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BitMEX Founder: Don't short the entire crypto market

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If you believe that the Fed's balance sheet will grow exponentially from today's level, then short-term volatility in the cryptocurrency market is irrelevant.

原文标题：《 BitMEX 创始人：以史为鉴，为什么做空整个加密市场是愚蠢的》

原文作者： BitMEX 创始人 Arthur Hayes

It's raining, Babbitt

For those of you with a Bloomberg terminal, run Farbast Index. This is a million-dollar index of the Fed's balance sheet, updated weekly. I've been talking about this all the time, but the number and its trajectory are the only things that matter. If you believe that the Fed's balance sheet will grow exponentially from today's level, then short-term volatility in the cryptocurrency market is irrelevant.

To be clear, two things have been critical to my overall bullish view on macro cryptocurrency market capitalization.

• 美国政府将开始实施名义 GDP 目标，由美联储购买国库券、票据和债券提供资金。因此，美联储的资产负债表将高于今天。

• 去中心化金融（DeFi）将积极分散由中央金融服务机构执行的许多寻租活动。由于更便宜的费用和更具包容性而节省的资金将流向最终用户和持有代币的人。

The rapid growth of the first point has driven the acceleration of the second point.

Self-continuation and growth are two universal constants in assessing the potential behavior of an organism or of a civilization as a collection of human beings. Most modern societies have an underlying assumption of infinite growth. Look at how we price stocks.

The value of the stock is the discounted flow of all future cash flows. The ultimate value assumes that the company continues to exist and grows forever. This is obviously empirically wrong, but we plug it into our fantasy model anyway. So my first assumption is that growth is preferred and assumed. The problem is cost. There are many ways to achieve growth, and one of the most effective ways at the national level is to borrow in nominal terms to achieve GDP targets.

To fully understand why I'm so confident that the Fed's balance sheet could be 10 times larger in the short term, I'll compare how the United States responded to the aftermath of World War II with how it responded to the aftermath of COVID-19. The political and economic dilemma has always been, "How does a country survive a devastating crisis?"

I spend a lot of time talking about monetary policy in the US, rather than the basic advantages of a decentralized monetary and financial system over the parasitic, centralized system that currently dominates. We live in a world of dollars. As anyone who reads his white paper will understand, the financial crisis of 2008 and the response of all the major central banks is one of the reasons Mr Nakamoto believes better things can be created. Thus, appreciation and confidence in the world's most important financial institution, the Federal Reserve, will make any speculator shrug off a 30-50 per cent drop on the day, knowing that a tsunami of money printing in less than a decade will take the combined market value of cryptocurrencies to unimaginable levels.

Before we go back to 1939, take a look at this. Because of the huge fiscal stimulus the United States enacted to combat COVID, net federal spending is 31 percent of GDP in 2020. This allows the US government, as an independent entity, to become the third largest economy in terms of global GDP in 2020 -- behind the US private sector and China. The great thing about any big central government is that they collect a lot of statistics. You can't manage what you can't measure. So a wealth of statistics during and after World War II allowed anyone with an Internet connection to access it.

Let me make it easier for TikTok users to understand; I know that the first sentence I wrote probably put you off reading, but I hope you've got two minutes of attention right now:

1. What happened after World War II

• 为了支付第二次世界大战支出的费用，美国政府借了钱。为了降低资金成本，美联储购买了足够数量的债券来固定货币价格。长尾固定在不大于 2.5%。

• 结果，美联储的资产负债表从 1939 年到 1946 年增长了 11 倍。

• 在高峰时期，美国债务占 GDP 的比率达到 110%；为了通过通货膨胀来消除为赢得战争而产生的债务，美联储继续固定国债曲线的价格，直到 1951 年的货币协议，当时美联储重新独立于财政部。

• 不幸的是，平民被禁止私人拥有黄金，因此他们遭受了严重的负利率和高通胀。除了政府债券和股票，他们无处可投资。

• 到 1951 年，美国政府成功交付资产负债表，将债务 / GDP 比率从 110% 降至 70%。现在美联储允许自由市场在美国国债市场再次运作。

2. What Happens After COVID

• 2020 年，与 COVID 的战争导致美国 GDP 出现二战以来的最大降幅。

• 作为应对，由共和党领导的美国政府在美国历史上花费了最多的资金。

• 美联储虽然没有对国债曲线进行明确的定价，但购买了 2020 年发行的所有国债的 55%。这导致其资产负债表在 2020 年增长了 76%。

• 到 2020 年底，美国债务与 GDP 之比达到了 130% 的历史新高。

• 民主党上台后，就像共和党人一样，迅速制定了几万亿美元的支出票据，并承诺做得多。

• 美国现在是一个双赤字国家；它的支出大于税收（财政赤字），进口大于出口（负资本账户）。

• 美国两党政客都直言，政府必须积极扩大财政支出以纠正过去的错误，并确保劳工在 COVID 之后得到保护。

• 外国人不会等着眼睁睁地看着他们价值 7 万亿美元的美国国债大幅缩水，而且净购买了 2020 年发行的国债的 8%，而购买了 2002 年至 2019 年发行的所有国债的 42%。

• 政治上唯一可以接受的选择是通过美联储的货币印刷来支付激进的财政支出。

• 值得庆幸的是，到 2021 年，我们有了加密资本市场，这不是某些政府机构或中央银行的目标。

• 虽然美联储创造的数十万亿美元不会全部流入加密货币，但其中一些会流入——而且由于加密货币不受阻碍，它可以上升到允许持有者在面对货币通胀时保持购买力的水平。

My research assistant and I have been trying to create informative diagrams to bring this hypothesis to life. Buckle up, get ready for a cup or a cup of kombucha, and let's fall in love with macroeconomic statistics. When you're done, I hope you have more confidence in your crypto portfolio and maybe you'll buy the dips, buy the dips, buy the dips...

War = Inflation

War is a terrible thing. It's even worse when you, as a taxpayer, have to pay directly. This is why the government would rather adopt an implicit inflation tax than actively raise taxes to pay for the war. People can become a little too pacifist, leading to objections to the use of their tax money.

Although certain taxes were raised to pay for America's participation in World War II, like all governments before and after, they chose to borrow money to pay for the war. I will quote extensively from the February 2020 working paper of the Federal Bank of New York entitled "Managing the Treasury Yields Curve of the 1940s" (the following italics are from this paper).

When the United States decided to go to war after Pearl Harbor in 1941, they had to figure out how to pay for the huge costs of fighting. Remember -- the government spends, and the Treasury sells bonds to pay for that. As always, you want to pay as little interest as possible when you borrow money. The Treasury politely asked the Fed to create excess bank reserves for the sole purpose of supporting its bond issuance.

Before world war I:

The FOMC is not trying to manage the level of reserves or the level of interest rates. Open market operations are limited to maintaining an "orderly market" for Treasuries and typically involve maturity conversion rather than outright purchases or sales.

But then the Treasury asked the Fed to help them set the price of the money, because the general public would not accept such a low interest rate to help the U.S. government fund the war effort:

A bill rate of ⅜% does not have the same widespread support. Before the first big wartime financing -- a $900 million 2.5 percent 25-year bond issue in May 1942 -- Treasury officials asked the Federal Open Market Committee to commit to maintaining adequate excess reserves. They hope to rely on pressure from excess reserves to boost demand for bonds.

Footnote:

Marriner Eccles, the council's president, noted a few months ago that "if present forms of funding continue substantially... it will be necessary to create large amounts of excess reserves in order to put banks under pressure. Buy government securities." Federal Open Market Committee minutes, March 2, 1942, p. 4.

The Treasury wants to borrow money very cheaply. You're dragging us, the Fed, screaming into a policy where we have to buy an unlimited amount of bonds in order to fix the price at the level that you, the Treasury, want. As a result, our balance sheet will explode.

From 1939 to 1946, the Fed's SOMA balance swelled more than tenfold as it fulfilled its patriotic duty to fix the price of money at the behest of the Treasury. On top of that, the interest rate on long-term bonds is fixed at 2.5 percent.

This chart makes it clear that the public does not want to borrow from the US government at artificially low prices. Unfortunately, as early as the 1930s, President Roosevelt banned private ownership of gold. This traditional inflation hedge, which is thousands of years old, is not available.

I roughly define the real interest rate as the interest rate on long-term bonds minus the year-on-year growth rate of nominal GDP. Any government can stimulate economic activity by printing money. If it pays an interest rate lower than the GDP growth generated through debt financing, it gains while holders of its public debt suffer. Every "economic miracle" of the four Asian tigers after the second world war was attributed to its financial suppression of savers and its diversion of cheap finance to heavy industry. That's why China was able to grow so fast from 1980 to now. The hard part is the benefit of getting yourself out of debt.

As we have seen, anyone who saved through deposits in the banking system or by holding US Treasury bonds was hollowed out by severely negative interest rates so that the US could withstand the war. There's really nothing you can do - either put your savings in the bank or buy bonds. Stocks are still recovering from the Great Recession. From 1939 to 1951, the Dow Jones Industrial Average fell 4.6%. There is no way out of the financial repression imposed on savers.

This monetary inflation does percolate into actual goods and services. From 1939 to 1951, the CPI nearly doubled.

I hate inventory flow ratio (STFU), but it's popular, so I'll use STFU and use it in my analysis. The chart shows that America's balance sheet was sacrificed to fight the war.

Even after hostilities ended, the Fed continued to fix the price of money. The US emerged unscathed from its physical infrastructure and rebuilt Europe. GDP growth has soared. Interest rates don't. The result is a deleveraging of government balance sheets.

The Fed finally regained its independence in 1951. They did their patriotic duty and were allowed to pursue an independent monetary policy.

The stalemate lasted until mid-February 1951, when Snyder was hospitalized and left Assistant Secretary of State William McChesney Martin to negotiate the so-called Treasury-Federal Reserve Agreement. On Saturday night, March 3, 1951, Treasury and Federal Reserve officials announced that they had "reached full agreement on debt management and monetary policy to further their common objective of ensuring the successful financing of the government's needs and, at the same time, minimizing the monetization of public debt." 51 Alan Meltzer (2003, p. 712) concluded that the agreement "ended a decade of inflexible interest rates" and was "a major achievement for the country".

I like this quote very much:

Alan Meltzer (2003, p. 712) concluded that the agreement "ended ten years of constant interest rates" and was "a major achievement for the country".

We kept the price of our money artificially low to help the government pay for the war with a hidden inflation tax.

Fortunately, the US has the innate physical and natural capital to pursue such a blatantly inflationary monetary policy without any social unrest. That's because the US has a very strong domestic manufacturing base that can feed itself and has the industrial goods it needs to produce real goods at home. As the expansion of the money supply led to rampant inflation in real goods and services, most countries with warlike payment policies were in social chaos. That's because most countries have not been blessed by nature.

Britain only paid off its WWII debt to the US in 2006. It took them nearly six years to fully pay for the war. It took the United States only five years -- from 1946 to 1951 -- to significantly inflate the cost of the war. That's the beauty of being the world's reserve currency.

The key lessons to remember as we transition into the present tense are as follows:

• 参加战争是昂贵的，政府宁愿通过通货膨胀间接征税，也不愿通过工资和资本税直接征税。

• Central bank independence is an illusion. When the domestic agenda calls for central banks to print money to lower the government's borrowing costs, they will always follow orders. In order to deleverage the government's balance sheet, the government must be able to borrow at a cost less than the increase in nominal GDP created by the expansion of debt.

• 阀是中央银行的资产负债表，因为它必须根据需要增加多少，以吸收公众拒绝以政府人为压低的利率购买的政府债务。

• 这种货币通胀将体现在金融资产和实物商品上。

4.COVID-19 Forever War

According to official statistics, 600,000 Americans have died from COVID-19 in the past two years or so.

About 400,000 Americans died during World War II. All human life is precious, but for a domestically elected politician, it is those who die within sharp lines that matter most.

COVID-19 is already more devastating than World War II in terms of loss of life. This is further proof that pandemics cause more human suffering and slaughter than wars. This is why policy responses to a pandemic can easily outpace war.

Modern cities bear witness to the impact of infectious diseases. Water, sewer systems and building codes all changed dramatically or were introduced in the 19th and 20th centuries to combat infectious diseases that flourished when people lived in close proximity to each other.

The GDP decline in 2020 is the largest since World War II, and the budget deficit set to combat COVID is the highest since World War II. In the name of COVID, anything is possible now, not least because the outbreak of the pandemic has accelerated trends that are already taking place.

A paid game

Let's start with an analysis of how the US government will pay for the huge fiscal spending set for 2020.

Because of its status as the issuer of the global reserve currency, the US is in a unique position in terms of its financing options. Most trade is denominated in dollars, so the goods of net exporters are denominated in dollars. Unless they want to drive up the value of their currencies by selling dollars and buying their own, surplus countries must buy dollar-denominated financial assets. The US must have an open capital account to fulfil its role as issuer of the global reserve currency. Most countries do not want foreigners to buy any kind of financial asset, especially domestic property. That is why major economic powers such as China and Japan refuse to assume the role of reserve currency issuers. They are quite happy with closed or semi-closed capital markets.

Traditionally, due to their liquid and supposedly risk-free nature, overproductive countries have recycled their export earnings into US Treasury bonds. The Treasury Department releases Treasury International Capital (TIC) data every month. It aggregates detailed information about who owns what types of dollar financial assets.

From 2002 to 2019, foreigners bought 42% of net Treasury issuance.

The Fed bought 13 percent. At the margin, foreign purchases help the US government finance its budget deficit at reasonable interest rates.

That all changed in 2020. COVID has devastated global trade and exposed inefficiencies and underinvestment in global public health. Governments around the world are scrambling to figure out how to pay for shutting down economies to stop the spread of the virus, ensuring supplies of personal protective equipment and vaccines, and upgrading public health systems. They need all the money they can beg, borrow or print.

Unfortunately, most countries cannot afford to expand government spending as generously as the United States. If countries increase fiscal spending by printing money, it is likely to undermine their currencies and lead to higher commodity prices (and hence social unrest). If civilians don't get their bread, you're out of business.

The "America First" slogan has different styles, but both Democrats and Republicans advocate it. For the first time in 50 years, there is widespread agreement that policies to help working people, such as homegrown manufacturing, infrastructure spending and import tariffs, are the right thing to do. Unfortunately, these policies are inflationary.

I did a quick estimate of the interest rate risk held by foreign holders of US Treasury bonds. Sifma provides a table that breaks down U.S. Treasury issuance by term. I looked at the composition of current outstanding Treasury bonds and used those ratios to calculate the estimated portfolio of foreign holders. I then use the function on Bloomberg to calculate the corrected duration of each note or bond. Treasury bills have maturities of two to ten years. This also includes floating rate notes. Treasurys are anything that's more than 10 years old, which means 20 - and 30-year bonds and TIPS.

I calculated a weighted average maturity of 17.08 years for foreign holders.

Dollar value of one basis point (DV01) = dollar face * duration * 0.0001

DV01 = $6.461 trillion * 17.08 * 0.0001 = $12.08 billion

That number may not mean much, but it is a huge interest rate risk. If interest rates go up by 1 per cent or 100 basis points, my loose estimate is that foreigners will cost the market $1.208tn. With a nominal size of $6.461 trillion as of March 2021, a 100 basis point rise in interest rates would result in a loss of nearly 20 per cent. Can I get negative convexity!!

Remember, if you are a long-term bond, then you are a short-term rate. Rising interest rates are bad news for bondholders.

If you are a large foreign holder of US government debt and the government tells you that it prefers an inflationary policy to support its domestic middle class, you will opt out. That's why foreigners went on strike in 2020 when the US government rained money, buying just 8.39 per cent of the bonds outstanding. Who made the difference?

The answer is simple. What happened in 1939 when the Treasury needed a suction cup to buy those very expensive bonds? They called the "independent" central bank and told them to fucking step up. In 2020, the Treasury didn't even have to ask -- the Fed bought 55 percent of all bonds outstanding. That's why the Fed's balance sheet will grow 76% by 2020.

Don't forget the foreign bondholders. We will return to their dilemma later when we discuss the policy choices of the U.S. government over the next decade.

There are a few technicalities that can help the Fed sustain its claim that it does more than just run the printing press to pay government bills:

• 美联储尚未为政府债券收益率设定明确目标。看来他们更喜欢收益率有序、非波动性地上升到我们尚不知道的某个水平。因为他们没有设定目标，他们可以板着脸说他们没有参与收益率曲线控制（YCC）。这很重要，因为请记住埃克尔斯行长早些时候说过的话——如果美联储正在执行 YCC，他们的资产负债表将扩大到任何必要的水平，以将收益率保持在或低于目标水平。随着资产负债表的扩大，货币供应量也在扩大，这为通货膨胀创造了环境。

• 美联储的负债不是法定货币。简单地讲，美联储不只是印钞票并直接从他们的账户中支出。相反，他们在主要经销商周围进行了一场小游戏。财政部进行了国债拍卖，大型交易商对债券进行竞标，美联储立即以小幅加价从交易商那里购买了债券。每个人都赢了。美国政府得到了他们的支持，银行得到报酬以承担零风险，而美联储可以声称他们没有直接为政府提供资金。

• 2020 年是爆发的一年。加密货币价格登上了月球，目前正受到地球引力的可怕影响。就这样了吗？美联储的资产负债表会继续上升，带走所有类型的金融资产吗？让我们看预测一下。

5. The Taper Tantrum

Monetary inflation is only a problem if it manifests itself in politically unacceptable ways. The prices politicians care about most are those of Labour (wages), as well as those of food and energy.

When COVID-19 hit, the US government shut down the economy and sent checks to everyone who was in trouble -- 1, 2, buckle my shoes, 3, 4 go out and invest stimulus checks in Robinhood. When you add up all the various government checks, the minimum wage in most states is now $15 to $20 an hour, and before COVID, the legal minimum wage in many states was less than $10.

Businesses now complain that government largesse prevents them from hiring enough workers. Stimulus checks absolutely discourage businesses from hiring workers at the old low wages, but the solution is to pay more. After 50 years of losing out to capital, Labour will accept nothing but sustained real wage increases. There's an election coming up in 2022, red or blue, and if you don't hand out good stuff, someone else will run on a Made in America, pro-union, high-wage platform and beat the pro-business candidate who would rather prioritise return on capital. The zeitgeist has changed.

The fact that memes on social media are making fun of the ridiculous prices the United States is paying for lumber tells you that inflation has arrived, and more importantly, people know it's here.

As wages and raw material prices rise, the Fed needs to slow down and shout loudly, the Fed needs to slow down and raise interest rates, or at least slow the growth of its balance sheet.

It doesn't help that the consumer price index in April was the highest in decades. The CPI is an index calculated by the government to measure inflation in the real economy. If the Fed cares about fighting inflation, all the signs are there -- now they need to change course.

Meanwhile, the White House is struggling to secure crucial votes in the Senate to approve the next trillion-dollar infrastructure deal accompanied by tax increases. It seems that the urgency of the COVID pandemic has waned enough for partisan politics to re-emerge.

For the Fed's balance sheet to continue to grow, two things need to happen:

• 美国政府需要继续大举支出。

• 美联储需要购买发行的大部分债券，以便使利率维持在美国政府可承受的水平上。

Both conditions appear to be being questioned by policymakers. This is not a problem for my investment paper. Now, I will explain why this taper panic will subside and the US government and the Fed will return to normal operations, with the US government swiping the Fed's dollar credit card and providing the necessary fiscal concessions.

6. The risk of the Fed's balance sheet falling

Foreign holder

Remember those holders of foreign government bonds who decided to reduce their purchases of new debt by 80%? What can they do with their dollars?

The economic forecast of U.S. GDP for 2021 compiled by Bloomberg is 6.50 percent. If that happens, it would be the fastest growth since the early 1980s.

Although politicians tend to put supply chains ashore, this does not happen overnight.

Source: World Bank

China, Germany, and Japan will make dollars by producing gadgets for American consumers, who will splash out on their checks. Japan and China are also the No. 1 and No. 2 holders of U.S. debt. They earn the most dollars, and therefore hold the most Treasuries.

To maintain their stock of government debt, they would need to buy a different set of dollar assets that would not be significantly devalued by inflationary government policies. The U.S. stock market, especially tech stocks, the beneficiaries of post-COVID-behavior, has blown the door in 2020. Instead of buying bonds, foreigners got smart and piled into the stock market.

Foreigners bought $2,454 trillion worth of stonks in 2020 (a deliberate misspelling of "stocks", often used in a humorous or sarcastic way, especially to comment on financial losses). That's about 57% of U.S. Treasury issuance. Foreigners are expected to buy an additional $3.224 trillion worth of stonks in 2021, based on Januar-March 2021 data and straight line extrapolation.

Instead of ploughing their export earnings back into US Treasuries, foreigners bought equities - helped by low interest rates and an expanding Fed balance sheet. Foreigners still hold $7.07 trillion worth of Treasury bonds.

Rising interest rates are bad for holders of long-term bonds and equity. If the Fed even hints at bringing forward the date it will raise short-term interest rates and/or reduce its monthly bond purchases, two things will happen. First, the stock market will suffer as foreigners dump their shares. If the S&P 500 falls 20 per cent, the fastest person in the world will be a Federal Reserve governor backtracking on his policy. Second, US Treasury yields would soar. Let's put it in a higher context -- a 100 basis point increase in interest rates would be enough to tattoo the word "REKT" on every financial asset class.

7. The "all-powerful" U.S. government

Every regime promises something to its citizens, implicitly or explicitly, in return for their support. The architects of modern America are President Roosevelt and President Louis BJ.

If people start saving, it won't spend. The main big cost that modern governments try to eliminate/pay for directly is mainly related to health care. While health care in the United States is not completely free, the United States does provide free or heavily subsidized health care for the young, the elderly, and the poor. The most important group for politicians is ageing workers. Baby boomers are the largest and wealthiest group in the country. Old rich people control the votes. So if you're a politician, you have to support what they care about. And the old rich care about health care.

As they grow into productive adults, baby boomers have access to affordable/nearly free health care. In addition, they receive a dignified pension paid by the Social Security Administration.

In return, they devote most of their earnings to the pursuit of the American dream. A mansion filled with gadgets, a pantry full of cheap processed foods, a two-car garage with a pickup truck and an SUV filled with cheap gas. This is how the US consumer accounts for 60 to 70 per cent of annual GDP.

The term "entitlement" is the collective term for the U.S. government spending program of Medicare, Medicaid and Social Security. People believe they are entitled to health care and pensions paid for by the government. Any politician who tries to reform these "things" will be shut out at the ballot box.

U.S. defense spending almost never decreases because the cost of being the world's policeman is high. Especially when the goal is to ensure that cheap energy goods produced in socially unstable areas are shipped to the United States every day.

The problem with entitlement and defense spending is that they are real, not monetary goods. No matter how hard the Fed tries, it cannot print more nurses, hospitals or aircraft carriers. As the population gets sicker and older, an already expensive health care system will be transformed into yet another expensive area.

Take a look at this -- according to the U.S. Census Bureau, the population of people 65 and older increased by 7.74 percent from 2010 to 2019. Over the same period, the cost of health insurance and social security increased by 48.52 percent. For every 1 per cent increase in the elderly, their spending on government increases by 6 per cent. In the next decade, about 42 million people aged 55-64 will become 65 and older. Assuming no one dies, 13 per cent of the population will start actively seeking government support between now and 2030. If current trends hold, spending on health care and retirement will need to rise another 78 per cent.

Understanding the size of health care, retirement and defense spending is the goal of this effort, and the next question is how the U.S. government will pay for the increased costs of programs that are essential to making a contract with the people. Given the amount of fiscal spending that has already taken place, many believe that the US government will now aggressively raise taxes on capital to pay for the increased spending.

The chart shows annual tax revenues as a percentage of total spending on Medicare, Medicaid, Social Security and defense. The conclusion is that taxes now barely cover 100% of the cost, compared with 200% two decades ago. In the past 20 years, Republicans have held the presidency 60 percent of the time to Democrats 40 percent of the time. Whichever party is in power, spending has grown faster than income.

From 2000 to 2020, the cost of these programs increased by 207 percent, while tax revenue increased by 83 percent. If we extrapolate this trend for another decade, tax revenues will account for only 90 per cent. The government still has about 30 to 40 percent of additional budget items to pay for over and above entitlements and defense spending. This assumes that productivity and economic activity will not be affected by higher taxes. It is a false assumption that humans will produce the same or more when they get less and less benefit from their efforts.

Taxes can never cover all the benefits promised by the government. Like all governments, the US government will borrow to meet its social obligations. This is especially true when the cost of doing so is relatively cheap, in this case because the U.S. government owns the printing press for the world's reserve currency.

8. There is no choice but to go up

Slowing the pace of growth of the Fed's balance sheet is the same thing as raising interest rates. If the Fed does not raise rates, interest rates will rise significantly because foreigners will not recycle their trade dollar earnings into the US Treasury market.

No politically important stakeholder would benefit from higher interest rates.

Both domestic and foreign bondholders suffered market losses on their portfolios.

Equity holders are affected because a rise in the discount rate applied to future dividend flows means valuations are squeezed. Economic dogma holds that if the stock market goes up, the real economy must do better. So if the stock market falls, the real economy will do worse. Important: Don't let the S&P go down.

The US government must borrow more and more each year to provide health care, pensions and defence equipment that is becoming more expensive as the population ages and the world order becomes more multipolar. Raising tax rates is neither popular nor sufficient to generate the revenue needed in extreme cases. The US government needs the Fed to play a role and ensure that interest rates stay low while injecting debt into the economy to achieve above-trend growth.

The only winners from monetary tightening and fiscal policy are those who benefit from a strong and stable dollar. If the US's debt-to-GDP ratio falls well below 100 per cent, it can be argued that the US can continue to bear the costs of the global reserve currency at home. But now that it is a dual-deficit country, where the lower middle class has borne the costs of the statutory dollar system for the past 50 years, the ability to sell austerity as a palatable policy is gone.

9. Try

All these good words and charts are great, but the Fed still wants to believe it has a choice. As a result, they will try to slow the pace of bond purchases -- with potentially disastrous consequences. In 2013, the Fed's acting chairman surprised markets by talking about possible future tapering. Stokes and Bond got the job done, and Bernanke quickly nailed it down. The bond purchases will go ahead as scheduled.

Every time the Fed tries to pull out of QE 4 EVA, the market says Nyet. This time the stakes are even higher because the US government's stated policy is that we are at war with COVID and therefore will spend as much as we can. As in 1939 to 1951, the Fed would be implicitly or explicitly required to buy bonds to design a Treasury yield curve below the annual rate of economic growth.

There are two problems -- the Fed is considering reducing the amount of bonds it buys each month, and elected officials have yet to pass any big new spending bills. If the Federal Reserve and the U.S. government don't work together to spend more money, the cryptocurrency market will be a prelude to what will happen to the stock and bond markets.

I fully expect the carnage across asset classes to continue into early autumn. The Fed held two policy meetings in June and July. If they start talking seriously about shrinking balance sheet growth, watch out.

Democrats need to find a way to pass their infrastructure bill. Who knows what kind of compromises they'll make to qualify, but we need more stimulus checks. The expanded Children's Credit Check of $3,600 in 2021 is a good step toward maintaining Washington's governance and continuing to invest.

All this suggests that if the Fed's balance sheet is to grow tenfold, it will need to borrow more quickly. Nothing goes up or down in a straight line. In the absence of falling share prices and rising interest rates, the inertia of large bureaucracies will involve aggressive efforts at fiscal expansion. Similarly, I believe we will see a negative reaction from global markets this summer and fall.

10. How high?

The point of this article is to argue that the only politically acceptable course of action to combat COVID and avoid fuelling social unrest is to use borrowed money to pay nominal GDP targets. In order to keep borrowing costs below the level of achieved growth, the Fed will expand its balance sheet to whatever level is necessary.

The nominal GDP growth target policy works - the only problem is preventing wage and commodity inflation from getting out of control. But sometimes this is a politically acceptable outcome. During and after the war, governments always accepted this hyperinflation because it was the only thing they could afford for the effort.

The trick is to spend money on efforts whose real economic value exceeds the interest on the debt. From the late 1970s to the present day, China has pursued this strategy with great success. Michael Pettis argues that the true cost of debt outstripped economic growth sometime after 2008. China has accumulated the largest stock of debt in human history because it has adopted a policy of zealous nominal GDP targeting and because it does not issue a global reserve currency. There is no limit to how much debt the Fed can hoard if the US goes full throttle.

I cannot predict with certainty how much the Fed's balance sheet will grow. All I know is that if such a policy is to be implemented, the only way is to print money. The question for us traders and investors is what financial assets can we have that grow at least as fast as the Fed's balance sheet.

The United States has already begun this process. Assume that by the end of 2021, US 10-year Treasury yields are 2 per cent and GDP growth is 6.5 per cent, as the Fed and "respected" economists currently estimate. This is a negative 4% real return.

You have a terrible job

Water, water, everywhere,

All the boards were shrunk;

Water, water, everywhere,

There was not a drop to drink.

-- The Rime of The Ancient Mariner

This is one of my favourite lines and fits perfectly with the current liquidity situation. Liquidity has increased significantly because of the Fed's monthly bond purchases; However, the water we actually need can only come from the massive spending bills passed by the US government and Treasury, which require the issuance of more notes, bills and bonds.

Unfortunately, this article is too long for me to delve into how the QE transmission channel actually works. But in essence, when the Fed buys Treasury bonds from banks that are too big to fail, it credits bank reserves held by the Fed.

Because of capital adequacy rules, banks must hold additional capital against these reserves.

If they own Treasuries, however, they need to hold little or none at all.

When the Fed conducts open market operations and buys Treasury securities from banks, it takes a good collateral and replaces it with a bad one. Then the banks have to put up money to back up those reserves. That has largely hampered the banks' ability to provide more credit, since they need to tie up capital to support the huge and growing reserves they hold at the Fed.

The Fed is interested in this problem, so they do reverse repos. That means the Fed is swapping reserves for Treasury bonds. On the one hand, the Fed increases liquidity by buying Treasuries from banks; on the other, it reduces liquidity by swapping them back into banks.

Thus, the net effect is that overall liquidity conditions in fixed income markets remain unchanged in extreme circumstances.

The New York Fed's use of the facility recently surged to a record high as it ran out of collateral for Treasury securities in the market. The Treasury/US government needs to spend more money to borrow more money. Because if the Fed sticks to buying $120 billion a month, about 70 percent of it is Treasury securities, there's not enough collateral to run the banking system, and short-term interest rates are above 0 percent. There are a number of structural and legal reasons why the short end of the Treasury curve cannot turn negative without causing serious disruption to the way US money markets operate. In 2008, the Fed switched to high-speed money printing. Yet every Fed governor laments that they can only do so much. If the U.S. government does not spend more money to create more collateral on its Treasury bonds, their quantitative easing measures will be ineffective. Quantitative easing will simply shift the balance sheets of banks and other financial institutions from assets held in Treasury bonds to those held in riskier corporate debt and equities. That does not mean banks will risk lending to the real economy. It won't put stimulus checks in the hands of GameStop warriors. Essentially, it does not correct the underperformance of Labour relative to capital since the 1970s.

The Treasury is well aware of the underlying problem.

Cryptocurrency as a release valve

When a measure becomes a goal, it is no longer a good measure. - Marilyn Strasson

Financial markets are a collection of measures designed to tell us about different aspects of the real economy. However, when central banks turn these measures into targets, they become meaningless. They then tell us only how far the central bank will go to buy or sell assets to achieve the desired politically acceptable outcome.

Thankfully, unlike people in the 1940s and 1950s, we have cryptocurrencies. Even if their domestic governments prohibit them from owning gold, only the very rich really have the ability to express themselves economically. Others just ate their humble pie and moaned while their savings were hollowed out to pay for the world's second total war.

Here's a look at the various measures and how they have become targets:

Government bonds - Almost every central bank in the world distorts its domestic bond market through aggressive buying programs. So government bond yields only tell us the extent to which central banks are willing to expand their balance sheets - they do not tell us the true and appropriate monetary cost

Equities - Almost every central bank in the world is active in its domestic equity markets. The Fed hasn't yet, but as long as the S&P 500 keeps falling, they'll find a way to support the stock market. Central bankers and most politicians assume that their credit is the performance of the stock market, which somehow means that the real economy is healthy.

But if you can target any level of shares by printing money to buy the necessary number of shares, then the performance of the stock market will say nothing about the actual health of the domestic public sector.

Housing - Almost every central bank in the world is active in its own domestic housing finance market. In the United States, the market for mortgage-backed assets developed abnormally, but the central bank and the federal government set stamp duties, mortgage rates and other affordability measures to encourage or discourage home purchases. This is not a good measure, because there are too many special policies that distort house prices for representative materials and calculated owner-occupier rents.

Gold - The interesting thing about gold is that it may regain its mojo. Starting in June, large gold and silver banks will face changes in the accounting and funding sources of unallocated gold on their balance sheets. The new Basel III rules may not be able to suppress the gold market by creating unlimited short positions in paper money. If that happens, gold could once again become a measure of monetary inflation, rather than a sleeping rock sitting in the vaults of the world.

12. Cryptocurrencies

Here's a chart of Bitcoin and Ethereum indexing with the Fed's balance sheet in the post-COVID-era. Since January 1, 2020, the data index is 100. Even with the recent vicious sell-off, both have performed exceptionally well in terms of purchasing power growth.

Bitcoin and Ethereum outperformed the Fed's balance sheet by 2.3 and 15 times, respectively.

No organization that owns a printing press has a target price for any cryptocurrency. On the contrary, they think cryptocurrencies simply represent the madness of the Internet crowd. This is perfect because cryptocurrencies can serve as the only effective smoke alarm for monetary inflation if/when issuers of global reserve currencies resort to nominal GDP targets funded by their proprietary printing presses.

If you agree with me after all this writing, then you will feel that fluctuations in the total market value of cryptocurrencies are irrelevant.

As the Fed's balance sheet grows, the market value of cryptocurrencies will grow with it. The relative performance of tokens in the crypto market depends on narrative, technology, and adoption.

Now that I've made my global macro argument about why it's foolish to short the entire cryptocurrency market, I can go back to my in-depth analysis of the micromarket structure of cryptocurrencies and how DEFI will make most current financial institutions useful only to those who refuse to use digital payments.

This article is also published on the BitMex blog and can be obtained here.