The Fed will go crazy on the brink of doomsday

After the Federal Reserve announced its interest rate hike decision on March 17, 2022, by 25 basis points to 0.5%, the market unanimously believed that the Fed's interest rate hike was relatively mild and within the market's tolerable range. Therefore, after the rate hike, gold, silver, crude oil, BTC and other cryptocurrencies not only did not fall, but instead rose to varying degrees.

However, this is just a test of the market by the Federal Reserve. The magnitude of each subsequent interest rate hike will exceed market expectations!

Because the Federal Reserve’s unlimited QE since the outbreak has pushed up commodity prices, causing CPI to continue to rise. On March 10, 2022, the US CPI monthly rate was as high as 0.8!

After the Federal Reserve started raising interest rates on March 17, CPI did not show a significant decline. On the contrary, with the Russia-Ukraine war and US and European sanctions on Russian energy, CPI continued to rise along with energy prices such as crude oil and natural gas. Brent crude oil reached a high of $140 and WTI crude oil reached a high of $130.5.

Brent crude oil chart WTI crude oil chart

In modern society, the rise in energy prices means that the prices of energy and chemicals will rise, and the rise in these two will lead to the rise in other means of production, thereby driving up overall prices and pushing up inflation!

As long as energy prices remain high, it will be difficult for CPI to fall quickly. The current US CPI of 0.8 is close to the levels of the 1970s and 1980s, when the United States entered a period of stagflation and the Great Recession.

The stagflation in the United States during the 1970s and 1980s was caused by multiple factors:

1. As the Vietnam and Korean Wars led to serious deficits and insufficient gold reserves in the United States, in August 1971, President Nixon announced the unilateral abolition of the Bretton Woods system. This unilateral abolition of the Bretton Woods system was essentially a breach of contract, which led to a crisis of confidence in the US dollar. Subsequently, the US dollar continued to fall, and at the same time, the rising prices of raw materials in international trade pushed up the inflation level in the United States.

2. In 1972, the global food supply dropped sharply and the cost of food increased significantly due to the El Nino phenomenon. In October 1973, the fourth Middle East war broke out. As the US government supported Israel, Saudi Arabia and other countries reduced their crude oil production and subsequently adopted a crude oil embargo to confront the United States. At that time, Saudi Arabia and other OPEC countries were the main sources of global crude oil. Therefore, crude oil led to a sharp rise in the prices of other energy sources.

3. The implementation of mandatory wage and price controls. The promulgation of the two economic policies restricted the public’s wages and purchasing desire, as well as liquidity, distorted supply, and artificial hoarding led to supply shortages. After the controls were lifted, prices got completely out of control.

Loose monetary policy + radical fiscal policy + extreme weather + war factors + oil crisis + food crisis, this series of factors + US decision-making errors caused inflation to escalate to stagflation, and the US economy fell into recession for a decade, leaving that generation of Americans confused and helpless.

The United States is on the brink of stagflation

At present, whether it is monetary policy, war factors, oil crisis, or food crisis, they are all very similar to those in the 1970s and 1980s.

First of all, behind the Russia-Ukraine conflict is the game between the United States and Russia. Although it has not yet directly participated in the war, through all-round sanctions and weapons assistance to Ukraine, the United States has essentially become a belligerent country and has formed an irreconcilable binary opposition with Russia.

The development of this indirect participation in the war is uncontrollable. Its methods may escalate at any time as the situation develops, and it may drag the United States into the quagmire of war at any time.

Secondly, the United States kicked Russia out of the SWIFT system and imposed sanctions on Russia totaling more than $1.2 trillion, including freezing $300 billion of Russia’s gold and foreign exchange assets abroad, accounting for nearly 50% of Russia’s total international reserves ($640 billion).

In the short term, the United States has gained the upper hand in the financial war through its financial influence, but in the long term, this will damage the dollar credit system and the national credibility of the United States. All countries will worry about the safety of their foreign exchange reserves, thereby reducing the allocation of US dollars, US bonds and related assets.

Finally, Russia and Ukraine are both major producers and exporters of crops such as wheat. The two countries together account for about a quarter of the world's total wheat exports, but the war will inevitably delay the spring planting cycle.

Before the outbreak of the war, Ukraine's expected sown area was 15 million hectares, but by March 23, the sown area may be only 7 million hectares. Then by the harvest season, a production reduction of more than 50% or even more will be inevitable, and there will be a huge gap in world food. The crisis after the war will be a food crisis, and the reduction in food production will inevitably significantly push up food prices.

Judging from the inflation level and environment in the United States, it is almost a replica of the 1970s and 1980s, and the U.S. economy has stagnated. The United States is once again on the verge of stagflation. Once it falls into stagflation, it will be the end of the world for the United States.

Will use crazy means to curb

The United States now faces two major problems: inflation on the verge of stagflation and the 2022 mid-term elections.

The US midterm elections will be held on November 8, 2022, with all 435 seats in the House of Representatives and 34 of the 100 seats in the Senate being contested, as well as 39 governorship positions being up for grabs.

This is an extremely important election. If inflation cannot be reduced before the election, public satisfaction will continue to decline and the support rate will inevitably be low.

Although Biden is the president with the most popular votes in American history, he is also one of the presidents whose approval rating has dropped the fastest to date. With problems such as inflation and material shortages following one after another, Biden's approval rating has fallen to 41%.

In the context of the Russian-Ukrainian conflict, there are only two ways to control inflation and reduce CPI:

1. If the Biden administration and the European Union abandon sanctions on Russia and join OPEC countries to increase production, energy prices will fall quickly, which will lower CPI.

2. Crazy interest rate hikes and debt reductions more than once, at least seven times, have drawn out a large amount of hot money from the market, squeezed the bubble, and thus depressed the prices of bulk and various commodities to reduce CPI.

But now the domestic inflation in the United States cannot be reduced in the short term, and the shortage of materials cannot be solved; diverting conflicts and sanctioning Russia! Gaining public opinion has become Biden’s first choice to increase his support rate!

It is certain that the current US government is unwilling to give up sanctions on Russia, so the only option left is to raise interest rates madly and reduce debt to withdraw a large amount of funds from the market.

In order to prepare for the next election and prevent the United States from falling into stagflation and recession again, I believe the Federal Reserve will inevitably adopt very crazy and radical measures to curb or delay the occurrence of stagflation!

Therefore, the interest rate hike on March 17, 2022 is just a foreplay and appetizer to test the market's reaction and the sensitivity to CPI. Through sandbox simulation, I have found that the next interest rate hike will most likely start at >= 50 basis points, and in addition to the interest rate hike, the Federal Reserve will shrink its balance sheet as soon as possible, and it is possible that the interest rate hike and balance sheet shrinkage will be carried out together.

Many people in the market only see the impact of a higher interest rate hike on the financial market, but ignore the impact of balance sheet reduction.

According to the information revealed by Ben Bernanke of the Federal Reserve, the scale of balance sheet reduction will be 1 trillion US dollars in the next year, and will shrink to 3 trillion US dollars in three years. This level of balance sheet reduction will withdraw a large amount of funds. Based on the interest rate hike, it is equivalent to an additional 3 to 4 interest rate hikes, which will seriously tighten monetary liquidity.

This impact will be very severe on the financial market, especially the cryptocurrency market!

On March 23, 2020, the Federal Reserve announced unlimited QE, and announced that it would purchase $75 billion in Treasury bonds and $50 billion in agency mortgage-backed securities every day, and the daily and term repo rate quotation rates would be reset to 0%. A large amount of hot money flowed into the financial market, including the cryptocurrency market, which brought BTC and its entire cryptocurrency market into a super bull market.

It can be seen that before the Fed announced unlimited QE, the BTC price was still falling, but after the Fed’s announcement, hot money began to flow into the cryptocurrency market. After March 31, the BTC price began to bottom out and rebound. As hot money continued to flow in, the price also climbed all the way to a high of $69,000.

Therefore, this round of bull market for BTC and other cryptocurrencies is not an explosion of the trend itself, but a result of a large amount of hot money inflow. Therefore, when the interest rate is only 25 basis points, it has little impact on the entire cryptocurrency market. The market can even regard it as the shoe that has been exhausted, thus making a strong rebound.

However, if each interest rate hike in the next year is 50 basis points, there will be at least 7 times a year, plus the balance sheet reduction, which is equivalent to 11 to 12 times. This will cause a crazy siphon effect on the cryptocurrency market, while draining a large amount of liquidity, it will also bring huge pressure on prices.

The next Fed rate decision will be around May 5, 2022. Before that, it is the time window for cryptocurrencies such as BTC to operate without pressure this year. Most bulls will take advantage of this to conduct a wave of bullish market operations before that to avoid the storm that will appear in the future! This round of rise that started on March 16 is based on this principle.

If you are a cryptocurrency investor, after reading my analysis and understanding the logic behind it, it will be easier for you to control the timing of opportunities and risks.

Finally, one point that needs to be emphasized is that in the 1970s and 1980s, the Federal Reserve shifted from monetary easing to monetary tightening, which led to stagflation, and the environment for this interest rate hike will be worse than the last time.

As the United States imposes sanctions on Russia's overseas gold and foreign exchange reserves, countries will inevitably start to diversify their currency reserves, as well as bilateral currency settlement and swap agreements. Then, no matter how crazy the Fed's interest rate hikes are, it will be difficult to withdraw all funds as before. A lot of funds will be dispersed and flow into more trustworthy assets, and a lot of them will flow into naturally non-sovereign financial products, such as gold. This property also applies to cryptocurrencies such as BTC, so the cryptocurrency market will not be so pessimistic, and should even remain optimistic.

For the trend of 1~2 years, there will be a big shock, but for the longer term future, it will get better and higher as the real world's finance gets worse. This chart is just a way for me to express this content, but it does not represent any prediction. The price pointed by the arrow is purely a random line and has no meaning.