The cryptocurrency market has struggled quite a lot in the past few weeks. As pressure continues to mount from the traditional economy and the market itself continues to deal with the insolvency of several top firms, it has become evident that we might be in a downturn that could drag on for a while.
Prospects are also relatively bleak considering that the US government appears to be sacrificing short-term gains for more long-term stability. And with the focus currently being on stopping inflation and a looming recession investors might want to buckle up.
A Background – How The Market Got Here
It is worth noting that dips like these aren’t such a rarity in the crypto market. Just last year, the crypto industry dealt with another significant downturn as coin prices took a beating and many believed that the six-month party that had seen cryptocurrencies surge to their highest levels ever was done.
With Tesla stopping Bitcoin payments and fears of a massive liquidation from the Grayscale Investment Trust, the market entered into a months-long dip. But, things eventually cooled and crypto went on to record even more highs – Bitcoin notched a $69,000 peg, while the market itself sored past a $3 trillion valuation.
But, none of that was apparently to last. Heading into this year, the crypto market was holding on to a $2 trillion valuation after top coins had already shed some of the gains they made in the final quarter of 2021.
And then the dip essentially began. Pressure started to build from the traditional financial space, with fears that the global economy might be heading into a recession following years of quantitative easing.
The logic was simple. When the coronavirus hit, governments began printing massive amounts of money and pumping it into the global economy as part of easing and stimulus packages. While many counseled against this at the time, top policymakers believed that they could handle the influx of capital and keep economies stable.
Fast-forward to two years, and this hasn’t quite been the case. The abundance of cash has left much money in the hands of investors and ordinary people – all of whom have been more than happy to spend it.
Inflation started to rise, and concerns started to get high.
Interest Rate Hikes Kick In
In March, Federal Reserve Chairman Jerome Powell confirmed that his regulator would be raising interest rates across the country. The goal is to make it more difficult for people to borrow money, thus reducing the amount of cash in circulation. While many understood this rationale, the market didn’t react well.
Another interest rate hike came just in June, with the Fed once again raising rates by 75 basis points – its most aggressive interest rate hike since 1991.
Markets Spill Over To Affect Crypto
The sharp reactions immediately began to enter the crypto market as well. Coin prices began to tumble significantly, with Bitcoin leading the charge across the board.
The market also saw a spate of unfortunate events that further field downturns. For instance, the collapse of the Terra blockchain ecosystem – as well as Terra’s algorithmic UST stablecoin and native lUNA token – caused a massive panic that affected the stablecoin market and eroded trust in the industry.
Terra’s collapse effectively wiped out over $40 billion from the crypto market. To date, the blockchain and all of its related projects have failed to recover.
Inflation Numbers For June Cause Concerns
Over the past month, the crypto market has been looking to stage a recovery after falling to its lowest point since December 2020. However, things have become even more complicated following the release of fresh inflation numbers.
Earlier this week, data from the Labour Department confirmed that the Consumer Price Index (CPI) had risen by 9.1% year-on-year in June. This would be the biggest annual jump in CPI since 1981. The index jumped by 1.3% in June alone, marking the sharpest one-month jump since 2005.
While analysts had expected a surge in the CPI, the biggest expectations had been about 8.8%. These numbers blow those out of the water.
The surging inflation level will undoubtedly have an effect on the crypto market. On the back of the CPI announcement, Bitcoin again dropped below the $20,000 price peg.
As for what this means going forward, it’s still anyone’s guess. A 9.1% inflation rate will put more pressure on the Fed to raise interest rates even more – a decision that the regulator would undoubtedly be considering at this point. If it does, then the market could contract even more as money becomes scarcer in the economy.
With investors unable to access the funds they need, their ability and desire to purchase risky assets like crypto would undoubtedly take a hit. This could mean that cryptocurrencies are in for a lengthy period of consolidation that could easily take months.
The crypto market is currently highly correlated with the traditional economy. If the latter continues to struggle, so will the former.
At the same time, it is worth noting that this is a more short-term arrangement. The economy will eventually pick up, especially with the Fed being aggressive in its tackling of inflation right now. By playing the long game, the Fed is ensuring that inflation can be managed and a recession can hopefully be avoided.
When the economy eventually flips bullish, so should crypto. It’s just a question of when – not if – that will happen.
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