How the US recession can favor cryptocurrencies

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Two consecutive quarters of negative GDP growth are often cited as the primary definition of an economy in recession. US Treasury Secretary Janet Yellen said Tuesday that the US economy was not truly in recession in the first half of 2022 as the job market remains weak. In general, the labor market deteriorates during a recession.

Cryptocurrencies remain strong despite persistent US economic pessimism

However, the labor market has shown some signs of easing in recent weeks, with weekly jobless claims rising. Furthermore, while consumer confidence is declining and inflation-adjusted consumer spending has stagnated for some time due to high inflation, other indicators point to weakness in other areas of the economy.

PMI data released last Friday showed that the dominant US services sector was likely overwhelmed in July. While Yellen might argue that the US wasn’t in a recession in the first half, things don’t look good for the second half.

Despite growing pessimism over the US economy in recent weeks, cryptocurrency prices have soared. At current levels of around $ 23,800, bitcoin is more than 35% higher than its June low of around $ 17,500. Meanwhile, at current levels above $ 1,700, Ethereum has risen nearly 100% from its June lows of around $ 880 for Eton.

If the economy is doing this badly, why have cryptocurrency prices gone up?

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The easing of financial conditions favors risky speculative assets

Among the growing signs that the US is entering or into recession, there is growing optimism that rising inflation may have peaked. As optimism about more favorable inflation outlook grows, bets increase that the Federal Reserve won’t have to be as aggressive about raising interest rates in the coming quarters as the bank does to raise inflation. to its long-term target of 2.0%.

At this week’s Fed meeting, when the bank cut rates by 75 basis points for the second consecutive day, it reverted back to roughly the so-called neutral interest rate of 2.25-2.50%, which neither stimulates nor stimulates the brakes the economy. Fed Chairman Jerome Powell seemed more accommodating. Citing the recent economic slowdown and indications that inflationary pressures in the US may have already peaked, he declined to support further excessive rate hikes at upcoming Fed meetings.

Money markets then reduced their bets to a tightening for the remainder of 2022 and 2023, following market sentiment on the direction the Fed rates will take. The market now appears to be expecting a rate hike. The 50 basis point interest rate in September follows a series of 25 basis point hikes in the remainder of 2022 / early 2023, which will bring interest rates closer to 3.5%.

Money markets expect the Fed to cut rates to around 3.0% by the end of 2023

US inflation-adjusted bond yields remained unchanged in response to the recent easing of interest rate hikes by the Fed. 5-year TIP yield ended the week at -0.09%, down nearly 70 basis points compared to the previous monthly highs. TIP 10-year yields fluctuated 0.11%, down about 60 basis points from previous monthly highs.

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Analysts interpret positive real yields towards the start of the month as a slowing economy, while near-zero real yields are neutral. In other words, funding conditions are likely to return to neutral after a slight tightening.

Favorable financial conditions have historically favored risky speculative assets such as US tech stocks and cryptocurrencies. Indeed, more favorable financial conditions reduce the attractiveness of holding low-yielding bonds, encouraging investors to choose riskier asset classes.

In light of the above, further deterioration in economic conditions in the US could drive up cryptocurrency prices, while helping to contain inflation and further reduce the Fed’s rate tightening. decrease, traders can hedge their bets on a Fed rate hike in the second half of 2023 and beyond.

If the Fed starts hedging these bets and becomes more aggressive in its final matches in 2022, it could lead to further easing of financial conditions, which could be a major hurdle for cryptocurrencies.

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