Bitcoin Falls 7% as Russia Invades Ukraine; Experts Say Fed U-Turn on Rate Hikes Unlikely

"The Federal Reserve Chairman Putin announces cancellation of March rate hike and extension to QE," actor and producer Joel Heyman tweeted early Thursday after Russian President Vladimir Putin's war on Ukraine sent bitcoin and stocks plunging.

Heyman's sarcastic tweet calling Putin the chairman of the U.S. Federal Reserve mirrors the current crypto market sentiment, where traders are hoping the geopolitical uncertainty and asset market instability would force the U.S. central bank headed by Jerome Powell to abandon plans to unwind liquidity-boosting stimulus measures. That might bode well for bitcoin because the cryptocurrency has dropped 40% in the past three months, predominantly on the Fed rate hike fears.

Bitcoin was down 7.2% over the past 24 hours to $35,742 as of press time, after earlier touching one-month lows under $35,000. The Standard & Poor's 500 Index of large U.S. stocks fell 1.3%.

However, experts do not foresee a complete U-turn by the Fed. "It's hard to imagine the Fed completely walking back on its plans for a hike in March," said Matthew Dibb, chief operating officer and co-founder of Stack Funds. "There is no doubt that inflationary pressures will also arise from a surge in commodity prices. Russia and Ukraine remain some of the largest exporters of various precious metals and agriculture."

Indeed, it's turning out to be a Catch-22 situation for the Fed, as, on the one hand, the geopolitical uncertainty poses a threat to financial market stability and the economy. At the same time, on the other, it can very well add to the already elevated inflationary pressures worldwide.

Brent oil has crossed the $100 mark for the first time since 2014, data provided by chart platform TradingView show. According to Goldman Sachs, conditions are in place for a commodities' super spike.

"This is the worst-case scenario, a massive tail risk," trader and analyst Alex Kruger said. "Crude and food grain prices are likely to stay higher for longer."

Kruger, however, added that crude and food grains do not represent core inflation and the Fed may ignore a spike in their prices. It remains to be seen if the central bank turns a blind eye toward the volatile components of inflation in the coming months. "Its impossible to gauge the Fed's response now and we will get a feel once the officials start talking about it," Kruger said. Core inflation is widely touted as the best gauge of demand-side pressures and a more reliable indicator.

According to Stack Funds' Dibb, the question now is not necessarily whether the Fed will or will not hike, but rather by 'how much' instead.

Shallow tightening cycle

Observers foresee a shallow tightening cycle with fewer rate hikes than expected.

"The scripted rate hikes will still happen ... most likely 2-3 hikes. But the market's expectations of 6-9 hikes have little chance of playing out," Jeff Dorman, CIO at digital asset management firm Arca, told CoinDesk in a Telegram chat.

As of Wednesday, the markets were priced for six quarter percentage point interest rate hikes for 2022. However, with Putin announcing war on Ukraine, rates traders appear to be pricing out the sixth rate hike, according to the Fed funds futures data. Further, the market is already pricing a rate cut in 2024.

Expectations for a shallow tightening cycle and shift in focus from inflation to geopolitics could perhaps bring some relief to bitcoin and other asset prices once the initial knee-jerk reaction to the Russia-Ukraine war runs out of steam.

"The market is already pricing in rate cuts in 2024, indicating that rate hikes won't even have an impact because the market is pricing in a reversal already," Dorman quipped.

Per Ben Lilly, an economist at Jarvis Labs, Russia-Ukraine tensions are a welcome distraction for the Fed.

"Fewer eyes focused on the inflation concerns from day to day. Also, the uncertainty of geopolitics, in general, could curtail spending to a degree," Lilly noted in a Telegram chat. "The conflict might actually give the Fed a bit of a reason for inflation running hot."

UPDATE (Feb. 24, 15:49 UTC): Updates bitcoin price in third paragraph.