- “It is time to adjust policy,” Fed Chairman Jerome Powell said on Friday.
- The interest rate cuts will not be deep – especially not in real terms.
- Issuers of tokenized government bonds do not see the cuts as a major threat.
Federal Reserve Chairman Jerome Powell on Friday essentially confirmed what traders already knew: interest rate cuts are imminent.
Still, companies that offer or rely on tokenized government bonds that benefit from high interest rates need not worry, market participants said. DL News said earlier this month.
According to issuers of tokenized government bonds, this complacency is still prevalent even now that Powell has all but confirmed interest rate cuts.
In the decade before the Fed began raising interest rates to combat inflation, there wasn’t much difference between holding cash and holding Treasury bonds, said Jim Hiltner, head of business development at Superstate DL News.
“Obviously that’s the case, and I think it will continue to be that way,” he said.
Issuers of tokenized government bonds include trillion-dollar asset managers BlackRock and Franklin Templeton, as well as crypto-backed companies such as Superstate.
With assets under management of $93 million, Superstate, founded in January, is the sixth largest issuer of tokenized securities.
“The Federal Reserve has an incentive to continue to create a relatively restrictive environment with relatively high interest rates, but they’re not going to bring them back to zero in the next six months. That’s just not going to happen unless the economy collapses.”
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Mission accomplished?
After the Great Recession, interest rates hovered just above zero for several years. They began to rise during Donald Trump’s presidency, but fell back to near zero when the pandemic hit as policymakers pulled out all the stops to prevent economic catastrophe.
The subsequent recovery was much faster than expected. Combined with ongoing supply chain problems after the pandemic, prices began to soar. The Federal Reserve, whose job it is to balance stable prices and low unemployment, raised interest rates to their highest levels since mid-2007.
The effective federal funds rate – the average interest rate for overnight loans between U.S. banks – reached 5.33% a year ago and has remained at that level since then.
High interest rates hampered DeFi projects whose relatively high risk no longer justified their returns. However, it was a boon for projects investing in government bonds, such as MakerDAO.
Yields on these government securities are over 5 percent – a lucrative and safe way to make money from assets that would otherwise lie idle.
In just a few months, the money invested in projects offering tokenized government bonds has grown from around $750 million in March to over $1.9 billion today, according to data from RWA.xyz, an analytics firm that tracks the tokenization of real-world assets such as government bonds, stocks and bonds.
But the Fed’s strategy has worked – inflation is now just above the 2% target. At the same time, a cooling labor market suggests that a recession may be imminent, forcing the central bank to rethink its strategy.
“The upside risks to inflation have diminished. And the downside risks to employment have increased,” Powell said on Friday at the Fed’s annual meeting in Wyoming.
“It is time to adjust the policy.”
“Epee Mode”
Martin Carrica, co-founder of Mountain Protocol, a stablecoin issuer that used tokenized government bonds as collateral – and passed the yield on to stablecoin holders – isn’t too worried about what lower interest rates will mean for his business.
“5% is clearly better than 2%,” he said DL Newswhich refers to the yield that Goldman Sachs’ savings account offered when it grew to $100 billion in user deposits. (Goldman’s Marcus now offers an interest rate of over 4%.)
“For me, the key issue is how much money can be made with ‘play money’ (e.g. token incentives) (compared to) how much income-producing assets can contribute,” Carrica said.
“If you can lend USDC and get 6% APY kicker on token XYZ, why choose (Mountain’s) USDM?”
While high-risk, high-reward DeFi returns are becoming more attractive as interest rates fall, Hiltner said he is still not afraid of competition from the unregulated wastelands of the crypto economy.
“Maybe you’re a retail trader or a degenerate who doesn’t want to get into a regulated security. You can get 4.91% on USDC by lending it on Aave,” he said.
“It’s for a certain audience. It’s not for everyone. There are large institutional hedge funds with hundreds of millions of dollars that say, ‘Yeah, we love that USDC is at 8%, but I have no interest in it.'”
Moreover, as interest rates fall and people go into “degeneration mode,” winners will want to invest their gains in cash — or better yet, in yield-producing cash equivalents like tokenized Treasury bonds, Hiltner said.
“For lack of a better term, this is a good stopover for (investors) to park capital so it doesn’t go zero and drag down returns,” Hiltner said.
Even if the Fed starts cutting rates, “real” interest rates could remain stable or even rise, according to crypto research firm Kaiko.
“A reduction in interest rates does not necessarily mean an easing of monetary policy,” the company said in its latest research note.
“If the Fed cuts nominal interest rates but inflation falls at the same pace or faster, real interest rates (that is, nominal interest rates adjusted for inflation) could remain stable or even rise.” In fact, producer price index-adjusted interest rates “have risen moderately this year, even though the Fed has left nominal interest rates unchanged,” Kaiko said.
Aleks Gilbert is DL News‘ DeFi correspondent based in New York. You can contact him at [email protected].