Hello everyone, I am Buge from DeFiworld, a contributor to 2ChoicesDAO.
Today's topic is: How does the Fed's interest rate hike affect Crypto?
I will tell the content of this issue from the perspective of ordinary people, so that you can understand every word of me as much as possible.
Two news items:
On March 2, Federal Reserve Chairman Powell expressed support for raising interest rates by 25 basis points this month to start the rate hike cycle, and at the same time he was open to raising interest rates more significantly in the event of overheating inflation. He also said the Fed would be prepared to take more aggressive action at one or more meetings, raising the federal funds rate by more than 25 basis points if inflation was higher or persisted.
Let's look at the second article.
On March 10, the U.S. Department of Labor released data showing that the U.S. CPI climbed 7.9% year-on-year in February, once again hitting the highest level of this indicator since 1982, and the core CPI growth rate rose to 6.4% year-on-year. CPI has risen for 21 consecutive months.
You may be a little confused by these data and technical terms, and you may ask in your heart: What does it have to do with our investment?
Not only is there a relationship, but a very big relationship!
Why is the Fed raising interest rates?
The answer is to curb inflation.
The so-called inflation means that the price of goods has risen, and food, clothing, housing and transportation have all become more expensive. A serving of fried rice may have changed from 10 yuan to 20 yuan. But sorry, your salary didn't follow suit. If you have no asset income but only labor income, it means that your money is depreciating.
That's why there's a lot of money flowing into real estate, stocks, and crypto.
This part can be seen before. I have analyzed in detail why DeFi will soar and the currency circle will usher in a bull market. So read my article (video), you can still gain something after a year.
Although money is depreciating, because the rich have a lot of assets (such as: houses, stocks, cryptocurrencies, etc.), the rise of assets will offset or even exceed the depreciation of legal currency.
If you are a hard worker, 996 per day, and your income is only the salary of ordinary wage earners. There is neither a rapid increase in salary, nor any assets that can outperform inflation. You can buy fewer and fewer things, and your sense of happiness may follow. reduce. If the gap between the rich and the poor continues to widen, it may even cause various social problems.
Where can we see that the United States is now in inflation?
To understand this problem, we must first understand the technical terms CPI and core CPI in the second news above.
CPI is the abbreviation of Consumer Price Index. The measure used to measure inflation is published monthly by the U.S. Department of Labor.
The figure below shows the year-on-year growth rate of CPI from February 21 to February 22. It is not difficult to see that the inflation rate is getting higher and higher, from an increase of a few percent to 7.9%. And what is the Fed's target? 2%! This increase is still far from the target.
You may want to say that such a high increase is due to the increase in oil prices caused by the Russia-Ukraine war, which led to the high CPI?
Here is another concept called core CPI. Because oil prices and food often fluctuate violently due to certain events, in order to make the CPI reflect the inflation level more accurately, the food and energy indicators in the CPI are removed, which is called the core CPI.
However, it can be seen from the figure that the year-on-year growth rate of core CPI is also very high. Moreover, the statistical time is February 10, while the war between Russia and Ukraine started on February 24.
In other words, the CPI in March will be even higher!
image description
CPI Popular Science: https://www.youtube.com/watch?v=7On8S65RR2U
The U.S. Department of Labor's February CPI report:https://www.dol.gov/newsroom/economicdata/cpi_03102022.pdf
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What is the interest rate increase?
Many people think that raising interest rates means raising interest rates on bank deposits! This is in our country, you are right to understand. However, in the United States, where freedom and equality are pursued, the Federal Reserve cannot directly intervene in market interest rates through administrative means, but it can strongly regulate market interest rates by affecting the cost of funds of commercial banks.
What if a commercial bank has loaned out all the money and lacks liquidity? He will find other rich banks to borrow, as long as he pays interest. In our country it is called the interbank offered rate, in the United States it is called the federal funds rate.
The federal funds rate is set among commercial banks, and the Federal Reserve cannot directly intervene, but it can influence this rate by setting the target range for the federal funds rate and launching corresponding monetary policies.
The target range for the federal funds rate is set by the FOMC (Federal Open Market Committee). The FOMC is composed of 12 members of the federal government and the Federal Reserve. They hold an interest rate meeting in Washington every six weeks to make decisions on interest rates. The upcoming interest rate meeting is only a few days away, and it will be March 15-16, 2022. Therefore, around this time, the financial market usually fluctuates violently. If you do long volatility in advance, you should be very happy recently.
Let me give you an example to give you a deep understanding of the concept of the target range for the federal funds rate:
The Federal Reserve held its first monetary policy meeting in 2022 from January 25 to 26, announcing that it would maintain the target range for the federal funds rate between zero and 0.25%. If according to Powell's speech on March 2, it will rise by 25 basis points at one time. Since 1 basis point is 0.01%, the target range for the federal funds rate is 0.25%-0.5%.
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What happens after the rate hike?
Let me talk about the conclusion first: usually there will be a wave of decline first, and then slowly rise throughout the entire interest rate hike cycle.
Affected by the epidemic before, the world has entered ultra-low interest rates, and some countries even have negative interest rates, resulting in a large amount of funds changing from deposits to investment and wealth management, and entering the property market, stock market, and currency market.
After raising interest rates, bank interest rates and treasury bond yields will increase, and the dollar will also appreciate. Funds for investment and wealth management returned to banks, treasury bonds and the U.S. dollar market. The cryptocurrency market is likely to usher in a downturn for several months.
Due to the gradual improvement of the economy and the gradual pick-up of GDP growth rate, a new round of bull market will be ushered in again.
The following figure shows the market performance of BTC in the last round of interest rate hike cycle
It is worth mentioning that, on January 6, the minutes of the FOMC meeting showed that there were plans to raise interest rates in advance and accelerate Taper (shrinking the balance sheet).
The crypto market has also been affected by expectations of rate hikes before. Although the interest rate hike has not yet started, the words have already been put here first. This is what we often say that the market has digested part of the emotions. In layman's terms, the market has fallen ahead of schedule. In this way, the subsequent decline will not be very large.
Regarding the shrinking of the balance sheet mentioned above, it may have a greater impact on the encryption circle than the interest rate increase. I will analyze it in a separate lecture later. And because the time to shrink the balance sheet is usually a few months or more than a year after the first interest rate increase, we have time first.
Well, that's all for today's content.
I left a few after-school questions and put them in the question bank of 2ChoicesDAO. If you watch my video carefully, I believe you already have the answers.
