The Federal Reserve is widely expected to cut its benchmark interest rate this week for the first time in four years, leaving investors guessing about the size of the cut and its potential impact on risk assets including bitcoin.

Rate traders have adjusted their expectations and are now betting that the Fed will announce a 50 basis point rate cut at Wednesday's Federal Open Market Committee (FOMC) meeting, rather than a more conservative 25 basis point cut. The probability of a 50 basis point cut has climbed to 65%, surpassing the 35% chance of a 25 basis point cut, according to the CME FedWatch tool. A few days ago, the market gave two-thirds odds that the rate would be cut by 25 basis points and one-third odds that it would be cut by 50 basis points.

One analyst said that if the Federal Reserve decides to cut interest rates by 50 basis points, risk asset markets, including Bitcoin, may react positively.

“Today’s relatively strong Empire State Manufacturing report suggests that if the Fed cuts rates by 50 basis points, the market reaction could be positive, as this particular leading indicator suggests that underlying economic momentum may even accelerate in September, implying some kind of early ‘Goldilocks scenario’ with low inflation and stable growth coupled with stimulative monetary policy,” André Dragosch, head of European research at Bitwise, told The Block.

Some recent economic indicators have shown mixed signals. Business activity in New York State grew for the first time in nearly a year, with shipments surging, according to Monday’s Empire State Manufacturing Survey. However, employment within the state continued to decline.

“Despite weak capital spending plans, businesses have become more optimistic that conditions will improve in the coming months,” said Richard Deitz, economic research adviser at the New York Fed.

That suggests that while some parts of the economy are recovering, the labor market and business investment remain under pressure - factors the Fed is likely to take into account in its interest rate decisions.

Expectations of an upcoming rate cut could boost Bitcoin

Rate cuts tend to boost valuations of risky assets, but according to Dragosch, it’s more the anticipation of further rate cuts — rather than the cuts themselves — that could boost Bitcoin and could lead to continued price appreciation in the coming months.

“I think the market will be driven more by expectations of rate cuts than rate cuts themselves in the coming months,” said Bitwise’s head of research.

According to the analysts, the demand for further rate cuts could be driven by recessionary indicators currently plaguing the U.S. economy, such as slowing job growth. “Expectations for further rate cuts are likely to intensify due to the weak U.S. economy and impending recession, which we expect to be a net positive for Bitcoin and crypto assets,” Dragosch said.

Despite the current expectations for rate cuts, Dragosh believes the Fed may still be behind the curve in its efforts to achieve a soft landing for the U.S. economy. Dragosh pointed to the Taylor Rule, a popular interest rate model, which suggests the Fed should have already cut rates by at least 150 basis points.

“That’s based on core PCE inflation and the U.S. unemployment rate, which we know will continue to deteriorate in the coming months based on the more forward-looking indicators,” Dragosch said.