Key Points

  • Inflation has surprised to the upside in the last few quarters, defying calls that it was “transitory” or had peaked.

  • This has resulted in a drastic hawkish policy shift from major central banks, which has battered speculative assets like crypto.

  • A sustained fall in inflation rates during H2 would likely see cryptocurrencies post an impressive recovery.

“Transitory” Inflation Narrative Crumbles

The cryptocurrency market’s fall from grace since last November coincides almost exactly with one of the largest policy shifts from major central banks in a generation. At the start of last November, Bitcoin was trading above $60,000 and Ethereum near $5,000, while central bankers were holding into the now-discredited belief that the surge in inflation witnessed during mid-2021 would be “transitory”.

Inflationary pressures would quickly subside as the pandemic fades and global supply chains normalize, central bankers reasoned at the time, meaning that they could continue holding interest rates at zero and buying bonds in their billion via QE. This mindset began to shift in November as inflationary pressures across major economies, far from receding, continued to accelerate into the final quarter of 2021.

The Bank of England was the first to realize it needed to do something about inflation and came close to hiking interest rates in November, while there was also a big shift in tone from the Fed, arguably the world’s most important central bank given the US dollar’s status as the global reserve currency.

By the end of December, the Fed had signaled that its QE program would be wound down by the end of Q1 2022 with rate hikes soon to follow. By this point, realizing that the era of ultra-accommodative central bank policy was soon coming to an end, Bitcoin had corrected to the mid-$40,000s, about a third below its record levels back in early November.

The Fed ended its QE buying on schedule in March and, as expected, implemented its first rate hike since 2018 of 25 bps. Fearing that it had fallen behind the curve in tackling inflation, the bank came close to raising interest rates by 50 bps but decided not to given the uncertainty surrounding the war in Ukraine which had just begun. This patient start to its hiking cycle helped keep Bitcoin supported in the mid-$30,000 to mid-$40,000 during Q1 2022.

But the inflationary impact of the Russo-Ukraine war, as well as renewed, harsh lockdowns across China amid the country’s struggle to adhere to its zero-Covid-19 strategy in the face of the highly transmissible Omicron variant, made itself clear as Q2 2022 got underway. Inflation hit 8.5% YoY in the US in March, its highest in four decades, making it abundantly clear to the Fed that it needed to accelerate the pace of rate hikes this year and get back to the so-called neutral rate (around 2.5%) as quickly as possible.

Markets began pricing a series of 50 bps rate hikes for the June, July and September meetings as the Fed delivered on a 50 bps rate hike in May. This further battered cryptocurrency sentiment, with Bitcoin falling 17.3% and 15.6% respectively in April and May respectively.

“Peak” Inflation Narrative Crumbles

Still, chatter at the Fed and amongst economists that US inflation rates had now hit their “peak” kept Bitcoin supported …….

Source: https://finance.yahoo.com/news/could-cryptocurrency-resurgence-hold-inflation-124032992.html

Leave a comment

Your email address will not be published. Required fields are marked *