How Do Fed Interest Rate Decisions Affect Bitcoin and Altcoins?

Why does something like the Federal Reserve’s interest rate decisions, which sounds very much tied to the traditional financial world, have such a big impact on Bitcoin (BTC) and other cryptocurrencies (altcoins)? After all, aren’t cryptocurrencies supposed to be independent of these traditional systems?

In this article, we’ll break down why the Fed’s interest rate decisions are important, how they influence Bitcoin and altcoins, and what this means for investors—especially those new to crypto.

What Are Fed Interest Rate Decisions?

The Federal Reserve, often referred to as the Fed, is the central bank of the United States. One of its main jobs is to manage the economy by controlling interest rates. The interest rate set by the Fed is known as the federal funds rate, and it’s the rate at which banks lend money to each other overnight.

Why Does the Fed Change Interest Rates?

The Fed changes its benchmark lending rates for the following reasons:

• To Control Inflation: If the economy is growing too fast and prices are rising (inflation), the Fed may increase interest rates. This makes borrowing money more expensive, which can slow down spending and help control inflation.
• To Stimulate the Economy: Conversely, if the economy is slowing down, the Fed may lower interest rates. Lower rates make borrowing cheaper, which encourages spending and investment, helping to boost the economy.

Let’s understand it further with historical context:

In the late 1970s, the U.S. faced double-digit inflation, with rates reaching as high as 13.5% in 1980. To combat rising consumer prices, Fed Chairman Paul Volcker raised the federal funds rate to a peak of 20% in 1981, which successfully reduced inflation to around 3-4% by the mid-1980s.

However, the high rates also led to a recession, showing the delicate balance the Fed must strike.

For instance, the Fed slashed interest rates to near zero in response to the 2020 COVID-19-led financial crisis. Their goal was to make borrowing cheaper and stimulate the economy.

Additionally, the Fed launched Quantitative Easing (QE), purchasing large amounts of government bonds to inject liquidity into the economy. This combination of near-zero interest rates and QE helped stabilize financial markets and supported steady economic recovery.

How Do Fed Rate Hikes Impact Bitcoin and Altcoins?

When the Fed raises interest rates, it affects many parts of the financial world, including cryptocurrencies like Bitcoin. Here’s how:

Bitcoin as a Risk Asset

Bitcoin, often referred to as “digital gold,” was originally designed to be a store of value, independent of traditional markets. However, as more institutional investors (like hedge funds and large companies) have entered the crypto space, Bitcoin has started to behave more like a traditional asset, such as equities.

For instance, Bitcoin and the U.S. benchmark index, the S&P 500, have witnessed a consistent positive correlation between their market trends since 2020, with both responding similarly to the Fed’s interest rate policies and forward rate outlooks.

Institutions—as well as retail—treat Bitcoin as part of their broader portfolios, alongside stocks and bonds. When interest rates rise, these investors may pull money out of riskier assets like Bitcoin to put into safer investments that now offer better returns due to higher interest rates.

In 2022, as the Fed aggressively raised interest rates to combat high inflation, Bitcoin’s price fell from around $47,000 in March 2022 to under $20,000 by June 2022. This was a significant drop, reflecting a broader “risk-off” sentiment in financial markets .

Impact on Altcoins

Altcoins, or alternative cryptocurrencies, are even more sensitive to interest rate hikes than Bitcoin. This is because they are generally considered to be even riskier investments.

When the Fed increases rates, borrowing money becomes more expensive. This reduces the amount of cheap money available for speculative investments, including altcoins. Investors may sell off altcoins to reduce risk, leading to price declines.

During the 2022 rate hikes, many altcoins saw their prices plummet. For example, Ethereum (ETH), the second-largest cryptocurrency, dropped from around $3,500 in April 2022 to under $1,000 by June 2022, a decline of over 70%.

Market Sentiment and Volatility

Crypto markets are highly volatile, meaning prices can swing dramatically in a short period. Interest rate hikes often trigger a “risk-off” approach where investors flee risky assets like Bitcoin and altcoins in favor of safer, more stable investments.

If investors expect the Fed to continue raising rates, they might anticipate tougher times ahead for cryptocurrencies, leading to preemptive selling.

For instance, in late 2021, when the Fed hinted at upcoming rate hikes, Bitcoin’s price began to decline from its all-time high of nearly $69,000, reflecting investors’ fears of tighter financial conditions.

How To Trade Bitcoin Around Fed Rate Decisions

Understanding how Fed interest rate decisions impact Bitcoin and altcoins is crucial for anyone investing in cryptocurrencies.

If you’re thinking about buying Bitcoin or altcoins, it’s essential to consider the broader economic environment. Are interest rates rising? If so, prices may be more volatile, and you might find better entry points later.

Knowing that cryptocurrencies are sensitive to interest rates can help you manage risk. For example, during periods of rising rates, you might choose to hold less in volatile altcoins and more in stablecoins or even cash.

So:

• Stay Informed: Keep an eye on what the Fed is doing. Even if you’re primarily interested in cryptocurrencies, understanding traditional financial news can give you a big advantage.
• Diversify: Don’t put all your eggs in one basket. Consider diversifying your investments across different types of assets to reduce risk.
• Be Prepared for Volatility: Cryptocurrencies are volatile by nature. Interest rate hikes can increase that volatility, so be prepared for sudden price swings.

Bitcoin is Not a Safe-Haven — Trade It Like a Risk Asset

While Bitcoin and altcoins were designed to be independent of traditional financial systems, they have become increasingly influenced by macroeconomic factors, particularly the Federal Reserve’s interest rate decisions. Understanding how these decisions impact the crypto market can help you make smarter investment choices.

By staying informed and recognizing the signs of changing interest rates, you can better navigate the ups and downs of the crypto world and position yourself for success in this exciting but volatile market.