"The Fed needs to pause at a minimum, or the banking issues escalate," David Brickell, director of institutional sales at crypto liquidity network Paradigm, tweeted early Tuesday, suggesting that the world's most powerful central bank should prioritize banking sector stability over inflation and keep interest rates unchanged on Wednesday.
That's been the sentiment in the crypto market ever since regulators took over Silicon Valley Bank (SVB) on March 10. Since then, Bitcoin has rallied over 40%, partly due to hopes that bank failure will force the Federal Reserve (Fed) to abandon its rate hike cycle that rocked risk assets last year. The central bank has raised rates by 450 basis points since March 2022.
Some observers, however, expect the Fed to disappoint popular expectations.
"Our best guess is that the Fed hikes by 25 basis points given continued elevated inflation," Brian Rudick, senior strategist at crypto trading firm and liquidity provider GSR, told coinDesk.
A 25 basis points [bps] rate hike will lift the benchmark borrowing cost to the 4.75%-5% range and may see traders positioned for a pause trim their bullish exposure to bitcoin.
Marc Ostwald, the chief economist and global strategist at ADM Investor Services International (ADMISI), said, "the Fed still views the banking sector as being well capitalized, and it will want to stress that the inflation battle is not won, and it remains too high, so a 25 bps hike seems very likely."
On Sunday, Federal Reserve Chair Jerome Powell and Treasury Secretary Janet Yellen said that the U.S. financial system remains resilient and the capital and liquidity positions of the banking system are strong.
Ostwald added that the Fed would find it more challenging to resume rate hikes if it pauses the tightening cycle now.
The liquidity-addicted risk assets might read the pause as a sign of an imminent early pivot toward rate cut and price in the same. That, in turn, would make it difficult for the Fed to resume rate hikes without shocking markets.
According to Michael Englund, principal director and chief economist at Action Economics LLC, the Fed will follow ECB's lead.
The European Central Bank (ECB) raised rates by 50 basis points to 3% last week, sticking to its inflation fight despite the market chaos and fears of contagion from Credit Suisse's instability.
"Our forecast is for a 25 basis point hike, and we continue to assume 25 basis point hikes in May and June as well," Englund said in an email.
"If the Fed hikes rates, I think it would actually contribute to the notion that the Fed has the banking crisis under control, and may add to financial market stability, though bond prices would fall and yields would again price-in a tighter policy path. The dollar would also get a lift," Englund added. (BTC tends to move in the opposite direction of the dollar.)
A pause might put a question mark on the efficacy of the measures announced and trigger panic. Since the collapse of SVB, the Fed has launched an emergency lending facility for banks called Bank Term Funding Program and increased the frequency of its dollar swap lines from weekly to daily to shore up the global financial system.
Traders expecting the Fed to announce an end of quantitative tightening (sister of rate hikes) will also likely be disappointed.
"We wouldn’t see the Fed’s new programs to address SVB as having broader market implications, and we assume that the Fed will maintain its QT process even if there is a one-off bounce in the size of the Fed balance sheet," Englund said.
The narrative that QT is about to end gripped the market last week after data showed the Fed's balance sheet swelled by $300 billion in the seven days to March 15.
According to GSR's Rudick, Powell is likely to do a balancing act by striking a dovish tone after raising rates, offering a lifeline to risk assets.
"Powell’s tone is somewhat dependent on the policy action. He will take a more hawkish [pro-tightening] tone to keep inflation expectations in check should the Fed pause or take a more dovish tone should the Fed hike," Rudick said.
Markets will also pay attention to the bank's quarterly economic projections.
ADMISI's Ostwald expects the dot plot – a graphical representation of policymakers' interest rate projections – to signal a peak of around 5.37% from 5.125% in December. Ostwald also expects the Fed to raise growth and inflation forecast and revise estimates for the lower jobless rate.
An upward revision of the peak rate forecast might bring some selling pressure to risk assets, considering the market's expectation for the same has recently declined to 4.8%.
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