The beginning of August significantly cooled the cryptocurrency market, sending digital assets into their worst drop since the November 2022 FTX collapse. On Monday, August 5, 2024, Bitcoin’s value returned to mid-February 2024 levels, at around $49,000. Ether also lost value sharply, falling by more than $1,000 during the day. At the time of writing, the market had rebounded and the coins were trading at around $58,668 and $2,619 respectively.
The red streak occurred due to fears of global recession and heightened sensitivity in the Middle East. In our new piece, we would like to discuss the correlations between macroeconomic factors and the value of digital assets. But first, let’s understand the sequence of recent events.
Why did the recent Bitcoin correction happen
In July, the US unemployment rate increased for the fourth consecutive month, reaching 4.3% — higher than the expected 4.1%. This unexpected rise fueled speculation about an unscheduled Federal Reserve meeting and prompted Goldman Sachs to raise the likelihood of a recession next year from 15% to 25%.
Adding to the economic uncertainty, major tech companies reported disappointing second-quarter earnings. Microsoft, Amazon, and Intel all fell short of market expectations, contributing to a sense of instability in the tech sector.
Turning to Asia, Japan, the largest holder of US government debt, is feeling the impact of these US economic fluctuations. On July 31, the Japanese central bank raised interest rates by 0.25% for the first time in 17 years. This move led to a strengthening of the yen, a decline in risk assets, and a drop in Asian stock indices.
Amidst these economic challenges, geopolitical tensions have also been escalating. The recent assassination of the head of the Hamas politburo in Tehran has intensified the conflict between Iran and Israel, raising concerns about potential global instability and the risk of a broader conflict.
As a result of these factors, the traditional market fell, and the riskier cryptocurrency market followed suit.
What macroeconomic factors affect the crypto market
Federal Reserve Rate influence on crypto
The US has the world’s largest financial market and the dollar is the world’s largest fiat currency. This means that US monetary policy, which is promoted by the Federal Reserve System (Fed), has a big impact on the global market including the crypto market.
The Federal Reserve’s base rate is the interest rate that banks use to lend to each other on a short-term basis.
The thinking behind modern US monetary policy is that the rate is the main tool for controlling the state of the entire financial system. Any changes to the rate affect more than just the banking sector. They also impact the country’s overall economy, investment climate, stock, and other trading markets, including the cryptocurrency market.
When the rate is low, it makes it easier for banks to lend to the public. This makes money cheaper and more accessible. This can lead to higher inflation because there are more of them in the economy. Reducing the rate is known as an easing policy.
A high interest rate means less money is available. Loans become pricier, the influx of new money slows down, and economic activity declines. The idea behind this policy is to slow down the rate of inflation growth. Raising interest rates is called a tightening policy.
The investment climate in trade markets tends to spend more and take more risk in an environment of loose monetary policy, i.e. low interest rates and cheap available money. Conversely, when access to cheap money is difficult, trading markets and the real economy sector look for stable options for earning and saving rather than increasing spending.
When the economy slows down and there’s tighter monetary policy, investors tend to look for safer options for their money to make sure they can preserve their funds, i.e. risk-free. So crypto as a high-risk market is definitely not the first place to go to.
When money in the markets is cheap and the economy is growing, market participants are more likely to take risks by investing in stocks, commodities, and other assets, including cryptocurrencies.
So, the Fed Funds rate can affect the prices of stocks and cryptocurrencies, which are risky assets without fixed returns that aren’t widely invested in during times of market stress and financial crisis.
At the same time, the Fed’s rate decisions are based on various economic indicators, including inflation rates, unemployment figures, business activity measures, and GDP growth. They can play the role of a precursor of where the Fed rate may go. For instance, updated inflation and unemployment data, such as those for July, could influence the Fed’s decision on whether to adjust the benchmark rate at its September meeting.
If both inflation and unemployment rates decline, the market might anticipate a potential rate cut by the Fed. Such a move would imply a loosening of monetary policy, which typically leads to increased economic activity. Consequently, investors might start buying riskier assets, expecting higher corporate earnings and rising stock prices. Conversely, negative economic indicators would likely prompt investors to adopt a more cautious approach.
This explains the heightened interest in new data releases and speeches from monetary authorities like the Fed chair. Any new information or statements can signal potential changes in monetary policy, which investors believe will affect market prices.
Elections
The American election played a significant role in influencing both the president’s stance and the Fed’s behavior before the election.
Although the Fed is independent in that monetary policy and related decisions are made autonomously and are not subject to approval by the federal government, its governors are appointed by the president and must be approved by Congress. This means that the president’s influence intersects, in one way or another, with that of the US Federal Reserve. Additionally, there is some congressional oversight, and the Fed must operate within the overall economic and fiscal policy goals of the government.
Former President Donald Trump, who recently shifted his stance on digital assets in a semi-positive direction, stated that he would make the US a “Bitcoin superpower” and create a “strategic national Bitcoin reserve” if reelected. Such a political endorsement of cryptocurrencies can influence market behavior. For example, on the eve of his speech at a conference in Nashville, BTC was trading at around $67,000. During his speech, it increased by $1,000, then subsided shortly after.
Prominent figures such as Ark Investment Management CEO Cathie Wood and former Coinbase CEO Balaji Srinivasan also foresee a significant role for cryptocurrencies in the upcoming US election. Analysts speculate that Trump’s crypto-related proposals could cause short-term fluctuations in digital asset prices related to the election results.
Geopolitical Conflicts
Geopolitical crises and unrest have a noticeable impact not only on traditional markets but on the cryptocurrency market too. For example, the Russia-Ukraine conflict had a marked effect on Bitcoin prices. In early February 2022, BTC was fluctuating but maintained a price above $42,000. On February 24, the day the conflict began, Bitcoin’s price fell to $34,300, an 8% drop in just 24 hours. By the end of February, Bitcoin’s price stabilized above $37,000, and by March 2022, it continued to recover.
Similarly, the Israel-Palestine conflict, which began with the Hamas invasion on October 7, 2023, initially did not cause a significant shift in Bitcoin’s price. However, during a new escalation in late July 2024, Bitcoin’s price dropped from $66,000 to $64,000 following the killing of Hamas leader Ismail Haniyeh. Concerns about a potential broader conflict in the Middle East further contributed to Bitcoin slipping below $50,000 in early August. This decline was influenced by a mix of geopolitical concerns and other market factors.
Money issuance
So-called money printing can also affect the value of digital assets. In this context, it is worth referring to Bitcoin’s core concepts of scarcity and immutability — an antidote to current monetary policy. Thus, the potential injection of large amounts of money into the economy may trigger inflation and devalue fiat currencies, pushing investors to seek out scarce assets such as cryptocurrencies.
This concept was recently supported by trader Arthur Hayes, who wrote on his blog that he expects the Federal Reserve to reactivate the money printer before the presidential election, which will potentially drive the price of Bitcoin to $1 million.
External Events and Black Swans in the Crypto Market
External events and unforeseen occurrences, often referred to as “black swans,” can significantly impact the global economy and market stability. Key factors include natural crises, scandals, bankruptcies, fraud, and large-scale market movements such as sell-offs or buyouts.
Natural Crises
Natural crises, such as the COVID-19 pandemic, can impact cryptocurrency prices. The COVID-19 pandemic disrupted global business, impacting sustainable economic development in many countries but benefiting cryptocurrency markets.
However, crypto gained during the pandemic — BTC rose significantly as investors turned to digital currency amid low interest rates. This increase was partly driven by investors seeking to hedge against inflation. In January 2020, the coin was worth over $7,000, and by January 2021, it had surged to $29,000.
Scandals, Bankruptcies, Fraud, and Market Collapses
Major scandals and collapses in the crypto market definitely have severe consequences for crypto as they play into the trust factor of the whole industry. One of the recent major events was for example the TerraUSD stablecoin and LUNA token collapse in 2022 which resulted in over $40 billion in losses and contributed to a $2 trillion drop in the overall cryptocurrency market capitalization. Before falling dramatically below the $30,000 mark on May 12, 2022, Bitcoin was initially trading at around $36,000 per coin. This event triggered a series of bankruptcies among companies and funds.
The bankruptcy of the crypto exchange FTX in November 2022 also had a profound impact. Bitcoin’s price fell by 20%, dropping below $16,000 as the collapse triggered a liquidity crisis and a massive sell-off, with investors liquidating assets amid fears of similar issues at other exchanges.
Sell-offs and Buyouts
Large-scale transfers and sell-offs can drive significant market volatility. For instance, a substantial transfer of 50,000 confiscated BTC by the German government in January 2024 led to increased market volatility. Bitcoin’s price, which was around $62,000 at the start of July 2024, fell below $55,000 following this transfer due to the increased supply entering the market.
Large purchases of Bitcoin by whales are generally seen as a positive indicator. For example, in July 2024, whales acquired 84,000 BTC, valued at $5.4 billion at the current market price. This marked the largest accumulation of Bitcoin since October 2014. During this period, BTC’s price experienced instability and high volatility. After falling below $55,000 at the beginning of the month, the value of Bitcoin recovered to $64,000 by early August. Despite this recovery, the overall growth for July was modest, with only a 3% increase.
What are the factors to watch in the near term?
As Bitcoin shows signs of recovery, several key factors will influence its near-term trajectory.
First, the upcoming US presidential election on November 5, 2024, will be a crucial event for the cryptocurrency market. Analysts from Bernstein anticipate that Bitcoin’s price will be swayed by the “Trump factor,” with fluctuations depending on presidential debates and the final election results.
Additionally, the introduction of new legal regulations in various countries is expected to increase institutional investment and enhance the crypto market’s legitimacy. For instance, the Markets in Crypto-Assets (MiCA) regulatory framework, proposed in 2020 and approved in 2023 for all EU member states, is now entering its crucial implementation phase, with the application set for December 2024.
In the US, a significant development this year is the Financial Innovation and Technology for the 21st Century Act (FIT21), which aims to establish a clearer regulatory framework for digital assets. FIT21 grants the Commodity Futures Trading Commission (CFTC) authority over decentralized digital assets and the SEC authority over centralized ones. Essentially, the CFTC would oversee digital commodities, while the SEC would handle assets deemed securities. FIT21 passed the House of Representatives in May and now awaits Senate approval and the President’s signature to become law. It may be several months before it takes up FIT21, as there is no deadline requiring senators to act on it. While the Biden administration opposes the bill, it has not threatened a veto.
Economic indicators, including US unemployment and inflation data, will also play a significant role in shaping market sentiment.
Conversely, QCP Capital analysts predict that an emergency rate cut by the Federal Reserve is unlikely in the near term. They argue that such a move could undermine confidence in the Fed and potentially signal a looming recession, leading to market panic. Therefore, the Fed is expected to avoid emergency rate cuts before the election, advising investors to focus on assets with a 3-6 month horizon to manage volatility.
Exogenous factors such as heightened geopolitical tensions, reflationary pressures, and rising government debt are also likely to impact the cryptocurrency market.
Conclusion
Recent fluctuations in the market, including the significant drop in early August, highlight the intricate dynamics of macroeconomic factors, regulatory changes, and geopolitical tensions. As Bitcoin and other digital assets recover, the upcoming US presidential election, new regulatory frameworks like MiCA and FIT21, and economic indicators will be crucial in shaping market trends.
FAQ
What macroeconomic factors affect the crypto market?
- Federal Reserve Rates. Low rates boost crypto investments, while high rates lead to safer asset preferences.
- Elections. Political outcomes and endorsements influence market sentiment.
- Geopolitical Conflicts. Conflicts create uncertainty, causing price swings.
- Money Issuance. Increased money supply can drive investment in cryptocurrencies due to inflation fears.
- External Events. Natural disasters and scandals introduce volatility.