Blue-chip crypto assets including bitcoin (BTC) and ether (ETH) have had a very nice 2023 so far, with BTC up roughly 36% since the New Year and ETH up close to 30%. There’s growing reason to think that “the bottom is in” for crypto markets, and some macroeconomic data suggests this year will be much brighter for the sector than 2022’s 50-car pileup of scams and catastrophes.

That’s probably the most compelling argument for the crypto bottom: that bad actors and the consequences of their contagion-spreading leverage plays have been flushed out. Certainly on an emotional level, getting rid of the likes of Alex Mashinsky, Do Kwon, Three Arrows Capital and Sam Bankman-Fried feels like the chance for a new beginning.

That new beginning, crucially, is starting from a stronger baseline thanks to the wave of COVID-19 pandemic-driven education and enthusiasm, despite the wave of frauds that closed out the last bull. Bitcoin hit a local bottom of just under $16,000 back on Nov. 9, 2022, which, despite the huge drawdown from late 2021 highs, was still 66% up from prices as recently as September 2020.

That’s a lesson well worth learning – crypto assets have continued their decade-plus trend of steady, though volatile, growth. While there are some significant regulatory risks on the table this year, that basic trend appears to be continuing, minus the spike of 2021’s mania and the leverage-thirsty grifters who rode it into oblivion.

America’s soft landing (maybe?)

Still, while getting rid of scammers should mean we’ve cleared some major downside tail risks, it hardly amounts to grounds for a new crypto bull market. Instead, what will matter most over the next year are macroeconomic conditions, particularly the impact of inflation and interest rates on crypto and other risky assets. (Though as we’ll get into, that dynamic itself may be a primrose path to disappointment.)

The inflation picture is complex worldwide, but the current rally in BTC and ETH seem to reflect a rising sense that America specifically is on a path to not only whipping inflation, but maybe even to a “soft landing” that stops inflation without crushing jobs.

Observers in 2022 seemed to have fully given up on the “transient inflation” thesis that Chair Jerome Powell and the Federal Reserve tried to sell back in 2021. But arguably, in retrospect, inflation has proven pretty transient, driven at least as much by supply chain and commodity disruptions as by the base money supply. U.S. inflation has now fallen for six straight months.

The month-over-month numbers for December are particularly upbeat, with the consumer price index (CPI) actually dropping by 0.1% on the month. Some household essentials are even undershooting the Fed’s 2% inflation target, with grocery prices rising at just 0.2% month over month, and gasoline prices down 9.4% on the month. That’s not enough to erase the steep inflation over the past year-plus, but it does move us closer to a new stable baseline.

That has led to widespread expectations that the Fed will soften its interest rate hiking agenda. The four consecutive rate hikes of 0.75% in 2022 were historically aggressive, but the market has now fully priced in expectations of a gentle 0.25% hike in February, with the chance of no hikes at all in the back half of the year.

It might seem surprising that any hike at all is on the table given that we now have month-over-month deflation, but in fact it highlights another positive data point. The Fed still needs to keep some pressure on simply because jobs numbers are still strong, with the most recent report maintaining historically low unemployment at 3.5%, but also some slowing in wage growth.

That’s nearly a Goldilocks-caliber “just right” in macroeconomic terms, presenting the real possibility of a fabled “soft landing” that brings inflation under control without catastrophically stalling the economy and putting workers in the street. In turn, that’s great news for risk-on speculative assets like crypto.

Euro-China muddling

The situation in Europe is more complicated, as former CoinDesker Noelle Acheson examines in the most recent edition of her newsletter, Crypto is Macro Now. European manufacturing and services indexes for January beat expectations, suggesting the first return to positive economic growth in the zone since June.

But Europe may not be as likely to get a soft landing as the U.S. The European Central Bank, seemingly still concerned about inflation, has signaled a continuation of more aggressive rate hikes in the coming months.

That’s still a far better outlook than in the third big axis of global economic activity, China. The country continues teetering on the edge of something darker than inflation, or even mere recession. First, though COVID-19 infections have now fallen dramatically since the surprise end of “Zero-COVID” lockdowns in December, more disruptive surges seem likely to be in the cards.

Even worse, China still faces an ongoing housing crash that threatens the very foundations of its still-developing financial system. Following a crackdown on indebted and corrupt developers in 2020, housing prices have continued slumping – in fact, the decline accelerated in December. That’s potentially catastrophic, because housing makes up a disproportionate 45% of Chinese household wealth compared to a more typical 25% in the U.S., according to Federal Reserve data. That means declining home prices are very, very bad for Chinese consumption.

China’s fate is not a particularly direct input into crypto markets, given the broad anti-crypto crackdown still in effect there. But its outsized impact on the global economy means it has big downstream implications. Those impacts could include COVID disruptions so severe that they continue to disrupt Chinese manufacturing, possibly making inflation worse globally. On the other hand, a housing-driven Chinese recession could ease global price pressures – but also drag down global growth and economic enthusiasm.

The anti-speculative impulse

Having discussed interest rates and price pressures, I feel compelled to point out the problem inherent in that focus. Crypto investors worried primarily about central bank interest rates are implicitly focused on speculative drivers of crypto price, including rising competition for dollars from safe investments like Treasury bonds.

But it may be time to turn away from that mindset. One version of the 2020-2022 story in crypto is that the early pandemic saw legions of new participants learning about crypto during COVID lockdowns in 2020, which in turn created a speculative mania in 2021 that then popped in 2022.

In a perfect world, we’d have continued curiosity and real user adoption, without the manias or the blowups. Those manias, with their expectations of outsized returns, tend to push speculators towards charismatic hype-men, with their exciting new tokens and promises of outsized returns. 2022 has been a sobering lesson in the extreme risk of following those animal spirits – just ask anyone who was holding LUNA or FTT at this time last year.