The Impact of US Interest Rate Hikes on Bitcoin
Since its inception, Bitcoin has existed almost entirely in a zero-interest rate environment. This may soon change as the Federal Reserve appears to close to raising interest rates for the first time since 2018 (1).
The dual mandate of the Federal Reserve is to maintain maximum employment and stable prices. The US unemployment rate is down to 4.6% and lies within targets for a rate hike. With regards to price stability, the low rates and associated borrowing costs that come with a zero-interest rate policy have led to large amounts of capital pouring into speculative assets such as equities, real estate, and high-yield bonds. This is in-line with the Federal Reserve’s goals following the coronavirus pandemic. However, this type of investment can lead to declining productivity growth and potential output hurting long-term growth (2).
Over the last few years, Bitcoin has soared in a low interest rate environment. With savings account yielding next to nothing and quantitative easing policies pushing inflation higher, many investors turned toward more speculative investments, such as cryptocurrencies, which include Bitcoin.
The last time interest rates rose was in 2018, where Bitcoin was then seen as primarily an inflation hedge against the US dollar. With inflationary pressures running strong into 2022, inflows into cryptocurrency have reached all-time highs. Through the first week of November, inflows into bitcoin products and funds have hit a record $6.4 billion year to date (3). However, if the Federal Reserve enacts higher interest rates, Bitcoin prices could take a hit as investors and traders move their money out of more risk-on investments. US Dollar strength has historically hurt bitcoin price and an interest rate hike will only serve to boost the dollar. Nonetheless, Bitcoin could stand to continue benefiting from rising interest rates if currencies around the world experience greater volatility and instability. Today, as compared with 2018, many more currencies are experiencing unrest. Since the last rate hike, El Salvador has adopted Bitcoin as legal tender and many more across countries, like South America, Asia, and Europe are considering this measure as well. The argument for holding Bitcoin has developed seemingly more robust since 2018.
An interesting point to note is that Bitcoin has shown greater recent sensitivity to interest rates. In October when CPI hit a multi-decade high, Bitcoin initially traded up on the report. However, as the interest rate market began to inch higher, Bitcoin sold off very quickly. Volatility seems to be a common theme for the markets concluding 2021 and even possibility throughout 2022. This will keep the price of Bitcoin bouncing between multi-month highs and lows. Undoubtedly the crypto market responds favorably to quantitative easing principles. However, as the value of many currencies deteriorate, many look to Bitcoin as a new safe haven. The new year will bring new crypto companies and funds to the US public markets. However, it will also most likely bring a rising interest rate environment, alongside other quantitative tightening policies. Therefore, investors could see continued bullish behavior from the new asset class, but should nonetheless remain cautious and do their research!
1, 2) itBit Bitcoin Macro View, August 2015
3) Reuters, November 8, 2021