Introduction

As the central bank of the United States, the Federal Reserve (the Fed) holds the authority over critical policies that influence the value of the U.S. dollar. Given that the U.S. dollar plays a pivotal role as a global currency, decisions made by the Fed could significantly impact the cryptocurrency market.

Crypto investors are particularly concerned with one policy made by the Fed: the interest rates, formally known as the federal funds rate. By understanding when the Fed decided to raise or cut the interest rates, investors need to know its economic goals and the policy principles.

Policy Objectives

The Fed is dedicated to fostering a strong U.S. economy, primarily through its monetary policy. Its key objectives are to promote maximum employment, ensure price stability, and maintain moderate long-term interest rates. From these goals, two clear and measurable macroeconomic indicators stand out: maximum employment and price stability.

Maximum Employment

Maximum employment refers to reducing unemployment and bringing the labor market to its full potential, ensuring the possibility of employment for all those who are able and willing to work. To achieve this, several macroeconomic indicators are used: the unemployment rate, non-farm payrolls, and the number of individuals filing for unemployment benefits. The Fed will use these for evaluating the state of the labor market and adjusting its monetary policy.

Price Stability

Price stability is a goal that aims to keep inflation or deflation at a low level so that purchasing power could be maintained and consumers and businesses could make more reliable economic decisions. Commonly, the Consumer Price Index (CPI), the Producer Price Index (PPI), and the inflation rate will be used for measuring price stability.

Basic Logic of Interest Rate Adjustments

Traditional financial theory holds that higher interest rates may suppress economic activity and increase unemployment risk, while lower rates will help boost economic growth and improve employment levels. Therefore, adjusting the interest rate is the main tool for the Fed to maintain economic stability.

For the employment objective, if the economy is far from achieving maximum employment and the unemployment rate is high, the Fed typically lowers interest rates to stimulate economic growth, and vice versa.

For the price stability objective, if the economy fails to achieve price stability and there is high inflation, the Fed usually opts to raise interest rates to curb rising prices, and cutting the interest rates in a weak economy.

In a nutshell, when economic activity is weak and the unemployment rate is high, the market will expect rate cuts; when economic activity is strong and the unemployment rate is low, the Fed might consider rate hikes. Investors can use these macroeconomic policy goals to predict whether the Fed is more likely to raise or lower interest rates.

Exceptional Cases

The real world is always more complex than hypotheses, as strong economic activity might not always follow robust employment, and a weak economy could happen under a tight job market. In this sense, the policy might lead to a contradiction.

For instance, if prices are high while unemployment is also severe, the Fed may lean toward cutting interest rates to boost the labor market or raising interest rates to curb inflation, depending on which aspect it feels requires more control at the time. Therefore, investors must carefully consider the Fed’s prioritization of employment and price stability when making predictions on the interest rates in the future.

By conducting a deep analysis of the U.S. economic landscape, investors can better avoid potential adverse effects resulting from interest rate changes.

Conclusion

It is important to note that there are many factors that could fluctuate the cryptocurrency market, and the Fed's policy is just one of them. While interest rate hikes or cuts could shortly cause an impact, the true value of a cryptocurrency is determined by the market fundamentals, i.e., the development of blockchain technology and the widespread adoption of blockchain applications.