Michaël van de Poppe - 23 March 2022
Why all eyes are on the FOMC statement today
Recently, the financial markets have been quite volatile. There are numerous reasons for this tumultuous time. While the situation in Ukraine has drawn a lot of attention, most of the downturn is likely due to the state of the economy and the actions that the Federal Reserve (Fed) might take because of it.
Today, all eyes are on the Federal Reserve as its Federal Open Market Committee will decide on future monetary policy.
In the US, the target interest rate is determined by the Federal Open Market Committee (FOMC). The FOMC will increase the target for the Federal Funds Rate when it wants to slow down economic growth and increase the Federal Funds Rate when it wants to drive economic growth.
The Fed’s job is to:
Promote sustainable economic growth
Promote high levels of employment
Promote stability of prices to preserve the purchasing power of the dollar
Moderate long-term interest rates (~2% long term)
The FOMC determines policy during the meetings that occur 8 times a year, one of which occurs today, the 26th of January.
The Corona pandemic caused major economic hardship, leading to government stimulus packages, lowering interest rates, and buying bonds on the open market by the Fed. The Federal Funds Rate dropped from almost 2.5% to near-zero.
The action also caused a rise in the M2 money supply of about 40% since the beginning of the pandemic.
The low-interest rates and severely increasing money supply played a big part in the bullish narrative for Bitcoin. Fears of weakening fiat currency due to the ever-expanding money supply and high government debts made many perceive Bitcoin as a risk diversification investment. Fast forward; rising interest rates could pose an issue for the governments as it suddenly will have increased costs.
As the economy is now recovering with improving employment numbers and inflation that has moved well beyond the desired average of 2% at the latest reading of 7%. The FED has signaled during its last meeting in December that the time is close for it to change its policy in order to make sure the market does not overheat.
In December, the FED discussed the following according to CNBC;
“The Federal Reserve at its December meeting began plans to start cutting the number of bonds it is holding, with members saying that a reduction in the balance sheet likely will start sometime after the central bank begins raising interest rates, according to minutes released Wednesday.”
Effect of policy
We can expect higher interest rates in the near future, meaning that lower-risk yields become higher and thus more attractive to large investors compared to risky investments such as equity and crypto markets. Higher yields can be considered a relatively bearish development for crypto.
Concerns about a changed policy by the FED are what has caused the equity and crypto markets to slump lately. Should the FOMC execute according to the expectations, we can expect the markets to take a breather as this has already been priced in.
Should more severe action be undertaken by the FOMC than the expected 0.25% rise in March, we could see the market dropping further. An indication that it will act less aggressively in raising the rates would be received as very bullish, although chances for this are slim considering the current economic situation.
The FOMC will release its statement at 2 pm ET (26th Jan), followed by a press conference at 2:30 pm ET. Crypto traders and investors will closely look at the results as the outcome will have a strong effect on markets, especially relatively risky ones like crypto.