Prediction: This will be the next big move for Ethereum

It’s been a tough year for Ethereum (ETH -1.54%). Growing just 5% year-to-date, it has significantly underperformed compared to Bitcoin and several other cryptocurrencies that hit new all-time highs. However, Ethereum investors have reason to remain optimistic.

While many are focusing on Ethereum’s technological updates or ecosystem development as the next big catalyst, interest rate cuts are a potential external force that could be even more influential. Here’s why the Federal Reserve’s decision to cut interest rates could have a significant effect on Ethereum’s future, but perhaps not in the way most investors would expect.

Federal Reserve rate cuts and why they matter

In a recent announcement, the Federal Reserve announced that it will cut interest rates by 50 basis points after a prolonged period of rate hikes. Normally, this would be a clear signal for risky assets such as cryptocurrencies, including Ethereum, that liquidity is increasing and investor appetite for higher risk investments will increase. But there is a more complicated relationship at play here.

In 2019, the Federal Reserve also moved from raising interest rates to lowering them. Interestingly, Ethereum price did not immediately respond as many expected. Cryptocurrencies are typically seen as beneficiaries of rate cuts, as lower borrowing costs lead to greater liquidity in financial markets and encourage risk-taking behavior. However, Ethereum did not start its rally immediately after the Fed’s decision to cut rates.

Instead, the cryptocurrency began to gain real momentum only when the Federal Reserve changed its policy from quantitative tightening (QT) to quantitative easing (QE). This nuanced relationship between monetary policy and Ethereum price suggests that while rate cuts are significant, the real catalyst for Ethereum may come when the Fed changes its stance on QT.

Quantitative tightening vs. quantitative easing: A key difference

To understand the effect of Federal Reserve policies on Ethereum, it is essential to understand the difference between quantitative tightening and quantitative easing. When the Federal Reserve engages in QT, it reduces the amount of money circulating in the economy by selling the assets it owns, usually bonds and mortgage-backed securities. This leads to a tightening of liquidity, which can suppress asset prices, including those of riskier investments such as cryptocurrencies.

On the other hand, QE is the opposite. The Federal Reserve buys financial assets. This policy injects money into the economy, increases liquidity, and often increases asset prices because investors have more capital ready to be deployed. QE has been bullish for both traditional assets like stocks and cryptocurrencies like Ethereum as it opens the floodgates of liquidity and encourages investors to take more risks.

In 2019, while many believed that only rate cuts would boost Ethereum, the real takeoff didn’t come until the Federal Reserve switched from QT to QE. Cryptocurrency analyst Benjamin Cowen highlighted this in a chart posted on X, showing that the price of Ethereum did not fully decline relative to the price of Bitcoin until QE began. The Ethereum/Bitcoin price continued its downtrend in 2023, following a similar pattern to 2019. This further suggests that Ethereum may not rally until QE comes back on the table.

#ETH / #BTC still bleeding similar to its path in 2019. I overlapped when the Fed cut rates and started QE in 2019 so you can see how the ETH/BTC ratio behaved around those events. pic.twitter.com/PhftxFKZJZ

— Benjamin Cowen (@intocryptoverse) May 10, 2024

Fed’s decision to keep QT: What does this mean for Ethereum?

Now, as we look at the Federal Reserve’s current stance, it is clear that QT will remain, based on comments made by Chairman Jerome Powell at his recent press conference. This does not mean that Ethereum is doomed to stagnate, but it does mean that we may have to wait a bit before we see a substantial rally.

Without the liquidity injections that come with QE, the kind of general risk appetite that causes cryptocurrency crises is likely to remain muted. Ethereum, while still fundamentally strong, may not reach its full potential until the monetary floodgates open again.

#ETH in 2019 compared to 2024.

while #ETH / #BTC fell shortly after the first rate cut in 2019, ETH/USD fell to EOY. pic.twitter.com/QhcourHwaV

— Benjamin Cowen (@intocryptoverse) September 16, 2024

When will QE return?

Ultimately, this leaves us with a critical question for investors: When will the Federal Reserve return to QE? In 2019, the switch to QE occurred about two months after the initial rate cuts. From that point on, Ethereum began to bottom out and eventually climbed to new all-time highs about a year and a half later. If the Federal Reserve follows a similar timeline this cycle, we could expect QE to begin sometime in 2024, potentially setting the stage for Ethereum’s next major move.

Of course, the timing of these policy changes is never an exact science. While the Fed is committed to QT for now, economic conditions could change, prompting a quicker shift to QE. Rising concerns about an economic slowdown or deflation could be the trigger that forces the Federal Reserve to reconsider its tightening stance and start injecting liquidity again.

For investors, this presents both a challenge and an opportunity. While the Fed’s current stance on QT may keep a lid on Ethereum’s price for now, it also gives investors time to accumulate Ethereum at what could be a relative discount. If history is any guide, the eventual return of QE could set the stage for Ethereum to hit new highs and end its dismal market performance.