upbit, Bybit, KuCoin, Huobi, and Kraken, it now accounts for almost 90% of all crypto trading.
 
On one hand, such concentration can neutralize liquidity shortage to some degree. On the other hand, however, this situation represents a single point of failure, a vulnerability. Should Binance experience any trouble, be it an operational failure, security breach, or market manipulation, the repercussions on the whole crypto sector would be dramatic.
 
Restoring liquidity
 
While crypto owners may not have direct control over macroeconomic conditions, it is within their grasp to diversify their exchanges to reduce the concentration risks. More importantly, however, they can improve crypto liquidity by changing their behavior, shaped by many years of the HODL mentality. Once considered a virtuous practice, HODLing is now showing its limitations.
 
While holding onto coins during price drops shows commitment and mitigates the downward spirals, taking them out of circulation isn't conducive to healthy markets. According to Glassnode, an on-chain analytics firm, the total supply held by long-term Bitcoin holders (over 155 days) has now exceeded 14.5 million $BTC. This accounts for a staggering 75% of the total circulating supply of 19.4 million BTC.

Locking up $ETH, the second-biggest cryptocurrency, in Ethereum’s stacking protocol, could also contribute to this trend. Even if many users lock their coins in liquid staking protocols, which issue a staked version of ether in exchange for a real one, stETH and similar tokens are much less useful in the ecosystem compared to ether itself.
 
In the case of ETH, a wider acceptance of its staked versions could restore liquidity, but for Bitcoin, a change in the narrative is called for. This is how the new mindset emerged: 'Spend, then Replace.' Already dubbed SPENDL, this paradigm encourages using BTC as a means of payment whenever possible and replenishing your BTC holdings with dollars and euros, in which most of our salaries are paid.
 
The more crypto owners (including whales like Microstrategy) SPENDL instead of HODL, the faster will market liquidity be restored.