Are cryptocurrencies and interest rates correlated?

According to the most basic economic relations studied in International Economics, currencies are closely correlated with interest rates trend. This is why traders always pay close attention to central bank meetings, when interest rates and money supply are decided. The correlation between interest rates and currencies is well known and the empirical evidence carried out in recent decades have confirmed it: an increase in interest rates makes the assets denominated in the domestic currency relatively more profitable than those denominated in a foreign currency, other things being equal. Consequently, the domestic currency appreciates. On the contrary, a lowering of rates makes foreign assets more profitable, leading to a depreciation of the domestic currency vis-à-vis the others.

All this, however, applies to fiat currencies. It is more difficult, to understand what relationship exists between interest rates and cryptocurrencies, since the latter do not follow the same rules as traditional currencies. In particular, if the theory of digital currencies as a “safe haven” were true, cryptocurrencies would have to behave like other safe haven assets, such as gold, after decisions by central banks. Since these currencies are not issued by any state, and therefore do not serve as a domestic currency for any nation, it is interesting to study their behavior during monetary policy decisions made by the two main central banks: the Federal Reserve and the European Central Bank.

Thomas Lee, managing partner of Fundstrat Global Advisors, believes that Bitcoin is actually influenced by macroeconomic factors, in particular by changes in the US dollar. He argues that when investors expect a rate cut, Bitcoin’s price depends on whether the reduction moves the greenback or not. If “Fed moves have an impact on the dollar, then this has an impact on bitcoin,” he said, noting that, “we observed Fed rate hikes in 2018 that supported the dollar and lowered bitcoin.”

Lee believes that a cut in fed funds will weaken the dollar, which in turn should be positive for bitcoin. There are analysts who believe that an accommodative monetary policy is a positive factor for Bitcoin, because holding assets like Bitcoin and gold, which do not offer a return, becomes relatively more attractive with falling rates. In other words, the dollar and bitcoin are negatively correlated.

Furthermore, as concern has grown that Fed policy may become increasingly politicized by President Donald Trump, who has attempted to push the central bank to cut rates many times, there is a similar concern that Trump wants to lower the dollar value earlier the election to revive the economy or that dollar policy is used as an economic instrument. Both of these play in any non-sovereign store of value and have directly fueled the rise of Bitcoin.

Similarly, there are those who believe that the price of bitcoin can also be supported by the zero interest rate policy of the European central bank, considering that this also entails a reduction in earnings for investors in sovereign bonds. For yield-hungry investors, currently observing most of the sovereign bonds offering zero returns could create a strong incentive to buy cryptocurrencies, which more than interesting returns have shown in the past.

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