Could the Silicon Valley Bank Crisis End Crypto Winter?

By André Beganski

Following the collapse of Silicon Valley Bank, markets are predicting the Federal Reserve will take a softer approach to raising interest rates, a potentially hopeful sign for cryptocurrencies that have been hammered by a tightening economy.

The Fed embarked on an aggressive campaign to tame inflation a year ago when it lifted interest rates from near zero last March. Now that interest rates rest between a target range of 4.50% to 4.75% and the U.S. banking sector is showing signs of stress, the chances of the Fed pushing rates higher have gone down.

The chance of the Fed raising interest rates by 50 basis points at its meeting next week fell from 40% on Friday to 0%, according to the CME FedWatch tool. The probability that the Fed will put interest rate hikes on pause has since shot up to 34% from 0%.

Though Fed Chairman Jerome Powell has signaled that interest rate will remain high until inflation in the U.S. is well on its way to 2%, Chief International Economist at ING Bank James Knightley told Decrypt the central bank’s stance will likely turn cautious.

“If there is a situation that warrants it, they will change their view very, very quickly,” Knightley said. “What we've got now is a situation whereby we could be at the peak, potentially, right now.”

If interest rates have peaked, a change in the Fed’s monetary posture could result in investors allocating more money to risk assets such as stocks and crypto. Higher interest rates have made risk assets less attractive compared to conservative ones like U.S. Treasury Bills, which have seen their yields trend upward as the Fed tightens.

Any uptick in liquidity would be beneficial for crypto markets, digital asset data and information services provider Kaiko’s Dessislava Aubert told Decrypt. The Fed’s newly established BTFP facility—which offers loans to banks as a source of liquidity—will also benefit risk assets, she said.

Cryptocurrency prices rose Monday as markets recalibrated their expectations of future rate hikes by the Fed. Bitcoin surged 13.5% to around $24,280 and Ethereum rose 8.1% to just over $1,680, according to CoinGecko data.

Knightly said the failure of Silicon Valley Bank last week was clearly a sign of stress that has materialized as a result of interest rate hikes, echoing comments made by U.S. Treasury Secretary Janet Yellen on Sunday.

Fed Futures markets are predicting the U.S. central bank will likely begin cutting interest rates at some point in the near future, with only a 7% chance that interest rates will be at their current levels or higher by the end of this year.

But there’s still a chance the Fed could decide to raise interest rates at their policy meeting next week if tomorrow’s inflation reading comes in above expectations, said Knightley.

As the Fed tries to cool the economy and bring inflation down by making it more expensive for businesses and consumers to borrow, it runs the risk of tipping the economy into a recession by tightening too much or too quickly.

“When you raise rates this aggressively, something's going to break eventually, and I think we're starting to see that,” CoinShares investment strategist James Butterfill told Decrypt.

Butterfill said that a change in the Fed’s monetary stance is supportive of Bitcoin as the central bank focuses more on market stability than tightening the economy. He said that a sense of uncertainty surrounding central banks is favorable for Bitcoin as well, while the U.S. government attempts to calm fears of contagion from the collapse of Silicon Valley Bank.

“It's still unclear as to whether they've been able to stem the crisis in confidence at the moment, and as a consequence, I think [the price of] Bitcoin is really, really doing well,” he said. “It’s running from investors’ mistrust in the banking system.”

But whether or not crypto winter could be thawing out isn’t certain given the regulatory headwinds that the digital assets industry currently faces, said Butterfill. Just last week, the New York Attorney General’s office claimed Ethereum is a security as it announced a lawsuit against the cryptocurrency exchange KuCoin.

And the collapse of crypto-friendly banks Silvergate and Signature has also raised concerns about the ability for firms native to the digital assets industry to establish banking partnerships.

Last month, the Bureau of Labor Statistics (BLS) said consumer prices rose 6.4% in the twelve months through January, according to its Consumer Price Index (CPI), which tracks price changes across a basket of goods and services. 

The report indicated that inflation eased for the seventh month in a row from inflation’s 41-year high of 9.1% in June.

Even though the collapse of Silicon Valley Bank has somewhat overshadowed tomorrow’s reading, it could still factor into the Fed’s path forward if the report shows signs that inflation is stubborn, Chief Economist at Ameriprise Financial Services Russell Price told Decrypt.

“To some degree, it's kind of pushed the CPI report into the background just a little bit,” he said. “But if we got data that showed inflation being much more sticky, or stubborn, and not continuing its path of deceleration as it had previously, then that could complicate matters.”

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