Notes 2/1: Fed Hike: A Done Deal?

All eyes and prices today are focused on the Federal Reserve Open Market Committee (FOMC) meeting. The FOMC, which is convening after a January break, is widely expected to announce a quarter percentage point hike to interest rates.

That figure represents a slowdown from the agency’s earlier aggressive stance that propelled interest rates from nearly zero at the beginning of last year to a range between 4.25% to 4.75% by December 2022.

At its final meeting that month, the Fed increased rates by half-a-percentage point. Cryptocurrency and mainstream markets have risen this past month in anticipation of continued moderation.   

The Best Laid Plans

The intent behind the Fed’s rate increases is to control runaway inflation, the consequence of an unprecedented supply of money to combat the effects of an economic shutdown during the pandemic.

Based on declining figures for consumer prices for six consecutive months, that strategy seems to be working. But a stubborn labor market could play spoilsport to trader plans for a return to bull markets.

Even though wage inflation has declined, and unemployment numbers remain low, inflation for core goods – those excluding food, energy, and housing – continue to rise. That figure remains an area of concern for the Fed.

In his December speech, Fed Chair Jerome Powell highlighted their importance, stating that “wage growth is still well above levels consistent with 2% inflation over time”. He also said the labor market has only shown “tentative signs of rebalancing.” “Despite some promising developments, we have a long way to go in restoring price stability,” he said.

Taken together, these assessments of the general state of the economy mean that the Fed might disappoint markets this afternoon. The expected quarter percentage hike is not a done deal and, in fact, may not materialize.       

What Happens to Bitcoin Price?

The Fed’s primacy in determining the country’s economic trajectory solidified during the financial crisis of 2007, when it embarked on an unprecedented era of quantitative easing. Paradoxically enough, that was also the time when bitcoin was introduced to the world as an alternative to the tyranny of central banks.

Fifteen years later, the two seem to be inextricably linked. The pandemic bazooka of money printing by the Fed is supposed to have enabled bitcoin price to register two records in 2021. A consequent tightening of monetary policy put the brakes to its run.

Bitcoin prices jumped by 43% in January, registering their best month ever since 2015. Many analysts ascribed those gains to expectations of loosening in monetary policy. They say another rally, that could result in a fresh crypto price record, is on the cards.

A Different Story  

But numbers tell a different story.

According to intelligence firm Glassnode, short squeezes caused the price rally in bitcoin markets in January. The firm wrote that over $495 million in short futures contracts were liquidated across three waves in January. Meanwhile, bitcoin holdings at major exchanges declined in January and financing rates for bitcoin products are down to 8.5% from 12% the previous month, indicating plummeting liquidity.

Not only this, but the tail also seems to be wagging the dog in crypto markets. Altcoins, which generally follow bitcoin’s price lead, have registered sharp price increases this past month and are leading the world’s biggest cryptocurrency in price movements. The rally would make sense if they have proven use cases and liquid markets. But they don’t.

All of this means that the bitcoin price bubble is primed, once again, to burst. And the Fed’s interest rate announcement today might be the trigger to set off that process.

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