Bitcoin, Ethereum Trade sideways as market assesses mixed CPI report

Consumer prices rose more than expected in January, a potentially negative sign of what’s in store for risk assets like cryptocurrencies in 2023 as the Federal Reserve tries to tame inflation through a campaign of rate hikes.

The Consumer Price Index (CPI), which tracks price changes across a wide range of goods and services, rose 6.4% in the twelve months to January, the Bureau of Labor Statistics (BLS) said on Tuesday, beating expectations of 6.2% .

“This higher-than-expected inflation report, while not much higher, adds to the potential ‘higher for longer’ argument that the Fed has been pushing,” said head of research at IntoTheBlock Lucas Outumuro. Decrypt.

Bitcoin and Ethereum held steady, as major stock indexes such as the S&P 500 rose premarket by about 0.04%. Other coins, i.a Cardano (ADA) and Dogecoin ( DOGE ), both rose slightly, with 1.7% and 0.1% gains on the day.

“Unfortunately, [digital assets] is still very highly correlated to stocks,” Outumuro said. “When there is less reliance on these data prints, the markets can start to decorrelate again.”

Tuesday’s inflation reading added to a streak of six straight reports that showed inflation is easing from a 41-year high of 9.1% in June. Last month’s report showed prices fell 0.1% in December, bringing the annual inflation rate down to 6.5%.

But prices rose 0.5% in January across all goods on a month-on-month basis. The biggest monthly increases to the CPI came from food, petrol and shelter, which accounted for almost half of inflation in January.

The Fed has been watching changes in consumer prices closely to gauge how effective interest rate hikes have been in cooling the economy, with the goal of bringing inflation down to its 2% target by making it more expensive to borrow. But it also weighs other factors in the design of monetary policy, such as the strength of the US labor market.

Members of the Fed voted unanimously this month to raise interest rates by a quarter of a percentage point to a target range of 4.50% to 4.75%, prompting the U.S. central bank to deliver its eighth rate hike since it lifted interest rates from near zero in March last year. .

Higher interest rates have made cryptocurrencies and other risky assets such as stocks less attractive compared to more conservative assets such as US Treasuries, which have less potential upside but are supported by the government in terms of gains.

Many investors are looking for signs that the Fed may soon move from tightening the economy to keeping interest rates where they are or even stimulating growth by cutting interest rates later this year.

Although Bitcoin and Ethereum are both up more than 25% since the start of the year, stronger-than-expected job growth in January has soured investors’ reading of future Fed rate hikes, and crypto faces its own challenges amid a regulatory blitz. from the Securities and Exchange Commission (SEC).

What’s next for the Fed?

While Fed Chairman Jerome Powell said “that disinflation process has started” earlier this month, he warned that the central bank “will need significantly more evidence to be confident that inflation is on a sustained downward path.”

The Fed projected last December that interest rates would rest somewhere between 5.1% and 5.4% by the end of this year, leaving room for more rate hikes ahead, albeit less than the steep 75 basis point hikes the Fed has delivered four times last year.

“We now understand what it means to live in a higher-price environment,” said 3iQ head of research Mark Conners Decrypt. “It was higher than expected, it didn’t move markets.”

Ahead of the release of the CPI report, markets are betting there is a 57% chance interest rates will be below 5% by the end of this year, according to the CME FedWatch tool. After Tuesday’s inflation reading, that probability dropped slightly to about 54%.

“It was broadly in line and it probably doesn’t change the Fed’s messaging that more ongoing rate hikes are warranted,” senior market analyst at OANDA Edward Moya told Decrypt. “We’re probably going to see prices going higher for a longer period of time.”

A bump in the monthly inflation rate could mean the Fed has to tighten monetary policy more than originally planned. But keeping interest rates too high for too long risks tipping the economy into recession if it restricts economic activity too much.

The core CPI, which excludes volatile food and energy prices, rose 0.4% in January after rising 0.3% in December. A majority of the core CPI’s monthly gains were driven by shelter, which is now 7.9% more expensive compared to a year ago. “We really need to see the CPI trend much lower,” Moya said. “Inflation is like an onion; […] at the heart of it are core services.”

The core CPI is considered to be a better predictor of inflation trends. But economists have recently focused on an even more stripped-down measure of inflation called “supercore,” which looks at price changes related to services but excludes shelter costs and used vehicle prices.

“You’re starting to see core services showing signs of being sticky, which could complicate any talk of just disinflationary trends being in place,” Moya said. “And this is what’s going to be hard to really get down.”

January’s inflation reading was distinct compared to the previous month because of changes made to how the BLS incorporates inflation data into its report, adjusting how heavily each category is weighted to better reflect spending patterns.

Typically, each category in the CPI has been reweighted every two years, but the BLS said it plans to update them annually going forward, basing January’s inflation reading on consumer data from 2021.

For example, shelters’ weight has increased from approximately 33% of the CPI to 34.4%. In addition, food and energy prices will have a smaller impact on inflation readings in the future.