The cryptocurrency market is a highly cyclical market, and studying the macro economy can help us better understand the future trends of the market. By studying the macro economy, we can understand important information such as the general trend of the global economy, the policy orientation of various countries, and monetary policy. This information can help us better predict and grasp the cyclical changes in the market.
I am also constantly learning. I know the facts but not the reasons for many things, so I write down my study notes. Macroeconomics is a complex system, and everyone's interpretation may be different. So I hope that my ideas and thoughts can be discussed and learned by everyone, and I can gradually clarify my own ideas through output.
In my limited personal understanding, we are in a bear market cycle of liquidity tightening after the Fed's continuous interest rate hikes and balance sheet reduction, and this year is accompanied by several relatively large risks. After consulting with Mr. Samo, I am more concerned about three things: the long-term risk of economic recession caused by the highest inversion of U.S. Treasury yields in 40 years (which may happen at any time) and the short-term risk that the Japanese yen may end its ultra-loose monetary policy and the U.S. debt ceiling dispute will end and the issuance of additional treasury bonds will withdraw U.S. dollar liquidity (which may be the fuse).
First of all, there is the inverted yield curve of U.S. Treasury bonds. What is the inverted yield curve of U.S. Treasury bonds?
An inverted yield curve is when the yield on short-term U.S. Treasury bonds is higher than the yield on long-term U.S. Treasury bonds. Normally, the yield on long-term Treasury bonds should be higher than the yield on short-term Treasury bonds because long-term investments usually have higher risks and investors need higher returns to compensate for these risks. However, in some cases, this relationship will reverse, resulting in an inverted yield curve.
However, I do not intend to spend too much space on why the U.S. Treasury yields are inverted. I will write about it separately when I have the chance. The most important thing to pay attention to is that in history, the phenomenon of U.S. Treasury yields inverted almost always occurs before an economic recession, such as the U.S. economic recession in the 1980s, the Internet bubble in 2000, the financial crisis in 2008, the COVID-19 pandemic, etc. At this moment, we are in the period with the highest interest rate inversion in 40 years.
The following figure shows the spread between the 3-month and 2-year U.S. Treasury yields and the 10-year term. It can be clearly seen that interest rate inversion occurred before several economic recessions. The current situation is that there is a sword hanging over our heads that may fall at any time, so everyone should be vigilant.
Data source: https://sc.macromicro.me/charts/46/bonds-rate
Under the background of understanding the signals of economic recession, in the short term, the possible end of the ultra-loose monetary policy of the Japanese yen and the end of the dispute over the US debt ceiling, which will lead to the withdrawal of US dollar liquidity, may make the sword hanging in the air fall. So what impact may these two events have on the global financial market?
First, the background of Japan's implementation of super-loose monetary policy is long-term economic stagnation and deflation. Since the early 1990s, Japan has been struggling with the so-called "lost decade", a period of low growth, low inflation and high debt levels that lasted for decades. In order to stimulate economic growth, increase inflation and increase employment, the Bank of Japan has adopted a series of super-loose monetary policy measures, including lowering interest rates, implementing quantitative easing (buying large amounts of bonds to increase money supply) and yield curve control (YCC).
This ultra-loose monetary policy has helped Japan avoid a serious economic recession to a certain extent, but the long-term low interest rates have also put pressure on Japan's financial system, especially affecting the profitability of long-term investors such as banks and insurance companies. Although the Bank of Japan and the government have taken a series of stimulus measures, such as interest rate cuts and quantitative easing policies, it is still difficult for the inflation rate to stabilize at the government's target level of 2%. In fact, Japan's inflation rate has rarely approached or reached this target in the past few decades. This has forced the Bank of Japan to continue to adopt loose monetary policies to stimulate economic growth and inflation, which shows that it is difficult to achieve inflation targets by relying solely on ultra-loose monetary policies.
Data source: https://zh.tradingeconomics.com/japan/inflation-cpi
This year, Kazuo Momma, former head of monetary policy at the Bank of Japan, said that Japan may cancel the yield curve control policy (YCC). The YCC yield curve control policy refers to the central bank intervening in the bond market to control the yield of government bonds of a specific term around the target level. In simple terms, it can be understood as easing. Its main purpose is to ensure financing costs and economic growth in a low interest rate environment.
Since 2016, the Bank of Japan has been implementing the YCC policy to maintain the 10-year government bond yield at around 0% to stimulate Japan's long-term sluggish economic growth. The current shift in Japan's monetary policy is also due to the pressure on global financial markets caused by the banking crisis in the United States and Europe (such as the collapse of Silicon Valley Bank), and its fundamental purpose is to stabilize Japan's economy and inflation.
However, the interest rate hike for the Japanese yen may also increase financial risks such as the collapse of Silicon Valley Bank. The tightening policy will lead to an increase in the interest rate of the Japanese yen, which will indirectly lead to a decline in Japanese yen bonds, resulting in unrealized losses for banks. If you want to know more details, you can read the interpretation of the collapse of Silicon Valley Bank by Spinach.
On the other hand, I will not elaborate on the background of the dispute over the US debt ceiling. We only need to understand that the continued issuance of US debt will lead to an increase in the supply of the Treasury market, which will in turn push up the US Treasury yield. The rise in US Treasury yields will attract more investors to buy US Treasury bonds, thereby draining US dollar liquidity from the market.
Combining these factors, a simple understanding is that the current U.S. Treasury yield inverted to a 40-year high is facing the risk of economic recession, and this year Japan's end to loose monetary policy and the U.S. debt ceiling dispute will lead to further tightening of global liquidity and uncertainty. For the crypto market, the risk asset market will be very enthusiastic when liquidity is flooded, and will be more decadent when liquidity is tight. In my understanding, this is the so-called bull-bear cycle with the tide of the U.S. dollar, and from the current total amount of stablecoins, the funds of the entire market are still in a trend of continuous outflow. Therefore, my personal view on this year is to be cautious and be ready to deal with the explosion of the fuse at any time. There may be a good price point (not an investment suggestion)
Data source: https://defillama.com/stablecoins
The reason why I want to write this study note is because I saw such news in the group today. Because I don’t know enough about macroeconomics, I was a little confused at that time. According to simple logic, Japan’s end of loose monetary policy means that the Bank of Japan will reduce its purchase of government bonds, raise interest rates, and may shrink its balance sheet, and these measures should lead to the appreciation of the yen. According to simple logic, the end of loose monetary policy will obviously lead to the appreciation of the yen, but why are the longs of the yen retreating?
First of all, the relationship between monetary policy, exchange rate and interest rate is not a simple linear relationship, but is affected by many factors, such as economic growth, inflation, policy duration, market expectations, etc. We cannot judge it with simple logic. From the perspective of market expectations, there is a reason why Kazuo Ueda chose the new central bank governor instead of the deputy of former bank governor Haruhiko Kuroda, which is to end Japan's loose policy (this view comes from the video https://www.youtube.com/watch?v=bDQjNMx4MMM), but in order to prevent excessive market fluctuations and avoid triggering a systemic crisis, Kazuo Ueda is still playing tricks and fooling the market that the Japanese government will maintain looseness, and YCC has not really ended, and the possible tightening policy will lead to the appreciation of the yen. This is the logic that everyone can see, so in this case, the market's expectation that Japan will actually adopt a tightening policy may lead to a depreciation of the yen.
Another possible factor is that sometimes tightening policies are forced to be adopted to ease the collapse trend of currency depreciation. This is similar to the implementation of loose policies during economic recessions, which is intended to slow down the stock market crash. In this case, tightening policies cannot guarantee the stability of the yen, but may accelerate the depreciation of the yen.
Secondly, complex factors such as inflation, interest rates, economic growth, and international trade will affect the trend of exchange rates, making the macroeconomic system very complicated. Therefore, it is difficult to predict the future trend of the yen based on the single factor of canceling YCC.
Therefore, we have deeply felt the complexity of the macro-economy and the real market. It is difficult to analyze specific trends based on simple logic alone. There is still a long way to go in learning. For us leeks, it is difficult to find certainty in a complex market environment. However, learning some macro knowledge, understanding the cyclicality of the industry, and knowing when to enter the market are very important for us to participate in the entire encryption market.