When the Federal Reserve reduces its balance sheet by 1 trillion dollars in a month, will it repeat the financial market disaster of 2019? And what impact will this have on China?
As one of the most important departments regulating the world economy, the Federal Reserve has recently been taking an action known as "quantitative tightening" or "balance sheet reduction." According to data forecasts, the Federal Reserve will reduce its balance sheet by 1 trillion dollars this month, which is equivalent to directly "evaporating" 1 trillion dollars of huge funds in the market.
This month, the Federal Reserve will reduce its balance sheet by 1 trillion!
We know that the global financial market is driven and shaped by capital. Such a significant move is bound to cause turmoil in the global financial market.
So, will this cause market turmoil like the previous Federal Reserve balance sheet reduction? What impact will this have on China?
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What are the impacts of the Federal Reserve's 1-month "balance sheet reduction" of 1 trillion?
Before discussing this issue, let's take a look at what "balance sheet reduction" is.
The so-called balance sheet reduction refers to a measure by which the Federal Reserve reduces its assets and liabilities. Its main behavior is reflected in the Federal Reserve selling assets, recycling funds, and simultaneously reducing its own assets and liabilities, which results in a reduction of dollars in the market. It is a relatively classic monetary tightening policy.
Balance sheet reduction is a step for the Federal Reserve to recycle dollars.
We often talk about the harm of the Federal Reserve's interest rate hikes to the world economy and "harvesting." In fact, the impact of balance sheet reduction is even greater than that of interest rate hikes.Taking this round of balance sheet reduction as an example, according to British media reports, the Federal Reserve's balance sheet will shrink by $1 trillion in assets this month, in an effort to reverse the unlimited quantitative easing policy brought about by the massive money printing after the COVID-19 pandemic.
While this policy can effectively reduce the situation of excessive liquidity in the United States and suppress inflation, it will also bring a series of troubles and consequences.
Firstly, the US dollars in the market have been reduced to nothing by the Fed's balance sheet reduction.
This leads to the dollar becoming more and more expensive at a fixed level, and the dollar also becomes more valuable. Why has the RMB exchange rate been declining in recent days? In essence, it is still due to the strong performance of the dollar, so the RMB naturally becomes weaker. This is the impact of the balance sheet reduction on the RMB exchange rate and the Chinese economy.
The recent economic data in China is indeed not very good, to some extent, it has dragged down the RMB exchange rate, but the main reason is still the strengthening of the dollar. The US dollar index has risen from 99 to 103 in just a month, which is a proof.
The US dollar index has recently surged.
Secondly, interest rate hikes will lead to a global flow of US dollars back to the United States, while balance sheet reduction will lead to the "disappearance" of US dollars domestically.
In this situation, it will lead to a decline in the purchasing power of currencies of various countries around the world, a surge in domestic prices, a decline in economic growth, a global economic recession, and a series of situations; and due to the strength of the dollar, it will lead to currency devaluation, capital outflow, and other situations.
This performance is actually very similar to what we call the "US dollar hegemony harvest". The harm of balance sheet reduction is actually greater than that of interest rate hikes.
Will the Fed continue to reduce its balance sheet? No one buys US Treasury bonds?The Federal Reserve's balance sheet reduction has a significant impact, as it relates to the U.S. government no longer purchasing a large amount of Treasury bonds, leaving private investors to foot the bill.
In the past month, due to the world's three major rating agencies, Fitch, downgrading the U.S. credit rating and raising questions about U.S. Treasury bonds, there has been immense pressure to sell off U.S. debt in the market.
Fitch downgrades U.S. long-term rating.
We know that the U.S. government has been at a debt ceiling for quite some time, even to the point of facing government bankruptcy and default. With Biden's signature, the U.S. government needs to significantly alleviate fiscal pressure by issuing a large amount of Treasury bonds.
Therefore, the U.S. Treasury has now initiated the issuance of hundreds of billions of U.S. dollars in Treasury bonds, causing some pressure on U.S. Treasury bonds. After all, when the U.S. government issues Treasury bonds, investors need to purchase them.
The Federal Reserve could previously take on this responsibility, meaning that when the U.S. government issues Treasury bonds, institutions like the Federal Reserve would choose to buy them. This is equivalent to the government printing money and the central bank making payments, allowing Americans to have dollars, with the only cost being an additional balance sheet asset for the Federal Reserve.
Yellen is very concerned about the financial situation of the U.S. government.
However, now that the Federal Reserve is in a QT balance sheet reduction cycle, it means that the Federal Reserve cannot underwrite for the U.S. government and the Treasury, and can only rely on other countries, including China and Japan, to purchase U.S. debt, as well as ordinary individual investors to buy Treasury bonds. This will lead to more pressure on the issuance of U.S. debt.
First, Japan, the largest holder of U.S. Treasury bonds, has encountered problems. Due to a very rare interest rate hike within Japan, a large amount of Japanese funds have withdrawn from U.S. Treasury bonds and flowed back into the country. This means that the largest creditor of U.S. Treasury bonds is also unwilling to buy them.
Second, China has been continuously selling off U.S. debt due to the tension and deterioration of Sino-American relations, which is a well-known fact. As long as Sino-American relations do not ease and the U.S. continues to view China as a strategic competitor, China's selling of U.S. debt will also become a long-term behavior.Tensions between China and the United States have led to China continuously selling off U.S. Treasury bonds. Thirdly, foreign investors and individual investors are concerned about the credibility of the United States and the creditworthiness of the U.S. dollar, leading to a sharp decrease in demand for U.S. Treasury bonds. According to the current oversubscription rate of U.S. Treasury bond issuance by the U.S. Department of the Treasury, if previously 6 people wanted to buy 1 U.S. Treasury bond issued by the U.S. Department of the Treasury, now only 3 people want to buy.
And if this number falls below 1, it means that even if the U.S. Department of the Treasury wants to issue Treasury bonds, it will face the embarrassing situation of no one wanting to buy. The U.S. dollar would then go bankrupt completely.
Therefore, why do the U.S. Treasury and the U.S. government so strongly oppose and criticize Fitch's downgrade of the U.S. sovereign rating? It is because the United States does not want its debt problems and crises to be known.
Interest rate hikes + balance sheet reduction, will the 2019 crisis be repeated?
Why has the financial market been turbulent recently? Why has the A-share market continued to fall? In fact, it is still inseparable from the U.S. balance sheet reduction this time.
Superimposed on the U.S. balance sheet reduction of 1 trillion yuan per month, coupled with the Federal Reserve's interest rate hikes reaching their peak at 5.25%, the U.S. dollar interest rate continues to attract global U.S. dollar inflows. Superimposed on the U.S. Department of the Treasury's Treasury bond issuance tide, as well as Japan's implicit announcement of interest rate hikes, this series of major moves all mean that the currency in the global market is decreasing.
Therefore, the United States is like a huge fund vortex, constantly devouring global funds, leading to financial market turmoil, and even possibly leading to a global economic credit crisis like in 2019.
And as long as this situation continues, the global capital market will not improve, because whether it is bonds, credit, or stocks, funds are all based on the basis of loose monetary policy. If the United States continues to reduce its balance sheet, it will be a bearish factor for both the economy and the capital market.
How much impact will China face?So, what impact will China experience during the continuous balance sheet reduction by the Federal Reserve?
Firstly, since the Federal Reserve has not yet lowered interest rates, coupled with the need to stimulate China's domestic economy, the People's Bank of China is brewing the next round of interest rate cuts. This leads to an increasing interest rate differential between China and the United States, causing capital outflows from China to the U.S., and less timely foreign trade settlement.
This will lead to the depreciation of the renminbi exchange rate, a decline in currency purchasing power, and a decrease in foreign investors' investment in A-shares.
The interest rate differential between China and the U.S. continues to be inverted.
Secondly, the consequences and impacts of the U.S. balance sheet reduction and interest rate hikes include suppressing the global economy, leading to a weak economic cycle, which will affect China's economic recovery and development as well as the global economic recovery.
After all, one of the three engines of China's economy is foreign trade exports, which depend on orders from developed countries such as Europe, America, Japan, and South Korea. If these countries' economies are not strong, then China's foreign trade exports will not improve. Relying solely on the domestic cycle to recover the economy is not as effective as the dual cycle working together.
Therefore, whether it is interest rate hikes or balance sheet reduction, it is a huge bearish news for China's economy, and it can even be said that it is bearish for the economies of all countries around the world.
Oppose the dollar hegemony!
So, why are more and more countries "de-dollarizing"? The main reason is that the Federal Reserve only adjusts economic policies based on the U.S. economy, ignoring the interests of all countries around the world, leading to the U.S. continuously "harvesting the world" to enrich itself.
Therefore, from China's perspective, accelerating the internationalization of the renminbi, de-dollarizing, and offsetting the impact and harvest of dollar hegemony are necessary means for us to protect our own survival and development. To live a good life, we must resolutely oppose dollar hegemony!