The Federal Reserve and How Tapering Affects Crypto

[TL;DR]

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The process, to put it very briefly, happens as it follows:

1 - The US entered a major financial crisis due to the Covid-19 pandemic. To stimulate the economy and counteract the global crises, the Federal Reserve announced a bond-purchasing stimulus package to help the nation contain its hurting economy.

2 - The several stimuli packages took place between April and November of 2021 without any tapering measures, gradually increasing as the Covid-19 crisis became more serious.

3 - As a result the stock market flourished with the incentives with stocks, mostly tech due to lockdowns and increase in internet usage, skyrocketing and several Indexes such as the Nasdaq and Dow Jones breaking records.

4 - Federal Reserve officially announces that it will begin tapering, raising concerns as to how the US economy will be able to gradually handle itself without support of the American Central Bank.

5 - With uncertainty comes the concern, and concern leads to lesser investments and consequently depreciation in value of asset classes worldwide. That, of course, includes the crypto asset class.


[Full Article]

If you keep up with crypto news and the general financial market, you definitely have noticed that a lot of research and macro perspectives revolve around the Federal Reserve. It seems to affect the entire investment climate and that, of course, involves cryptocurrencies.

So what influence does the Federal Reserve have over the digital asset class? In this article we’ll explain what the Federal Reserve is, what it does, what this “tapering” is that measure that every financial news outlet keeps talking about and how this American agency can greatly affect the crypto market.

What is the Federal Reserve?

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Federal Reserve Headquarters in Washington, DC. Source: Vox.

In a few words the Federal Reserve, also known as just FED, is the Central Bank of the United States. Founded in 1913, it has the role of regulating and defining measures related to the US economy.

Considering that the American economy is the largest in the world, FED has very important shoes to fill: basically, any change in the US economy plays a large impact in every other country in the world and their respective economies.

What does the Federal Reserve do?

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In a nutshell, here are the five main roles of the FED:

· Define and conduct monetary and exchange policy in the United States.
· Oversee the actions of the central banks in each American state (each state has their own federal reserve branch, like St. Louis).
· To guarantee the stability of the country’s financial system.
· Manage the national payment system.
· Regulate and oversee all financial institutions.
· To promote the healthy, sustainable development of the United States economy.

Therefore, much like Central Banks of most other nations, the FED defines the basic interest rates of the US, controls the amount of the dollar in circulation in the country and is also responsible for defining and guaranteeing the fulfilment of the country’s monetary policy. Amongst many other roles.

What is tapering?

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Federal Reserve Chair Jerome Powell announcing tapering measures in November 2021. Source: CentralBanking.

You probably started noticing this word floating around financial news after the pandemic started, and it’s no coincidence - tapering is simply the gradual removal of monetary stimulus in a country’s economy so that it recovers from a current or recent crisis.

Last November, the FED officially announced that it would begin tapering by reducing the rhythm of its monthly bond purchases, which began at the end of the month. Twenty months had passed since the official start of the pandemic crisis, and in November it was clear to the Federal Reserve that the country’s economy began showing signs of natural recovery without the need for extra incentives.

Of the previous 120 billion dollars monthly purchased in bonds by the FED, the tapering process began by reducing 15 billion dollars off those purchases each month; 10 billion dollars in treasury bonds and 5 billion in titles backed in local mortgages. Basically, the US went through plenty of monetary stimuli during 2020 and 2021, so now the Federal Reserve is looking to reduce those incentives.

Much more recently, in January, Fed Chair Jerome Powell announced that it will further tighten the tapering measures beginning in March. It has not yet been disclosed the details of this more intense tapering, but it will definitely result in even more reduced month-by-month bond purchases.

How tapering affects the stock market

The answer to this is quite simple. When tapering is initiated during a crisis, there is a reduction in financial liquidity all across the market. This event causes a direct impact across all markets and consequently the stock markets, both in the US and worldwide (since the US is the world’s largest economy).

Such a phenomenon occurs for two reasons. Firstly, because reduced liquidity interferes with demands of supply across most countries and, therefore, reduces their value. Tapering also affects the dollar’s offer in the market which affects its exchange value worldwide.

The process, to put it very briefly, happens as it follows:

1 - The US entered a major financial crisis due to the Covid-19 pandemic. To stimulate the economy and counteract the global crises, the Federal Reserve announced a bond-purchasing stimulus package to help the nation contain its hurting economy.

2 - The several stimuli packages took place between April and November of 2021 without any tapering measures, gradually increasing as the Covid-19 crisis became more serious.

3 - As a result the stock market flourished with the incentives with stocks, mostly tech due to lockdowns and increase in internet usage, skyrocketing and several Indexes such as the Nasdaq and Dow Jones breaking records.

4 - Federal Reserve officially announces that it will begin tapering, raising concerns as to how the US economy will be able to gradually handle itself without support of the American Central Bank.

5 - With uncertainty comes the concern, and concern leads to lesser investments and consequently depreciation in value of asset classes worldwide. That, of course, includes the crypto asset class.

How tapering affects crypto

In conclusion, it’s safe to say that the Federal Reserve’s tapering measures affects crypto not directly, but indirectly. When the Federal Reserve started tapering, the American stock market flourished as there was a major inflow of investments happening in the country. Such inflow freed investors to seek other investment options such as cryptocurrencies. With major capital inflow flowing into crypto, bullish sentiment is inevitable.

The same occurred the other way around. When the Federal Reserve announced its first tapering measures in November of last year, uncertainty loomed across all markets and affected crypto in a major way. In fact, it still is. Once the FED starts its stronger tapering measures in March, crypto and other asset classes will certainly feel its toll on their short-term performance. But not to worry at all; tapering is a natural decision at the end of a financial crisis. At the end of the day, it’s actually good news and it’s always a quick matter of time until the markets fully recover.



Author: Gate.io Researcher: Victor Bastos
* This article represents only the views of the researcher and does not constitute any investment suggestions.
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