One of the major features of the crypto market is its volatility and its no error-free prediction. Over the years, its erratic trend has always been influenced by some factors. Some of these include the impact of Market Whales, global trends, the market cap (volume), scarcity in terms of mining, government regulation and even interest rates.
Interest rates are a proportion of a loan that is charged as interest to the borrower over the period with which the loan is still running. These interest rates from time to time fall and increase. This movement affects the value of speculative assets as they all react in response to this fall and increase. Cryptocurrency is one of these speculative assets that gets affected by the movement these interest rates make.
Recently, when it was announced that the Federal Reserve would increase interest rates by 0.25% to control inflation. Consequently, the price of Bitcoin and Ethereum came down by 5% and 7% respectively. This shows that there may be a connection between interest rates and the stability of the crypto market. The big question now is “how do interest rates affect the value of cryptocurrencies?”
How increase in interest rates affect cryptocurrency
When there is a hike in interest rates, the cost of borrowing public assets increases and thus discourages investors from purchasing riskier assets like cryptocurrency. Investors are motivated to save their money due to higher returns.
This has a short-term effect on the purchase of cryptocurrency as investors are discouraged from making a purchase. The fact that cryptocurrency is still a nascent industry with a small market cap coupled with its high volatility, investors are less motivated to buy and they tend to move to safer assets. This leads to the erratic movement of those prices with the possibility of them falling.
In addition, the hike in interest rates makes it more expensive for investors to borrow. Risky and volatile assets such as crypto suffer a decline in their activity and investors may even have to sell off their crypto assets to offset the high-interest loans. This eventually leads to a decline in price.
Lisa loud the CEO of Fluid defi believes that crypto suffers setbacks when there is a hike in interest rate majorly because “low rates make investors look for other ways to get a return for their capital”. Since the market cap of crypto tokens affects its value, a massive reduction of a token’s market cap due to the reasons discussed above will also lead to the decline of its price.
How decrease in interest rates affect cryptocurrency
The fall in interest rates has the direct opposite effect of a rate increase. Investors view lower rates as an avenue for growth as they migrate their assets from the bond market to the equity market. The willingness of feds to keep rates at a near-zero level for a long time for the economy to recover has benefited many.
The fact that investors can get to borrow at a low cost motivates borrowing. When investors borrow, in a bid to earn more from what has been borrowed to repay the interest loaned and also make their profit from it, they look for stocks and crypto to invest in to make this profit. Low rates are beneficial for risky assets such as crypto making them appear to be more attractive and lucrative in comparison to rates that fixed investments offer. An example of this fixed investment is the certificate of deposit.
With increased activity in the crypto market coupled with the investment of capital, the market cap of tokens increases. With this, values of cryptocurrencies are bound to increase and usher in the bullish season.
In summary, the value of cryptocurrencies is also controlled by their market cap and interest rates on its end also determine a token’s market cap. The move made by a token either upward or downward affects the stability of the crypto market as it determines its volume.