On July 1, 1944, economic envoys of 44 countries or governments convened the United Nations Monetary and Financial Conference in Bretton Woods, New Hampshire, USA. It was this conference that established the dollar-centric international trading system.
It wasn't until 1971, when President Nixon brazenly announced the decoupling of the dollar from gold, that the Bretton Woods system collapsed. Soon, the dollar began to bind to the settlement of global oil trade, and the petrodollar was born. After that, the US dollar gradually evolved into a currency secured by the credit of us Treasury bonds, behind which was the endorsement of US sovereign credit and economic strength.
The Jamaican monetary system continues to this day, giving the dollar hegemony to the world, while the United States has reaped round after round of global wealth. One of the most important weapons is the US dollar, and the way is to raise interest rates and cut interest rates.
In 1988, the Federal Reserve very accurately and sharply raised interest rates, bursting the Japanese stock market bubble, triggering the Asian financial crisis, harvesting Japan's huge wealth, and then the Japanese economy collapsed. Before 2000, the Fed brazenly raised interest rates and directly burst the Internet Century bubble. Before the subprime mortgage crisis, the Fed began raising interest rates for two consecutive years in 2005. Before the 2018 stock market crash, the Fed raised interest rates a total of 8 times in 2017 and 2018, and opened the balance sheet reduction killer in 2018. All in all, almost every major turbulence and crisis in the financial market is inseparable from the Fed's interest rate hikes.
At 2:00 a.m. Beijing time on March 17, the Federal Reserve officially announced the opening of the prelude to interest rate hikes. This can't help but make us alert, the dollar raised the harvest scythe again? Or is this time different from past rate hike cycles?
Now, it's time to think hard about the Fed's move to raise interest rates.
01
A strong economy?
At the press conference after the meeting, Fed President Jerome Powell stressed that the US economy is very strong and it is appropriate to continue to raise interest rates. Some analysts predict on this basis that the US economy will have a soft landing, and stagflation and recession will not exist.
But is what Powell said true? Or is it deceiving the market?
At the rate meeting, the Fed cut the US GDP growth rate in 2022 sharply to 2.8% from 4% in December. In less than 3 months, the GDP growth rate has cut by 30%, which is surprising!
Currently, the proportion of institutional investors to a stronger global economy, including the United States, has plummeted to a new low since July 2008 (February before lehman Brothers went bankrupt).
Expectations for a "stagnant" U.S. economy have now jumped to 62 percent, the highest level since September 2008 and up from 30 percent in the February survey. The survey was conducted by Bank of America on 341 practitioners of institutions with asset management of more than $1 trillion.
How does the bond market view the U.S. economy?
The current 5- and 7-year yields have been inverted from the 10-year treasury yields. The basis point between the 2-year and 10-year periods has plummeted from more than 90 basis points at the beginning of the year to about 24 basis points at present. This is a relatively reliable leading indicator of the US recession, and every inversion since the 1980s, the US recession will follow in an average of about 6 months.
The Fed has extensively removed the description of the epidemic and replaced it with a Russian-Ukrainian conflict. But in any case, the covid-19 pandemic will squeeze medical resources, have an impact on stable supply chains, and the impact and impact on the economy is real.
In addition, the Fed is forced to close the water sharply due to high inflation, which will "cool" the economy. Due to the massive fiscal stimulus and massive monetary stimulus ($5 trillion in balance sheet expansion) in the past two years, economic growth has not performed well, falling into a "liquidity trap" – an average GDP growth of 1% in two years, which is much lower than the average performance in the 10 years before the epidemic. Once the pace of water harvesting begins this year, highly indebted economies will be overwhelmed, and it may not be realistic to achieve high growth.
There is also high inflation, which directly threatens economic growth. According to the law of demand, high inflation suppresses demand, and the longer it lasts, the greater the decline in demand. And once hyperinflation is expected, U.S. consumption will shrink sharply. In fact, U.S. inflation is evolving toward double-digit hyperinflation.
All of these signs suggest that the U.S. economy is deteriorating and even heading into a recession cycle. But why would Powell be ashamed to say that the U.S. economy is so strong that it can support continuous interest rate hikes. Is this the same as the vows of "inflation is only temporary" several times in the past?
02
The curtain of the hike
On March 16, the Fed hinted that it would raise interest rates seven times in a row during the year, with a target rate of 1.75%-2% by the end of the year. With this target, rates will be raised by 75 basis points in May and June, with one rate hike of at least 50 basis points. In addition, the Fed also made it clear that it will start to shrink its balance sheet as soon as May.
The Fed is hawkish and no longer a promise. With such an aggressive monetary turn, isn't the Fed at all worried about crushing financial markets?
In the last round of interest rate hike cycle, the Fed can be said to be cautious, afraid of making a mistake. From the subprime mortgage crisis in 2008 to 2015, the dollar water release cycle lasted for seven years, and the balance sheet expanded from 900 billion to 4.5 trillion. After that, the water collection process is very slow. After the first rate hike in December 2015, it stood still in 2016, four in 2017 and four in 2018.
In 2018, the Fed opened the balance sheet reduction killer, and the US stock market began to collapse. Interest rate hikes affect the cost of funds, have a large impact on the bond market, and have a lag in the impact on the stock market. The reduction of the balance sheet is directly the "amount" is small, and the liquidity is withdrawn, which has a very direct impact on the financial market.
But this time the Fed changed dramatically.
From March 2020 to November 2021, the Fed's balance sheet soared from $3.9 trillion to $8.9 trillion, taking one year and eight months. The last round of water release cycle lasted for 7 years. As for the rhythm of water collection, the Fed is expected to raise interest rates 7 times this year, and the interval between balance sheet reduction and interest rate hikes is only about 2 months, while the last time was 2 years apart.
Obviously, the last round of interest rate hike cycle was a "slow turn", while the current round is a rather intense "sharp turn". It's like a sports car on the road, and it's easy to roll over after slamming on the accelerator and slamming on the brakes.
Some people have to say that the Fed is also forced to accelerate interest rate hikes and balance sheet reductions. This statement is not wrong, but the Fed can obviously "slow down the turn". Inflation was very strong last year, soaring to 2.6 percent as early as Last March, exceeding the 2 percent inflation target set. It is clear that the pace of interest rate hikes that can be slowly started last year has lasted for nearly a year to deceive the market that "inflation is temporary".
By now, inflation has gone to 7.9%, and there are clamor for a sharp and sustained interest rate hike to control inflation and to learn from Walker. So why did you go earlier?
In the two years since the outbreak of the epidemic, the Federal Reserve has frantically released water without restraint, the water has flooded the golden mountains, the global stock market, the property market, and commodities have soared wildly, and the bubble has hit a record high. After New Year's Day this year, the Federal Reserve suddenly changed its face, frantically issued interest rate hikes, balance sheet reduction remarks, and the United States arched the War between Russia and Ukraine, and the global financial market fell into violent turmoil.
The Fed has always declared that our monetary policy anchors two major indicators – inflation and unemployment. But in fact, many times they did not do what they promised, but used interest rate hikes and cuts as a "weapon" to harvest global wealth.
This time, we have to guard against the Fed puncturing the global asset bubble with a violent rate hike and balance sheet reduction that exceeds market expectations. Once so, the Fed will surely open a big release again, and the big capital interest groups will take the dollar to copy the high-quality assets at the bottom of the cabbage price.
This has been played many times in the past, will this time be different? Personally, I think it will be difficult.
However, there is also a relatively extreme possibility that the Fed is ostensibly hawkish and then finds various reasons to delay the number of rate hikes or even not raise rates. In this case, wouldn't global risk assets still climax to themselves?
Here is a basic set of formulas: nominal interest rate (10-year Treasury yield) = real interest rate + inflation expectations. Since the latter two cannot be directly observed, in practice, the nominal yield of inflation-preserving bonds (TIPS) is often used to measure the real interest rate of the United States, and the difference between the nominal yield of treasury bonds and the TIPS yield of the treasury bond of the same maturity is the breakeven inflation rate (BEI), which is regarded as the implicit inflation expectation of the market.
On March 14, U.S. 10-year break-even inflation rose to 3 percent, a new 1998 high. The data reflects the average annual increase in consumer prices that the bond market considers over the next 10 years. The current yield on the 10-year Treasury note is 2.17%, indicating that the real interest rate is still negative.
If the Fed delays interest rate hikes and superimposes supply chain disruptions, U.S. inflation will continue to rise, which will lead to higher inflation expectations, which in turn will lead to a rise in nominal interest rates. Simply understood, as long as the inflation rate rises, it actually plays the role of "automatic interest rate hike in the market", which will also have an impact on the financial market.
However, the latter is less likely. What we should worry about is that the former has closed more than expected and punctured the global asset bubble.
The next fed rate meeting is on May 4. Prior to this, the interest rate hike is in a quiet period, the superimposed situation in Russia and Ukraine may slow down, and the global stock market is likely to take a good bottom-reading rally. But that's no reason to be optimistic about this year.
03
End
The reason why the US dollar is recognized as the world's reserve currency, after breaking away from the credit of gold, is more dependent on global trust in the United States and the existing financial system.
But the Russian-Ukrainian war changed this base of trust. Central banks such as Europe, the United States, Japan and Canada have joined forces to sanction russia's central bank and freeze its foreign exchange reserves of more than $600 billion. Russia's central bank watched the ruble plummet 30 percent a day against the dollar, unable to intervene and save its currency through its foreign exchange reserves.
Former Fed official Zoltan Pozsar recently released a report, Bretton Woods III, which said that after the United States and its allies froze (confiscated) Russia's foreign exchange reserves, Bretton Woods II (the Jamaican monetary system) has begun to disintegrate because the foundations of trust have collapsed.
The United States can take advantage of the trust of the countries of the world to collect seigniorage taxes through the endless release of water from the US dollar, harvest the wealth of other countries round after round through the US dollar interest rate hikes and interest rate cuts, and also use its hegemonic position to suppress and sanction other countries. Things will be reversed, which will eat back the hegemony of the dollar. After Saudi Arabia refused to accept Biden's call, a few days later came out the blockbuster news:
The major changes that have not occurred in a hundred years have been selected as the top ten hot words of the year in 2021. What do you mean? Baidu Encyclopedia shows that the current international pattern and international system are undergoing profound adjustments, the global governance system is undergoing profound changes, the international balance of forces is undergoing the most revolutionary changes in modern times, and the world has shown a major trend affecting the process and trend of human history.
In my opinion, the dollar interest rate hike may be one of the landmark events of the big change, which is enough to arouse investors' attention and thinking.