Key Takeaways:
The US Federal Reserve Open Market Committee (FOMC) interest rate decision on May 7 will be a defining moment for risk-on assets, including cryptocurrencies. While the consensus points to no change in interest rates, Bitcoin (BTC) and altcoins could see gains if the US Treasury is compelled to inject liquidity to stave off an economic recession.
A more accommodative monetary policy could stimulate activity, but the Federal Reserve (Fed) is also contending with a weakening US dollar. Some analysts argue that a US interest rate cut may fail to stimulate growth as recession risks persist, potentially creating an ideal environment for alternative hedge assets such as cryptocurrencies.
Economist and investor Jim Paulsen notes that when Fed funds trade above a “neutral” interest rate (Fed Funds minus the annual core Personal Consumption Expenditures Index), the economy has historically moved toward recession or a “growth recession,” a period of sluggish growth with rising unemployment and weak consumer demand. Similar patterns since 1971 support this analysis.
According to Paulsen, the Fed will likely be compelled to lower interest rates. Moreover, central bank Chair Jerome Powell is under significant pressure from US President Donald Trump, who has criticized the Fed for not reducing the cost of capital quickly enough.
Reasons why the Fed could start easing
Concerns about overheated markets remain as the US consumer inflation exceeds the 2% target, and April unemployment rates of 4.2% suggest no signs of economic weakness.
Market expectations, as reflected in Treasury yield futures, show a 76% chance of interest rates at 4.0% or lower by Sept. 17. This probability has dropped considerably from 90% on April 29, according to the CME FedWatch tool.
Traders are growing less confident that the Fed will ease monetary policy. While this may initially seem bearish for risk assets, it could prompt the Treasury to inject liquidity into markets to support government spending.
Regardless of the FOMC’s decision, some analysts point out that the Fed’s recent $20.5 billion Treasury bond purchase on May 5 signals renewed intervention. Additional liquidity has historically been bullish for cryptocurrencies, especially as the US dollar lags behind other major global currencies. Consequently, investors are increasingly seeking alternative hedges rather than holding cash.
Related: Bitcoin price rallied 1,550% the last time the ‘BTC risk-off’ metric fell this low
The US Dollar Index (DXY) has dropped below 100 for the first time since July 2023, as investors retreat from US markets amid economic uncertainty. Meanwhile, gold has risen over 12% in the past 30 days and is now trading just 2% below its all-time high of $3,500. Declining confidence in the US Treasury’s ability to finance its debt favors scarce assets such as Bitcoin.
While the probability of multiple rate cuts has diminished, this scenario may still be favorable for cryptocurrencies. Should the Fed be pressured to expand its balance sheet, it would likely fuel inflation and erode the value of fixed-income investment factors that ultimately support cryptocurrencies.
This article is for general information purposes and is not intended to be and should not be taken as legal or investment advice. The views, thoughts, and opinions expressed here are the author’s alone and do not necessarily reflect or represent the views and opinions of Cointelegraph.
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