Oddbean

One of the big macro questions is when will the US banking system run into the liquidity floor, requiring the Fed to end quantitative tightening? Due to current regulations and the "ample reserve" regime, banks generally have liquidity requirements relative to their overall size, and their overall size keeps growing nominally. -Big banks ran into the liquidity floor in September 2019 at $1.5 trillion with the repo spike, and the Fed had to end quantitative tightening and resume mild quantitative easing (which was then overshadowed by the giga-liquidity-bazooka in 2020/2021). -Smaller banks ran into the liquidity floor in March 2023 at $3.0 trillion (the new floor) with the regional bank crisis. Both the Fed and the Treasury provided liquidity in response, although the Fed has maintained quantitative tightening. Liquidity has been maintained above that level without being greatly elevated, which is probably what would have happened post-2019 if not for the pandemic/lockdown stuff thereafter. The New York Fed thinks the liquidity floor will be reached sometime in 2025, and that they'll go back to gradual balance sheet expansion then. Andy Constan, formerly of Bridgewater, thinks it'll be late 2025. I debate him a bit on this since both of us cover this closely, and I generally think it'll be mid 2025, although there are enough moving variables that neither early 2025 or late 2025 would surprise me, so conservatively I say "by the end of 2025." I was talking to a large institutional investor today, and he said that his contact who is a major repo operator at an investment bank, thinks the current floor is now $3.3 trillion, which is roughly where it is currently. That basically means any further quantitative tightening has to be offset by reverse repo drainage, or they'll have a repo issue and the Fed will need to end QT. My estimate is somewhere in the $3.1-$3.2 trillion range for the liquidity floor, meaning I think there's a bit more room than that repo operator. But either way it's pretty tight. This is all kind of rambling but generally when that liquidity floor is reached and is responded to, it tends to be good for a lot of liquidity-driven assets, including bitcoin. And it'll probably be with a whimper more than a bang, kind of like the September 2019 repo crisis that nobody other than macro nerds remember. https://m.primal.net/KURs.png

How is this liquidity drain affected by the ECB QT? Still trying to get my head around how this stuff works (at least a little bit!). Surely same thing is happening in their amazingly stable banking system?

This is probably a dumb question, but I'm trying to grasp the mechanics. Why were larger banks hit harder in 2019? Higher rates drive down bond values, but that reduces the denominator. Was it primarily variance in assets between the two classes of banks? That's the story told for the recent regional crisis.

I feel like @petermccormack . I’ve listened to @LynAlden explain the reverse repo equation (multiple times on Peter’s show alone), and still can’t explain it like I know what I’m talking about to a normie

When asked about the QT runoff of Fed balance sheet assets at a presser this past spring, I recall Powell stating that ample bank reserves would be approximately 10% of GDP. Then this quote from Fed Governor Christopher Waller, back in January 2024, said 10% to 11% of GDP would be “an approximate end point for draining reserves out of the system.” So that gives us approximately $2.8 to $3.0T. I would say that the Fed only becomes nervous once we have drained the Reverse Repo facility *and* the bank reserves fall under 12% of GDP, or ~$3.2T. So, this foots pretty well with your estimate. FWIW.

Hi Lyn, got a question. If the fed was forced to do balance sheet expansion again, wouldn’t this have to be offset by fiscal tightening in order to keep the USD at a rate that didn’t increase inflation (especially if there were also rate cuts)?

In a geometrically expanding debt system where interest on debt owed on one loan must be paid from new debt, it is not possible to stop the debt expansion , except for some very temporaryy moments, unless you want to crater the economy. The choice is inflate to be moon ,and eventually hyperinflate, or crater the economy. Holding a debt free instrument like bitcoin, you just have to be patient. Wait and the value will come to you. Gradually , then suddenly. We are far closer to suddenly than gradually.

Don't you think a Covid-like situation would be likely in order to call it a 'Covid crisis' instead of a 'Banking crisis'? It would be a way to inject a massive amount of (needed) liquidity without being considered responsible for it. So much unnatural push for War, Covid, Bird Flu, Monkey pox and other BS lately. Coincident? Anyway, #Bitcoin fixes this!

Beautiful thesis Lyn, my general question therefore remains, why would the global price of bitcoin go up when it's the US causing the expansion, as opposed to say Egypt's form of QE in Egyptian Pounds. Sorta seems like the price increment globally depends on what only the Fed or Tether does Do you disagree with this assesment

This is only a guess but my guess would be that if you are using Egyptian pounds or whatever to buy Bitcoin or Monero or such that the price in that particular currency would go up although it would affect the US dollar price very little because the Egyptian pound or whatever is very small compared to the US. So when they inflate, it has very little effect due to their relative size to the rest of the nations. But when the US inflates, it makes a major change in the price because of the fact that so many people buy with US dollars.

When the US does QE it generally weakens the dollar relative to other currencies for a period of time. Many countries have dollar-denominated debt, and so a weaker dollar improves their domestic liquidity conditions. Bitcoin’s strongest correlation is with global liquidity conditions, of which the US is the biggest variable, and China second.

The issue is there are no consequences for the elites If you create a crisis like 2008 who cares the taxpayer will bail us out. And this time is going to be worse as the us dollar is closer and closer to losing its status as a world reserve currency. For this, there are many reasons such as weaponizing the dollar and swift, etc... 180+ countries want to join the new BRICS payment system what happens to the dollar then and a debt-based economy? It will be hyperinflation as you can't just keep printing money that's paper that 180+ countries don't want. Don't get me wrong there are solutions to this such as crypto where you can't print as much as you want but things will get a lot worse before they get any better.

On the one hand I love finding these kind of insights, as it helps to understand what is actually going on On the other, one of the very best things of HODLing Bitcoin, is that one doesn't need to care... Buy it. Store it. Go do whatever you want!

Short term we have the PBOC expanding it's balance sheet and headwinds for the $ it seems first with Yelen wanting to weaken it and then with a possible trump election. Would you agree the $ will likely keep correcting going forward? The way I understand it is it will likely waken in the short term whilst in the longer run, according to Brent Johnson's milkshake theory, it likely will appreciate against other currencies as providing liquidity is just postponing the issues and the fiat world relying on debt should see demand for $ increase. Also the PBOC increasing liquidity should be good for chinese growth stocks right? BABA, JD, Baidu are sitting on long term support levels right now. And then comes geopolitics into the equation! https://substack.com/inbox/post/148274820?utm_medium=ios

Great insight - add banks to the list of entities that depend on ever expanding liquidity alongside foreign nation states. I find it interesting that both large and regional banks hit the liquidity floor at different times. One might reasonably expect one or the other to have a structurally lower floor